TAX COURT OPINION

Case: Sonia De Leon
Docket Number: 28280-09S
Judge: Colvin
Opinion Type: bench
Filed: 12/06/2010
Pages: 20

UNITED STATES TAX COURT WASHINGTON, DC 20217 SONIA DE LEON, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent. ) ) ) ) ) ) ) ) ) Docket No. 28280-09S O R D E R Pursuant to Rule 152 (b) , Tax Court Rules of Practice and Procedure, it is ORDERED that the Clerk of the Court shall transmit herewith to petitioner and to respondent a copy of transcript of Laurence J. Whalen at San Antonio, Texas, containing his oral findings of fact and opinion rendered on November 3, 2010. the proceedings in the above case before Judge the pages of the In accordance with the oral findings of fact and opinion, decision will be entered for respondent . (Signed) Laurence J. Whalen Judge Dated: Washington, D.C. December 6, 2010 58WED DEC - 8 2010 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 3 Bench Opinion by Senior Judge Laurence J. Whalen November 3, 2010 De Leon v. Commissioner Docket No. 28280-095 I. THE COURT HAS DECIDED TO RENDER ORAL FINDINGS OF FACT AND OPINION IN THIS CASE, AND THE FOLLOWING REPRESENTS THE COURT' S ORAL FINDINGS OF FACT AND OPINION. II. This proceeding was brought as a Small Tax Case pursuant to the provisions of section 7463 of the Internal Revenue Code, as amended, and Rules 170 through 175 of the Tax Court Rules of Practice and Procedure. In this bench opinion, all section numbers refer to the Internal Revenue Code, as amended and in effect for 2005 and 2006, the taxable years in issue, unless stated otherwise, and all rule references are to the Tax Court Rules of Practice and Procedure . Pursuant to section 7463 (b) , the decision to be entered in this case is not reviewable by any other court, and this bench opinion shall not be treated as precedent in any other case. III. This bench opinion is made pursuant to the authority granted by section 7459 (b) and Rule 152. Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 I • 4 Ms. Sonia De Leon appeared in this proceeding on her own behal f , and Ms . Brooke S . Laurie, Attorney at Law, appeared on behalf,of respondent. V. Respondent determined a tax deficiency of $794, and an addition to tax or penalty under section 6662(a) of $158.80, in petitioner's Federal income tax for the taxable year 2005. Respondent determined that a portion of petitioner's underpayment of tax for 2005 was due to negligence or disregard of rules or regulations. See sec. 6662(b) (1). Respondent also determined a tax deficiency of $13, 237, and a fraud penalty under section 6663 (a) of $9,927.75, in petitioner's Federal income tax for the taxable year 2006. Respondent determined, in the alternative, that, if petitioner is not liable for the fraud penalty on a portion of the underpayment for 2006, then that portion of the underpayment is due to negligence or disregard of rules or regulations, and petitioner is liable for accuracy-related penalty under section 6662 (a) as to that portion of the underpayment . See sec . 6662 (b) (1) . After concessions by the parties, the issues Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 5 remaining for decision are: (1) whether petitioner is liable for the accuracy-related penalty under section 6662(a) for 2005; (2) whether petitioner is liable for the section 6663(a) fraud penalty for 2006; and (3) if petitioner is not liable for the fraud penalty on some portion of the underpayment of tax for 2006, whether she is liable for the accuracy-related penalty under section 6662(a) on that portion of the underpayment. VI. Some of the facts in this case are set forth in, and some of the exhibits are attached to, a Stipulation of Facts which was the subject of the Court's Order to show Cause dated September 21, 2010. The Order to Show Cause directed petitioner to show cause why the Stipulation of Facts and attached exhibits should not be deemed admitted for purposes of the case. Petitioner failed to respond to the Order to Show Cause. As a result, the Order to Show Cause was made absolute in an Order dated October 21, 2010, and the Stipulation of Facts and attached exhibits were deemed admitted for purposes of this case and they are hereby taken into evidence. The parties have also submitted a Supplemental Stipulation of Facts which is hereby taken into evidence, along with the exhibits attached thereto. Heritage Reporting Corporation (202) 628-4888 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 6 Petitioner resided in Round Rock, Texas, when her petition was filed with the Court. For taxable year 2005, she filed an individual income tax return on Form 1040 that reported wages of $17,913 from an enterprise called BMP Operations LP. There is also attached to petitioner's 2005 return a Schedule C, Profit or Loss From Business, for a sales business consisting of petitioner's sales activity on behalf of