TAX COURT OPINION

Case: Sang J. Park & Won Kyung O
Docket Number: 14159-09
Judge: Cohen
Opinion Type: reported
Filed: 06/13/2011
Pages: 26

136 T.C No. 28 UNITED STATES TAX COURT SANG J. PARK & WON KYUNG O, Petitioners y_. COMMISSlONER OF INTERNAL REVENUE, Respondent SANG J. PARK, Èetitioner y. COMMIS$IONER OF INTERNAL REVENUE, Respondent Diocket Nos. 14159-09, 30063-09. Filed June 13, 2011. P, a South Korean national and nonresident alien, hèd'U.S. gamblincj winnings aihd interest indome that was not effectively connected with a U.S. business. trade or Held: " " The' Treaty of Friendship Commerce and 8 U.S.T. 2217, providen exceptions to the most Navigation, U.S.-S. Kor., art. XI, par. 5(b), Nov. 28, 1 56, favored-nation treatment under art. XI, par. does not'extend to South Korean nationåls the more favorable treatment regarding exemption from U.S. income tax df gambling winnings as provided for in some bilateral has entereel 3 and thus income tax treaties that the United States into with other boreïgn countries. 3EVED JUN 1 3 20H - 2 - Held, further, P's gambling activities were not personal services or a U.S. gambling income is not considered income that is effectively connected with a U.S. is taxable under I.R.C. sec. 871(a) . trade or business; thus the trade or business and Held, further, the interest income reported by a third party U.S. national bank is excluded from Federal income tax under I.R.C. sec. 871(i) (1) and (2) as income from bank deposits . remaining interest income is from deposits that qualify f or U. S. tax exemption under I . R.. C . sec . 871 (i) . Ps have not shown that the Held, further, Ps are liable for the accuracy- related penalties under I.R.C. sec. 6662(a) and (b) (1) or (2). Denis M. McDevitt, for petitioners. Erin K. Salel, for respondent. OPINION COHEN, Judge: In these consolidated cases, respondent determined a deficiency of $134,350 in income tax and an accuracy-related penalty of $20,774 with respect to the jointly filed 2006 Federal income tax return of Sang J. Park (petitioner) and Won Kyung O (petitioner -wife) and a deficiency of $23,821 in incóme tax and an accuracy-related penalty of $4, 438 with respect to petitioner' s 2007 income tax return. Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure . The issues for decision are (1) Whether petitioner' s 2006 and 2007 gambling winnings are súbject ;to tax under section - 871(a); (2) whether petitioner'sygambling income is effectively connected with a U.S. trade or business; (3) whether the interest income earned irr 2006 sand-2007 is subject9toe tax; and (4) whether the section 6662 (a) accuracy-relŠted penalties in posed should be sustalined: Background These cases were submitted" fully stipulatedi under Rule'122. The stipulated facts are incorporated as our findings by this reference. Petitioners ares married and are citi-zens and residënts of the Republic of. Sout h Korea (South Korea) and had South: Korean pas sport s - during the - years at is sue . Pe t it ioners were nonresident aliens in 2006 -and 2007~,ai.e., they were not citizens ,of the United States, ~.and neither had a permanent resident card (g ceen card) . - PetÉtioner has a Social Security number thats he obtained while m att ending. college - in the United States; in the mid-1970s a Petitioner works as a full-time/high-ranking-business executive for a Large chemical 'cdmpanye in South Korea. Petitioner's emp Loyer pays for petitioners'' son to' attend school in. the United States and for petitioners -to- travel to the United Statessto visit their son..--Petitioner wife also has'other-family living in- the United Statest 4 m - 4 - During the years in issue, petitioners traveled to' the United States for_vacation and to visit family a number of times. Petitioner enjoys gambling, and during these trips he frequented the,Pechanga Resort & Casino .