T.C. Mem o. 2 01 6- 11

UNITED STAT ES TAX COURT
RODNEY C. NIEMANN, Peti ti on er v . COMM ISSI ONER OF INTERNAL REVENUE, Resp on de nt

Doc ke t No . 28 05 4- 12
. Fi le d J anuary 19 , 20 16
.

Ro dn ey C. Niem an n, p ro se. Mi ch ael W . Llo y d a ndPam el a J. Se well , forres po nd en t.

MEMORANDUM FINDINGS OF FACT AND OPINION HOLMES, Ju dg e: Rod ne y Niem an n i s an en gi ne er fro m Ph oe ni x wh o dr aft edpro pe rty-con di ti onrep orts an d e nv iro nm en ta l s it e as se ss m en ts forW al l Streetlen de rs --u nt il th e cra shof 2 00 8. Th e rec es si on hi t Ni em an n’s b us in es s ha rd , andth e d em an d fo r hi s s erv ic es fel l. Nie m an n re sp on de d b y st art in g a- 2 -

[* 2] su cces sf

ul sec on d c aree r in real est at e. Bu t thi s n ew care er l edhi m to cla im a sl ew of de du ct io ns an d e ng ag e in co m pl ic at edtra ns act io ns th atbro ug hthi m un de r th e Co m m is si on er’s eye. FINDINGS OF FACT Niem an n i s a c ert ifi edpro fes si on al civ il en gi ne er an d h as lo ng work edas a real -es ta te advi se r. His advi ce i s o f a p art ic ul ar k in d- -h e u se d h is en gi ne eri ng kn owl ed ge to ass es s p os si bl e en vi ro nm en ta l p ro bl em s fo r la rg e co m m erci al le nd ers be fo re the y

wou ldag ree t o fi na nc e rea l-e st at e p ro jects . The d em an d fo r th atki ndof s erv ic e d ep en ds on th e d em an d fo r m ajorco m m erci al real -es ta te pr ojec ts . Andth e num

be r of su chpro jects inAriz on a sa nkaft er the rece ss io n be ga n. Ni em an n s cram

bl edto pu t h is tal en ts to us e in so m e o th er way, an d b eg an wha t h e cal le d a n “ al te rn at e d ay job ” o f bu y in g d is tre ss edreal est at e to ho ldun ti l he co ul d turn i t fo r a p ro fit . He has be endo in g thi s, an d d oi ng itwell , si nc e 2 00 8. Bu t h e’s be endo in g i t thr ou gh a ta ng le of e nt it ie s, i nc lu di ng th e th ree a t i ss ue he re: Depe nd ab le Pro

ject S erv ic es , LLC; Rea l Es ta te Rab bi t, LLC; an d M ag ic , LLC. Dep en dabl e Pro

ject Niem an n fo rm edDepe nd ab le Pro ject i n 2 00 3 t o p rep are p ro pe rty-con di ti on rep orts , bu t the n u se d i t t o h ol d h is in ve stm en ts inm in eral rig ht s. Fo r 20 09 an d- 3 -

[* 3] 20 10 --the tax y ears at i ss ue he re-- Niem an n c la im edbu si ne ss -ex pe ns e de du ct io ns forDepe nd ab le Pro ject o n h is pe rs on al Sch edul es C. Am on g t he m was $8 ,00 0 t ha t h e p ai d t o an a tt orne y to ev al ua te th e co ll ect io n p ot en ti al of alar ge po rtf ol io of d is tre ss edstud en t l oa ns th athe ha d b eenoff eredby W al l St reet le nd ers . The att orne y

advi se d h im

th atth e p ack ag e o f stud en t l oa ns was n otvi ab le : The off er p ric e was ab ou t $ 2 m il li on an d t he ir f ace v al ue was o nl y

$3 m il li on . The di sc ou ntwas t oo sm al l, an d Ni em an n d eci de d t ha t h e wou ldn’t b uy. The pa rti es di sp ut e th e d educ ti bi li ty of th is ex pe ns e. Rea l Es ta te Rab bi t, LLC Niem an n fo rm edRab bi t l at e in 20 08 an d n am edhi m se lf m an ag er an d h is IRA as so le m em

be r. Rab bi t al so he ldm in eral rig ht s an d p ers on al no te s, b uthe in te nd editm ai nl y

to ho lddi stres se d re al est at e. Fo r a wh il e h e was “ ve ry act iv e
on th e co urth ou se st ep s b uyin g * * * [ho us es ] atau ct io n” an d t he n fl ip pi ng th em fo r a p ro fit . Niem an n h adanex cel le ntey e fo r va lu e an d i n 2 00 9 (o ne of t he y ears atis su e) re so ldni ne pro pe rti es : al l b uton e ata pr of it . Whe n h e fi le d h is am en de d 20 09 return h e rep orte d $ 12 6,0 00 insh ort-t erm cap it al ga in . In co m

pu ti ng th is ga in , ho wev er, h e in cl ud edinhi s b as is sev eral ho m e-o ffi ce ex pe ns es th athe de em edrel at edto th e sa le of t ho se pro pe rti es .- 4 -

