T.C. Memo. 1997-275

UNITED STATES TAX COURT

CHARLES A. DENNIS AND ALISON M. DENNIS, Petitioners v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 25443-95. Filed June 18, 1997.

Charles A. Dennis, pro se. 

Horace Crump, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

KÖRNER, Judge: Respondent determined deficiencies in,

additions to, and penalties on petitioners' Federal income taxes

as follows: 
- 2 -

1 Petitioner concedes on brief that the $45 interest was

improperly excluded from his income on his 1991 return.

 Additions to Tax Penalty

 Year Deficiency Sec. 6651(a)(1) Sec. 6653(a)(1) Sec. 6662

 1988 $29,348 $6,226 $1,473 --

 1989 24,951 4,988 -- $4,990

 1990 17,475 3,228 -- 3,495

 1991 18,416 3,480 -- 3,683

All section references are to the Internal Revenue Code in

effect for the years in issue, and all Rule references are to the

Tax Court Rules of Practice and Procedure, except as otherwise

noted. A trial was held on October 21, 1996. At trial,

petitioner (references to petitioner in the singular are to

Charles A. Dennis) testified on his own behalf. No other

witnesses were called.

Petitioners conceded that they failed to timely file their

income tax returns for the years in issue. They are accordingly

liable for the additions to tax under section 6651(a)(1) for

those years. There remain six issues to decide. They are as

follows:

(1) Whether petitioners are entitled, for the 1991 taxable

year, to a $48 deduction for bank fees incurred on an account

which produced $45 of interest income.1 Petitioners are not so

entitled.

(2) Whether petitioners must include $3,577 in income for

the 1991 tax year. Petitioners must include that amount in

income for 1991.
- 3 -

(3) Whether petitioners overstated their commission expense

on Schedule C of their 1989 return by $403. We hold that they

did.

(4) Whether amounts received by petitioner during the 1988

through 1991 tax years are advance commissions includable in

income in those years, or loan proceeds. We hold that the

amounts received were loan proceeds.

(5) Whether petitioners are liable for additional selfemployment tax due on the increase in petitioners' nonemployee

compensation for tax years 1988 through 1991. We hold that

petitioners are liable for self-employment tax on a $403 increase

of petitioners' nonemployee income for 1989.

(6) Whether petitioners were negligent or intentionally

disregarded the rules or regulations in filing their tax returns

for the years in issue and are liable for the additions to tax

under section 6653(a) for 1988, and penalties under section 6662

for 1989 through 1991. We hold that the additions to tax or

penalties do apply to the deficiencies as determined herein. 

Petitioners resided in Prattville, Alabama, at the time they

filed their petition in this case, which was December 6, 1995. 

Respondent sent a notice of deficiency for the 1988 through 1991

tax years on September 29, 1995.
- 4 -

FINDINGS OF FACT

Bank Fees

Petitioners failed to include $45 of interest income, earned

from their bank account, on their 1991 income tax return. There

was no evidence presented as to whether the bank account was

personal or business. At the time of filing of their return,

petitioners reasoned that because they incurred $48 of bank fees

in obtaining such interest, they could net the two and exclude

the income and not claim the deduction. Petitioners conceded

that the interest was properly includable in income for the 1991

tax year, but claim that they are entitled to a $48 deduction as

an ordinary and necessary trade or business expense for the 1991

taxable year.

Unreported Income

During 1991, petitioner purchased from Doug Priester

insurance policies on himself, his wife, and his children. Doug

Priester issued a Form 1099 to the Internal Revenue Service and

(allegedly) to petitioners, indicating that petitioners had

received $3,577 as gross income in the form of a discount on

insurance sold to them. Respondent determined in the notice of

deficiency that petitioners failed to report the $3,577 in gross

income for the 1991 tax year. Petitioner argues that he did not

receive a copy of Form 1099, that he was not in the position to

have performed services for Doug Priester for which payments may

have been made, and that he received no money from Doug Priester. 
- 5 -

While he denies that he received a $3,577 discount, he

acknowledges that he may have received a discount, but he does

not know the size of it. Petitioner did not put into evidence

the insurance policies, evidence as to his basis in such

policies, the cost, or the fair market value of such policies.

Commission Expense

Respondent determined that petitioners overstated the

commission expense shown on Schedule C of their 1989 Federal

income tax return by $403. Petitioner testified that he

presented respondent with substantiation of the $403 deduction. 

No such substantiation was introduced into evidence at trial.

Advance Commissions

Petitioner was an insurance sales agent for American Service

Underwriters, Inc. (American), for the years 1988 through 1991. 

