T.C. Memo. 1998-322

UNITED STATES TAX COURT

DOUGLASS H. AND SUZANNE M. BARTLEY, Petitioners v

. COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 14941-97. Filed September 10, 1998.

Douglass H. and Suzanne M. Bartley, pro sese.

Frederic J. Fernandez and Mark J. Miller , for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

JACOBS, Judge : Respondent determined a $12,952 deficiency in

petitioners' 1993 Feder al income tax and a section 6662(a)

accuracy-related penalty. Following concessions by petitioners,

the issues for decision are (1) whether petitioners must include as

income the gain realized from the sale of their residence in 1993,- 2 -

1 On May 5, 1998, respondent filed a motion to impose a

sec. 6673 penalty. On July 10, 1998, respondent filed a motion

to withdraw the May 5 motion. On July 14, 1998, we granted

respondent's motion to withdraw the motion to impose a sec. 6673

penalty. and (2) if that gain is includable in petitioners' 1993 income,

then whether petitioners' failure to report it subjects petitioners

to liability for the section 6662(a) accuracy-related penalty. 1

Unless otherwise indicated, all section references are to the

Internal Revenue Code in effect for the year in issue, and all Rule

references are to the Tax Court Rules of Practice and Procedure.

FINDINGS OF FACT

Some of the facts have been stipulated, and the stipulation of

facts is incorporat ed in our findings by this reference.

Petitioners resided in Ely, Minnesota, at the time they filed their

petition.

Background

Douglass H. Bartley (petitioner) received a bachelor of arts

degree in business administration from the University of Arizona in

1970 and a juris doctor degree from the University of Arizona Law

School in 1973. Petitioner had a private law practice in

Milwaukee, Wisconsin, until 1980; at that time, he moved to

Washington, D.C., and began working at Washington Gaslight Co. In

approximately 1983, he returned to his private practice in

Milwaukee.- 3 -

In April 1987, the Governor of Wisconsin appointed petitioner

a commissioner (the equivalent of a State tax court judge) to the

Wisconsin Tax Appeals Commission (the commission). This was a

part-time position. (As a part-time commissioner, petitioner was

permitted to maintain his private law p ractice.) Petitioner

received $50,000 in yearly compensation as a commissioner. In

1992, he was appointed to a full-time position on the commission to

fill the rem ainder of an unexpired term (March 31, 1993) of a

commissioner who had resigned. (By accepting the full-time

position, petitioner was required to abandon his private law

practice.) Petitioner was not reappointed at the end of the

interim term, and he thereafter returned to private practice,

spending a substantial amount of his practice on Federal and State

tax law issues.

Sale of Residence

On September 28, 198 7, petitioners purchased a house in

Mequon, Wisconsin (the Mequon residence), for $155,000. In late

1987, they built an addition to the Mequon residence (which was

completed in Ja nuary 1988) costing $48,606, so that petitioner's

mother could live with them. She paid rent to petitioners.

Petitioners used 83 percent of the Mequon residence for

personal purposes and 17 percent for rental purposes.

In 1991, petitioners spent $9,475 on further improvements to

the Mequon residence. Between 1988 and 1992, petitioners claimed- 4 -

2 At closing, after subtracting the unpaid balances of

three mortgages totaling $192,251 and the selling expenses,

petitioners received $50,533 of the proceeds. depreciation of $4,913 on the rental port ion of the Mequon

residence.

As a consequence of petitioner's depar ture from the

commission, petitioners could no longer afford the monthly mortgage

payments; thus petitioners sold their Mequon residence for $270,000

on June 15, 1993.

The parties stipulated that the adjusted basis of the Mequon

r esidence on the date of sale was $213,582, and that the selling

expenses totaled $21,191 (of which $17,588 was all ocated as

personal expenses and $3,603 as rental expenses). 2 Thus, the gain

on the sale of petitioners' Mequon residence was $40,140. (The

amount of gain is not in dispute.)

In June 1993, petitioners purchased land in Ely, Minnesota,

and built a cabin thereon (the Ely residence), costing $66,588.

