UNITED STATES of America, Petitioner/Appellee/Cross-Appellant,
v.
Frank S. ZOLIN, Respondent/Appellee,
and
Church of Scientology of California and Mary Sue Hubbard,
Intervenors/Appellants/Cross-Appellees.
Nos. 85-6065, 85-6105.
United States Court of Appeals,
Ninth Circuit.
Argued and Submitted Nov. 6, 1986.
Decided Feb. 9, 1987.
In connection with tax investigation, United States brought action to compel
state court clerk to produce sealed documents. Church and taxpayer's
wife intervened. The United States District Court for the Central District of
California, Harry L. Hupp, J., ordered production of some, but not all
documents. Intervenors appealed, and United States cross-appealed. The Court
of Appeals, Farris, Circuit Judge, held that: (1) United States adequately
established relevance of documents; (2) taxpayer waived privilege as to
communications when he voluntarily delivered them to third party; and (3)
crime-fraud exception to attorney-client privilege did not apply to recorded
communications.
Affirmed.
[1] INTERNAL REVENUE
Power of Internal Revenue Service to examine records in connection with tax
investigation is broadly construed.
[2] INTERNAL REVENUE
Government must demonstrate realistic expectation of relevance as to
correctness of taxpayer's returns, rather than idle hope of relevance, before
it will be allowed to examine records in connection with tax investigation.
[3] INTERNAL REVENUE
Notwithstanding fact that exhibits sought by Internal Revenue Service related
to years other than tax years under investigation, finding that exhibits might
throw light on correctness of taxpayer's return information was not clearly
erroneous where IRS agent declared that exhibits were relevant, and Government
gave general descriptions of exhibits' contents.
[3] INTERNAL REVENUE
Notwithstanding fact that exhibits sought by Internal Revenue Service related
to years other than tax years under investigation, finding that exhibits might
throw light on correctness of taxpayer's return information was not clearly
erroneous where IRS agent declared that exhibits were relevant, and Government
gave general descriptions of exhibits' contents.
[4] WITNESSES
Attorney-client privilege is to be strictly construed.
[5] WITNESSES
Burden of demonstrating existence of evidentiary privilege rests on party
asserting privilege.
[6] WITNESSES
In order to establish applicability of attorney-client privilege to given
communication, party asserting privilege must affirmatively demonstrate
nonwaiver.
[7] WITNESSES
Voluntary delivery of privileged communication by holder of privilege to
someone not party to privilege waives privilege.
[8] FEDERAL COURTS
Whether circumstances of delivery of privileged communication give rise to
waiver of otherwise applicable privileges is mixed question of law and fact,
and is reviewed de novo on appeal.
[9] INTERNAL REVENUE
Notwithstanding that taxpayer did not explicitly grant third party access to
attorney-client or marital communications, taxpayer waived privileges as to
communications to third party by voluntary delivery of documents.
[10] INTERNAL REVENUE
In determining whether Internal Revenue Service investigation is legitimate and
in good faith, focal issue is whether investigation is motivated by legitimate
tax purposes.
[11] INTERNAL REVENUE
Finding that administrative summons served by Internal Revenue Service on state
court clerk requesting documents relating to taxpayer's potential tax liability
was issued in good faith was not abuse of discretion in view of testimony as to
legitimate tax determination objectives of investigation.
[12] INTERNAL REVENUE
District court order prohibiting Internal Revenue Service from delivering
documents produced in response to summons to any other government agency unless
criminal tax prosecution was sought or order of court was obtained was not
abuse of discretion. 26 U.S.C.A. ss 6103, 7421(a).
[13] INTERNAL REVENUE
District court may condition enforcement of summons on Internal Revenue
Service's agreeing to abide by disclosure restrictions. 26 U.S.C.A. ss
6103, 7421(a).
[14] FEDERAL COURTS
District court's rulings on scope of attorney-client privilege involve mixed
questions of law and fact, and are reviewable de novo.
[15] FEDERAL COURTS
Where relevant scope of attorney-client privilege is clear, and decision that
district court must make is essentially factual, district court's rulings as to
privilege are reviewed for clear error.
[16] WITNESSES
"Common interest" rule protects communications made when nonparty sharing
client's interests is present at confidential communication between attorney
and client, even where nonparty has never been sued on matter of common
interest and faces no immediate liability.
