TAX COURT OPINION

Case: Stephanie Brownstein a.k.a. Stephanie Fanning and Craig Fanning
Docket Number: 11862-15S
Judge: Guy
Opinion Type: bench
Filed: 12/12/2016
Pages: 14

UNITED STATES TAX COURT WASHINGTON, DC 20217 PA STEPHANIE BROWNSTEIN A.K.A. STEPHANIE FANNING AND CRAIG FANNING, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent ) ) ) ) ) ) Docket No. 11862-15S. ) ) ) ) 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 petitioners and to respondent a copy of the pages of the transcript of the trial in the abovecaptioned case before Special Trial Judge Daniel A. Guy, Jr., at Los Angeles, California, on November 30, 2016, containing his oral findings of fact and opinion rendered at the trial session at which the case was heard. In accordance with the oral fimdings of fact and opinion, decision will be entered for respondent. Dated: Washington, D.C. December 12, 2016 (Signed) Daniel A. Guy, Jr. Special Trial Judge SERVED Dec 14 2016 Capital Reporting Company Bench Opinion by Special Trial Judge Daniel A. Guy, 3 Jr. November 30, 2016 Stephanie Brownstein a.k.a. Stephanie Fanning and 1 2 3 4 5 Craig Fanning v. Commissioner . 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 Docket No. 11862-15S THE COURT: 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. The oral findings of fact and opinion shall not be relied upon as precedent in any other case. This proceeding for the redetermination of a deficiency is a small tax case conducted pursuant to the provisions of section 7463 of the Internal Revenue Code of 1986, as amended, and Rules 170 through 174 of the Tax Court Rules of Practice and Procedure. This bench opinion is made pursuant to the authority granted by section 7459(b) of the Internal Revenue Code of 1986, as amended, and Rule 152 of the Tax Court Rules of Practice and Procedure. 23 Hereinafter in this bench opinion, section references 24 25 are to the Internal Revenue Code of 1986, as amended, in effect for 2011 and 2012, and Rule references are 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 4 1 2 to the Tax Court Rules of Practice and Procedure. Respondent issued a Notice of Deficiency to 3 Petitioners determining income tax deficiencies of 4 5 $28,526 and $6,598 for the taxable years 2011 and 2012, respectively. Respondent also determined that 6 Petitioners are liable for accuracy-related penalties 7 under section 6662(a) for the years in issue. 8 Petitioners timely filed a petition for 9 redetermination with the Court pursuant to section 10 6213(a). At the time the petition was filed, 11 Petitioners resided in California. 12 13 14 We must decide whether Petitioners are (1) liable for income tax and the additional tax imposed under section 72(t) in respect of a premature 15 distribution from an individual- retirement account 16 17 18 19 20 21 22 23 (IRA) in 2012; (2) entitled to business deductions reported on Schedule C, Profit or Loss From Business, for legal expenses and expenses related to the business use of their home, in excess of amounts allowed by Respondent; and (3) liable for.accuracy- related penalties. The Court conducted a partial trial in this case in Los Angeles, California, on May 23, 2016. 24 Craig Fanning appeared and informed the Court that 25 his wife, Ms. Brownstein, was aware of the proceeding 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 5 1 2 3 and that she was content to permit him to represent her interests. Daniel V. Triplett appeared on behalf of Respondent. At the conclusion of the proceedings, '4 the Court continued the case to its trial calendar in 5 6 7 8 9 Los Angeles, California, scheduled for November 28, 2016, and left the record open to allow the parties to obtain documentation related to the purported IRA distribution. On September 8, 2016, Respondent filed a 10 status report and attached thereto documents that 11 Morgan Stanley Smith Barney (Morgan Stanley) recently 12 13 14 15 produced regarding the IRA distribution. This case was called and recalled from the trial calendar in Los Angeles on November 28 and 29, 2016. There was no appearance by or on behalf of 16 Petitioners. Mr. Triplett again appeared on behalf 17 18 19 20 21 22 23 24 25 of Respondent. Background Mr. Fanning earned a bachelor's