They began living there in October 1993. On February 1, 1994,

petitioners sold the Ely residence for $66,588. Subsequently, they

moved into a rental apartment.

Federal Income Tax Return

Petitioners neither reported any capital gain on the sale of

their Mequon residence on their 1993 Federal income tax return nor

attached thereto a Form 2119, Sale of Your Home.- 5 -

During 1996, petitioners were audited by one of respondent's

agent s. The auditor requested information from petitioners with

respect to the sale of their Mequon residence. On September 16,

1996, petitioners provided Form 2 119 and Form 4797, Sales of

Business Property, to the Internal Revenue Service auditor assigned

to their case. However, petitioners did not execute either form.

Notice of Deficiency

In the notice of deficiency, respondent determined that the

capit al gain petitioners received from the sale of their Mequon

residence was includable in their 1993 income. Respondent

calculated petitioners' capital gain in the following manner:

Personal Business

Total 83% 17%

Sale price $270,000 $224,100 $45,900

Add: Depreciation allowed 4,913 --- 4,913

Less: Adjusted basis in (213,582) (177,273) (36,309)

property

Selling expenses (21,191) (17,588) (3,603)

Capital gain on sale of property 40,140 = 29,239 + 10,901

OPINION

Issue 1. Gain From Sale of Home

The first issue is whether petitioners must include as income

the capital gain realized from the sale of their Mequon residence

in 1993. Respondent maintains that because petitioners failed to

satisfy the requirements of section 1034, they should have reported- 6 -

3 Sec. 1034 was repealed by sec. 312(b) of the Taxpayer

Relief Act of 1997, Pub. L. 105-34, 111 Stat. 839, generally

effective for sales and exchanges of principal residences after

May 6, 1997. (The repeal of sec. 1034 was part of the capital

gains relief provided to individual taxpayers by the Taxpayer

Relief Act of 1997.) The sec. 1034 rollover provision was

replaced by an expanded and revised sec. 121, which generally

provides for the nonrecognition of up to $500,000 of gain

realized from the sale of a principal residence by married

taxpayers filing a joint return, and up to $250,000 of gain

realized by all other individual taxpayers, if during the 5-year

period ending on the date of the sale or exchange, the property

has been owned and used by the taxpayer as the taxpayer's

principal residence for a period aggregating 2 or more years.

This exclusion is not predicated on the reinvestment of gain in a

new home.

References hereinafter to sec. 1034 are to that provision as

in effect during the year in issue, 1993. the capital gain. Petitioners, on the other hand, advance

constitutional and equitable arguments as to why the capital gain

is not includable in income.

a. Section 1034

Generally, sections 1001 and 61 require a taxpayer to

recognize in the year o f the sale gain realized on the sale of

property. Section 1034, 3 wh ich provides an exception to this

general rule, allows a taxpayer, in certain circumstances, to defer

recognition of all gain realized on the sale of the taxpayer's

principal residence (referred to as the old residence) if (1) other

property (referred to as the new residence) is purchased and used

by the taxpayer as a new principal residence within the period

beginning 2 years b efore the date of the sale and ending 2 years

after the date, and (2) the adjusted sale price of the old- 7 -

residence is less than the c ost of the new residence. Sec.

1034(a), (c). Section 1034(b)(1) defines "adjusted sales price" as

the amount realized on the sale of the old residence (selling price

minus selling expenses) reduced b y expenses of fixing up the

res idence in preparation for sale. Thus, if the cost of the new

residence equals or exceeds the adjusted sale price of the old

residence, the entire gain on the sale of the old residence must be

deferred. (We note that section 1034 is mandatory, so that a

taxpayer cannot elect to have gain recognized where the section is

applicable. Sec. 1.1034-1(a), Income Tax Regs.) If the cost of

the new residence is less than the adjusted sale price of the old

residence, gain must be recognized to the extent the adjusted sale

price of the old residence exceeds the cost of the new residence,

but not greater than the amount realized on the sale. Sec. 1.1034-

1(a), Incom e Tax Regs. The deferral of gain is accomplished by

reducing the basis of the new residence by the amount of gain not

recognized on the sale of the old residence (i.e., the unrecognized

gain is rolled over into a lower basis for the new resi dence).