[17] WITNESSES
Recorded communications between taxpayer and his attorneys were privileged
where all nonlawyers present at meeting were employees of church run by
taxpayer, as they had common interest in sorting out respective affairs of
church and taxpayer.
[18] WITNESSES
Church did not waive its attorney-client privilege as to tapes of confidential
communications where it inadvertently delivered tapes to third party, as
inadvertent delivery was sufficiently involuntary and inadvertent to be
inconsistent with theory of waiver.
[19] WITNESSES
Attorney-client privilege does not protect communications that further crime or
fraud.
[20] WITNESSES
Party seeking disclosure of recordings of privileged communications on ground
that communications furthered crime or fraud had burden of making prima facie
showing that communications were in furtherance of intended or present
illegality.
*1413 Eric M. Lieberman and Edward Copeland, Michael Lee Hertzberg, New
York City, and Donald C. Randolph, Los Angeles, Cal., for
intervenors/appellants/cross-appellees.
Frederick Bennett, Co. Counsel, Los Angeles, Cal., for defendant/appellee.
John A. Dudeck, Jr., Tax Div., Dept. of Justice, Washington, D.C., and Charles
H. Magnuson, Asst. U.S. Atty., Los Angeles, Cal., for
petitioner/appellee/cross-appellant.
Appeal from the United States District Court for the Central District of
California.
Before BROWNING, Chief Judge, GOODWIN and FARRIS, Circuit Judges.
FARRIS, Circuit Judge:
In July 1984, the Criminal Investigation Division of the IRS (Los Angeles
District) began investigating L. Ron Hubbard's tax returns for the tax years
1979 through 1983. In October, the IRS served an administrative summons on the
Clerk of the Los Angeles County Superior Court and requested that he produce
certain documents relating to Hubbard's potential tax liability. (The Superior
Court had obtained the documents in connection with an unrelated proceeding
brought by the Church against a former member of the Church.) The Clerk
willingly produced a number of documents, but refused to produce thirteen
documents which had been ordered sealed by the Superior Court.
In January 1985, the Government initiated this action in an effort to compel
the Clerk to produce the thirteen sealed documents. Shortly thereafter, the
district court granted the motions to intervene which were brought by the
Church and Mary Sue Hubbard. The Intervenors contended that each of the
thirteen documents was either privileged, irrelevant, or both. They also
argued that the summons was unenforceable because it was not issued pursuant to
a "good faith" tax investigation.
Hearings were held in March and April. On April 30, 1985, the district court
ruled *1414 that eight of the documents--exhibits 4-D, 4-E, 4-F, 4-G, 5-C,
5-G, 5-I, and 6-B--were irrelevant, privileged, or both, and did not need to be
produced. It ruled that five documents--exhibits 5-K, 5-L, 5-O, 5-P, and 6-O--
should be produced, but prohibited the IRS from disclosing them to another
governmental agency except in connection with a criminal tax prosecution or
with the court's approval. The court further ruled that the Intervenors had
failed to prove that the summons was not issued in "good faith."
The Intervenors filed timely notice of appeal on July 1, 1985. The Government
filed timely notice of cross-appeal on July 15, 1985. The order appealed from
is a final order which disposes of all claims of all parties. We have
jurisdiction under 28 U.S.C. s 1291.
DISCUSSION
A. Mootness
On January 24, 1986, during the pendency of this appeal, L. Ron Hubbard died.
The Intervenors argue that because Hubbard's death has foreclosed the
possibility of any further investigation of Hubbard's potential criminal tax
liability, this proceeding has become moot. We reject that argument for the
reason stated in United States v. Author Services, 804 F.2d 1520, 1522 n. 1
(9th Cir.1986).
B. Relevance of Exhibits 5-O, 5-P, and 6-O
[1][2] The IRS' power to examine records in connection with tax
investigations is broadly construed. See Liberty Financial Services v.
United States, 778 F.2d 1390, 1392 (9th Cir.1985); De Masters v. Arend, 313
F.2d 79, 87 (9th Cir.1963). The relevance of such evidence depends on whether
it might throw light on the correctness of a taxpayer's returns. United
States v. Goldman, 637 F.2d 664, 667 (9th Cir.1980). The Government must
demonstrate a "realistic expectation" of relevance, rather than an "idle hope"
of relevance. Id. (quoting United States v. Harrington, 388 F.2d 520,
524 (2d Cir.1968)).