(Pechanga) in Temecula, California, to play the slot machines . . Petitioner gambled at Pechanga on. 20 of- the approximately 68 days- that he was in the United States in 2006 and on 11 of the approximately 46 days that he was in the United States in 2007. With respect to the gambling activity, petitioner did not have a business plan.and did not keep books and records . Petitioner did not use for gambling money that was needed to support his family. Petitioner wife had no involvement in any gambling or gaming activities . In 2006, petitioner won 138 slot machine jackpots of $1, 200 or more, with total gambling winnings of $431,658. Pechanga withheld 30 percent of the winnings for payment of Federal income tax-on three of those jackpots (two jackpots of $50,000 and one of $1,600), for a total of $30,480. withheld for taxes. A report prepared by Pechanga showed that petitioner had losses that exceeded his 2006 winnings by $4,663. On February - 18 , 20 07,, - petitioner provided his - Social Security- number to Pechanga and signed a Form W-9, Request for Taxpayer Identification Number and /Certification, certifying that he was not subject to backup withholding and that he was a U.S. person (including a U.S. resident alien). In 2007, petitioner won 43 slot machinet jackpots of $1, 200 or more w th total 2 U gambling winnings of- $103, 874 . Pechanga withheld 30 percenty of the winnings for payment òf Fede al incómë tax on th ee ijackpots ( jackýots of $$2, 620 ,0 $1,' 4'40 ; and $1¯, 380 ) , f or a total of $1, 632 . A reporti prepared by Pechanga shÓwed that petitiòñer- had*losses that exceeded his 20 07 winnings Úy' $45, 130 . So Petitioner received÷ from soùrces within thelUnited States other income that was noteéffectively coñnected with a U.Setiade or butsiness in 2006: (1) Intereàt income of $6, 585; (2) eajpital gain- incomes of $52, 792; and (3) ividend ncome ofa $7, 471 (taxable at a rate" of 15 percent under the -Convëntions foï- tihet Avoidance of Double Taxation and thël Prevention of Fiscal NEve.sion with Rësp'ect To I'axes on Income and the Encouragement of" - International*Trade and Investmelit, U.S.-S. Koi ,marts 12,Mar. (2) (a), June 4, 1.976 30 U.SiT. $253 (U.S;-Korea income tax treaty) ) . Petitioner wife 'had n U. S soürce iricame Petitioners filèd a Form 10 0, U.S. ]!ndividual income ½ax Return, for 2006 as -married "filii g ointly, pr'ëpared by a bookkeeping+service.4 Petitioner did ñòt trepoÝt any gambling winnings or añy'associated expenses. They did-report petitioner's òther *U.S. source iricotúe The payersofathé iñÙerest ancome-was «listed as Bankiof'Amerida In 20.07; -pe tidionét also received from sources within the United States income that was not effecti elyTonnectedawithda - 6 - U.S., trade or business: (1) Interest income of $11,830 and (2) dividend income of $3,046 (taxable at a rate of 15 percent under the U.S.-Korea income tax treaty, art. 12, par. (2) (a)). Petitioner filed a Forme1040 for 2007 and reported the interest and dividend income from sources within the United States, but he did not report the gambling income or any associated expenses. .The payer of $11,662 of interest-income was listed 'as "FEDL HOME LOAN BK CONS DISC". -Petitioner's, 2007. return.was prepared by a certified public accountant. Pechanga reported petitioner's jackpot winnings of $1,200 or more to the Internal Revenue Service (IRS) on completed Forms:W- 2G, 4Certain Gambling Winnings, for 2006 and 2007. The IRS - examined the 2006 and 2007 tax returns and determined that petitioner received unreported gambling income of $431,658 in 2006 and $103,874 in 2007., The IRS did not receive reporting from third parties with respect to the interest income of $6,585 and $11,662, as:reported on the 2006 and 2007 tax returns respectively. However, the IRS made -adjustments to the interest income as reported on the 2007 return to reflect information reported from third parties: (1) $4 less $1 withholding from Wells Eargo Bank, N.A. (a U.S. national bank chartered and regulated by the Office of the Comptroller of the Currency) and (2) $165 from,First Clearing, L.L.C. The IRS sent a notice of deficiency to petitioners on March 23, 2009, for determined 1 - 7 - deficiencies and an accuracy-relÄted