degree from the University of Maryland and a master's degree fr m the American Film Institute. During the years in issue, he ran a commercial production company specializing in music videos, and Ms. Brownstein served as a manager for recording artists. on April 26, 2012, Morgan Stanley issued a 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 6 1 2 check for $8,488.73 to Mr. Fanning. On February ll, 2013, Morgan Stanley issued a Form 1099-R, 3 Distributions From Pensions, Annuities, Retirement or 4 Profit-Sharing Plans, IRAs, Insurance Contracts, 5 etc., reporting that Mr. Fanning had received an IRA 6 distribution of $8,488.73 in 2012. 7 8 9 10 11 12 13 14 15 16 17 18 Mr. Fanning testified that he could not specifically recall receiving an IRA distribution in 2012, and that he believed he had transferred the retirement account in question to his former spouse as part of a divorce settlement. Petitioners timely filed joint Federal income tax returns for 2011 and 2012. Petitioners did not report any income in respect of an IRA distribution on their tax return for 2012. Both of Petitioners' tax returns were accompanied by a Schedule C, Profit or Loss From Business, related to Mr. Fanning's music video 19 activity. On the Schedule C for 2011, Petitioners 20 21 22 23 24 claimed a deduction of $70,199 for legal expenses. The record shows that Michael Tenenbaum, an attorney, provided legal assistance to- Petitioners in a case styled Brownstein v. Baker Equine Hospital, Inc., while that matter was on appeal to the 25 California Court of Appeals. The $70,199 amount that 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 7 1 Petitioners claimed as a deduction was merely an 2 3 4 5 6 7 8 9 10 11 12 13 estimate of the value of Mr. Tenenbaum's legal services. Respondent disallowed $65,740 of the $70,199 deduction that Petitioners claimed for legal expenses. Petitioners claimed deductions of $84,815 and $45,445 for the business use of their home on the Schedules C for 2011 and 2012, respectively. Mr. Fanning testified that the couple's home comprised approximately 1100 square feet of living space and that he and Ms. Brownstein "use absolutely 100 percent of our house for work." Respondent di.sallowed $41,877 and $20,981 of the deductions that 14 Petitioners claimed for business use of their home 15 16 17 18 19 20 21 for 2011 and 2012, respectively. Petitioners' tax returns for 2011 and 2012 were prepared by Carlos Ellison,·a tax return preparer who had prepared Petitioners' tax returns for five or six years. Mr. Ellison is not a certified public accountant and Mr. Fanning could not recall whether Mr. Ellison inquired whether 22 Petitioners had any documentation to support the 23 business deductions in dispute in this case. 24 Discussion 25 As a general rule, the Commissioner's 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 8 determination of a taxpayer's liability in a Notice of Deficiency is presumed correct, and the taxpayer bears the burden of proving that the determination is incorrect. Rule 142(a); Welch v.. Helvering, 290 U.S. 111, 115 (1933). Under section 6201(d), however, the Commissioner, in certain circumstances, cannot rely on information returns alone to establish unreported income and is required to produce reasonable and J probative information in addition thereto. Section 6201(d) applies only where the taxpayer asserts a reasonable dispute with respect to any item of income reported on an information return and only if the taxpayer has fully cooperated with the Secretary. Premature IRA Distribution Section 61(a) provides that gross income means all income from whatever source derived. 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 Distributions from a qualified retirement plan 19 20 21 22 23 normally constitute gross income subject to Federal income tax. See secs. 61(a) and (b), 72(a) (1), (e), 408(d)(1); see also Arnold v. Commissioner, 111 T.C. 250, 253 (1998). By definition a "qualified retirement plan" includes an IRA. See sec. 4974(c); 24 Uscinski v. Commissioner, T.C. Memo. 2005-124. 