Forever Living Products. That Schedule C reported a net loss of $1,635; i.e., gross receipts or sales of $33,141, less total expenses of $34,776. For taxable year 2006, petitioner's income tax return reported no wages. The only income reported on the return was a net profit of $15,168. That amount was reported on the Schedule C for petitioner's Forever Living Products business; i.e., gross receipts or sales of $31,930 less total expenses of $16,762. In February of 2006, after taking a number of real estate courses, petitioner received her license as a real estate agent. She then became affiliated with a real estate broker, New Home Locators, and began selling real estate as an agent for that company. At that time, her manager was Mr. Sammy P. Toletino. Eventually, petitioner's real estate sales were managed by Mr. Robert Fields, the Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 7 broker who owned New Home Locators. Mr. FieldÜ company, New Home Locators, was one of the few companies which specialized in selling to entry-level home buyers. Petitioner quickly became very successful as an agent for New Home Locators during 2006. She concentrated on selling homes in certain new, low-cost communities that had been built by one of the biggest builders in Austin. During 2006, petitioner made 16 sales of real estate and received sales commissions totaling $86,238.62. With one exception, the title company which handled the closing of each sale issued a check directly to petitioner in the amount of her share of the sales commission. For the most part, petitioner cashed the commission checks that she received during 2006. The one exception to the above procedure, under which petitioner was paid her commissions, involved a sale handled through Alamo Title, a title company that would not issue a check directly to the agent. As to that sale, New Home Locators issued a 1 check dated August 6, 2006, to petitioner in the amount of her share of the sales commission, $5,979.53. Petitioner deposited $5,000 of that check into her account at Wells Fargo. Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 8 Petitioner did not maintain any records regarding the income earned from, or the expenses incurred for, her real estate sales business during 2006. She cashed most of her commission checks and paid most of her real estate expenses in cash. The expenses that petitioner paid in cash included referral fees and cash incentive payments to clients. During 2005 and 2006, petitioner maintained a checking account and a savings account at Wells Fargo Bank. On August 2, 2006, petitioner opened a savings account and a money market account at Bank of America for the purpose of depositing her commissions from her real estate business. Notwithstanding the fact that petitioner was a successful and profitable agent, Mr.. Fields terminated his relationship, and the relationship of his company, with her, circa 2007, because of a number of irregularities involving her work. One irregularity involved a client who called Mr. Field$ A and.threatened to file a complaint with the Texas Board of Realtors because petitioner had failed to make a promised lease payment of $573. Mr. FieldSmade A the payment to the client. Another irregularity involved a television set that New Home Locators had purchased as a promotional prize to be awarded at a Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 local festival. Mr. Fieldsfound that the promotion LJW never took place. Nevertheless, A it took some time 9 before Mr. Toletino was able to retrieve the television from petitioner's home. During the latter part of 2007., a revenue agent of the Internal Revenue Service began an examination of petitioner's 200.5 return. Initially, on December 19, 2007, he met with petitioner's representative, Mr. Joe H. Stanfield, but he found that Mr. Stanfield knew very little about petitioner's business or financial affairs. After this meeting, the agent expanded his examination to cover taxable year 2006. The agent met with petitioner and Mr. Stanfield on January 9, 2008. At that meeting petitioner failed to provide her bank statements, as the agent had requested. Petitioner told the agent that she had accounts at one bank, Wells Fargo Bank. She did not disclose the fact that she also had accounts at Bank of America. Petitioner told the agent that, during 2005, the source of her income was wages from BMP Operations LP and income from Forever Living Products. Petitioner told the agent that, during 2006, all of her income was from Forever Living Products. Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 10 Petitioner did not disclose the fact that, during 2006, she had received substantial commissions from the sale of real estate. Petitioner told the agent that her returns for 2005 and 2006 had been prepared by Ms. Teresa Garcia. Petitioner said that she knew of no mistakes on her returns, and there was no income omitted from the returns. When the agent told petitioner that his "cash T analysis" showed that her expenses exceeded income for both years, petitioner explained to the agent that she had received loans and gifts from family and friends. The agent then issued a summons for petitioner's bank records at Wells Fargo Bank, and he made an analysis of deposits into the accounts at that bank. He found substantial excess deposits. At that time, the agent was not aware of petitioner's accounts at Bank of America, and he did not include those deposits in his analysis. The agent prepared a report of his examination dated March 24, 2008, which proposed to determine an increase in petitioner's gross receipts for each of the subject years, and which proposed other adjustments, including the disallowance of various deductions. In response, petitioner submitted Heritage Reporting.Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 11 a protest dated April 28, 2008, that had been prepared by Mr. Stanfield. Petitioner's protest did not disclose petitioner's real estate activities and the commissions she had received during 2006, nor did the protest disclose petitioner's accounts at Bank of America. Mr. Stanfield was unaware of these things when he drafted and submitted the protest on petitioner's behalf. After receiving petitioner's protest, the revenue agent continued his investigation. On May 7, 2008, he met with Mr. Robert Fieldgregarding the L commission check that had been issued by New Home A Locators to petitioner in 2006, as discussed above. Petitioner's protest had listed the net deposit of the check into her Wells Fargo account, $5,000, as a "loan." From Mr. Fields the agent learned, for the LEE / first time, of petitioner's work as a real estate A agent, and of the fact that she had received substantial real estate commissions during 2006. On or about August 19, 2008, the agent received a copy of a letter that petitioner had written to Mr. Stansfield in which she acknowledged that she had not disclosed her real estate activities to him. The purpose of petitioner's letter was to explain the reasons why petitioner had hidden the Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 12 commission income that she had received from her real estate activities during 2006. Essentially, petitioner claims in the letter that she was able to keep very little of the real estate commissions that she earned during 2006. She claims to have been desperate for money and to have been afraid to disclose the commission income because she could not afford to pay the taxes on that income. The premise of petitioner's letter is the claim that "Mr. Fields [sic] 1% of the price of the home for leads" and "another 30% brokers commission" were paid from petitioner's share of the commissions. This is not correct. Generally, in the case of the home sales that were made by petitioner during 2006, a commission of 6% was split by the agents. In some cases, Mr. Fieldsor another broker was paid 1% of the LTVd commission, and petitioner and New Home Locators would /\ split the other 5%. Of that 5%, petitioner's share was 70% and the managing brokers, typically Mr. Sammy Toletino and Mr. Field9 shared the remaining 30%. For L several sales at the end of 2006, petitioner's share A was increased to 80%. VII. We begin with several fundamental principles of tax litigation. Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 13 First, the Court is not bound to accept the unverified and undocumented testimony of a taxpayer. Hradesky v. Commissioner, supra; Tokarski v. Commissioner, 87 T.C. 74, 77 (1986). See also Lovell & Hart, Inc. v. Commissioner, 456 F.2d 145, 148 (6th Cir. 1972), affg. T.C. Memo. 1970-335; MacGuire v. Commissioner, 450 F.2d 1239, 1244 (5th Cir. 1971), affg. T.C. Memo. 1970-89; Niedringhaus v. Commissioner, 99 T.Cs 202, 212 (1992). Second, a party's failure to introduce documentary evidence which is within her possession or control, and which, if true, would be favorable to her, gives rise to the presumption that, if produced, such evidence would be unfavorable. Recklitis v. Commissioner, 91 T.C. 874, 890 (1988); Pollack v. Commissioner, 47 T.C. 92, 108 (1966), affd. 392 F.2d 409 -(5th Cir. 1968); Wichita Terminal Elevator Co. v. Commissioner, 6 T.C. 1158, 1165 (1946), affd. 162 F.2d 513 (10th Cir. 1947). 