Sec. 1034(e). Finally, pursuant to section 1.1034-1(i)(1), Income

Tax Regs., any gain recognized from the sale of the old residence

is includable in gross income for the taxable year in which the

gain was realized. (Section 1034 does not apply to losses; losses

are recognized or not recognized without regard to the provisions

of section 1034.)- 8 -

Petitioners bear the burden of showing their entitlement to

the n onrecognition of income benefits of section 1034 by proving

that they have satisfied all of the section's requirements. Rule

142(a); Welch v. Helvering

, 290 U.S. 111 (1933). Income tax

pro visions which exempt taxpayers under given circumstances from

paying taxes or permit them to postpone taxes are narrowly

construed. C ommissioner v. Schleier

, 515 U.S . 323, 328 (1995);

Commissioner v. Baertschi

, 412 F.2d 494, 499 (6th Cir. 1969), revg.

and remanding 49 T. C

. 289 (1967). In fact, this Court has

indicated that section 1034 must be strictly construed. See, e.g.,

Boesel v. Commissioner

, 65 T.C. 378, 390 (1975); L okan v.

Commissioner , T.C. Memo. 1979-380.

Although petiti oners purchased the Ely residence within 2

years of selling the Mequon residence, the adjusted sale price of

the Mequon residence ($248,809) exceeded the cost of the Ely

residence by $182,221, which in turn exceeded the $40,140 gain

realized on the sale. Thus, because petitioners did not meet the

requirements of section 1034, they mu st include the $40,140 gain

realized in their 1993 income.

b. Constitutional Arguments

Petitioners contest the constitutionality of any statutory

provisions or Internal Revenue Service (IRS) actions (or inactions)

which result in capital gain from the sale of their Mequon

residence, arguing a s follows: (1) The capital gain respondent- 9 -

4 In their petition, petitioners state as follows:

a. Taxing "gain" on the sale of our

residence has no rational basis and violates

the Equal Protection component of the 5th

Amendment Due Process Clause because:

(1) The tax invidiously

discriminates in favor of wealthy

homeowners and against those less

fortunate. The wealthier

homeowner, who trades up to a more

expensive house, has no taxable

gain. In contrast, the less

affluent homeowner, who can't

afford a more expensive house or

must move into rental quarters,

gets taxed merely because he can't

come up with enough to buy anything

or because he can't afford to buy a

house of equivalent or greater

price.

(2) The tax also invidiously

discriminates on the basis of age.

Those who are 55 or older get an

exclusion that no one else

qualifies for.

b. Taxing the "gain" violates the Due

(continued...) determined is a violation of their equal protection and due process

right s because section 1034 favors wealthy taxpayers and

discriminates on the basis of age; (2) the gain from the sale of

their Mequon re s idence is "fictitious", resulting solely from

inflation, and because there was no "real gain", there is no income

subject to taxation; and (3) because the IRS does not recognize

either nominal or real losses on the sale of a residence, gain from

the sale of a residence cannot be tax ed. 4 Not surprisingly,- 10 -

4 (...continued)

Process Clause of the 5th Amendment, because

it transforms a real loss into a fictitious

gain and creates phantom income or distorts

income beyond any reasonable proportions.

IRS wrongfully fails to recognize the

phenomenon of inflation, as explained more

fully below.

c. The house "gain" taxing scheme

violates the Equal Protection component of

the 5th Amendment for an additional reason,

namely because IRS refuses to recognize

either nominal or real losses on the sale of

a residence, even though it readily taxes

nominal gains. That results in disparate

treatment as between homeowners who cannot

deduct losses and businesses which can

because businesses can deduct those losses. respondent disagrees with each of petitioners' arguments. We agree

with respondent.

