T.C. Summary Opinion 2001-111

UNITED STATES TAX COURT

LARRY D. & MARIE A. LAND, Petitioners v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 3034-00S. Filed July 26, 2001.

Larry D. Land, pro se.

Blaine C. Holiday, for respondent.

PAJAK, Special Trial Judge: This case was heard pursuant to

the provisions of section 7463 of the Internal Revenue Code in

effect at the time the petition was filed. The decision to be

entered is not reviewable by any other court, and this opinion

should not be cited as authority. Unless otherwise indicated,

subsequent 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. 
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Respondent determined a deficiency of $5,636 in petitioners'

1995 Federal income tax and a section 6662(a) penalty of

$1,127.20. At trial, petitioners conceded that they are not

entitled to deductions of $3,000 for contract labor and $1,156

for utilities expenses, which they claimed on their Schedule C. 

Respondent conceded the section 6662(a) penalty. This Court must

decide: (1) Whether petitioners are entitled to a claimed

Schedule C deduction of $3,276 for vehicle expense; and (2) 

whether petitioners are entitled to an $11,561 deduction for

expenses claimed on their Schedule F. The earned income credit

under section 32 will automatically be adjusted for any changes. 

Some of the facts in this case have been stipulated and are

so found. Petitioners resided in St. Paul, Minnesota, at the

time they filed their petition. 

Larry Land (petitioner) filed a Schedule C for a business

named New Tech Ideas (New Tech) which was in the business of "NEW

PRODUCTS". Petitioner is the proprietor of New Tech. 

Apparently, petitioner has various products he has invented, such

as a "wrist saver" and a "dice randomizer". He claimed he had 17

games copyrighted. Petitioner claimed he had "a lot of

copyrights and a lot of patents out there". At trial he stated,

"Hopefully, one day I'll be able to market them." As part of his

"business", petitioner claimed that he drove around to various

stores to window shop, where he would look at the merchandise in
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order to find new products to make. On the New Tech Schedule C,

petitioners reported no income and no inventory. Petitioner

explained this by stating: "Most all of this stuff at that point

is give away stuff you give to people and give away hoping that

they will say, ‘Hey, we like that idea and we're going to do it

with you.’" During 1995, petitioner was also a partner in

Nashville North, LLC, a partnership, the purpose of which was to

promote Greg Shires, a country and western singer, and produce

CDs.

On the New Tech Schedule C, petitioners deducted $4,451 of

their home mortgage interest as rent and $697 of property taxes

as taxes. Petitioners did not elect to itemize their deductions. 

Petitioners paid $4,451 in mortgage interest expense and $1,394

in taxes. Respondent disallowed the $4,451 of rent expense and

the $697 of taxes claimed on the Schedule C. Instead, respondent

determined that petitioners are entitled to a $2,922 deduction

for business use of their home. Petitioners agreed with the

determination that they were limited to that deduction for the

business use of their home. We sustain respondent's

determinations that disallowed the rent and tax deductions

claimed by petitioners on the New Tech Schedule C and allowed

petitioners a $2,922 deduction for the business use of their

home. 
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Petitioner claimed $16,000 of deductions for prototype

manufacturing expense on New Tech's Schedule C. The money was

for the production of country and western CDs which petitioner

planned to give away. Petitioner thought that if he gave away

the CDs, people would invest in that endeavor. Respondent

contends that this $16,000 prototype expense was an expense of

the Nashville North, LLC, partnership, because the partnership

was the entity promoting Greg Shires, the singer on the CDs. 

Petitioner agreed with this characterization at trial. 

Accordingly, the expense belonged to the partnership. We sustain

respondent's determination as to this issue.

Respondent disallowed $3,276 of vehicle expense deducted on

petitioners' New Tech Schedule C. Deductions are strictly a

matter of legislative grace. INDOPCO, Inc. v. Commissioner, 503

U.S. 79, 84 (1992); New Colonial Ice Co. v. Helvering, 292 U.S.

435, 440 (1934). Taxpayers must substantiate claimed deductions. 

Hradesky v. Commissioner, 65 T.C. 87, 89 (1975), affd. per curiam

540 F.2d 821 (5th Cir. 1976). Moreover, taxpayers must keep

sufficient records to establish the amounts of the deductions. 

Meneguzzo v. Commissioner, 43 T.C. 824, 831 (1965); sec. 1.6001-

1(a), Income Tax Regs. 

Section 274(d) imposes stringent substantiation requirements

for the deduction of travel expenses and automobile expenses. 