The Government bases its claim that the three exhibits are relevant on the
declaration of Agent Petersell, in which Petersell stated:
I have read the Petition to Enforce Internal Revenue Service Summons. Each
of the items listed ... is relevant to the investigation of L. Ron Hubbard in
one or more of the following respects:
A. Determining the extent to which income from the Church of Scientology
inured to the benefit of L. Ron Hubbard.
B. Determining whether L. Ron Hubbard conspired with others to impair and
impede the Internal Revenue Service in the administration of the tax laws.
C. Determining whether any violations of the Internal Revenue laws were done
willfully with intent to evade tax.
The Government's other evidence of relevancy consists of three terse
descriptions of the documents' contents in the petition for enforcement of the
summons:
The record does not indicate the Government's sources for this information.
[3] While the Government might have made a better showing, the district
court did not clearly err in concluding that Petersell's declaration, when
coupled with the general descriptions of the documents in the petition to
enforce the summons, was sufficient to establish the relevance of the
documents. We do not ignore our statement in Goldman:
The Government's burden, while not great, is also not non-existent. The
Government appears to argue that the mere assertion of relevance by [an IRS
agent] satisfied that burden. Even to the extent this might be true for
records concerning the tax years being examined, *1415 relevance is not so
clear when records for other years are sought.
637 F.2d at 667. Notwithstanding the fact that exhibits 5-O, 5-P, and 6-O
all relate to years other than the tax years under investigation, we are
satisfied that the district court, after balancing the indicia of relevancy
against the impossibility of fully knowing the documents' contents before an
actual review, did not clearly err in determining that the documents "might
throw light" on the correctness of L. Ron Hubbard's return information.
C. Waiver of Privilege As to Exhibits 5-K and 5-L
The Intervenors do not contest on appeal the relevance of exhibits 5-K and 5-
L. Instead, they contend that the district court erred in ruling that
privileges which might otherwise have applied to the two documents were waived
by a voluntary delivery of the documents to Gerald Armstrong. In addition,
they argue that the district court erred when it concluded that exhibit 5-L
would not be protected by the attorney-client privilege even in the absence of
waiver because the affidavit of Hubbard's former attorney was too vague and
conclusory to validly assert the privilege.
[4][5][6] The attorney-client privilege is to be strictly construed.
Weil v. Investment/Indicators, Research & Management, Inc., 647 F.2d 18, 24
(9th Cir.1981). See 8 J. Wigmore, Evidence s 2291 at 554 (McNaughton rev.
1961). The logic behind the strict construction of the attorney-client
privilege applies with equal force to the marital communications privilege:
like the attorney-client privilege, the marital communications privilege is "an
obstacle to the investigation of the truth.... [that] ought to be strictly
confined within the narrowest possible limits consistent with the logic of its
principle." Id. The burden of demonstrating the existence of an
evidentiary privilege rests on the party asserting the privilege. See
United States v. Gann, 732 F.2d 714, 723 (9th Cir.1984) (attorney-client
privilege); Weil, 647 F.2d at 25 (evidentiary privileges generally). In
order to establish the applicability of the attorney-client privilege to a
given communication, the party asserting the privilege must affirmatively
demonstrate non-waiver. See id.; United States v. Landof, 591 F.2d 36,
38 (9th Cir.1978).
[7][8] The voluntary delivery of a privileged communication by a holder of
the privilege to someone not a party to the privilege waives the privilege.
See Clady v. County of Los Angeles, 770 F.2d 1421, 1433 (9th Cir.1985) (the
voluntary disclosure of a privileged attorney-client communication constitutes
waiver); United States v. McCown, 711 F.2d 1441, 1452-53 (9th
Cir.1983) (the marital communications privilege is inapplicable to
communications not intended to remain confidential); Weil, 647 F.2d at 24
(the voluntary disclosure of a privileged attorney-client communication
constitutes waiver). Moreover, when the disclosure of a privileged
communication reaches a certain point, the privilege may become extinguished
even in the absence of a wholly voluntary delivery. See In re Sealed Case,
676 F.2d 793, 818 (D.C.Cir.1982) ("Any disclosure inconsistent with maintaining
the confidential nature of the attorney-client relationship waives the
privilege."). Whether the circumstances of the delivery of exhibits 5-K and 5-
L to Armstrong gave rise to a waiver of the otherwise applicable privileges is
a mixed question of law and fact that we review de novo. See United States
v. McConney, 728 F.2d 1195, 1199-1204 (9th Cir.1984) (en banc).
