RALEIGH, N.C. (AP) — Former pork mogul Wendell H. Murphy and his family have lost a four-year legal battle with the Internal Revenue Service over a tax shelter created after the 2000 sale of their business empire.

A federal judge in Washington, D.C., sided in August with the IRS, which claimed the tax shelter was "an economic sham," The News & Observer of Raleigh reported Wednesday.

Murphy, whose company pioneered the factory-style hog farms that now dominate the industry, sought to overturn an IRS claim that he and his family owed $26 million in taxes, plus a penalty estimated at about $10 million.

The case involved an attempt to shield some of the assets from the sale of No. 2 hog producer Murphy Family Farms to Smithfield Foods in 2000 for more than $450 million in stock and assumed debt.

The sale excluded assets that Smithfield didn't want, and those assets were then distributed to Murphy and seven members of his family. Receiving those assets generated substantial tax ramifications that surprised the Murphys, according to court documents.

The family turned to accounting firm Ernst & Young, which for $2 million created a tax shelter designed to enable the Murphys to report on their tax returns losses of $100 million. Tax shelters are used by wealthy individuals to eliminate, reduce or defer tax liabilities on annual income.

The IRS determined the investment partnerships the family formed "had no business purpose other than tax avoidance, lacked economic substance, and, in fact and substance, (constitute) an economic sham for federal income tax purposes."

In September 2009, the Murphys conceded the IRS properly assessed their tax bills when it disallowed the losses generated by the tax shelter. The Murphys continued to dispute the IRS assessing a 40 percent penalty.

Judge Edward Damich upheld the penalty after a two-week trial, ruling that the family failed to show that it acted in good faith.

Wendell Murphy says the family decided against appealing the ruling because success seemed unlikely. Murphy said he and his family relied on "trusted advisers" at Ernst & Young.

"They were wrong so, ultimately, we were wrong," he said.
The family continues to challenge an IRS bill to reimburse $146,702 in court costs such as trial transcripts and witness fees but excluding attorneys' fees.

Murphy is a former state senator and former chairman of the board of trustees at North Carolina State University. The 1960 NCSU graduate's name is fixed on the football center at Carter-Finley Stadium.

The News & Observer won the Pulitzer Prize for public service for its 1995 investigative series examining intensive hog growing methods, profiling Murphy, and describing his sponsorship of state laws that exempted hog operations from local zoning laws and tougher environmental regulations.

Information from: The News & Observer, http://www.newsobserver.com

Copyright 2011 The Associated Press.