1 All section references are to the Internal Revenue Code of

1954, as amended and in effect for the years in issue, unless

otherwise indicated. All Rule references are to the Tax Court

Rules of Practice and Procedure.

T.C. Memo. 1999-98

UNITED STATES TAX COURT

TOM I. LINCIR AND DIANE C. LINCIR, Petitioners v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 22934-89. Filed March 29, 1999.

Michael D. Savage and Louis Samuel, for petitioners.

Wilton A. Baker and Kim A. Palmerino, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

DAWSON, Judge: This case was assigned to Chief Special

Trial Judge Peter J. Panuthos pursuant to the provisions of

section 7443A(b)(4) and Rules 180, 181, and 183.1 The Court

agrees with and adopts the opinion of the Special Trial Judge,

which is set forth below.
- 2 -

OPINION OF THE SPECIAL TRIAL JUDGE

PANUTHOS, Chief Special Trial Judge: Respondent determined

deficiencies in and additions to petitioners' Federal income

taxes as follows:

 Additions to Tax 

Year Deficiency Sec. 6653(a)1 Sec. 6661

1978 $115,780 $5,789.00 --

1979 143,636 7,181.80 --

1980 115,213 5,760.65 --

1981 51,489 2,574.45 --

1982 149,866 7,493.30 $37,466.50

1 For returns required to be filed after Dec. 31, 1981, if the

addition to tax under sec. 6653(a)(1) applies, the addition to

tax under sec. 6653(a)(2) will also apply in an amount to be

determined. 

Respondent also determined that, once the deficiencies are

determined, petitioners are liable for increased interest on

underpayments attributable to a tax-motivated transaction as

defined in section 6621(c).

The deficiencies in this case result from respondent's

disallowance of certain losses. The losses include those

attributable to petitioners' participation in the "Arbitrage and

Carry" gold trading promoted by Futures Trading, Inc. (FTI). The

losses also include those attributable to petitioners'

participation in the Treasury bill (T-bill) option and stock

forward transactions promoted by Merit Securities, Inc. (Merit),

a company that is related to FTI.

The parties have stipulated that--

All adjustments * * * relating to the T-Bill Options

and the Stock Forward Contracts programs promoted by

Merit shall be redetermined in the same manner as
- 3 -

2 In four consolidated cases, Seykota v. Commissioner, T.C.

Memo. 1991-234, supplemented by T.C. Memo. 1991-541, we addressed

issues concerning the FTI A/C transactions. Therein we held that

the FTI A/C program was an economic sham and disallowed

(continued...)

comparable adjustments in Rivera v. Commissioner, Tax

Court Docket Nos. 41343-85 and 22921-86 ("CONTROLLING

CASES").

 

The above-mentioned "controlling cases" are two of seven

consolidated cases reported as Leema Enterprises, Inc. v.

Commissioner, T.C. Memo. 1999-18. Therein we addressed issues

concerning the Merit T-bill and stock forward trades and held

that--

the Merit markets lacked economic substance. Although

the form appeared as markets for particular financial

instruments, the substance was the creation of

straddles to generate loss deductions without

corresponding economic losses. * * * In short, the

Merit trades * * * cannot support the losses claimed.

We alternatively held that, even if the transactions had

substance, the individual Merit investors' "primary objective was

obtaining tax benefits", and thus they "failed to meet the

statutory requirements for deducting the losses at issue".

Our holding in Leema Enterprises, Inc., accordingly disposes

of the Merit T-bill and stock forward losses at issue here. For

the reasons stated therein, those losses are not allowed in this

case. 

The parties have also entered into a "Second Stipulation of

Facts" wherein they agreed "that all transactions involving the

Arbitrage and Carry ('A/C') program promoted by Futures Trading,

Inc. ('FTI') will be ignored for Federal income tax purposes".2
- 4 -

2(...continued)

deductions claimed by the taxpayers for losses incurred in

connection with that program.

3 In 1992, the parties filed a Stipulation of Settlement of Tax

Shelter Adjustment that resolved issues relating to the

Dorchester litigation project. The parties have also stipulated

that petitioner Diane C. Lincir is not entitled to "innocent

spouse" relief pursuant to sec. 6013(e) for the years at issue. 