[9] The district court held that all privileges potentially applicable to
exhibits 5-K and 5-L were waived by a voluntary delivery of the documents to
Gerald Armstrong. We agree. The Intervenors argue that the delivery could not
have been voluntary since the correspondence between Armstrong and Hubbard
contains no express indication that Armstrong intended to, or had Hubbard's
permission to collect communications between Hubbard and his wife or between
Hubbard and his attorneys.
Although Hubbard did not explicitly grant Armstrong access to attorney-client
*1416 or marital communications, Hubbard did, in a memorandum to Armstrong,
grant Armstrong general permission to collect documents relevant to the
proposed biography of Hubbard. The Intervenors' only argument in support of
non-waiver is that Hubbard did not specifically grant Armstrong access to
attorney-client and marital communications. More is required.
Since the attorney-client privilege which might otherwise have attached to
exhibit 5-L was waived, we need not consider whether the attorney-client
privilege was validly asserted by Hubbard's former attorney.
D. Limited Evidentiary Hearing
We review for abuse of discretion. See United States v. Stuckey, 646 F.2d
1369, 1373 (9th Cir.1981). See generally Rae v. Union Bank, 725 F.2d 478,
481 (9th Cir.1984) (a district court's decisions relating to discovery matters
are reviewed for abuse of discretion).
[10] The purpose of the limited evidentiary hearing was to determine whether
the summons enforcement proceeding was legitimate and in "good faith," rather
than merely camouflage for an ulterior non-tax motive. The "good faith"
standard seeks to prevent the IRS from becoming an information-gathering agency
for other governmental agencies. See United States v. LaSalle National
Bank, 437 U.S. 298, 317, 98 S.Ct. 2357, 2367, 57 L.Ed.2d 221 (1978);
Stuckey, 646 F.2d at 1373. The task is to identify " 'those rare cases
where bald allegations of harassment or improper purpose can be
substantiated.' " Author Services, 804 F.2d at 1523 (quoting United
States v. Church of Scientology of California, 520 F.2d 818, 824 (9th
Cir.1975)). The focal issue is whether an IRS investigation is motivated by
legitimate tax purposes. See United States v. Powell, 379 U.S. 48, 57-58,
85 S.Ct. 248, 254-55, 13 L.Ed.2d 112 (1964). The district court may properly
limit evidentiary hearings on the "good faith" issue to prevent a frustration
of legitimate Government objectives. Church of Scientology, 520 F.2d at
823-25.
[11] The Intervenors argue that the district court improperly limited its
inquiry to the issue of whether the summons itself was issued in "good faith,"
and ignored the larger issue of whether the overall investigation was in "good
faith." We reject that argument. At the hearing, C. Phillip Xanthos, the
Branch Chief of the IRS Criminal Investigation Division (Los Angeles District),
specifically testified to the legitimate tax-determination objectives of the
investigation. This and other testimony was sufficient to support the district
court's finding that the summons was issued in "good faith." See LaSalle
National Bank, 437 U.S. at 317, 98 S.Ct. at 2368. See also Stuckey, 646
F.2d at 1376; United States v. Zack, 521 F.2d 1366, 1368-69 (9th Cir.1975).
E. Restrictions on IRS Disclosure of the Summoned Documents
The district court ordered that "the documents produced in response to the
summons shall not be delivered to any other government agency by the IRS unless
criminal tax prosecution is sought or an Order of Court is obtained." We
review the district court's order for abuse of discretion. See United
States v. Columbia Broadcasting System, 666 F.2d 364, 368 (9th Cir.1982).
The Government argues that the district court's order conflicts with the
disclosure provisions of 26 U.S.C. s 6103. Those provisions, the Government
suggests, are the exclusive limitations upon IRS disclosure of return
information. In addition, the Government argues that the order represents an
improper attempt to enjoin the IRS from obeying a duly enacted federal law.
