TAX COURT OPINION

Case: Richard E. Farr
Docket Number: 28835-11S
Judge: Morrison
Opinion Type: bench
Filed: 06/03/2013
Pages: 8

UNITED STATES TAX COURT WASHINGTON, DC 20217 RICHARD E. FARR, ) Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent rn ) ) Docket No. 28835-11S. ) ) ) ) ORDER OF SERVICE OF TRANSCRIPT Pursuant to Rule 152(b), Tax Court Rules of Practice of Procedure, there is transmitted herewith to petitioner and to respondent a copy of the pages of the transcript of the trial of the above case before Judge Richard T. Morrison, at Wichita, Kansas, on May 15, 2013, 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 order will be issued and a decision will be entered reflecting a $6,212 deficiency in tax due from petitioner for 2009, and that petitioner is not liable for a section 6662(a) penalty for 2009. (Signed) Richard T. Morrison Judge Dated: Washington, D.C. June 3, 2013 . SERVED JUN - 4 2013 Capital Reporting Company 3 1 2 Bench Opinion by Judge Richard T. Morrison May 15, 2013 3 Richard E. Farr v. Commissioner 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 Docket No. 28835-11S 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 on as precedent in any other case. References to sections are to the Internal Revenue Code in effect for the year 2009. References to rules are to the Tax Court Rules of Practice and Procedure. This Bench Opinion is made pursuant to the authority granted by section 7459(b) and Rule 152. This proceeding for the redetermination of a deficiency is a small tax case conducted pursuant to the provisions of section 7463 and Rules 170 through 175. Ms. Shaina E. Boatright appeared on behalf of the respondent (the "IRS") . Mr. Richard E. Farr, the petitioner, appeared on his own behalf. The IRS issued a statutory notice of deficiency to Farr for his 2009 tax year. In the notice, the IRS determined that Farr is liable for a 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 1 2 3 4 5 6 7 deficiency of $6,212 and a section 6662(a) penalty of $1,242. FINDINGS OF FACT Farr was a resident of Kansas when he filed his petition. During 2009, Farr was a 12% shareholder of the stock of HLS Restaurant Corporation ("HLS"), an S 8 Corporation. 9 On or about September 15, 2010, HLS filed a 10 Form 1120S, U.S. Income Tax Return for an S 11 Corporation. It reported that it had income of 12 13 14 15 16 17 18 19 20 21 22 23 24 25 $281,346. HLS filed a Schedule K-1 (Form 1120S), Shareholder's Share of Income, Deductions, Credits, etc., reporting that Farr's 12% share of the income was $33,761. Farr did not receive a copy of the Schedule K-1. Farr timely filed a Form 1040EZ, Income Tax Return for Single and Joint Filers with No Dependents, for the 2009 tax year. Farr did not report any income from HLS on the Form 1040EZ. On September 19, 2011, the IRS issued a notice of deficiency to Farr for the 2009 tax year. The IRS asserts, and Farr does not dispute, that the deficiency was premised on the theory that Farr failed to report the $33,761 as his 12% share of 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 5 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 HLS's income. OPINION 1. Deficiency Generally, the IRS's determinations are presumed correct, and the taxpayer bears the burden of proving that those determinations are erroneous. Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). Under section 7491(a) (1), the burden of proof may shift from the taxpayer to the IRS if the taxpayer produces credible evidence with respect to any factual issue relevant to ascertaining the taxpayer's liability. Our findings of fact are based on the preponderance of the evidence; therefore it is unnecessary to determine who bears the burden of proof. See Martin Ice Cream v. Commissioner, 110 T.C. 189, 210 n.16 (1998). A shareholder of an S corporation must recognize his or her pro rata share of the S corporation's annual income even if the S corporation does not distribute the income to the shareholder. Sec. 1366(a); sec. 1.1366-1(a) (1), Income Tax Regs; Knott v. Commissioner, T.C. Memo. 1991-352, 1991 Tax 23 Ct. Memo LEXIS 401, *3-4. Farr was a 12% shareholder 24 25 in HLS. His share of HLS's 2009 income was $33,761. Therefore Farr was required to include the $33,761 in 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 6 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 his income. Around 2007 or 2008, Farr complained to John E. Tuma (a 52% shareholder of HLS who effectively controlled the company) that he had received no distributions from HLS. Tuma told Farr he would be paid "the money he was