[* 4] Niem an n h adlar ge am ou nt s o f ot he r ho m e-o ffi ce ex pe ns es . They on ly in crea se d a fte r hi s o ffi ce was bu rg la riz edan d h is co m pu te rs were s to le n i n J ul y 20 09 , an e ve ntth atpro m pt edhi m to be gi n ru nn in g R ab bi t o utof h is ho m e. Thi s 1 al so m ad e h is tax es m or e co m pl ic at ed , si nc e h e ren ts hi s h om e fro m hi s g irl fri en d,
an d h e d iv id es th e ren t h e p ay s h er i nt o s ep arat e p orti on s: One i s fo r th e u se of t he pr op erty as h is res id en ce, an d t he ot he r is forth e u se of t he pro pe rty as h is off ic e. Niem an n c red ib ly test ifi edth athe ha d t hr ou gh ou t the se y ears us eda fen ced -in
areaonth e p ro pe rty excl us iv el y to st or e h is bu si ne ss equi pm en t. The bu rg la ry fo rcedNiem an n t o s etasi de m or e sp ace wi th inhi s h om e fo r hi s b us in es s op erat io ns , andhe co nv ert edanen ti re wi ng of t he ho us e in to hi s p rin ci pa l p la ce o f bu si ne ss . Evenso , exc es s p ap erwo rk , alo ng with C hr is tm as de co rat io ns an d o th er
m is cel la ne ou s p ers on al it em s, b eg anto clu tt er the ga rag e. Tho ug h we d on ’t do ub t tha t Ni em an n h adex pe ns es inrun ni ng Rab bi t, h e di dn ’t rep ort the m

inth e u su al way

on a se pa rat e Sch edul e C fo r ei th er 2 00 9 o r 20 10 , des pi te th e fac t tha t Rabb ithe ldfou r of hi s i nv es tm en t p ro pe rti es . Ins te ad , as we’ve al read y

m en ti on ed , he c la im edth es e ex pe ns es on hi s 2 00 9 re tu rnas a n

Our C ou rt s om et im es en co un te rs unbe li ev ab le ex pl an at io ns for m is si ng 1 reco rd s, b utNiem an n’s re co rd s wer e o n h is co m pu te rs an d i t was th ey

th atwere st ol en , acco rd in g t o h is cred ib le tes ti m on y --m ad e m or e cre di bl e b ecau se itwas ba ck edup by a con te m

po ran eo us po li ce re po rt o f th e b ur gl ary.- 5 -

[* 5] in crea se to ba si s i n the pro pe rti es . He als o l um pe d t he se pro pe rti es with pr op ert ie s tha t h e h el d i n h is ownnam e o n h is Sch edul e D fo r th e y ear h e so ld th em . Mag ic , LLC Niem an n’s t ax rep orti ng be cam e ev enm or e ta ng le d a fte r he be ga n t o l oo k fo r way s t o re du ce the tax bu rd enon whatwas l oo ki ng li ke anin crea si ng ly pr of it ab le bu si ne ss . His r ep orti ng wentm os t awry aft er h e at te nd edseminar s adve rti si ng th e u se of asel f-d ire ct ed“ ch eckbo okLLC.” He exp la in edth atwhat th atm ean t t o h im

was s im pl y th e p ro ces s o f writ in g c he ck s i ns id e o f anLLC th at is in si de of atax -ad va nt ag edIRA. Thi s i nf orm at io n was so ldto an y on e who at te nd edth es e se m in ars . Mag ic , LLC, was cen tra l t o t hi s t ax pl an ni ng . In 2 00 9 h e fo rm edit , bu t

“ fo rm in g” itinhi s ca se m ean t tha t h e h ire d ave nd orto dra ft t he ap pr op ria te do cu m en ts . The v en do r fi ll edou t a m ul ti m em be r fo rm forth e LLC, bu t i t d oe sn ’t ap pe ar tha t the ve nd orev er m ad e an y rep res en ta ti on th atth e fo rm wou ldactua ll y mak eth e co m pa ny a m ul ti m em be r LLC. Andwe fin d t ha t Ni em an n was Mag ic ’s
on ly m em be r an d m an ag er. Inan y

ev en t, Ni em an n d idn’t fi le a se pa rat e sc he du le
orreturn fo r Mag ic . He di d c red ib ly test ify tha t h e in te nd eda se rie s o f pr op erty- 6 -

[* 6] tra ns fers du rin g the y ears at i ss ue be twee n h im se lf, h is IRA, Mag ic , and Rab bi t n otto be “pr oh ib it edtra ns act io ns ” und er s ect io n 4 97 5. 2 Si m pl y fil li ng ou t a f

orm th atcla im s an LLC has m ul ti pl e m em

be rs do es n’t
m ak e ittru e. Niem an n, wh o we f ou ndto be a ve ry

sm artm anth ou gh no t trai ne d in law, re al iz edas t ria l n eare d t ha t M ag ic was n otactua ll y a m ul ti m em be r LLC. Thi s l edhi m

to th enco nc ed e th athe ha d e ng ag edinnu m ero us “pr oh ib it ed tra ns act io ns ” wit h h is IRA. Fo r ex am pl e, Niem an n a rran ge d fo r Rab bi t-- th e en ti ty th athe ha d tuc ke d i nt o h is IRA--t o tran sf er o ne pro pe rty to h im se lf andan ot he r to Mag ic , whi chhe who ll y

own ed
. Sect io n 4 97 5 l im it s the tra ns act io ns th atqu al ifi edret ire m en t p la ns , 2 in cl ud in g c ert ai n IRAs, ca n d o. Itde fin es as a“pr oh ib it edtrans act io n” an y di rect orin di rect : (1 ) sa le or e xc ha ng e, orlea si ng , of any pro pe rty betweena pl anan d a di squa li fie d p ers on ; (2 ) le nd in g o f m on ey or o th er ex te ns io n o f cre di t b etweena pl anan d adi squa li fie d p ers on ; (3 ) fu rn is hi ng of g oo ds , servi ces , or fa ci li ti es be twee n apl anan d adi squa li fie d p ers on ; (4 ) tr an sf er t o, o r us e b y