We also note that the parties' First Stipulation of Facts

indicates that the deficiencies for the years involved might be

affected by questions of net operating loss and investment tax

credit carrybacks from years not before the Court. We accept the

parties' representations that these carryback issues have been

resolved by their other agreements.

This second stipulation resolved other issues concerning the

deficiencies at issue.

After additional concessions,3 the issues remaining for

decision are: (1) Whether petitioners are liable for additions

to tax for negligence or intentional disregard of rules or

regulations pursuant to section 6653(a) (or pursuant to section

6653(a)(1) and (2) for the years 1981 and 1982); (2) whether

petitioners are liable for increased interest on underpayments

attributable to a tax-motivated transaction pursuant to section

6621(c); and (3) whether petitioners are liable for the addition

to tax imposed under section 6661 for making a substantial

understatement for the year 1982.

FINDINGS OF FACT

The parties filed two stipulations of settlement of tax

shelter adjustments, a first stipulation of facts with attached

exhibits, a second stipulation of facts, and a third stipulation

of facts, with more attached exhibits. The facts reflected are
- 5 -

so found, and, by this reference, are incorporated herein. 

Additionally, the "controlling cases", reported as Leema

Enterprises, Inc. v. Commissioner, supra, are incorporated by

this reference.

Petitioners Tom I. Lincir and Diane C. Lincir were married

and resided in San Pedro, California, when their petition was

filed. They were divorced in 1993. Petitioners are high school

graduates. Mr. Lincir has taken some junior college classes and

is trained as a metalworker. After graduating from high school,

Mrs. Lincir took some junior college courses in bookkeeping.

Between 1975 and 1982, petitioners operated two successful

physical-fitness businesses. One, Sta-Slim Products, engaged in

manufacturing light exercise items, and the other, Ivanko Barbell

Co., engaged in the importation and sale of weightlifting

equipment. Mr. Lincir was involved in every aspect of the

businesses, while Mrs. Lincir handled the accounts payable and

ran the office side of the businesses. By 1982, sales of the two

companies totaled more than $4 million annually. 

Between 1976 and 1980, Mr. Lincir was also involved in

dealing in coins and precious metals. He attended weekly

seminars that had been formed to discuss investing in precious

metals.

Mr. Lincir additionally invested in real estate. One of his

associates in an apartment house venture introduced Mr. Lincir to

an accountant named Robert Schenkman, a specialist in real

estate. Mr. Schenkman became petitioners' accountant. He
- 6 -

4 The stipulations in this case reflect that the FTI/Merit

programs in which petitioners participated took three forms--a

gold cash-and-carry program, the trading of options in T-bill

futures contracts, and the trading of stock forward contracts. 

Mr. Lincir apparently considered the changes in form of the

FTI/Merit promotion to be a continuation of the same program; as

he understood it, "the Tax Code had been changed or something and

you can't use gold anymore."

assisted Mr. Lincir with incorporating petitioners' businesses,

establishing a system for payroll taxes, and preparing

petitioners' Federal income tax returns. Mr. Schenkman helped

petitioners to establish a retirement program, which invested its

assets in gold.

Mr. Schenkman also provided Mr. Lincir with information

about the FTI/Merit promotions. Mr. Schenkman worked with a

representative of FTI, Rusty London, "more or less * * * as a

team" concerning FTI/Merit and its clients. Mr. Schenkman billed

Mr. London for the time Mr. Schenkman expended in lining up

clients for FTI/Merit. Mr. Schenkman routinely disclosed to his

clients this financial arrangement with Mr. London.

Mr. Schenkman explained to Mr. Lincir that, for tax

purposes, the FTI/Merit program would generate gains in the form

of long-term capital gains, and losses as ordinary losses. Mr.

Lincir shared this knowledge with Mrs. Lincir. Mr. Schenkman

also provided Mr. Lincir with a private placement memorandum

about the FTI/Merit program. Mr. Lincir tried to read this

document but did not understand it.4

Mr. Lincir assumed that Mr. Schenkman profited in some way

from the business generated by referring clients to FTI/Merit. 
- 7 -

Mr. Lincir did not know the particulars of such arrangements,

however, and he had no knowledge of whether FTI/Merit compensated

Mr. Schenkman directly.