First, we do not agree that taxing the capital gain realized

on the sale of petitioners' Mequon residence is a violation of

petitioners' equal protection rights. The Fifth Amendment to the

Constitution protects against the deprivation of life, liberty, or

property without due process of law. The Due Process Clause of the

Fifth Amendment provides protection against Federal discriminatory

action "so unjustified as to be violative of due process". S hapiro

v. Thompson

, 394 U.S. 618, 642 (1969); Bolling v. Sharpe

, 347 U.S.

497-499 (1954); Ward v. Commissioner

, 608 F.2d 599 (5th Cir. 1979),

affg. per curiam T.C. Memo. 1979-39. Further, the Due Process

Clause of the 5th Amendment has been held to incorporate the Equal- 11 -

Protection Clause of the 14th Amendment. Johnson v. Robison , 415

U.S. 361, 364-365 n.4 (1974); W ard v. Commissioner

, s upra ;

Stevenson v. Commissioner , T.C. Memo. 1981-127.

Under equal protection analysis, a classification in a Federal

statute is subject to strict scrutiny only if it interferes with

the exercise of a fundamental right or operates to the peculiar

disadvantage of a suspect class. R egan v. Taxation with

Representation

, 461 U.S. 540, 547 (1983); Massach usetts Bd. of

Retirement v. Murgia

, 427 U.S. 307, 312 (1976); San Antonio Indep.

Sch. Dist . v. Rodriguez , 411 U.S. 1, 16-17 (1973). Neither

circumstance is present here. Wealth discrimination alo ne is

insufficient to require strict scrutiny ; such review of wealth

classifications has b een applied only where the discrimination

affects an important individual interest. See, e.g., San Antonio

Indep. Sch. Dist. v. Rodriguez

, supra at 24, 29; Harper v. Virginia

State Bd. of Elections , 383 U.S. 663 (1966).

Where a tax statute results in differing treatment of

different classes of persons, the s tatute generally is not in

violation of the Fifth Amendment because of the different treatment

if it has a rational basis. Regan v. Taxation with Representation

,

supra ; United States v. Maryland Savings-Share Ins. Corp.

, 400 U.S.

4 (1970). Furthermore, it is especially difficult to demonstrate

that no rational basis exists for a classification in a revenue

measure for which the presumption that an act of Congress is- 12 -

5 The wide scope of powers of the legislature under the

14th Amendment in the matter of classification was discussed at

length by the Supreme Court in Carmichael v. Southern Coal & Coke

Co. , 301 U.S. 495, 509-510 (1937):

It is inherent in the exercise of the power

to tax that a state be free to select the

subjects of taxation and to grant exemptions.

Neither due process nor equal protection

imposes upon a state any rigid rule of

equality of taxation. This Court has

repeatedly held that inequalities which

result from a singling out of one particular

class for taxation or exemption, infringe no

constitutional limitation.

Like considerations govern exemptions

from the operation of a tax imposed on the

members of a class. A legislature is not

bound to tax every member of a class or none.

It may make distinctions of degree having a

rational basis, and when subjected to

judicial scrutiny they must be presumed to

rest on that basis if there is any

conceivable state of facts which would

support it. [Citations omitted.] constitutional is particularly strong. Black v. Commissioner , 69

T.C. 505, 507-508 (1977); N ammack v. Commissioner

, 56 T.C. 1379,

1383 (1971), affd. per curiam 459 F.2d 1045 (2d Cir. 1972).

Legislatures have particularly broad latitude in creating

classifications and distinctions in tax statutes. 5

In the case before us, no d enial of the equal protection or

due process provisions of the Constitution has occurred. Section

1034 has a rational basis as enacted by Congress in the Revenue Act

of 1951, ch. 521, 65 Stat. 452. Congress enacted section 112(n),

the predecessor to section 1034, as an amendment to the 1939- 13 -

Internal Revenue Code, recognizing that the disposi tion of one

residence and the acquisition of another were often necessitated by

a change in the size of the taxpayer's family, a change in the

taxpayer's place of employment, or other circumstances beyond the

taxpayer's control. As the Ways and Means Committee report, H.

