TAX COURT OPINION

Case: Kwok Chow Hui & May Ching Chan
Docket Number: 11258-13
Judge: Morrison
Opinion Type: bench
Filed: 05/12/2014
Pages: 10

UNITED STATES TAX COURT WASHINGTON, DC 20217 KWOK CHOW HUI & MAY CHING CHAN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent ) ) ) ) ) ) ) ) ) Docket No. 11258-13. ORDER OF SERVICE OF TRANSCRIPT Pursuant to Rule 152(b), Tax Court Rules of Practice of Procedure, there is transmitted herewith to petitioners and to respondent a copy of the pages of the transcript of the trial of the above case before Judge Richard T. Morrison, at Houston, Texas, on March 19, 2014, containing his oral findings of fact and opinion rendered at the conclusion of the trial. In accordance with the oral findings of fact and opinion, an appropriate decision will be entered. (Signed) Richard T. Morrison Judge Dated: Washington, D.C. May 12, 2014 SERVED MAY 2 0 2014 Capital Reporting Company 3 1 2 3 Bench Opinion by Judge Robert T. Morrison Docket No. 11258-13 Kwok Chow Hui & May Ching Chan 4 March 19, 2014 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 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, which shall not be relied on as precedent in any other case. This bench opinion is made pursuant to the authority granted by section 7459(b) of the Internal Revenue Code and Rule 152 of the Tax Court Rules of Practice and Procedure. Unless otherwise indicated, all references to sections are to sections of the Internal Revenue Code in effect for 2006, the year at issue, and all references to rules are to the Tax Court Rules of Practice and Procedure. By a statutory notice of deficiency, the IRS determined a $33,192 deficiency in the federal income tax of the petitioners, Mr. Kwok Chow Hui and Ms. May Ching Chan, for the tax year 2006. It also determined an accuracy-related penalty under section 6662 of $6,6638.40 for 2006. The trial of this case was conducted on 25 March 17, 2014, in Houston, Texas. 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company Findings of Fact 4 Hui and Chan resided in Texas when they filed their petition. Hui was born in China. He worked for a number of years for the Hong Kong government, and he resigned in 1991. He immigrated to the United States and became a U.S. citizen. On May 7, 2006, Hui reached the age of 55, and the Hong Kong government began paying him his pension. He received an initial lump sum payment of $133,174 and a monthly pension payment of $811 every month thereafter. At Hui's direction, the Hong Kong government paid the lump sum directly into Hui's Hong Kong bank account. During 2006, he received total pension payments of $139,491 from the Hong Kong government. On their Form 1040EZ joint income-tax return for 2006, Hui and Chan did not report any pension income. They did report $47,478.19 of income from wages and unemployment compensation. They reported a tax liability of $3,831. In determining whether the pension payments from the Hong Kong government were taxable under Hong Kong tax law, Hui asked some friends who were CPAs. They did not know the answer. He found an article that he thought explained why the paymen were not taxable. 31,( 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 5 1 Additionally Hui thought the payments were not 2 3 4 5 6 7 8 9 10 11 12 taxable under Hong Kong tax law because no Hong Kong tax was withheld from the amounts he received and be - cause he received no information return from the Hong Kong government stating the payments were taxable. To ascertain the U.S. income-tax consequences of the payments, Hui did nothing. He simply assumed that because the payments were not taxable under Hong Kong tax law, the payments were not taxable under the U.S. income tax. On their 2006 return, Hui and Chan did not disclose their foreign bank account. On March 23, 2009, the IRS announced an 13 Offshore Voluntary Disclosure Initiative providing a 14 15 16 17 18 19 20 21 22 23 24 25 penalty framework for voluntary disclosures of previously undisclosed foreign bank accounts, foreign income or foreign entities. Hui and Chan applied for and were accepted into the program. They filed an amended return that apparently reported the Hong Kong bank account and reported the pension income. However, they apparently did not agree to the increase in tax that would result from including the pension income in income, nor did they agree-- apparently to the accuracy-related penalty on the resulting underpayment. Because Hui and Chan participated in the program, the IRS waived the 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 6 1 2 3 4 5 6 7 8 9 10 11 12 13 penalty for failing to disclose the foreign bank account. On February 21, 2013, the IRS issued a notice of deficiency determining a deficiency based on the original Form 1040EZ and determining the accuracy-related penalty based on the underpayment associated with the original Form 1040EZ. 1. Deficiency Opinion Generally, the IRS's determination of a deficiency is presumed correct, and the taxpayer bears the burden of proving that it is incorrect by a preponderance of the evidence. Rule 142(a); Welch v. 14 Helvering, 290 U.S. 111, 115 (1933) (the IRS's 15 16 17 18 19 20 21 22 23 determination is presumed correct); Estate of Gilford v. Commissioner, 88 T.C. 38, 51 (1987) (the burden of proof is satisfied by a preponderance of the evidence). The burden of proof is imposed on the IRS for factual issues that meet the requirements of section 7491(a). Hui and Chan do not contend, nor does the record allow us to conclude, that the requirements of section 7491(a) have been met. A U.S. citizen is taxed on his or her 24 worldwide income'¢ both U.S.