or f orth e be ne fitof, adi squa li fie d p ers on of t he in co m e o r as se ts of apl an ; (5 ) actby a di squa li fie d p ers on who is a fi du ci ary whe reb y he de al s wi th th e in co m e o r as se ts of pl aninhi s o wn i nt eres ts or f orhi s o wn ac co un t; or ( 6) rece ip t o f an y co ns id erat io n fo r hi s p ers on al acco un t b y an y di squa li fie d p ers on who is a fiduc ia ry fro m any pa rty deal in g wi th th e p la n i n c on ne ct io n wi th a tr an sa ct io n in vo lv in g t he in co m e o r as se ts of t he pl an . A sho rth an d d es cri pt io n i s tha t the se ct io n b an s s el f-d eal in g b etweena ret ire m en t p la n a ndit s b en efi ci ary. Con gr es s ba rredth is so rt o f se lf- de al in g t o p rev en t t ax pa y ers fro m us in g the ir r et ire m en t pl an s t o e ng ag e in tra ns act io ns th atco ul d p utpl anass et s an d i nc om e atris k b efo re ret ire m en t. See sec . 49 75 ; S. Re pt . No. 9 3- 38 3 (1 97 3) , 19 74 -3 C.B. (Supp .) 80 ; H.R. Rep t. No . 93 -8 07 (19 74 ), 19 74 -3 C.B. (Supp .) 23 6. As us ua l, al l s ect io n refe ren ces are t o t he Int ern al Rev enue Co de ineffe ctfor th e y ears at i ss ue , andall Ru le refe ren ces are t o t he Tax C ou rt Rul es of P ract ic e an d P ro cedur e.- 7 -

[* 7] Thi s m ean t tha t Ni em an n h adterm in at edhi s IRA. Andth is termin at io n i s with e xt rem e p reju di ce-- th e IRA’s as se ts are d eem eddi st rib ut ed . See s ecs . 72 (t) , 40 8( e)(2 )(B) . Andwhat“ de em eddi st rib ut ed ” m ean s t o Ni em an n i s ac tu al ly

“ ad de d t o h is tax ab le in co m e”-- ab ou t $ 23 0,0 00 inex train co m e acc or di ng to th e
no ti ce o f de fic ie nc y --fo r th e 2 00 9 t ax y ear. Niem an n p rep aredhi s o wn 2 00 9 re tu rn , bu t the n h ire d aCPA to am en d t ha t return andfil e h is 20 10 return. Th e Co m m is si on er i ss ue d ano ti ce o f de fic ie nc y th atdi sa ll owe d num ero us Sch edul e C ex pe ns es an d S ch edul e E m ortg ag e-i nt eres t de du ct io ns forth e p ro pe rti es Niem an n was bu y in g a ndho ld in g andals o i nc reas ed hi s i nc om e b y

th e am ou ntof t he de em eddi st rib ut io n o f hi s IRA. The Co m m is si on er al so ass ert edaccu racy-rela te d p en al ti es forbo th y ears . Niem an n, anAriz on a res id en t, t im el y fil eda pe ti ti on with t hi s C ou rt
co nt es ti ng th e en ti re co nt en ts of t ha t n ot ic e. The p art ie s s et tl edalm os t al l the is su es , in cl ud in g the pro hi bi te d- tra ns act io n i ss ue . This lea ve s o nl y th e fo ll owi ng it em s i n d is pu te :- 8 -

[* 8] Ite m 20 09 20 10 Trav el ex pe ns es $8 ,19 3 $1 6,0 97 Leg al an d p ro fes si on al serv ic es n/ a 8,0 00 Sh ort-t erm

cap it al ga in 29 ,41 3.4 9 n/ a Sect io n 6 66 2( a) pen al ti es 22 ,33 3.4 0 3,3 38 .40 OPINION A. Deduc ti bi li ty of Trav el , Meal s an d En te rta in m en t Niem an n c la im s d educ ti on s o f ab ou t $ 8,0 00 for20 09 an d $ 16 ,00 0 fo r 20 10 fo r tr av el to an d fr om

pro pe rti es insev eral st at es . Sect io n 2 74 subjec ts all tra ve l
ex pe ns es to ve ry

de ta il edsubs ta nt ia ti on requi rem en ts . Whi le a co nt em po ran eo us lo g i sn ’t nec es sa ry , a tax pa y er l ik e Nie m an n m us t s ti ll subs tant ia te by adequa te
reco rd s o r ot he r co rro bo rat in g e vi de nc e th e am ou nt , ti m e, pl ace, and bu si ness pu rp os e of

th e ex pe ns e. Sec. 1 .27 4- 5T(c )(1 ) an d (2 ), Tem po rary Inco m e Tax Reg s., 5 0 F ed . Reg . 46 01 6- 46 01 7 (No v. 6 , 19 85 ) (em ph as is ad de d) . For b ot h y ears at i ss ue he re Ni em an n o ffer s o nl y reco ns tru ct edlo gs th athe pre pa redaft er
rece iv in g the no ti ce o f de fic ie nc y . He con st ru ct edhi s 2 00 9 l og fro m cred it -car d
rece ip ts , ban k re cei pt s, an d c op ie s o f cas hi er’s ch eck s. His 20 10 lo g was a “ cu t- 9 -