Taxpayers must substantiate by adequate records certain items in
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order to claim deductions, such as the amount and place of each

separate expenditure, the property's business and total usage,

the date of the expenditure or use, and the business purpose for

an expenditure or use. Sec. 274(d); sec. 1.274-5T(b), Temporary

Income Tax Regs., 50 Fed. Reg. 46014 (Nov. 6, 1985). To

substantiate a deduction by means of adequate records, a taxpayer

must maintain an account book, diary, log, statement of expense,

trip sheets, and/or other documentary evidence, which, in

combination, are sufficient to establish each element of

expenditure or use. Sec. 1.274-5T(c)(2)(i), Temporary Income Tax

Regs., 50 Fed. Reg. 46017 (Nov. 6, 1985).

Petitioner provided a calendar with circled numbers that

allegedly represent the total number of miles driven each day for

business purposes. Petitioner also had a hand-written sheet with

the total business and nonbusiness miles traveled during the year

in his car and truck. There was no mention in any document of

where petitioner traveled, who he visited, or the business

purpose of each trip. Many notations appear to be personal in

nature. Even assuming petitioner had a trade or business, these

records are not adequate to satisfy the requirements of section

274. We sustain respondent's determination as to this issue. 

Petitioners reported a $12,000 annual installment payment

from the sale of their home and farm as income on their Schedule

F, Profit or Loss From Farming, under "Sales of livestock,
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produce, grains, and other products you raised". Respondent

determined that the $12,000 installment payment should not have

been reported on Schedule F, but it should have been reported on

Schedule D as capital gain income of $6,619. Petitioner appeared

to agree to this adjustment. We sustain respondent’s

determination.

Respondent also disallowed $11,561 of the deductions on

petitioners' Schedule F. The deductions consist of $10,600 of

legal fees, $100 of accounting fees, $3 for office expense, $434

of telephone expense, $224 of miscellaneous expense, and $200 of

other interest expense. Respondent contends that the expenses

are not farm expenses and that the majority of the expenses are

personal expenses. Aside from the legal fees, petitioners did

not substantiate the remaining $961 of claimed expenses.

Petitioner has been engaged in a law suit against the United

States for damage done to his cattle and family when the U.S.

Army allegedly disposed of nerve agents into the water supply of

the farm.

Respondent concedes that petitioners paid $10,600 of legal

expenses in 1995 in connection with the lawsuits. Respondent

contends that the lawsuits were principally for personal injuries

suffered by petitioner and his family, and that the legal fees

would not be deductible because any recovery from the lawsuits

would be nontaxable under section 104. 
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Litigation expenses may be deductible under either section

162 or section 212. Guill v. Commissioner, 112 T.C. 325, 328

(1999); Noons v. Commissioner, T.C. Memo. 2000-106. Section

162(a) allows a deduction for all ordinary and necessary expenses

paid or incurred during the taxable year in carrying on any trade

or business. Under section 212, a taxpayer may deduct all the

ordinary and necessary expenses paid or incurred during the

taxable year for the production or collection of income, if such

income will be taxable when received. Andrews v. Commissioner,

T.C. Memo. 1992-668; Orr v. Commissioner, T.C. Memo. 1992-566;

sec. 1.212-1(a), Income Tax Regs. Section 265(a)(1) provides

that no deduction is allowable for expenses allocable to income

which is wholly exempt from income tax. 

In the lawsuit, petitioners "claim that they suffered

personal injuries and property damage". Land v. United States,

35 Fed. Cl. 345, 346 (1996), affd. 37 Fed. Cl. 231 (1997). Under

section 104(a)(2), gross income does not include "the amount of

any damages received (whether by suit or agreement * * *) on

account of personal injuries or sickness". Any damages that

petitioners potentially could have received on account of their

personal injuries would not be taxable under section 104. 

Therefore, the expenses associated with the personal injury

portion of their suit are not deductible. Sec. 265.

Petitioners provided no allocation of the fees they paid. 

Nevertheless, we recognize that some part of the legal fees was
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business expenses. Where the Court is satisfied that the

taxpayer is entitled to some deduction but where the records are

inadequate to establish the amount of the deduction, the Court

may make an approximation of the amount of the deduction. Cohan

v. Commissioner, 39 F.2d 540 (2d Cir. 1930). In such cases we

are cautioned to bear heavily against the taxpayer “whose

inexactitude is of his own making.” Cohan v. Commissioner, supra

at 544. We find that $2,000 of the legal fees are deductible

under section 162.

To the extent that we have not addressed any of the parties'

arguments, we have considered them and conclude they are without

merit.

Reviewed and adopted as the report of the Small Tax Case

Division. 

Decision will be entered

under Rule 155.