-source and foreign-source T 25 income. Foley v. Commissioner, 87 T.C. 605, 608 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 7 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 (1986). Hui was a U.S. citizen during 2006. Therefore his gross income includes income from Hong Kong sources. Hui received the pension payments from the Hong Kong government in 2006. He exercised control over the payments. He directed that the lump sum payment be paid to his Hong Kong bank account. The pension payments are therefore includable in his gross income. They should have been reported on his joint federal income-tax return. Hui and Chan argue that the pension payments received in 2006 are not includable in income because the payments are not taxable under Hong Kong tax law. But there is no principle under U.S. tax law that foreign-source income that is not taxable in the foreign country must be excluded from 16 -dhe- income in calculating income for the U.S. income 7 17 18 19 20 21 22 23 24 25 tax. Hui and Chan argue that the pension payments received in 2006 are not includable in income because they can be rolled over to an IRA. yet they do not give any authority to support this theory. Consequently, the IRS's determination of the deficiency for 2006 is sustained. 2. Section 6662(a) accuracy-related penalty 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 8 1 2 3 4 5 6 7 8 9 The IRS determined that Hui and Chan are liable for a section-6662(a) accuracy-related penalty for substantial understatement of income tax. Section 6662(a) imposes a 20 percent penalty on any part of an underpayment that is attributable to a substantial understatement of income tax. Sec. 6662(a) and (b)(2). Generally, an "understatement" is the excess of the tax required to be shown on the return minus the tax shown on the 10 return. Sec. 6662 (d)}92) (A); sec. 1.6662-4 (b) (2), Rh 11 12 13 14 15 16 17 18 19 20 21 22 23 24 Income Tax Regs. An understatement is substantial if it exceeds $5,000 and if it exceeds 10 percent of the tax required to be shown on the return. Sec. 6662(d)(1)(A); sec. 1.6662-4 (b)(1), Income Tax Regs. Under two exceptions, an understatement may be reduced for purposes of calculating whether it is substantia An understatement is reduced by any part of the understatement attributable to any item the tax treatment of which there is or was substantial or any item that was adequately disclosed and the tax treatment of which there is a reasonable basis. Sec. 6662(d) (2)(B). Also, an exception to the accuracy-related penalty applies to any part of an underpayment for 25 which there was reasonable cause and good faith. 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 9 Sec. 6664(c)(1). Under section 7491(c), the IRS has the burden of production for penalties. See Higbee v. Commissioner, 116 T.C. 438, 446 (2001) (providing that the IRS must produce "sufficient evidence indicating that it is appropriate to impose the $ $3F RTT penalty"). The IRS need not introduce evidence on whether an exception to a given penalty applies A We RT find that the IRS has met its burden of proving that Hui and Chan have a substantial understatement of income tax. Hui and Chan failed to report $139,491 of pension payments as taxable income. This resulted in an underpayment of tax of $33,192, which is greater than $5,000. The understatement of $33,192 is also greater than 10 percent of the tax required to be shown on the return, i.e., 10 percent of $37,023. No exceptions to the substantial understatement penalty apply. Hui and Chan have not provided any substantial authority for their failure to report the pension payments. Likewise, Hui and Chan lacked a reasonablekv95 for failing to report the pension payments. Section 1.6662-3(b)(3), Income Tax Regs., provides that a "reasonable basis" generally exists if a return 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 10 position is reasonably based on an authority listed in section 1.6662-4(d)(3)(iii), Income Tax Regs. Hong Kong tax law is not an authority for these purposes. Furthermore, Hui and Chan did not disclose the pension payments on their original returns. In addition, Hui and Chan lacked both reasonable cause and good faith for failing to report the pension payments. They made little effort to determine the proper tax treatment of the payments. See sec. 1.6664-4(b) (1), Income Tax Regs. (providing that the most important factor in determining whether the taxpayer acted with reasonable and good faith is "the extent of the taxpayer's effort to assess the taxpayer's proper tax liability"). Hui determined that the pension payments were not taxable based on Hong Kong tax law and a guess about U.S. tax law. He testified that he did not consult any sources for the proper tax treatment of the payments under U.S. law. These efforts do not demonstrate reasonable cause -áhd good faith. We conclude that Hui and Chan are liable for the section 6662(a) penalty. 3. Conclusion. To give effect to the foregoing, a decision 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 will be entered in favor of the respondent. 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company This concludes the Court's Oral Findings of 11 Fact and Opinion in this case. (Whereupon, at 4:10 p.m., the above- entitled matter was concluded.) 1 2 3 4 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