[12][13] We recently rejected this argument in Author Services, and held
that a district court's order restricting the IRS' ability to disclose summoned
materials to other governmental agencies, "[r]ather than being an abuse of
discretion, ... [could] be a wise exercise of control." Author Services,
804 F.2d at 1526. The district *1417 court's order in this case allows the
court to monitor the IRS' use of the summoned documents. This is an
appropriate exercise of the district court's discretion: "It is the court's
process which is invoked to enforce the administrative summons and a court may
not permit its process to be abused." Powell, 379 U.S. at 58, 85 S.Ct. at
255. See S.E.C. v. ESM Government Securities, Inc., 645 F.2d 310, 316-17
(5th Cir.1981). A district court may, when appropriate, condition enforcement
of a summons on the IRS' agreeing to abide by disclosure restrictions.
Author Services, 804 F.2d at 1525 (citing United States v. Texas Heart
Institute, 755 F.2d 469, 481 (5th Cir.1985)).
The Intervenors also argue that the district court's order violates 26
U.S.C. s 7421(a) (the "Anti-Injunction Act"), because it has the effect of
enjoining the IRS from disclosing the summoned tax information. We reject the
argument for the reasons stated in Author Services, 804 F.2d at 1526.
F. Exhibit 5-C ("the Tapes")
[14][15] The district court's rulings on the scope of the attorney-client
privilege involve mixed questions of law and fact, and are reviewable de
novo. See McConney, 728 F.2d at 1202. Where the relevant scope of the
attorney-client privilege is clear and the decision that the district court
must make is essentially factual, however, the district court's rulings as to
the privilege are reviewed for clear error. Id. at 1200.
[16] The Government contends that the district court erred in finding that
the "common interest" rule covered the tapes. The "common interest" rule
protects communications made when a nonparty sharing the client's interests is
present at a confidential communication between attorney and client. The
paradigm case is where two or more persons subject to possible indictment
arising from the same transaction make confidential statements that are
exchanged among their attorneys. See Hunydee v. United States, 355 F.2d
183, 185 (9th Cir.1965).
The Government is incorrect, however, in arguing that the "common interest"
rule is limited to such a case. Even where the non-party who is privy to the
attorney-client communications has never been sued on the matter of common
interest and faces no immediate liability, it can still be found to have a
common interest with the party seeking to protect the communications. See
Burlington Industries v. Exxon Corp., 65 F.R.D. 26, 44-45 (D.Md.1974);
Stanley Works v. Haeger Potteries, Inc., 35 F.R.D. 551, 554-55
(N.D.Ill.1964).
[17] The district court found that the parties present at the meetings
recorded on the tapes "had a common interest" in sorting out the respective
affairs of the Church and Mr. Hubbard. We agree. All of the non-lawyers
present at the meeting were employees of the Church.
[18] The Government also challenges the district court's finding that the
Church did not waive its attorney-client privilege when it inadvertently
delivered the tapes to Armstrong. (Hubbard's personal secretary gave Armstrong
the tapes under the mistaken impression that they were blank.) In
Transamerica Computer Co., Inc. v. International Business Machines, Corp.,
573 F.2d 646 (9th Cir.1978), we held that whereas a waiver of the attorney-
client privilege occurs when a holder of the privilege voluntarily discloses
the privileged matter, no waiver occurs if the holder has no opportunity to
claim the privilege or if the holder was erroneously compelled to disclose the
privileged matter. Id. at 651. The secretary's delivery of the tapes to
Armstrong was sufficiently involuntary and inadvertent as to be inconsistent
with a theory of waiver.
[19][20] The Government challenges the district court's ruling that the
"crime-fraud" exception to the attorney-client privilege did not apply to the
tapes. The attorney-client privilege does not protect communications that
further a crime or fraud. See United States v. Hodge and Zweig, 548
*1418 F.2d 1347, 1354 (9th Cir.1977). The Government had the burden of
making a prima facie showing that the attorney-client communications recorded
on the tapes were in furtherance of an intended or present illegality. Id.
We agree with the district court's conclusion that the Government failed to
satisfy this burden.
The Intervenors argue that the Government's evidence of crime or fraud must
come from sources independent of the attorney-client communications recorded on
the tapes. In support of this argument, they cite United States v.