[* 9] ou t o f a Qu ic ke n b oo kk eep in g p ro gr am ,” bu t atlea stitwas b as edon bi ll in gs
an d wo rkord ers --tho ug h h e subm it te d n on e o f th es e to th e Co m mis si on er. Rec on st ru ct edlo gs oft enfai l t o p ro pe rly det ai l the bu si ne ss pu rp os e o f eac h
ex pe ns e. See Hen tg es v. Co m mis si on er, T.C. Mem o. 1 99 8- 24 4, 1 99 8 WL 35 55 04 , at*3 . AndNiem an n d oe sn ’t off er an y ot he r co rro bo rat in g e vi de nc e as id e fro m hi s
own , alb ei t cr ed ib le , tes ti m on y th athi s “ bu si ne ss requi redtra ve l.” Se ct io n 2 74 si m pl y requi res m or e sp eci fic it y . See, e.g ., Boyd v. C omm is si on er, 1 22 T.C. 30 5, 3 32 1 (2 00 4) ; s ee al so , e.g., Irwi n v . Comm is si on er, T.C. Mem o. 1 99 6- 49 0, 1 99 6 W L 62 63 34 , at * 7, af

f’d witho utpubl is he d o pi ni on , 13 1 F .3d14 6 (9 th Cir . 19 97 ). W e fi ndforth e Co m

m is si on er o n t hi s i ss ue . 4

Duri ng tri al Niem ann s ai d t ha t h e d idin de edha ve th in gs li ke rece ip ts , 3 in vo ic es , andot he r ev id en ce o f in di vi du al ex pe ns es , bu t, as he di d n ottu rnth os e ov er t o t he Co m

mis si on er o r us , th ey

do hi m no go od
. So m e o f Nie m an n’s 2 00 9 c om pu te r rec or ds were s to le n, an d t ha t n orm al ly 4 wou ldm eanth athe co ul d a va il hi m se lf o f le ss strin ge ntreco rdke ep in g requi rem en ts un de r se ct io n 1 .27 4- 5T(c )(4 ) an d (5 ), Tem po rary Inco m e Tax Reg s., 50 Fed . Reg . 46 02 2 (No v. 6 , 19 85 ). But Ni em an n p ro vi de d n o e vi de nc e th athi s reco rdke ep in g was m or e co m pl et e o r acc ur at e b efo re the th eft . See, e.g ., Hent ge s v. Co m m is si on er, T.C. Mem o. 1 99 8- 24 4, 1 99 8 WL 35 55 04 , at * 4. In de ed , Niem an n p rep aredhi s l og s o nl y inres po ns e to th e n ot ic e o f de fic ie nc y , andit ’s im po rta ntto no te th at on lyhi s co m pu te r rec or ds were s to le n- -n otth e p ap er do cu m en ta ti on he ne gl ect edto tu rnov er t o t he Co m m is si on er.- 10 -

[* 10 ] B. Deduc ti bi li ty of Leg al an d P ro fes si on al Fees On h is 20 10 Sch edul e C Nie m an n d educ te d t he $8 ,00 0 i n a tt orne y ’s fees th athe ’d pa idth ro ug h Dep en dabl e Pro ject f orin ve st ig at in g the pa ck ag e o f stud en t lo an s tha t h e’d b eenoff

ered
. A tax pa y er ca n g en eral ly deduc t an y ord in ary an d 5
ne ces sa ry ex pe ns es pa idor i nc urredwhi le carry in g o uta tr ad e o r bu si ne ss . Sec. 16 2( a). Bu t d idth e few p ers on al no te s Ni em an n h el d i n t he pa stam ou ntto a tr ad e
orbu si ne ss ? Tho ug h t he Co de do es n’t d efi ne eit he r “ tra de ” o r “bu si ne ss ”, cas el aw ha s
es tabl is he d t ha t t o b e en ga ge d i n atra de or b us in es s, a t ax pa y er m us t b e in vo lv ed in th e act iv it y

with c on ti nu it y

an d re gu la rit y , andth e p rimary pu rp os e o f th at act iv ity m us t b e in co m e o r pr of

it . Comm is si on er v . Groe tz in ge r, 48 0 U.S. 2 3, 3 5 (1 98 7)
. W e d on ’t do ub t tha t Ni em an n was ho ld in g t he di st res se d n ot es to m ak e a pr of it . Buta ta xp ay er i s “ co nt in ua ll y ” an d “ reg ul arl y ” in vo lv edina bu si ne ss act iv ity on ly if he cansh ow ex te ns iv e b us in es s ac ti vi ty ove r a s ub st an ti al pe rio d. Ja farp ou r v. C omm is si on er, T.C. Mem o. 2 01 2- 16 5 (c it in g S ta nt onv. Co m m is si on er, 3 99 F.2d32 6, 3 29 -3 30 (5t h C ir. 1 96 8) , aff’g T.C. Mem o. 1 96 7-

W e n ot e th atNiem an n d idno t ar gu e th atth es e fee s wer e d educ ti bl e as an 5 ex pe ns e o f pr oduc in g i nc om e und er s ect io n 2 12
.- 11 -

[* 11 ] 13 7) . Spo rad ic act iv it ie s d on ’t qu al ify. Gro et zi ng er, 4 80 U.S. at 3 5; Ja ck so n v . Comm is si on er, 8 6 T.C. 4 92 , 51 4 (1 98 6) , aff’d, 8 64 F.2d15 21 (10 th Ci r. 19 89 ). It’s c le ar fro m

th e rec or d b efo re u s tha t Ni em an n’s b us in es s was cen te redon bu y in g a ndsel li ng real est at e. W e d o fi ndth athe als o m ad e “ se ve ral ” lo an s t o real to rs , th ou gh it ’s un cl ear f ro m th e rec or d ju stho w m an y no te s d oc um en ti ng
su chlo an s h e ev er h el d. Du rin g t ria l h e d es cri be d o nl y two , andth ere i s n ot hi ng in th e rec or d t ha t s ho ws h e ev er h el d m or e th anth es e two . It’s al so cle ar fro m Niem an n’s t es ti m on y