Rept. 586, 82d Cong., 1st Sess. (1951), 1951-2 C.B. 357, 377-378,

explained:

H. Gain From Sale Or Exchange Of The

Taxpayer's Residence.

this bill amends the presen t provisions

relating to a gain on the sale of a taxpayer's

pri n cipal residence so as to eliminate a

hardship under existing law which provides that

when a personal residence is sold at a gain the

difference between its adjusted basis and the

sale price is ta xed as a capital gain. The

hardship is accentuated when the transactions

are necessitated by such facts as an increase

in the size of the family or a cha nge in the

place of the taxpayer's employme nt. In these

situations the transaction partakes of the

nature of an involuntary conversion. * * *

See Clapham v. Commissioner , 63 T.C. 505, 511 (1975); see also S.

Rept. 781, 82d Cong., 1st Sess. (1951), 1951-2 C.B. 458, 482-484,

566-570; Staff of Joint Comm. on Taxation, Summary of Provisions of

the Revenue Act of 1951, at 389-310 (J. Comm. Print 1951), 1951-2

C.B. 287, 309-310.

Over the years, the governing Code provision has changed

slightly. See H. Rept. 1337, 83d Cong., 2d Sess. A268-A269 (1954).

The rules under section 1034 during the year in issue are

substantially similar to those Congress adopted in 1951. The major- 14 -

change to section 1034 (other than its repeal) has been the

extension of the period for acquisition or construction of a new

residence from1 year to 18 months by the Tax Reduction Act of

1975, Pub. L. 94-12, sec. 207(a), 89 Stat. 32, and then to 2 years

by the Economic Recovery Tax Act of 1981, Pub. L. 97-34, sec.

122(b), 95 Stat. 197.

It is clear from the legislative history that Congress viewed

the deferral of capital gains tax as a means to alleviate hardships

for growing families pu rchasing a new home and for taxpayers

changing employment and thus needing to purchase a new residence.

Because a rational basis exists for the gain deferral under section

1034, this pro vision is constitutional and does not violate

petitioners' equal protection rights.

In repealing section 1034 in the Taxpayer Relief Act of 1997,

sec. 312(b), it appears that Congress addressed petitioners'

concern that the "poor" were penalized through section 1034:

To postpone the entire capital gain from

the sale of a principal residence, the

purchase price of a new home must be greater

than the sales price of th e old home. This

provision of present law encourages some

taxpayers to purchase larger and more

expensive houses than they otherwise would in

order to avoid tax liability, particularly

those who move from areas where housing costs

are high to lower-cost areas. This promotes

an inefficient use of taxpayer's financial

resources.

H. Rept. 105-148, at 761-762 (1997). Thus, in 1997, Congress

repealed section 1034 and revised section 121 because, among other- 15 -

6 The one-time exclusion for gain on the sale of

residences applied to homes sold before May 7, 1997. Sec. 121

was amended by sec. 312(a) and (d)(1), Taxpayer Relief Act of

1997, 111 Stat. 836, 839.

7 Sec. 121 differed from sec. 1034 as follows: (1) Under

sec. 121, a $125,000 ceiling existed on the amount of gain

excludable ($62,500 in the case of a separate return by a married

individual); (2) sec. 121 permanently excluded the gain from

income instead of only postponing recognition and could be used

only once in a lifetime; (3) sec. 121 was available only to

taxpayers over 55 years old; and (4) the sec. 121 exclusion was

elective and did not require the purchase of a new residence. things, section 1034 was generally more useful when trading up a

residence. As the excerpt above illustrates, presumably Congress

realized that section 1034 favored wealthy taxpayers. However,

this does not equate to a constitutional violation. See, e.g.,

Black v. Commissioner

, supra

.

We now turn to petitioners' age discr i mination argument.

