In July 2000, Carlos, a small businessman who never went to college but instead opened an auto parts business, sold his business, which generated $10 million in capital gain. He was not well versed in federal income tax issues. A global accounting firm, which had staffers read the local business press to learn of any significant transactions, cold-called Carlos to sell him a method to limit the tax on the capital gain. As structured by the accountant to reduce the amount subject to tax, in early August 2000 Carlos entered into a series of transaction in which he purchased and wrote offsetting options ($9.5 million each) and purported to create substantial basis in a partnership interest by transferring those option positions to a partnership. Carlos claimed that the basis in his partnership interest was increased by the $9.5 million cost of the purchased call options but was not reduced by $9.5 million under section 752 of the Code as a result of the partnership's assumption of the his obligation with respect to the written call options.

Disregarding additional amounts contributed to the partnership, transaction costs, and any income realized and expenses incurred at the partnership level, Carlos purported to have a basis in the partnership interest equal to the $9.5 million cost of the purchased call options, even though his net economic outlay to acquire the partnership interest and the value of the partnership interest were zero. He sold his partnership interest at the end of August 2000, claiming a tax loss of $9.5 million, even though he incurred no corresponding economic loss. Carlos timely filed his 2000 return by April 15, 2001, on which he reported only $500,000 in capital gain. On September 5, 2000, the IRS published Notice 2000-44 in the Internal Revenue Bulletin, which put taxpayers on notice that losses arising from transactions similar to the transaction Carlos entered into in August 2000 do not represent bona fide losses reflecting actual economic consequences as required by section 165 of the Code. The IRS, which found out about Carlos's transaction in November 2004 when the accounting firm divulged its client list, immediately began to examine Carlos's return.

The IRS mailed a notice of deficiency to Carlos on November 1, 2005, disallowing the $9.5 million capital loss. Carlos filed a petition in the United States Tax Court, and the case has been stayed ever since. Write a memorandum to Carlos describing his BEST defense against the IRS's notice of deficiency. Include in the memorandum a discussion of the United States Supreme Court's opinion in U.S. v. Home Concrete & Supply Co., which was handed down on April 25, 2012, and can be found on the Court's website.