Petitioner was paid advance insurance sales commissions in the

amounts of $93,413, $17,839.79, $51,161, and $42,529 for the

1988, 1989, 1990, and 1991 tax years, respectively. Under

petitioner's contract with American, he would receive a monthly

draw against his future commission income. Petitioner signed a

note, dated July 14, 1986, which made him personally liable on

the advance commissions, payable on demand. Regarding such

personal liability, the contract with American provided:

7. INDEBTEDNESS: Any and all indebtedness of any

kind or nature owed by [petitioner] to [American] shall

be and serve as a first lien on any commissions due or

to become due said [petitioner]. [American has] the

right and may at any time elect to withhold or offset
- 6 -

against all accrued commissions, any debt due from

[petitioner] arising from all transactions under this

or any previous contract. Any debit balance that has

not paid itself off within 12 months after the

termination of this contract will be due and payable as

described in 15.b below and no additional bonus

commissions will be due and payable to [petitioner]

under this contract.

* * * * * * *

15.b. Any refunds or indebtedness owed by

[petitioner] arising under this contract, or arising in

any other matter, less accrued commissions due

[petitioner] shall be due and payable within thirty

(30) days after written demand by [American] * * *

Petitioner had complete dominion and control over the

advance commissions (other than an obligation to make repayment)

and did not include in income any amount received as an advance

commission. The advance commissions were recorded in an advance

commissions account. The advance commissions account was offset,

or reduced, by the amount of actual commissions later earned by

petitioner. The advances were charged a 1.3 percentadministrative fee each month. In the event that there were a

debit balance at the end of 12 months after the termination of

the relationship between petitioner and American, such balance

would be due and payable on demand. Petitioner received a

termination letter from American on December 10, 1992. At that

time, there was a debit balance in the advance commissions

account of approximately $156,000. This balance had been

eliminated by the time of trial, and American never demanded

payment from petitioner. Petitioner alleged that demand was
- 7 -

never made because his payments on the balance were current. The

debit balance was paid by later commissions earned (year not

shown). Because such later commissions covered the payment due

on the loans, petitioner was never required to make an out-ofpocket payment on the debit balance.

Self-Employment Tax

Respondent determined that due to the increase in

petitioner's nonemployee compensation for the tax years 1988

through 1991, petitioners were liable for increased selfemployment tax under section 1401. Petitioner asserts that he

did not receive the income in question because the amounts

received constituted loan proceeds, and therefore there is no

self-employment tax due.

Additions to Tax

Petitioners neither requested nor received extensions of

time from the Internal Revenue Service to file their returns. 

Petitioners did not timely file their returns for the years at

issue, and they do not deny that such returns were not timely

filed.

OPINION

Generally, petitioners have the burden of proving that the

determinations made by respondent in the notice of deficiency are

erroneous. Rule 142(a); Welch v. Helvering, 290 U.S. 111 (1933). 

Bank Fees
- 8 -

Petitioners have conceded that $45 should have been reported

as interest income in 1991 earned on a bank account. They claim

that they are entitled to a deduction of $48, the amount of bank

fees incurred in maintaining the account either as an ordinary

and necessary trade or business expense, under section 162, or as

an ordinary and necessary expense incurred for the production of

income, deductible under section 212.

The general rule is that bank fees are deductible only if

the bank account on which the fees were incurred was used for

business purposes. Callander v. Commissioner, 75 T.C. 334

(1980). The only evidence that the account was used for business

purposes is petitioners' testimony at trial. Petitioner failed

to offer into evidence any records that would show that this

account was not used for personal purposes. Petitioners are

accordingly not entitled to any deduction for the bank charges.

Unreported Income

Respondent determined that petitioners received income in

the form of discounted insurance premiums from Doug Priester in

1991. Petitioner testified at trial that he performed no

services for Doug Priester and that he did not receive a Form

1099--or cash--from Priester. Petitioner did purchase insurance

from Priester, but offered nothing into evidence on this issue

that would rebut the determination that he received a discount

that constituted income.
- 9 -

On brief, petitioner asserts that respondent has not carried

the burden of proving the accuracy of the disputed Form 1099. 

For support, he cites section 6201(d), which provides:

(d) Required Reasonable Verification of

Information Returns.--In any court proceeding, if a

taxpayer asserts a reasonable dispute with respect to

any item of income reported on an information return

filed with the Secretary * * * by a third party and the

taxpayer has fully cooperated with the Secretary

(including providing, within a reasonable period of

time, access to and inspection of all witnesses,

information, and documents within the control of the

taxpayer as reasonably requested by the Secretary), the

Secretary shall have the burden of producing reasonable

and probative information concerning such deficiency in

addition to such information return.