In 1978, Mr. Lincir invested approximately $225,000 in the

FTI/Merit programs. FTI/Merit provided information concerning

the tax ramifications of Mr. Lincir's investments directly to Mr.

Schenkman; that information was not provided to Mr. Lincir first. 

Mr. Schenkman told petitioners that the deductions generated by

the FTI/Merit program were in accordance with the tax laws.

The following table is derived from petitioners' Federal

income tax returns for the years at issue. The table compares

petitioners' salary income from their businesses with their

"supplemental" losses from FTI/Merit reported on their Schedules

4797, Supplemental Schedule of Gains and Losses:

Year Salary Income FTI/Merit Losses

1978 $278,600 ($248,013)

1979 278,170 (342,638)

1980 230,000 (430,840)

1981 248,000 (143,469)

1982 302,000 (257,290)

The large losses did not concern Mr. Lincir; he had "total

confidence" in Mr. Schenkman and felt that bigger gains would

come later, because that was the way the program was described. 

Mr. Schenkman proposed other investment opportunities to

petitioners, but they did not accept any such investment

recommendations.
- 8 -

OPINION

1. Additions to Tax Under Sections 6653(a) and 6653(a)(1) and (2)

Section 6653(a) (and, beginning with taxable year 1981,

section 6653(a)(1)) provides for an addition to tax equal to 5

percent of any underpayment if any part of the underpayment is

due to negligence or intentional disregard of rules and

regulations. Section 6653(a)(2) (beginning with the tax year

1981) provides for an addition to tax equal to 50 percent of the

interest payable on the deficiency with respect to the portion of

the underpayment which is attributable to negligence or

intentional disregard of rules and regulations. 

Negligence under sections 6653(a) and 6653(a)(1) and (2) is

the lack of due care or the failure to act as a reasonable person

would act under the same circumstances where there is a legal

duty to act. See Neely v. Commissioner, 85 T.C. 934, 947 (1985). 

Petitioners bear the burden of proving that no part of the

underpayments for the years at issue is due to negligence or

intentional disregard of rules and regulations. See Rule 142(a);

Bixby v. Commissioner, 58 T.C. 757 (1972).

 In this case, the high writeoffs generated by the FTI/Merit

programs were reflected as consistent annual losses of hundreds

of thousands of dollars. The losses approached, and often

exceeded, petitioners' income from their two businesses. Writeoffs of this magnitude should have alerted petitioners that their

deductions were, at best, questionable. See Collins v.
- 9 -

Commissioner, 857 F.2d 1383, 1386 (9th Cir. 1988), affg. Dister

v. Commissioner, T.C. Memo. 1987-217. In such cases, taxpayers

have a duty to show that they made reasonable inquiry into the

validity of the investment plans that generated such deductions. 

See Zmuda v. Commissioner, 731 F.2d 1417, 1422, 1423 (9th Cir.

1984), affg. 79 T.C. 714 (1982).

Petitioners have not made such a showing. Their reliance

upon the advice of Mr. Schenkman did not constitute a "reasonable

inquiry". An accountant's advice cannot shield taxpayers from

liability for the negligence penalties when the accountant lacks

knowledge of pertinent facts relating to the venture as to which

the taxpayers are seeking advice. See Collins v. Commissioner,

supra. Petitioners have not demonstrated that Mr. Schenkman

possessed sufficient expertise to advise them about the gold

trading or financial instruments involved in the FTI/Merit

programs. To the contrary, Mr. Schenkman has conceded that he

was not a specialist in gold trading or financial instruments. 

He has stated that he merely "tried to lay out what the tax

consequences would be based on the information given to me by the

promoter". Mr. Lincir had substantial exposure to the practices

of precious metal trading. He knew, or should have known, of Mr.

Schenkman's relative lack of experience.

Moreover, it was not reasonable for petitioners to base

substantial tax losses solely upon the advice of a tax adviser

who has an economic interest in promoting the investment. 