111· Fraud Penalty Section 6663(a) imposes a penalty if any part of any underpayment of tax is attributable to fraud. The penalty is equal to 75-percent of the portion of the underpayment which is attributable to Heritage Reporting Corporation (202) 628-4888 1 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 14 fraud. See sec. 6663(a). Fraud is defined as an intentional wrongdoing designed to evade tax believed to_ be owing. See Petzoldt v. Commissioner, 92 T.C. 661, 698 (1989). Fraudulent intent is defined as "'actual, intentional wrongdoing, and the intent required is the specific purpose to evade a tax believed to be owing.'" Estate of Temple v. Commissioner, 67 T.C. 143, 159 (1976) (quoting Mitchell v. Commissioner, 118 F.2d 308, 310 (5th Cir.1941), revg. 40 B.T.A. 424 (1939)). If any portion of the underpayment is attributable to fraud, the entire underpayment will be treated as attributable to fraud unless the taxpayer establishes by a preponderance of the evidence that part of the underpayment is not due to fraud. Sec. 6663(b). Respondent has the burden of proving by clear and convincing evidence that an underpayment exists for each of the years in issue, and that some portion of the underpayment is due to fraud. See sec. 7454(a); Rule 142(b). Fraud is never presumed but must be established by independent evidence that establishes fraudulent intent. Beaver v. Commissioner, 55 T.C. 85, 92 (1970). The following indicia have been developed by the courts as "badges of fraud" from which fraudulent Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 15 intent can be inferred: (1) Understating income; (2) maintaining inadequate records; (3) engaging in a pattern of behavior that indicates an intent to mislead; (4) concealing assets; (5) providing implausible or inconsistent explanations of behavior; (6) filing falsegfdocuments; and (7) failing to provide documents to the Commissioner during examination. E.g., Bradford v. Commissioner, 796 F.2d 303, 307 (9th Cir.1986), affg. T.C..Memo. 1984-601; Cooley v. Commissioner, T.C. Memo. 2004-49. Although no single factor is necessarily sufficient to establish fraud, a combination of several of these factors may be persuasive' evidence of fraud. See Bradford v. Commissioner, supra at 307-308. In this case, there is ample evidence to satisfy respondent's burden, and to establish that some portion of the underpayment is due to petitioner's fraud. We shall briefly describe each of the badges of fraud. Understating Income: Therdeficiency determined by respondent, to which petitioner has stipulated, is based upon a number of adjustments, including petitioner's failure to report gross receipts from her real estate business of $83,558. Maintaining Inadequate Records: The record of this Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 case shows that petitioner failed to maintain adequate books and records from her real estate and sales businesses. Her claim that her records for 2006 were 16 destroyed by her son is substantiated. A Concealment of Assets: Petitioner acknowledged that she failed to disclose her real estate commissions to the original return preparer, Ms. Teresa Garcia. She also failed to tell her audit representative,, Mr. Stanfield, about her real estate commissions and about her accounts at Bank of America. Most importantly, petitioner failed to disclose her real estate commissions and her accounts at Bank of America to respondent's agent. Failure to Cooperate with Respondent's Agents: Petitioner lied to the respondent's agent about the sources of her income during 2006, and about her bank accounts, and she permitted a protest to be filed on her behalf that she knew was not accurate. By her failure to cooperate with the agent, and to disclose the reason for the excess deposits, petitioner caused the agent to issue a summons for her bank records, and engage in an extensive investigation of the reason for the excess deposits. Dealing in Cash: Petitioner cashed the checks she received for real estate commissions and paid her Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 17 expenses in cash. Failure to Furnish the Return Preparer with Complete and Accurate Information: As mentioned above, petitioner failed to furnish her return preparer with information about her real estate business. In summary, it is evident that petitioner did everything she could to hide from respondent her real estate business, and the substantial commissions that she realized from that business during 2006. She claims that she did not do this with a fraudulent intent. Rather, she testified that she intended to gather her tax information for 2006, and to report all of the commissions paid during that year on her 2007 return, a procedure that she claims was suggested by s Mr. Field. L3w We find this claim to be both unsubstantiated by Mr. FieldSand implausible. Mr. A Field$testified that he had no recollection of talking A to petitioner about her tax situation, and no recollection of providing such advice. Furthermore, if petitioner had intended to report the commissions on her 2007 return, why did she not disclose the commissions to respondent's agent during his examination which took place during 2008 . Based upon the entire record, we have no difficulty finding that Heritage Reporting Corporation (202) 628-4888 L 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 