Petitioner claims that he has fully cooperated with respondent by

granting access to all records and information for the tax years

in question and therefore urges that respondent has failed to

carry the burden of proving the accuracy of the disputed Form

1099.

The notice of deficiency in this case is dated September 29,

1995. The petition is dated December 6, 1995. Section 6201(d),

amended by sec. 602, Taxpayer Bill of Rights II, Pub. L. 104-168,

110 Stat. 1452, 1463 (1996), is effective as of July 30, 1996. 

The trial was held on October 21, 1996. Assuming arguendo that

section 6201(d) is applicable in this case, it provides that if

the taxpayer, in a court proceeding, asserts a reasonable dispute

with respect to income reported on an information return, and

fully cooperates with respondent, then respondent shall have the

burden of producing reasonable and probative information in
- 10 -

2 Petitioner does not argue, and the record does not

support, that any discount received was a purchase discount.

addition to the information return. See Hardy v. Commissioner,

T.C. Memo. 1997-97.

The income in question in this case was earned from Doug

Priester in the form of a discount.2 Petitioner testified on

cross-examination that his only relationship with Doug Priester

was to buy insurance from him. Petitioner denied that the

discount received from Mr. Priester was $3,577, but then admitted

that he did not know the exact size of the discount, a tacit

admission that there was a discount. Petitioner has not

substantiated the size of the discount, but testified that he

would have done so had he received a Form 1099 from Priester.

Petitioner, as the purchaser of the insurance, presumably

had within his control evidence concerning the insurance

policies, such as the policies themselves, the price paid for

them, and their fair market value. Petitioner failed to

introduce such evidence or offer an explanation as to why he

could not produce it. Cf. Schaeffer v. Commissioner, T.C. Memo.

1994-206, where the taxpayers failed to furnish any records or

other information concerning unreported income in question,

failed to show that the third-party information respondent used

was unreliable or inaccurate, and did not deny that they received

the income in question. This Court held that the taxpayers

failed to show that the notice of deficiency was arbitrary, which
- 11 -

would have caused a shift in the burden of going forward with the

evidence.

Section 6201(d) requires petitioner to show that he fully

cooperated with respondent, and to make a reasonable dispute. 

Petitioner did not deny that he received the income at issue. 

Rather, he stated that he performed no services for and received

no cash from Priester. Even if these statements were true, they

would not disprove receipt of the income in question, such income

being in the form of a discount. Petitioner tacitly admitted to

receiving a discount. This does not constitute a reasonable

dispute. Furthermore, the record contains no evidence other than

petitioner's testimony, which casts doubt on petitioner's

statement on brief that he fully cooperated with respondent. See

Schaeffer v. Commissioner, T.C. Memo. 1994-206. Because

petitioner has failed to show a reasonable dispute as to the

income in question, and has failed to fully cooperate with

respondent, the burden of going forward and producing "reasonable

and probative information" concerning the deficiency beyond the

information return has not shifted to respondent. As to the

ultimate burden of proof, in light of the complete lack of

evidence beyond petitioner's testimony, we conclude that

petitioner also has not met his burden of proving that he failed

to receive the income in question in 1991. See Kluger v.

Commissioner, 91 T.C. 969, 976-977 (1988); Kluger v.

Commissioner, 83 T.C. 309, 310 n.1 (1984); Petersen v.
- 12 -

Commissioner, T.C. Memo. 1995-212, affd. without published

opinion 85 F.3d 624 (5th Cir. 1996).

Commission Expense

In the notice of deficiency, respondent disallowed $403 of

commission expenses claimed by petitioners on Schedule C of their

1989 returns. Petitioner testified that he presented

substantiation to respondent at some point, yet failed to

introduce any such substantiation for this Court to review.

Generally, petitioners have the burden of proving that the

determinations made by respondent in the notice of deficiency are

erroneous. Rule 142(a); Welch v. Helvering, 290 U.S. 111 (1933). 

Petitioners have failed to meet their burden of establishing

their entitlement to the additional $403 of commission expense. 

Accordingly, we hold for respondent on this issue.

Advance Commissions

Petitioner received advance commissions of $93,413,

$17,839.79, $51,161, and $42,529 for the 1988, 1989, 1990, and

1991 tax years, respectively. Respondent determined that these

advance commissions were income when received because petitioner

had complete dominion and control over the proceeds, there was no

fixed date for repayment, and petitioner never had to repay his

employer for the excess commissions. Petitioner contends that

these amounts received are loans for which petitioner was

personally liable and which he did in fact fully repay.
- 13 -

Generally, income is taxable when it is received. Sec. 451. 