penalty with respecê to 20062 On November 9, 2009 the IRSesent a notice of .deficiency to petitioner -for determined deficiencies land an accuracy-reláted penalty 'with respect to 2007. The parties sagree that petit ioners are nonresident aliens and that for both 2006 and 2007"Förmé 1040 were erroneously filed instead of Forms 1040NR, U.S. Nonresident lien Income Tax Return. Discu sion a Gambling wi anings, includincj slot machine Winriings are gross income. See sec. 61; United States v. Monteiro, 871 F.2d 204, 206 (1st Cic. 1989); Johnstón vi. Commissioner; -25 T.C. 106, 107 -108 (1955) . In general, "int erest * s * * -, dividends rents , salariese, wages; premiums, annuit ies, comyensations remunerations, emoluments, and ot her fixed or determinable annual or-periodical gaEns, profits, tand?income" that, are received 'by a nonresident alie:1 from sources w thin the United'States and that are not -effectively connected with a U.S. trade or business are subject to a 30-percent tax. Sec. 871(a) (1) . Gambling winnings paid to a nonres Ldent alien fall within this provision, with - limitéd exceptions . See sec 87 ( ) ; Abeïd v. Commissioner, 122 T.C. 404, 6406-407 (2004); Barba 6 United States, 2 Cl. Ct. -674, 675-678 (1983) . The' parties agreé that petitioner's U.S. gambling winnings are considered (U.S. source income. - 8 - Generally, a recreational or casual gambler's gross income from a wagering transaction should be calculated by subtracting the bets placedyto produce the winnings, not as a deduction in calculating adjusted gross income or taxable income but as.a preliminary computation in determining gross income. See Lutz v. Commissioner, T.C. Memo. 2002-89. - A recreational gambler who plays the slot machines recognizes a wagering gain or loss at the time tokens are redeemed and the taxpayer can definitely calculate the amount above or below basis (the wager) realized. See Shollenberger v. Commissioner, T.C. Memo. 2009-306. Section 6001 and the regulations thereunder require taxpayers to keep permanent records sufficient to substantiate the amounts of income, deductions, and credits shown on'their tax returns. Sec. 1.6001-l(a) Income Tax Regs. Petitioner did not keep books and records with respect to hist gambling activities. Petitioner's slot machine jackpot,winnings of $1,200 or more for the years in issue are included in the record, but petitioners have not supplied evidence ,with respect to the wagering money used to generate the winnings on a per-session basis or otherwise. A nonresident generallyscannot deduct or offset gambling losses against gambling winnings. See sec. 873; Barba v. United States, supra; cf. sec. 165(d),; Shollenberger v. Commissioner supra (gambling losses other than in the trade or business sof - 9 - gambling are allowable, if at all, as iten ized deductions in calculating taxable income) ; Mac] v. Commissioner, T.C. Memo. 1969-26, affd. 429 F.2d 182 (6th Cii~. 1970) ,(gambling losses incurred other than "in the. trade or business of gainbling- are allowable for Ú.S. citizens or aliens residing in the United States, to the ex ent of the gambling winnings) . eThus, a nonresident alien who is not engaged .in gambling as a business within the United States ,is subject to tax, under, section - 871(a) (1) on gross income; from gambling without a deduction, for gambling losses. Mhen gambling winnings of $1,200 or nore from a bingo game or slot machine play are paid, tl e payer is required to- inform the IRS of the payments . .See sec a 6041 (a) ; sec .T 7 . 6041-1 (a) , Temporary Income Tax Regs.., 42 Fed. Reg. 33286 (June 30,7 19T/) ; see also Lyszkowski v. Commissiorier, T.C. Memo. 1995-235s (describing the information repo ting requirements for slot a machine ¿jaåkpotse , affd.; without published opinion 79 F.3d 1138 (3d Cir. 31996) . In determining the amount won ifrom such games,, for a bingo game or slot machine play, the amount wagered is not deducted. See sec. 7.6041-1(b) ( ) and (2) Temporary Income Tax Regs . stipra . For nonresident aliens, sectione1441(a) generally requires the payer of gambling s winnings tNwithhold from such *items a tax equal to 30 percent and to submit the amounts withheld to the - 10 - IRS. The withholding entity also must file a Form 1042 S, Foreign Person's U.S. Source Income Subject to Withholding, with the IRS to report these gambling winnings and provide a copy of the form to the recipient for whom the form is prepared. See sec . 