Section 121, 6 a companion to section 1034, 7 permitted taxpayers 55

and older to exclude from gross income up to $125,000 of gain from

the sale of property which they had owned and used as their

principal residence for 3 or more of the 5 years immediately before

the sale. The purpose of the section 121 exclusion rule w as to

enable an older taxpayer to sell his home without being required to

pay tax on the realized appreciation or invest all the proceeds

from the old residence in a new residence. Congress concluded that

although section 1034 generally provided adequately for the younger

taxpayer who chan ged residences, it did not provide adequate tax

benefits fo r the taxpayer whose family had grown up and who no- 16 -

8 In adopting this one-time exclusion provision,

Congress' intent was as follows:

The Congress believed that the taxes

imposed upon an individual with respect to

gain that he or she realizes on the sale or

exchange of his or her principal residence,

in many instances, may be unduly high,

especially in view of recent inflation

levels and the increasing cost of housing.

The Congress believed that, in most

situations, the nonrecognition provisions of

present law operate adequately to allow

individuals to move from one residence to

another without recognition of gain or

payment of tax. However, where an

individual has owned his or her principal

residence for a number of years and sells it

either to purchase a smaller, less expensive

dwelling, or to move into rental quarters,

any tax due on the gain realized may be too

high. While the provisions of prior law

relating to the exclusion of gain by

taxpayers who attained the age of 65 may

ameliorate this situation somewhat, the

Congress believed that the prior dollar

limits and age restriction were unrealistic

in view of increasing housing costs and

decreasing retirement ages. In addition,

the Congress believed that the holding

period of a principal residence which is

involuntarily converted should be tacked to

that of a replacement residence for purposes

of meeting the use and occupancy

requirements needed to qualify for the

exclusion upon a sale of the replacement

residence.

Staff of Joint Comm. on Taxation, General Explanation of the

Revenue Act of 1978, at 255-256 (J. Comm. Print 1979). longer needed the family homestead. 8 See, e.g., H. Rept. 749, 88th

Cong., 1st Sess. (1963), 1964-1 C.B. (Part 2) 125, 169-171, 284-

288; S. Rept. 830, 88th Cong., 2d Sess. (1964), 1964-1 C.B. (Part- 17 -

9 In fact, there were a number of other sections in the

Internal Revenue Code that provided for differing tax treatment

depending upon the taxpayer's age. For instance, a taxpayer who

attained age 25 before the close of the computation year and was

not a full-time student during the 4 taxable years commencing

upon attaining the age of 21 and ending with the computation year

would be eligible for income averaging. Former sec.

1303(c)(2)(A) (Tax Reform Act of 1986, Pub. L. 99-514, sec.

141(a), 100 Stat. 2117, repealed sec. 1303, applicable to tax

years beginning after Dec. 31, 1986); see Baldwin v.

Commissioner , 84 T.C. 859, 869 (1985).

In addition, if a taxpayer fails to roll over distributed

retirement funds within 60 days, and the distribution is made

before the date the taxpayer attains the age of 59-1/2, and none

of the other exceptions in sec. 72(t)(2) applies, the tax on the

distribution is increased by an amount equal to 10 percent of the

(continued...) 2) 505, 555-557. Congress believed that a rollover under section

1034 may not be feasible because the older taxpayer often wants to

purchase a less expensive home or move to a rented residence at

another location and may also need the proceeds from the sale of

the old residence to meet living expenses in the retirement years.

In Woolf v. Commissioner

, T.C. Memo. 1981-286, we held that a

rational basis existed for allowing the section 121 exclusion, and

thus the exclusion did not result in any constitutional violations.

We reasoned that in the case of certain older individuals, Congress

made a reasonable attempt to provide for those i ndividuals who,

because of their age and particular situation in life, may wish to

change residences. We stated: "We, a ccordingly, find no

constitutional violation resulting from the fact that * * * [the

taxpayers'] tax consequences may have been different from those of

other individuals who sold their personal residences". 9 I d. "'No- 18 -

9 (...continued)

portion includable in gross income. Sec. 72(t). scheme of taxation, whether the tax is imposed on property, income,

or purchases of goods and services, has yet been devised which is

free of all discriminatory impact.'" D ruker v. Commissioner

, 7 7

T.C. 867, 872 (1981) (quoting San Antonio Indep. Sch. Dist. v.