th atdurin g 2 01 0- -th e ta x year atis su e fo r th is de du ct io n- - Dep en dabl e Pro

ject d idn’t h ol d a ny no te s, n ordi d i t re de em or i ss ue an y

ne w
no te s. Mo re ac ti vi ty tha n t hi s wo ul d s ti ll no t b e en ou gh esp eci al ly whe re the ta xp ay er-- li ke Niem an n- -d idn’t en ga ge inth e supp os edbu si ne ss act iv it y du rin g th e y ears at i ss ue . For e xa m pl e, inDou gl as v. Co m

mis si on er, T.C. Mem o. 1 99 8- 16 5, af f’d, 18 1 F .3d87 (4t h C ir. 1 99 9) , we hel d t ha t ev enth ou gh a ta xp ay er bo ug htele ve n p ro pe rti es , ren ov at edsev en , andso ldtwo of t he m inth e p as t, h is fai lu re t o s el l an y du ri ng

th e yea rs at

is su e m ean t tha t h e was n’t en ga ge d i n re al

pr op erty de ve lo pm en t o n areg ul ar an d c on ti nu ou s b as is . See al so Ohan a v . Co m m is si on er, T.C. Mem o. 2 01 4- 83 , at * 12 (ta xp ay er n otinbu si ne ss of b uyin g- 12 -

[* 12 ] an d s el li ng real est at e whe re h e d idn’t b uy or s el l an y real est at e dur in g t ax y ears at i ss ue ). W e th eref or e fi ndDepe nd ab le Pro

ject’s m on ey le nd in g t o re al to rs in su ffi ci en tl y

“ co nt in uo us ” an d “ reg ul ar” t o a m ou ntto a bu si ne ss in ve st in g i n d eb t
ordi st res se d d eb t. Mo reo ve r, ev enif Ni em an n i nt en de d t o g etin to th e b us in es s o f m ak in g a nd ho ld in g l oa ns inth e fu tu re, h is act iv it y was a t m os t s po rad ic in20 10 , anda bu si ne ss m

us t h av e al read y

be gu n fo r us to all ow a d educ ti on un de r se ct io n 1 62
. See M cMa nu s v . Commis si on er, T.C. Mem o. 1 98 7- 45 7, af f’d witho utpubl is he d op in io n, 8 65 F.2d25 5 (4 th Cir . 19 88 ); s ee al so W ol fg ram v. Co m m is si on er, T.C. Mem o. 2 01 0- 69 (in te ntto op erat e p ro pe rty as a b edan d b reak fas t b efo re o pe rat io n be ga n n otreg ul ar o r co nt inuo us act iv it y ). W e d eci de infav orof t he Co m m is si on er o n t hi s i ss ue . C. Sch edul e D: Sh ort-Te rm Cap it al Gain Thi s co nf us in g i ss ue st art edwith Ni em an n’s 2 00 9 S ch edul e D. Niem an n rep orte d $ 12 6,0 00 insh ort-t erm cap it al ga in fro m

th e sa le of s ev eral pro pe rti es th aty ear. He i nc lu de d i n h is ba si s h om e-o ffi ce ex pe ns es of $ 29 ,00 0. Onhi s 2 00 9 Sch edul e C Nie m an n e nt eredsev eral si m il ar ex pe ns es , bu t d idn’t re po rt t he m sp eci fic al ly as ho m e-o ffi ce ex pe ns es . The Co m m is si on er ad de d t o t he co nf us io n by inc reas in g Ni em an n’s 2 00 9 s ho rt- te rm cap it al ga in by $62 ,00 0 i n t he no ti ce o f- 13 -

[* 13 ] de fic ie nc y , andhe ass ert edinhi s p retria l m em or an du m th atth is ad

jus tm en t
was du e in part t o $ 29 ,00 0 i n h om e-o ffi ce d educ ti on s tha t Ni em ann i m pr op erl y cl ai m edon hi s Sc he du le D. 6 Niem an n’s s ho rt- te rm

cap it al ga in was, ag ai n, fr om th e sa le of s ev eral

“ fli pp ed ” h om es . He calc ul at edhi s b as es inth e h om es by inc lu di ng no t o nl y th e pu rch as e p ric e o f eac h h om e b utals o b y in cl ud in g v ari ou s co st s “ attri bu te d t o” th em . The rea so n h e at tri bu te s the se pa rti cu la r co st s t o t he sal e o f pr op erty is th at --as he ex pl ai ne d dur in g t ria l-- th ey are re pr es en ta ti ve of v ari ou s ex pe ns es rel at edto Rab bi t an d M ag ic . This in cl ud es “real est at e si gn s fo r th e p ro pe rti es for
sa le , lea si ng ag reem en ts * * * the m il eag e to an d fr om th e job si te s.” Th e $ 29 ,00 0 atis su e lo okm or e li ke Sch edul e C ex pe ns es forRab bi t an d M ag ic wher eas th e de du ct io ns Niem an n a ctua ll y to okon hi s Sc he du le C are f orex pe ns es of Dep en dabl e Pro

ject’s b us in es s ac ti vi ti es . W e ag ree wi th th e Co m

m is si on er tha t Ni em an n’s h om e-o ffi ce ex pe ns es
aren ’t a co stof a cqui rin g t he pro pe rti es an d Ni em an n s ho ul dn ’t hav e in cl ud ed th em inhi s b as es . The b as is of api ece o f pr op erty is whatth e p ro pe rty cos t. Sec
.