25 Generally, if a taxpayer received a 866.488.DEPO -www.CapitalReportingCornpany.com Capital Reporting Company 9 1 2 3 4 5 6 7 8 9 10 11 12 13 14 distribution from a qualified retirement plan before attaining age 59-1/2, section 72(t) imposes an additional tax equal to 10% of the portion of the distribution which is includible in the taxpayer's gross income. Sec. 72(t)(1) and (2). The additional tax is intended to discourage taxpayers from taking premature distributions from retirement plans -- actions that frustrate public policy encouraging saving for retirement. See Dwyer v. Commissioner, 106 T.C. 337, 340 (1996)(citing and discussing the legislative history underlying section 408(f), the statutory predecessor to section 72(t); Milner v. Commissioner, T.C. Memo. 2004-111. Respondent produced records which show that 15 Morgan Stanley issued a check for $8,488 to Mr. 16 17 18 19 20 21 22 23 Fanning in April 2012. Mr. Fanning did not appear when this case was called and recalled.on November 28 and 29, 2016, and he did not cooperate with Respondent in preparing a Stipulation of Facts related to the Morgan Stanley documents. On this record, we conclude that Mr. Fanning received a premature IRA distribution in 2012, and we sustain Respondent's determination that 24 Petitioners are liable for income tax and additional 25 tax imposed under section 72(t) in·the amounts set 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 10 1 2 3 4 5 6 7 8 9 10 11 12 13 forth in the Notice of Deficiency. Legal Expenses and Business Use of Home Deductions are a matter of legislative grace and the taxpayer generally bears the burden of proving entitlement to any deduction claimed. Rule 142(a); INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 (1992); New Colonial Ice Co. v. Helvering, 292 U.S. 435, 440 (1934). Petitioners do not contend that the burden of proof should shift to Respondent pursuant to section 7491(a) in respect of the business deductions in dispute in this case, and there is no support in the record for doing so. Therefore, the burden of proof remains on 14 Petitioners. See Rule 142(a). 15 16 17 18 19 A taxpayer must substantiate deductions claimed by keeping and producing adequate records that enable the Commissioner to determine the taxpayer's correct tax liability. Sec. 6001; Hradesky v. Commissioner, 65 T.C. 87, 89-90 (1975), 20 aff'd per curiam, 540 F.2d 821 (5th Cir, 1976) 21 Meneguzzo v. Commissioner, 43 T.C. 824, 831-832 22 23 24 25 (1965). Under section 162(a), a deduction is allowed for ordinary and necessary expenses paid or incurred during the taxable year in carrying on any 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 11 1 2 trade or business. The determination of whether an expenditure satisfies the requirements for 3 deductibility under section 162 is a question of 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 fact. See Commissioner v. Heininger, 320 U.S. 467, 475 (1943). A deduction normally is not available for personal, living, or family expenses. Sec. 262(a). The Court is not obliged to accept testimony that is self-serving and uncorroborated by objective evidence. See Cluck v. Commissioner, 105 T.C. 324, 338 (1995). As previously mentioned, the deduction of $70,199 that Petitioners claimed for legal expenses in 2011 is merely an estimate of the value of the legal services that Mr. Tenenbaum provided to them. The record includes a letter from Mr. Tenenbaum in which he states that he received six airline tickets from Petitioners in 2011 that he estimated were worth $7,800. Mr. Tenenbaum was not called as a witness at trial, however, and there is not objective evidence such as invoices, bank records, or airline mileage account statements that would support Petitioners' claim that they paid or transferred $70,199 to Mr. Tenenbaum in 2011. Under the circumstances, 25 Respondent's determination disallowing the majority 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company of the deduction that Petitioners claimed for legal expenses is sustained. A taxpayer generally is not entitled to 12 deduct any expenses related to a dwelling unit used dunn3+he as a residence taxable year. Sec. 280A(a). Expenses p6- attributable to a home office are excepted from this general rule, however, if the expenses are allocable to a portion of the dwelling unit which is exclusively used on a regular basis as the principal place of