1.1461-1 (b) and (c) , Income Tax Regs . The tax and withholding requirements apply to U.S. source gambling winnings of nonresident alien individuals unless the proceeds are exempt under provisions not relevant here or a treaty provision applies. See sec. 894 (a) . When interpreting a treaty, we begin with the, text of the treaty and -the' context in which the written words are -used. E. Airlines, Inc. v. Floyd, 499 U.S. -530;, 534 (1991); Sumitomo Shoii Am., Inc. v. Avaqliano, 457 U.S. 1'76, 179-180 (1982) . . The plain words of the treaty control unless their effect is contrary to the intent of .the s ignatories . Sumitomo Shoi i Am. , Inc . v . Avagliano, supra at 180; Amaral v. Commissioner, 90 T.C. 802; 812 (1988) . The words of a treaty are to be interpreted according to their ordinary meaning as understood in the public law of nations. Amaral v. Commissioner, supra at 812. Where the Internal Revenue Code provides for the taxation of income, "Whatever basis there may be * * * for relieving the * * * tax must be found in the words or implications of the * * * [treaty] ." Maximov v. United States, 373 U.S. .49, 51 (1963) ; cf . - 11 - DiPortanova V. United States 231 Ct. Cl. 623, 690 F.2d 169, 177 (1982) . The U.S. -Korea income t x treaty entered into force ön Octobers 20, 1979 Article 4 paragraph (1) of this trëaty provides: ? - A resident of one of the Contracting States may; be taxed by the other Contracting State on any income from sources, wit ins that other Contracting State and only' on Áuch income this Conven ion. in Article 6 (Source of determine t e source of Incobe) shall be applied to incone. - For this purpose,a the rules set forth a subject to any limitations set forth in Article 6 paragraph (9) of the U..S. -Korea income :tax treaty provides that ïncome not otherwis addressed as is -the aase with gambling income, shalli be determined by ea h of ther Coritracting States in accorda.nce with i-ts :own law'. The U S. Korea income tax treaty does not establish an exemytion from tax for South Korean residents with respect to U.S. gagbling income, and there istno provision permitt ing South Koreant residents to deduct 'gambling' losses or to otherwise hete gainbling losses against gambling winnings . Ac cordingly, pe t it ioner ' s gambling winnings are e taxable under section 87/1 (a) (1) , and no deductions are permitted for gambling losses. .Petitioners do not argue that petitio er'-s gambling income is not taxable under the U S. -Korea 'income tax t reaty, but they contend that the Treaty of Friendship, Commerce and Navicgation, - 12 - U.S.-S. Kor., art. XI, Nov. 28, 1956, 8 U.-S.T. 221'7 (FCN. treaty), entitles them to exemption from U.S. tax on the gambling incotne. The FCN treaty is one of a se-ries of Friendship, Commerce and Navigation Treaties that the United States signed with various countries after World War II. The treaties were initially negotiated for the purpose of encouraging American investment abroad but also, secured reciprocal rights that, granted protection to foreign businesses and individuals operating in the United States. See MacNamara v. Korean Air Lines, 863: F.2d 1135, 1138 (3d Cir. 1988) (citing Walker, "Treaties for the Encouragement and Protection of Foreign Investment: Present United States Practice", 5 'Am. J. Comp. L.