W e n ev er d idfig ur e o utwher e th e $ 62 ,00 0 c am e fro m . Duri ng tri al th e 6 Co m m is si on er co nc ed edth at“ th e o nl y is su e th atrem ai ns as t o the $6 2,0 00 is whe th er o r no t the $2 9,0 00 * * * s ho ul d b e al lo wedor n ot .” W e tr eatth is as a co nc es si on of t he rem ai ni ng $3 3,0 00 of t he ass ert edin crea se incap it al ga in
.- 14 -

[* 14 ] 10 12 (a). Tax pa y ers canad jus t the ir b as is inpro pe rty for ex pe nd itur es , rece ip ts , lo ss es , or o th er i te m s p ro pe rly char ge ab le to a cap it al acco un t. Sec
. 10 16 (a)( 1) . The co stof t he im pr ov em en ts (no t atis su e h ere) th atNiem an n m ad e to th e p ro pe rti es be fo re h e so ldth em is pro pe rly inc lu de d i n h is ba se s b ecau se th ey are p artof t he co stof t he pro pe rty. See sec . 1.1 01 6- 2( a), In co m e Tax Reg s. The 7
co stof h is ho m e o ffi ce i s ju sta co stof d oi ng bu si ne ss . See s ec. 2 80 A. He sh ou ld ha ve rep orte d the se ex pe ns es on hi s Sc he du le C. The Co m m is si on er t ak es hi s ar gu m en t o ne st ep furth er. He arg ue s tha t ev en if Ni em an n m ov es th e $ 29 ,00 0 t o h is Sch edul e C, h e st il l ca n’t t ak e a d educ ti on fo r th em be cau se he ha sn ’t su bs ta nt ia te d th em . The Co m m is si on er ra is edth is is su e fo r th e fi rs t t im e dur in g t ria l, s o b efo re we ca n d eci de th e is su e o n i ts m eri ts , we m us t d eci de whet he r it ’s pro pe rly befo re u s. W e’ve o fte n h el d t ha t we wo n’t co ns id er i ss ue s tha t h av en ’t bee n p ro pe rly rai se d i n t he pl ead in gs or b y anam en dm en t t o t he pl ead in gs . Foi l v
. Co m m is si on er, 9 2 T.C. 3 76 , 41 8 (1 98 9) , aff’d, 9 20 F.2d11 96 (5t h C ir. 1 99 0) ; Markwardt v . Comm is si on er, 6 4 T.C. 9 89 , 99 7 (1 97 5) . There is of c ou rs e an
ex cep ti on to th e ru le . Rul e 4 1( b) (1 ) tr eat s an is su e as if i t h adbe enrai se d i n t he
W e al so ag ree tha t tho se pro pe rti es aren ’t per so na ll y own edby N ie m an n, 7 bu t b y Rab bi t, an d s ho ul d h av e b eenrep orte d o n asep arat e Sch edul e C. The pa rti es ’ Ru le 15 5 c om

pu ta ti on s s ho ul d re fle ctth is
.- 15 -

[* 15 ] pl ead in gs if i t was tri edwith t he ex pr es s o r im pl ie d c on se ntof t he pa rti es . See, e.g ., LeFev er v . Comm is si on er, 1 03 T.C. 52 5, 5 38 n.1 6 (1 99 4) , aff’d, 1 00 F.3 d 7 78 (10 th Cir . 19 96 ). In d eci di ng whet he r a p arty ga ve im pl ie d c on se nt , th is Co urt co ns id ers whet he r th atco ns en t wo ul d re su ltinun fai r pr ejud ic e. Bu la s v . Co m m is si on er, T.C. Mem o. 2 01 1- 20 1, 2 01 1 WL 36 25 09 8, at*1 n.2 ; s ee al so W B Acqui si ti on , Inc . & Subs . v. Co m m is si on er, T.C. Mem o. 2 01 1- 36 , aff’d s ub no m . DJB Hol di ng Co rp . v. Co m m is si on er, 8 03 F.3d10 14 (9t h C ir. 2 01 5) ; M cGee v
. Co m m is si on er, T.C. Mem o. 2 00 0- 30 8. The po te nt ia l fo r un fai r pr ejud ic e h ere i s p la in . The Co m m is si on er
m ai nt ai ne d i n h is pre tri al m em or an du m --jus t o ne weekbe fo re tria l-- th atth e rea so n
we co ul dn ’t justm ov e th e h om e-o ffi ce d educ ti on s t o t he Sch edul e C was th atth ey were “ do ub le -cl ai m ed .” It was on ly whe n t hi s p ro ve d n otto be tru e, th atth e Co m m is si on er ra is edth e que st io n o f whe th er Ni em an n c ou ldsubs ta nt iate th es e
ex pe ns es at a ll . Niem an n a ss ert ed --an d we b el ie ve hi m --tha t the IRS h adn’t pr ev io us ly ask edhi m

forsubs ta nt ia ti on . W e th eref or e fi ndth is un fai rly preju di ced Niem an n b ecau se itpre ve nt edhi m fro m pre se nt in g d oc um en ts whi chhe cred ib ly te st ifi edhe ha d s om ewh ere i n h is reco rd s. See Bu la s, 2 01 1 WL 36 25 09 8, at*1 8
The C omm is si on er d idass ertth atth e is su e was rai se d g en eral ly in the 8 no ti ce o f de fic ie nc y

when he ch al le ng edNiem ann’s Sc he du le C, bu t tha t i sn ’t th e (co nt in ue d...)- 16 -

[* 16 ] n.2 (fi nd in g p reju di ce wh ere t he Co m m is si on er ra is eda ne w is su e dur in g tri al th ereb y

pre ve nt in g the tax pa y er fro m be in g abl e to co nduc t an in ve st ig at io n of hi s re co rd s) ; s ee al so Est at e o f Hun ts m anv. Co m m is si on er, 6 6 T.C. 8 61 , 87 2 (1 97 6) (fi nd in g n o t im el y no ti ce wh ere atax pa y er was de pr iv edof a ny op po rtu ni ty to pre se ntth e rel ev an t ev id en ce). 9