Rodriguez , 411 U.S. at 42), affd. in part on this issue and revd.

in part on another issue 697 F.2d 46 (2d Cir. 1982).

In sum, we hold that no denial of the equal protection or due

process provisions of the Constitution has occurred herein.

c. Equitable Arguments

Petitioners maintain that to tax the gain from the sale of

their Mequon residence because they could not afford to purchase

another house of equal or greater value c onstitutes "blatant

discrimination on the basis of wealth." Petitioners' economic

hardship situation does not alleviate their obligation to report

the gain on the sale of their Mequon residence, as required by

section 1034. To petitioners this result may appear inequitable.

Petitioners essentially are requesting the Court to ignore the

plain language of the statute and rewrite the statute to achieve

what they regard as an equitable re sult. See H ildebrand v.

Commissioner , 683 F.2d 57, 58-59 (3d Cir. 1982), affg. T.C. Memo.

1980-532. This we cannot do. We cannot alter the plain reading

of the statute. Petitioner has not cited any authority for us to- 19 -

provide the relief he req uests. "The proper place for a

consideration of petitioner's complaint is the Halls of Congress,

not here [Tax Court]." H ays Corp. v. Commissio ner , 40 T.C. 436,

443 (1963), affd. 331 F.2d 422 (7th Cir. 1964).

I n addition, petitioners argue that taxpayers are unfairly

treated when t he value of their home increases because of

inflation. They contend that

The $40,140 of alleged gain is fictitious, for

the IRS gain computation assumes that the

t axpayers' 1987 purchase dollars ar e

equivalent to 1993 sale dollars. If

equivalent dollars are used to compute gain

he re, the $40,140 "gain" becomes a loss of

$8,397. An income tax may not be imposed on a

loss without vi olating IRC § 61 and the Due

Process Clause of the Fifth Amendment.

Other taxpayers have raised the argument of inflation as

grounds for failing to report income. We have consistently

rejected this argument. See H ellermann v. Commissioner , 77 T.C.

1361 (1981); Milkowski v. Commissioner

, T.C. Memo. 1981-225;

Downing v. Commissioner

, T.C. Memo. 1983-97. The taxpayers in

Hellermann made arguments similar to those advanced by petitioners:

That gain fromthe sale of their buildings was due to inflation;

that their gain was nominal; and that the portion of their nominal

gain that was due to inflation does not constitute taxable income.

77 T.C. at 1362-1363. The taxpayers therein also used the Consumer

Price Index to illustrate the effects of inflation and what was

alleged to be their nominal gain. I d. at 1362. Responding to that- 20 -

10 We note that when Congress desires to take inflation

into account, it does so by statute. See, e.g., secs. 1(f), 151. argument, we therein stated "that we have several times denied

taxpayers deductions for losses due to inflation, on grounds that

the tax law is not written to account for inflation." I d. at

1363. 10 We further determined that nominal gain is taxable because

of (1) the doctrine "that Congress has the power and authority to

establish the dollar as a unit of legal value with respect to the

determination of taxable income, independent of any value the

dollar might also have as a commodity" (citations omitted), and (2)

the doctrine of common interpretation, which defines income on the

basis of the understanding of a lay person, not an economist. I d.

at 1364, 1366. We held in the Commissioner's favor, concluding

that (1) the taxpayers' use of the Consumer Price Index (including

any other method measuring inflation) to calculate taxable income

is irrelevant, and (2) nominal gain is taxable income. I d. at

1363-1364; see also S ibla v. Commissioner

, 68 T.C. 422, 430-431

(1977) (holding that the taxpayer was neither entitled to a

deduction nor any other adjustment to his gross income because of

the fact that the value of a dollar may have declined in relation

to silver or gold), affd. 611 F.2d 1260 (9th Cir. 1980); Gajewski

v. Commissioner

, 67 T.C. 181, 194-195 (1976) (holding that the

value of the dollar is "irrelevant for purposes of computing * * *

[a taxpayer's] taxable income", and "for purposes of the tax law,- 21 -

a dollar is what Congress says it is, without regard to intrinsic

value or lack thereof"), affd. without published opinion 578 F.2d

1383 (8th Cir. 1978); Notter v. Commissioner , T.C. Memo. 1982-96.