18 a portion of the underpayment is attributable to fraud. A potentially more difficult question is whether any portion of the underpayment is not attributable to fraud. Respondent's proof of fraud focused on petitioner's real estate business which was separate from petitioner's sales activity on behalf of Forever Living Products. Nevertheless, petitioner did not attempt to establish that any portion of the underpayment is not attributable to fraud. Accordingly, we find that the entire underpayment shall be treated as attributable to fraud. Accuracy-Related Penalty IX. As mentioned above, respondent determined in the notice of deficiency that petitioner is liable for the accuracy-related penalty under section 6662(a) for 2005 and, in the alternative, for 2006, if we find that any portion of the underpayment is not attributable to fraud. In view of our finding that the entire underpayment for 2006 is due to fraud, the accuracy-related penalty under section 6662(a) is not applicable to 2006. See sec. 6662(b). Accordingly, we discuss only taxable year 2005. Pursuant to section 6662(a) and (b) (1), the Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 19 taxpayer may be liable for a penalty of 20 percent on the portion of an underpayment of tax that is attributable to negligence or disregard of rules or regulations. For purposes of section 6662, "negligence" includes any failure to make a reasonable attempt to comply with the provisions of the Internal Revenue Code, and "disregard" includes any careless, reckless, or intentional disregard. Sec. 6662(c). Section 1.6662-3(b) (1), Income Tax Regs., provides that negligence includes any failure to exercise ordinary and reasonable care in the preparation of a tax return but does not include a return position that has a substantial basis. Negligence has been defined as a failure to do what a reasonable person would do under the circumstances. Leuhsler v. Commissioner, 963 F.2d 907, 910 (6th Cir.1992), affg. T.C. Memo. 1991-179; Antonides v. Commissioner, 91 T.C. 686, 699 (1988), affd. 893 F.2d 656 (4th Cir. 1990). It also includes any failure by the taxpayer to keep adequate books and records or to substantiate items properly. Sec. 1.6662-3(b) (1), Income Tax Regs. The accuracy-related penalty is not imposed with respect to any portion of the underpayment as to which the taxpayer acted with reasonable cause and in good faith. Sec. 6664(c) (1). The decision as to Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 20 whether the taxpayer acted with reasonable cause and in good faith depends upon all of the pertinent facts and circumstances. Sec. 1.6664-4(b) (1), Income Tax Regs. Relevant factors include the taxpayer's efforts to assess his proper tax liability, including the taxpayer's reasonable and good faith reliance on the advice of a professional such as an accountant. Id. Furthermore, an honest misunderstanding of fact or law that is reasonable in the light of the experience, knowledge, and education of the taxpayer may indicate reasonable cause and good faith. Sec. 1.6664-4(b) (1), Income Tax Regs. The Commissioner has the burden of production in any court proceeding with respect to any penalty or addition to tax. Sec. 7491(c). To meet this burden, the Commissioner must come forward with sufficient evidence that it is appropriate to impose the penalty or addition to tax, but he is not required to produce evidence relating to reasonable cause or other defenses. See Wheeler v. Commissioner, 127 T.C. 200, 206 (2006), affd. 521 F.3d 1289 (10th Cir. 2008); Swain v. Commissioner, 118 T.C. 358, 363 (2002); Higbee v. Commissioner, 116 T.C. 438, 446 (2001). Once the Commissioner has satisfied his burden of production, the taxpayer bears the burden of Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 21 proving that the Commissioner' s determination to impose the penalty or addition to tax is incorrect. Higbee v. Commissioner, supra at 447. In this case, we find that the respondent has satisfied his burden of production. The record contains ample evidence that petitioner failed to keep adequate books and records, and failed to properly substantiate the deductions claimed on her return. See Sec. 1.6662-3(b) (1), Income Tax Regs. At trial petitioner did not address the accuracy-related penalty or attempt to show that she qualifies for an exception to the accuracy-related I penalty. Accordingly, we sustain respondent's determination that petitioner is liable for the accuracy-related penalty pursuant to section 6662(a) for 2005. X. In order to give effect to our disposition of the disputed issue, decision will be entered for respondent . XI. THIS CONCLUDES THE COURT'S ORAL FINDINGS OF FACT AND OPINION IN THIS CASE. (Whereupon, at 11:05 a.m., the bench opinion in the above-entitled matter was concluded.) Heritage Reporting Corporation (202) 628-4888