(...co nt inue d) 8 cas e. The C omm is si on er ch al le ng edon ly thre e it em s (o utof 1 2 c la im ed de du ct io ns ) on Niem an n’s Sc he du le C. The p le ad in gs co nt ai n n o m en ti on of subs ta nt ia ti on inreg ardto Niem an n’s h om e-o ffi ce ex pe ns es . The Co m m is si on er’s pr etria l m em or an du m

als o i nd ic at es th athe wil l no t be ch al le ng in g wh ethe r Niem an n h adho m e-o ffi ce d educ ti on s as he ass um es th ey were d oubl e co un te d. See F ox Ch ev ro le t, In c. v. Co m m is si on er, 7 6 T.C. 7 08 , 73 3- 34 (19 81 ) (d is m is si ng Co m m is si on er’s cl ai m

th atst atut ory

no ti ce was bro aden ou gh to in cl ud e a n ew is su e). Even if we wer e to fin d t ria l b y co ns en t, we wo ul d s ti ll fin d fo r Nie m an n 9 on th e al te rn at iv e g ro un d tha t the Co m m is si on er fa il edto m eethi s b ur de n o f pr oo f. The C omm is si on er h adth is bu rd enbe cau se lac k o f subs ta nt ia ti on is a ne w th eo ry --an att em

ptby the Co m

m is si on er “ to rel y

on a ba si s tha t i s b ey on d t he sc op e o f th e o rig in al de te rm in at io n.” Evan s v . Commis si on er, T.C. Mem o. 2 01 0- 62 (qu ot in g S he a v . Comm is si on er, 1 12 T.C. 18 3, 1 91 (19 99 )). Whe n ane w th eo ry in crea se s the de fic ie nc y

or r equi res th e ta xp ay er t o i nt ro du ce n ew or di ffer en t ev id en ce i t b eco m es a “ ne w m at te r.” Id . The Co m mis si on er’s l ack -o fsubs ta nt ia ti on th eo ry

for cedNiem an n i nt o re lying on reco rd s tha t h e d idn’t h av e with h im at t ria l b ecau se he ha d n o n ot ic e h e’d n eedth em . This m ean s tha t i t was a n ew “ m at te r” an d t he bu rd enof p ro of was o n the Co m

mis si on er. See Sh ea, 1 12 T.C. at 1 91 . Becau se th e Co m mis si on er p res en te d n o e vi de nc e an d o ffer edno te st im on y at t ria l o n thi s n ew m at te r, we wou ldst il l fi ndforNiem an n o n t hi s i ss ue .- 17 -

[* 17 ] D. Pen al ti es The Co m m is si on er as se rts accu racy-rela te d p en al ti es foreach of t he y ears at is su e. Und er s ect io n 6 66 2( b) (1 ) an d (2 ), accu racy-rela te d p en al ti es are ap pr op ria te whe re anun de rp aym en t o f ta x i s at tri bu tabl e to a ta xp ay er’s “ ne gl ig en ce o r di sr eg ardof rul es or r eg ul at io ns ” o r “ an y subs ta nt ia l und ers ta te m en t o f in co m e ta x.” Whe th er the Co m

mis si on er m ethi s b ur de n o f pr oduc ti on inth is cas e is a si m pl e m ath p ro bl em . An und ers ta te m en t o f ta x i s “ subs ta nt ia l” if i t ex ceed s the gr eat er o f $5 ,00 0 o r “ 10 pe rcen t o f th e ta x re qu ire d t o b e sh own on th e return.” Sec. 6 66 2( d) (1 )(A). Fo r bo th th e 2 00 9 a nd20 10 tax y ears Niem an n’s
un de rs ta te m en t g reat ly excee de d b ot h $ 5,0 00 an d 1 0% o f th e ta x re qu ire d t o b e sh own on hi s re tu rn . The Co m m is si on er h as m ethi s b ur de n wi th res pe ctto th e
subs ta nt ia l u nd ers ta te m en t. Niem an n m ay

reb utth e p en al ty by

sh owi ng ev id en ce tha t h is mis take s wer e
reas on ab le an d i n g oo d fa ith. Se e se c. 66 64 (c)( 1) . In d eci di ng whet he r he ha s pr ov enth is de fen se , we exam in e al l the rel ev an t fa ct s an d c irc um st an ces , in cl ud in g h is effo rts to de te rm in e h is pro pe r ta x l iabi li ty andwhet he r he rel ie d i n go odfai th on pro fes si on al advi ce. See sec . 1.6 66 4- 4( a), In co m e Tax Reg s. We di sc us s the rel ev an t t ax y ears an d i ss ue s s ep arat el y .- 18 -