Shewfelt, 455 F.2d 836 (9th Cir.1972). In Shewfelt, we said that "before
the privileged status of [attorney-client] communications can be lifted, the
government must first establish a prima facie case of fraud independently of
said communications." Id. at 840 (emphasis added). Notwithstanding
Shewfelt, the Government argues that in assessing the applicability of the
"crime-fraud" exception to the tapes the district court should have considered
evidence of the contents of the tapes which the Government presented to the
court.
Shewfelt 's independent evidence requirement has been strongly criticized.
In In re Berkley and Co., Inc., 629 F.2d 548, 553 n. 9 (8th Cir.1980), the
Eighth Circuit observed that the two cases cited in Shewfelt, assertedly in
support of the independent evidence requirement, in fact simply state that a
party seeking disclosure under the "crime-fraud" exception must make a prima
facie showing of crime or fraud in order to shift the burden of showing the
inapplicability of the exception to the party resisting disclosure.
In the fourteen years that have passed since Shewfelt was decided, only one
court has cited it as authority for the independent evidence requirement.
See Kockums Industries Limited v. Salem Equipment, Inc., 561 F.Supp. 168,
171 (D.Or.1983). By contrast, a number of courts have rejected the Shewfelt
position. See, e.g., In re Sealed Case, 676 F.2d at 815; In re Special
September 1978 Grand Jury, 640 F.2d 49, 59 (7th Cir.1980); In re Berkley,
629 F.2d at 553 n. 9; Coleman v. American Broadcasting Companies, Inc., 106
F.R.D. 201, 207 n. 9 (D.D.C.1985); United States v. King, 536 F.Supp. 253,
262 (C.D.Cal.1982).
In Hodge and Zweig, we discussed the "crime-fraud" exception at length
without ever referring to Shewfelt. 548 F.2d at 1354-55. Instead, we
referred repeatedly to United States v. Friedman, 445 F.2d 1076 (9th
Cir.1971), a decision which implicitly recognized that a district court may
examine the disputed communications themselves in order to determine the
applicability of the "crime-fraud" exception. Id. at 1354.
In this case, the communications recorded on the tapes appear to be the
Government's best evidence establishing the applicability of the "crime-fraud"
exception. This is not surprising, since the illegal advice allegedly given by
Church attorneys to Church officials is an integral part of the intended
illegality that the Government seeks to establish. The court's observation in
King is pertinent: "[S]ince the illegal advice is usually given in the
attorney-client setting, applying Shewfelt to such cases would, in most
instances, simply serve to insulate dishonest attorneys from prosecution for
obstruction of justice." King, 536 F.Supp. at 262.
In King, the court speculated that "the independence test set forth in
Shewfelt does not appear to be the law in the Ninth Circuit." Id. We
cannot agree. Whatever the merits of the criticisms that have been leveled
against Shewfelt 's independent evidence requirement, we are bound to adhere
to our holding in Shewfelt unless and until it is reversed by an en banc
panel of this court. See United States v. Spilotro, 800 F.2d 959, 967 (9th
Cir.1986); Atonio v. Wards Cove Packing Co., Inc., 768 F.2d 1120, 1132 n.
6 (9th Cir.1985).
The Government's independent evidence of intended illegality consists
primarily of: 1) Agent Petersell's Supplemental Declaration of March 8, 1985,
in which Petersell stated that his discussions with Gerald Armstrong had given
him reason to believe *1419 that the communications recorded on the tapes
focused generally on the intentional violation of the tax laws; and 2)
Petersell's Supplemental Declaration of March 15, 1985, in which Petersell
stated that his discussions with three other former Church employees had given
him reason to believe that the communications recorded on the tapes
specifically focused on i) a proposed scheme whereby the Church's cash
transfers to Hubbard would be disguised as payments for services rendered
(allegedly to insulate Hubbard from tax liability and to protect the Church's
tax-exempt status), and ii) a proposed scheme whereby Hubbard would be able to
control royalty income derived from the "Trademark Trust" (a trust that was
created to manage Hubbard's various Scientology-related and other trademarks)
without that control being traceable to him.
We agree with the district court that this evidence, while not altogether
insubstantial, is not sufficient to make out the requisite prima facie showing
of intended illegality.
AFFIRMED.