owed" only if Farr gave up his shares in the company. Farr was unwilling to give up his shares in the company. He considered what Tuma said to be extortion. The conversation with Tuma does not establish that Farr was no longer an owner of HLS. Furthermore, the conversation does not establish that Farr suffered a loss for which a deduction is available in 2009 under section 165(a), allowing a deduction for "any loss"; section 165(e), allowing a deduction for "any loss arising from theft"; or section 165(g) (1), allowing a deduction for a resulting loss "[i]f any security which is a capital asset becomes worthless during the taxable year". Using section 165(g) (1) as an example, it cannot be said that Farr's shares in HLS were 22 worthless at the end of 2009. Nothing in the record 23 24 25 precludes the possibility that HLS might make distributions to its shareholders in the future. 2. Penalty 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 The IRS contends that Farr is liable for a section 6662(a) penalty for 2009 because his underpayment of tax for 2009 was due to negligence or disregard of rules or regulations. Section 6662(a) 1mposes an accuracy-related penalty equal to 20% of an underpayment attributable to negligence or disregard of rules or regulations. Sec. 6662 (a) and (b) (2). Negligence includes any failure to make a reasonable attempt to comply with the tax laws. Sec. 6662(c); sec. 1.6662-3(b) (1), Income Tax Regs. The accuracy-related penalty does not apply to any portion of an underpayment if it is shown that there was reasonable cause for, and that the taxpayer acted in good faith with respect to, such portion. Sec. 6664 (c) (1). In determining 16 whether the taxpayer acted with reasonable cause and 17 18 19 20 21 in good faith, the guidance in section 1.6664- 4 (b) (1), Income Tax Regs., is applicable: the most important factor is the the taxpayer's effort to assess the Generally, extent of taxpayer's proper tax liability. Circumstances that may indicate reasonable cause and good faith include an honest misunderstanding of fact or law that is reasonable in light of all of the facts and cir.cumstances, 22 including the - 7 experlence, knowledge, and education of the 23 taxpayer. 7 24 25 The IRS has the burden of production under section 7491(c) with respect to the accuracy-related 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 8 penalty. To meet that burden, the IRS must come forward with sufficient evidence that it is appropriate to impose this penalty. See Higbee v. mmissioner, 116 T.C. 438, 446 (2001). Although the IRS bears the burden of production with respect to the accuracy-related penalty, the IRS "need not introduce evidence regarding reasonable cause, substantial authority, or similar provisions." Id. The taxpayer "bears the burden of proof with regard to those issues." Id. The IRS argues that Farr was issued a Schedule K-1, but that he did not make a satisfactory investigation of the tax treatment of the income reported on the Schedule K-1. The IRS further argues that Farr was plainly required to report his pro rata share of HLS's income. Although Farr never received a Schedule K- 1, he could have requested a Schedule K-1 from HLS. Therefore, his failure to receive a Schedule K-1 is not relevant. What is relevant is whether Farr reasonably considered the tax treatment of his investment in HLS. Farr was an unsophisticated investor. He may be forgiven for thinking that his ownership rights in HLS had become so attenuated as to be nonexistent. Although Farr owned 12% of HLS in 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 9 2009, he had received no communications from HLS since his conversation with Tuma in 2007 or 2008, at which time Tuma refused to make any payments to Farr. Furthermore, Farr had never received any distributions from HLS. We find that Farr was not negligent in omitting his pro rata share of HLS's income from his 2009 tax return. We also find that there was reasonable cause for the omission and that Farr acted in good faith. 3. Conclusion Contentions of the parties not discussed in this Bench Opinion are unmeritorious, redundant, or 1 2 3 4 5 6 7 8 9 10 11 12 13 14 moot . To reflect the foregoing, a decision will be entered reflecting a $6,212 deficiency in tax due from Farr for 2009, and that Farr is not liable for a section 6662(a) penalty for 2009. This concludes the Court's Oral Findings of Fact and Opinion in this case. (Whereupon, at 10:21 a.m., the above- entitled matter was concluded.) 15 16 17 18 19 20 21 22 23 24 25 866.488.DEPO www.CapitalReportingCompany.com