[* 18 ] 20 09 Niem an n p rep aredhi s o wn 2 00 9 re tu rn . Niem an n d idn’t s ub m itev id en ce o r pr ov id e te st im on y

to sh ow re as on ab le cau se forhi s fa il ur e to ke ep ad equa te
reco rd s t o s ub st an ti at e h is tra ve l ex pe ns es forth aty ear. Se e se c. 1.6 66 2- 3( b) (1 ), In co m e Tax Reg s.; Fla ke v. Co m m is si on er, T.C. Mem o. 2 01 4- 76 ; Di al lo v. Co m m is si on er, T.C. Mem o. 2 01 1- 30 0; Garri so n v . Comm is si on er, T.C. Mem o. 20 09 -3 2. Niem an n a ls o d idn’t s ho w reas on ab le cau se forbe li ev in g t ha t h is ho m eof fic e d educ ti on s s ho ul d b e ta ke n a s p artof t he ba se s i n h is real -es ta te in ve st m en ts . He was a cr ed ib le witne ss ; b utwhi le we ha ve gra nt edrel ie f fro m
accu racy-rela te d p en al ti es be cau se of a n h on es t m is ta ke of l aw, th atrel ie f is li mit edto si tu at io ns wher e th e la w is un cl ear. VanWyk v . Comm is si on er, 1 13 T.C. 44 0, 4 49 (19 99 ). Here, Nie m an n e ve n c on ced eddu rin g t ria l tha t the
ex pe ns es he in cl ud edinhi s b as es forcap it al ga in were re pr es en ta ti ve of S ch edul e C ex pe ns es forRab bi t an d M ag ic --h adhe fil le d o utsep arat e Sch edul es C fo r th em . Thu s, we s us ta in th e acc ur acy-rela te d p en al ti es forth e 2 00 9 t ax y ear. 1 0
W it h t he ex cep ti on of t he accu racy-rela te d p en al ty for ear ly w it hdrawal 1 0 fro m hi s IRA in20 09 , th e p art ie s h av en ’t res ol ve d t he pe na lt ie s co nc ern in g t he se tt le d 2 00 9 a nd20 10 is su es . Becau se Niem an n d idn’t p ro du ce an y ev id en ce, o r gi ve an y tes ti m on y

reg ard in g t ho se is su es du rin g t ria l t o e st ab li sh why pe na lt ie s (co nt in ue d...)- 19 -

[* 19 ] 20 10 Niem an n’s t ax return fo r th e 2 01 0 t ax y ear was pre pa redan d s ig ne d b y a pr of es si on al tax -return p rep arer . Reli an ce o n apre pa rer e xc us es a ta xp ay er fro m
anaccu racy-rela te d p en al ty onl y if h is rel ia nc e was reas on ab le . Neon at ol og y Ass oc s., P.A. v. C omm is si on er, 1 15 T.C. 43 , 99 (20 00 ), aff’d, 2 99 F.3d22 1 (3 d Ci r. 20 02 ). Niem ann’s re li an ce o n h is CPA was reas on ab le if:

• th e advi se r was a co m pe te ntpro fes si on al with s uf fic ie nt ex pe rti se to jus ti fy

rel ia nc e;

• he pro vi de d n eces sa ry an d a ccu rat e in fo rm at io n t o t he advi se r; and

• he actua ll y

rel ie d o n t he advi se r’s jud gm en t i n g oo d fa it h. Id
. Co m pe te ntPro fes si on al Niem an n’s advi se r was m os t ce rta in ly com pe te nt --h e was a pr of

es si on al CPA ata rep ut ab le firm . Niem an n c red ib ly test ifi edat t ria l tha t the firm was a

“ CPA l eg al th in g” an d t ha t i t ca m e h ig hl y reco m m en de d. Se e Zarl en go v. Co m m is si on er, T.C. Mem o. 2 01 4- 16 1, at*5 6 (f in di ng th ata CPA wit h 2 0 years’
ex pe rie nc e h ad“ su ffi ci en t ex pe rti se to jus ti fy rel ia nc e”).
(...co nt in ue d) 1 0 sh ou ldn’t ap pl y , we su st ai n t he Co m m is si on er’s d et erm in at io n t ha t h e is li ab le for th e acc ur acy-rela te d p en al ty as to th e o th er s ettl edis su es fro m th e 2 00 9 t ax y ear. See Es rig v. Co m

m is si on er, T.C. Mem o. 2 01 2- 38
.- 20 -

[* 20 ] Pro vi si on of Ne ces sa ry an d Acc ur at e In fo rm at io n Niem an n m

us t es tabl is h t ha t h e p ro vi de d n eces sa ry an d a ccu rat e in fo rm at io n wi th res pe ctto th e it em s re po rte d o n h is returns . Sect io n 1 .66 64
- 4( c)(1 )(i ), In co m e Tax Reg s., al so requi res th athe di sc lo se d a ll pe rti ne ntfact s an d ci rcu m st an ces th athe kn ew orreas on ab ly sho ul d h av e kno w to be rel ev an t t o t he tre atm en t o f anit em . See Dia z v . Comm is si on er, T.C. Mem o. 2 01 2- 28 0. Niem an n p ro ve d t hi s wi th hi s cr ed ib le tes ti m on y th athe ga ve hi s C PA an y do cu m en ta ti on th athe ask edfor , in cl ud in g b utno t l im it edto th e Qui ck en pr in to ut s fo r th e y ear a t i ss ue . Niem an n’s CP A als o h adall of t he ne ces sary in fo rm at io n t o re po rt a nddi d re po rt Ni em an n’s IRA trans act io ns .

Actu al Rel ia nc e in Goo d F ai th Niem an n’s re li an ce o n h is advi se r was ingo odfai th . The m is ta ke s o n t he 20 10 return i nv ol ve d c om pl ic at edtax is su es sp an ni ng th ree s ep arat e b us in es se s,
an d i ss ue s o f fac t (e .g., the ad equa cy of t he reco rd s tha t h e sh owe d h is advi se r, if
no t u s, u nd er s ect io n 2 74 ). Niem an n’s re li an ce o n h is acco un ta ntto pre pa re h is 20 10 return s uf

fic es forus to fin d i n h is fav oron th e se ct io n 6 66 2 p en al ty for h is 20 10 tax y ear.- 21 -

[* 21 ] Thi s m ean s tha t
Deci si onwil l b e en te redun de r Ru le 15 5.