Accordingly, we dismiss p etitioners' argument with regard to the

effect of inflation.

Finally, petitioners argue that because section 1034 does not

apply to losses, there is "disparate treatment" between homeowners

and businesses. We recognize that because a residence is, by

definition, for personal use, a loss incurr ed on its sale is not

deductible. See secs. 165, 262. However, a loss is recognizable

on the sale of a home if it was converted to rental property prior

to its sale. See sec. 165(c).

Although petitioners' nominal gain may or may not equal their

real gain in an economic sense, neither the Constitution nor tax

laws "embody perfect economic theory". See W eiss v. Wiener

, 279

U.S. 333, 335 (1929).

d. Conclusion

On the basis of the foregoing analysis, we hold that the gain

realized from the sale of petitioners' Mequon residence is taxable

in 1993. Moreover, respondent's computation of gain is sustained.

Issue 2. Section 6662(a) Accuracy-Related Penalty

The s econd issue is whether petitioners are liable for the

section 6662(a) accuracy-related penalty for negligence. Section

6662 imposes an accuracy-related penalty for ne gligence and- 22 -

11 Generally, cash basis taxpayers must include all items

of income in the gross income for the taxable year in which

actually or constructively received. Sec. 451(a); sec. 1.451-

1(a), Income Tax Regs. intentional disregard of rules and regulations. Negligence is

defined as the "`lack of due care or failure to do what a

reas onable and ordinarily prudent person would do under the

circumstances.' " See N eely v. Commissioner

, 85 T.C. 934, 947

(19 85) (quoting M arcello v. Commissioner

, 380 F.2d 499, 506 (5th

Cir. 1967), affg. in pa rt and remanding per curiam 43 T.C. 168

(1964)).

Petitioners argue that the portion of the negligence penalty

attributable to the gain on the residence is "unjustified because

the gain is not taxable in the first place and because petitioners

were not negligent in any event in that they did report the sale

transaction and its details in a timely fashion." We disagree.

Petitioner was a well-educa ted attorney who spent a

substantial part of his car eer in tax law. He is a former

Wisconsin Tax Appeals commissioner. It is evident that he was

familiar with Federal and State tax law. Although petitioner was

fully aware of petitioners' duty to report the capital gain on the

Mequon residence, petitioners failed to file Form 2119 with their

1993 income tax return. 11 The taxpayer must file Form 2119 to

notify the IRS of the sale for the tax year in wh ich the old

residence is sold, whether or not gain is realized. Sec. 1.1034-- 23 -

12 Petitioners argue that they filed a 1994 Form 2688,

Application for Additional Extension of Time To File U.S.

Individual Income Tax Return, which notified the IRS of the sale

of the Mequon residence. At most, Form 2688 notified respondent

that petitioners sold a residence in 1994, which would have been

their Ely residence. 1(i), Income Tax Regs. Furthermore, petitioners provided Forms

2119 and 4797 on September 16, 1996, only after being requested to

do so by the IRS auditor; but they failed to execute the forms. 12

Petitioners failed to satisfy the requirements of section

1034. Petitioner, as a tax attorney and former Wisconsin Tax

Appeals commissioner, knew, or at least should have known, of the

s ection 1034 requirements; he chose not to follow them.

Petitioners failed to dem onstrate that they were not negligent.

See, e.g., Milkowski v. Commissioner , T.C. Memo. 1983-406; Notter

v. Commissioner

, T.C. Memo. 1982-96. Indeed, the record indicates

that they were.

Accordingly, we sustain respondent's determinations with

respect to the section 6662(a) accuracy-related penalty.

To reflect the foregoing and petitioners' concessions,

Decision will be entered

for respondent

.