When a person receives amounts without an obligation to repay

such amounts, and without restriction as to the disposition or

use of the amounts received, such amounts are income to the

person. James v. United States, 366 U.S. 213 (1961). The

proceeds of a loan are generally not taxable as income because

the benefit of the income is offset by an obligation to repay. 

United States v. Rochelle, 384 F.2d 748 (5th Cir. 1967);

Milenbach v. Commissioner, 106 T.C. 184, 195 (1996). The

determination of whether or not moneys received are the proceeds

of a loan or income is to be determined upon consideration of all

of the facts. Fisher v. Commissioner, 54 T.C. 905, 909 (1970).

In the context of insurance agents who receive advances

based on future commission income, whether or not such advances

constitute income depends on whether, at the time of the making

of the payment, the recipient had unfettered use of the funds and

whether there was a bona fide obligation on the part of the agent

to make repayment. If the funds advanced are merely deposits, of

which the taxpayers do not have free and unrestricted use, they

will not be treated as income. Cf. Van Wagoner v. United States,

368 F.2d 95 (5th Cir. 1966). In many instances, repayment is

simply made out of future earned commissions. Where the

repayments will be taken only from future commissions earned, and

the agent would not become personally liable in the event that

the future income does not cover the repayment schedule, the
- 14 -

payments will constitute income to the recipient. Moorman v.

Commissioner, 26 T.C. 666, 674 (1956). These payments are

nothing more than disguised salary. Beaver v. Commissioner, 55

T.C. 85, 90 (1970). In the situation where the advances are

actually loans, when the repayments are offset directly by the

future earned commissions, then the recipient will have either

commission income or cancellation of indebtedness income at the

time of such offsets. Cox v. Commissioner, T.C. Memo. 1996-241;

cf. Warden v. Commissioner, T.C. Memo. 1988-165.

The advance insurance sales commissions here were received

during the 1988, 1989, 1990, and 1991 tax years. At the time

petitioner's contract with American was terminated, petitioner

had a debit balance in his advance commissions account of

approximately $156,000. This balance had been paid by the time

of trial in this case. Petitioner testified that he never

defaulted on repayments of the advance commissions, so there was

never any need for demand to be made. Although demand was not

made, under the contract and note, had petitioner defaulted,

American had the right to demand payment under the contract and

loan agreement. Thus, petitioner was personally liable on the

loans. This is the distinguishing feature between this case and

other advance commission cases, where no personal liability

existed in the event of a termination. Beaver v. Commissioner,

55 T.C. 85 (1970); Moorman v. Commissioner, supra; George Blood

Enterprises, Inc. v. Commissioner, T.C. Memo. 1976-102. In
- 15 -

Beaver v. Commissioner, supra, advance commissions were not loans

because personal liability did not attach until after the years

in question, while at the time the advances were made there was

no personal liability, and the payor treated the advances as

salary advances.

Additionally, there was an administration fee of 1.3 percent

per month charged against the advance commissions balance. 

Although it was not referred to as interest, petitioner testified

that the parties referred to and treated the fee as interest. In

light of the facts and circumstances in the record, this

testimony is logical and is accepted as fact. Given these facts,

we find that the advance commissions were loans and need not be

included in income where the income was earned as commissions on

sales or renewals perhaps in a later year. Respondent did not

determine the amount of income earned when petitioner sold

insurance.

Self-Employment Tax

Having decided that petitioner's receipt of the advance

commissions constituted loan proceeds and not income, it follows

that they are not liable for self-employment tax in the years in

question on those amounts received. However, a deduction of $403

on Schedule C has been disallowed due to a lack of

substantiation. Petitioners' nonemployee income is therefore

increased by $403, necessitating an increase in the selfemployment tax on that amount. Sec. 1401. Respondent concedes
- 16 -

that any increase in the self-employment tax causes a

corresponding increase in the deduction for taxes paid on selfemployment income. Sec. 164(f).

Additions to Tax

Respondent determined that petitioners were negligent or

intentionally disregarded the rules or regulations in filing

their 1988 Federal income tax return under section 6653(a) and

their 1989 through 1991 Federal income tax returns under section

6662. Petitioners do not deny that they were negligent or

intentionally disregarded the rules or regulations, but instead

insist that there was no deficiency. Petitioners offered no

evidence which would disprove respondent's determination to the

extent we have sustained respondent herein. To the extent of the

deficiencies decided by this opinion, the additions to tax and

penalties for the tax years will apply.

Decision will be entered

under Rule 155.