Investors instead have a duty to consult with competent advisers
- 10 -

who are independent of the program, or they must otherwise

examine the validity of the program. See Marine v. Commissioner,

92 T.C. 958, 993 (1989), affd. without published opinion 921 F.2d

280 (9th Cir. 1991). Mr. Schenkman was not independent of the

FTI/Merit programs. He instead stood to profit from the business

generated by getting his clients into the FTI/Merit programs, and

he routinely advised his clients of that fact. Mr. Lincir

concededly knew that, in some fashion, Mr. Schenkman would earn

additional income by getting his clients into the program. 

We do not accept the notion that petitioners are naive and

trusting individuals who were led astray by bad tax advice. 

Petitioners have developed and maintained two successful

businesses. These businesses have generated millions of dollars

in sales and annual incomes for petitioners in the hundreds of

thousands of dollars. Moreover, in addition to being a

successful businessman, Mr. Lincir participated in precious metal

trading and real estate ventures. We conclude that petitioners

possessed enough experience and knowledge of business to have

known that they should have evaluated the substantial tax

deductions at issue more carefully.

On the record before us, petitioners have failed to show

that we should reject respondent's determined additions to tax

for negligence. 

2. Section 6621(c) Additional Interest

Section 6621(c) (formerly section 6621(d)) provides for an

increase in the interest rate where there is a substantial
- 11 -

5 The First Stipulation of Facts recites that some of the

deficiencies at issue related to the Dorchester project, as

opposed to the FTI/Merit programs. In a stipulation filed July

1, 1992, however, the parties agreed that petitioners were

entitled to only 25 percent of the claimed deductions relating to

the Dorchester project and, further, that any underpayments

attributable to Dorchester transactions were attributable to

"tax-motivated transactions" within the scope of sec. 6621(c).

underpayment (i.e., one that exceeds $1,000) in any taxable year

in which the understatement is "attributable to 1 or more tax

motivated transactions". Petitioners bear the burden of proof as

to this issue. See Rule 142(a); Boyd v. Commissioner, 101 T.C.

365, 373 (1993).

In Seykota v. Commissioner, T.C. Memo. 1991-234,

supplemented by T.C. Memo. 1991-541, we found that the FTI/Merit

transactions were tax-motivated transactions within the meaning

of section 6621(c). We again made the same finding with respect

to the Merit T-bill and stock forward trades in Leema

Enterprises, Inc. v. Commissioner, T.C. Memo. 1999-18. 

Petitioners have presented no evidence to show that these

findings should not apply to them. Accordingly, the additional

interest imposed by section 6621(c) is applicable to

petitioners.5 

3. Substantial Understatement of Tax Under Section 6661

Respondent has determined additions to tax under section

6661 for 1982. For returns due after December 31, 1982 (but

before January 1, 1990), section 6661 provides for an addition to

tax equal to 25 percent of the amount of any underpayment

attributable to a substantial understatement. An understatement
- 12 -

is "substantial" when the understatement for the taxable year

exceeds the greater of (1) 10 percent of the tax required to be

shown on the return or (2) $5,000. The understatement is reduced

to the extent that the taxpayer (1) has adequately disclosed his

or her position, or (2) has substantial authority for the tax

treatment of an item. See sec. 6661; sec. 1.6661-6(a), Income

Tax Regs. Petitioners again bear the burden of showing that they

are not subject to the addition to tax determined by respondent. 

See Rule 142(a); Cochrane v. Commissioner, 107 T.C. 18, 29

(1996).

Petitioners presented no evidence to show that respondent

erroneously determined the addition to tax under section 6661. 

Accordingly, we hold that petitioners are liable for the addition

to tax under section 6661. Their concessions with respect to the

deficiencies at issue show that their understatement for 1982

exceeds the greater of $5,000 or 10 percent of the tax required

to be shown on their return for 1982. Respondent determined that

all of petitioners' 1982 underpayment is attributable to that

substantial understatement. Because petitioners have not

disputed this determination, we so hold.

In view of the foregoing, 

Decision will be entered

under Rule 155.