business for the taxpayer's trade or business or as a place of business which is used by clients or customers in meeting or dealing with the taxpayer in the normal course of his trade or business. Sec. 280A(c)(1); Lofstrom v. Commissioner, 125 T.C. 271, 277 (2005). Although we have no reason to doubt Mr. Fanning's testimony that Petitioners regularly used their home for business purposes, we are not convinced that they used their entire personal residence "exclusively" for business purposes within the meaning of section 280A(c) (1). Inasmuch as 1 2 3 .4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 Petitioners have failed to show that Respondent erred 23 24 25 in disallowing a portion of the deductions that they claimed for the business use of their home during the taxable years in issue, Respondent's determinations 866.488.DEPO www.CapitalReportingCompany.com (Capital Reporting Company 13 are sustained. Section 6662(a) Section 6662(a) and (b)(1) and (2) imposes an accuracy-related penalty equal to 20% of the amount of any underpayment of tax that is due to the taxpayer's negligence or disregard of rules or regulations or that is attributable to any substantial understatement·of income tax. Negligence includes any failure to make a reasonable attempt to comply with the Code. Sec. 6662(c). An understatement means the excess of the amount of tax required to be shown on the return over the amount of the tax imposed, which is shown on the return, reduced by any rebate. Sec. 666 (d)(2)(A). An understatement is substantial in the case of an individual if the amount of the understatement for the taxable year exceeds the greater of 10% of the tax required to be shown on the return or $5,000. Sec. 6662 (d) (1) (A) . With respect to an individual taxpayer's liability for any penalty, section 7491(c) places on the Commissioner the burden of production, thereby requiring the Commissioner to come forward with sufficient evidence indicating that it is appropriate to impose the penalty. Higbee v. Commissioner, 116 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 14 1 T.C. 438, 446-447 (2000). Once the Commissioner 2 meets his burden of production, the taxpayer must 3 4 5 6 7 8 come forward with persuasive evidence that the Commissioner's determination is incorrect. Id. at 447; see Rule 142(a); Welch v. Helvering, 290 U.S. at 115. Respondent met his burden·of production in this case inasmuch as Petitioners failed to maintain 9 adequate records and they were unable to substantiate 10 11 12 13 substantial portions of the business deductions they claimed for legal expenses and business use of their home during the years in issue. See sec. 1.6662- 3(b)(1), Income Tax Regs. Moreover, it appears that 14 Petitioners substantially understated their income 15 16 17 18 19 20 21 22 23 24 25 tax liabilities for the years in issue. See sec. 1.6662-4 (b) (1), Income Tax Regs. . Section 6664 (c)(1) provides an exception to the imposition of the accuracy-related penalty if the taxpayer establishes that there was reasonable cause for, and the taxpayer acted in good faith with respect to, any portion of the underpayment of tax. Sec. 1.6664-4(a), Income Tax Regs. The determination of whether the taxpayer acted with reasonable cause and in good faith is made on a case-by-case basis, taking into account the pertinent facts and 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 15 1 2 3 4 5 6 circumstances. Id. para, (b) (1) . Mr. Fanning did not offer a meaningful defense to the imposition of accuracy-related penalties. Although Petitioners' tax returns were prepared by a paid tax return preparer, we cannot say on this record that Petitioners reasonably relied on 7 Mr. Ellison or that they otherwise have shown 8 reasonable cause or that they acted in good faith 9 with respect to the underpayments of tax for the years in issue. Consequently, Respondent's determination that Petitioners are liable for accuracy-related penalties is sustained. Decision will be entered for Respondent. This concludes the Court's oral findings of fact and opinion. (Whereupon, at 9:57 a.m., the above- entitled matter was concluded.) 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 866.488.DEPO www.CapitaIReportingCompany.com