- 229 (1956) ) ; «Spiess v. C. Itoh & Co. (America), Inc., .643 F.2d 353, 359 (5th Cir. 1981) . South Korea and the United States signed the FCN treaty with the goals of "strengthening the bonds of peace and friendship traditionally existing ,between" each other and of ."encouraging closerr economic- and cultural relations between their peoples . " FCN treaty, Proclamation. - , Article XI, paragraph 3 of the FCN treaty provides: Nationals and companies of either Party shall in the other to the payment of taxes, no case be subject, within the territories of Party, imposed upon or applied to income, capital, transactions, activities or any other object,, or to requirements with respect thereof, 'more burdensome than those borne by nationals; residents and companies of any third country. to the levy and collection fees or other charges 13 - This provision extends "most-favored-nation" status to nationals and companies of South Korea and the United. States. A most- favored-nation statust assures natïonals of the other signatory treatment equivalent to the mostdfavorable treatment afforded any other foreign nationals. See MacNamara v. Korean Air Lines, supra at 1142-1143 . Within the same article, paragraph 5 (b) applies reservations to this most-favored-nation provision: Eaáh Party reserves the right to: - (a) extend e specific tax advantages on the basis of reciprocity; (b) accord Åpecial -tax advantages by virtue of - âgreements for the avoidance of double taxation or the mutual prot ction of revenue;' and (c); apply special provisions in allowing, a -personal nature in connection with income and inheritance taxes. to non-residents, exemptions of Petitioners maintain that because residents of certain third countries would not be subject t-o tax on gambling winnings from within the Unite States under bilateral income tax treaties that those countries ave entered with the Unit d States, the most- favored-nation provision of FCN treaty article XI, paragraph 3, entitles them to Federal income tax exemption. Petitioners refer to IRS Publication 515, Withholding of Tax on Nonresident Aliens and Foreign Entities, and the section addressing "Other Income", which states: Gambling income of resiidents (as defined by treaty) of tjaxable by Óenmark, Fi Italy, Japan, Latvia, Lithuania, Luxembourg, he following fo eign countries is not he United States: Austria, Czech Republic, land, France, Germany, Hungary, Ireland, , 14 - Netherlands Russian Federation, Slovak Republic Slovenia, South Africa, Spain, Sweden, Tunisia, Turkey, Ukraine, and the United Kingdom. - Respondent asserts that the reservations of FCN treaty article XI, paragraph 5 (b) apply to preclude application of the mostzfavored-nation provision of FCN treaty article XI, paragraph 3, and that petitioner's U.S. gambling income is subjecteto U.S inc ome- t ax . Certain foreign countries, including Japan, have entered into income tax streaties with the United States that have treaty benefits excluding U.S., gambling income from the Federal taxable income of their residents. See Convention for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion With Respect to Taxes on Income, U.S. -Japan, Nov. 6; 2003, Tax Treaties (CCH) par. 5201 (U.S. -Japan income tax treaty) . The Senate report from the Committee on Foreign Relations stated that the principal purposes of the U.S.-Japan income tax treaty are to reduce or eliminate double taxation of income earned by residents of either country from sources within the other country, to prevent avoidance or evasion of the taxes of the two countries, . to promote close economic cooperation between the two countries, and to eliminate possible barriers to trade and investmént caused by overlapping taxing jurisdictions of the two countries . See Senate Comm. on Foreign Relations, S. Exec. Rept. 108-9,.at 1-2 (2004) . Article 21, paragraph 1 of the U.S.-Japan income tax treaty provides: income beneficially owned by a-resident of sa Jttems of Contracting State, wherever arising, not dealt with in the foregoing Articles of this Convention * be taxable :.n that Contracting State. * * shall The U S. Department of the Treasury Technical Explanation of the 2003 U.S. -Japan Encome Tax Treaty (Feb. 25, 2004) , Tax Treaties (CCH) par. 5233, states that Examples of items of income covered by Article 21 include income from gambling, punitive -(but not compensatory) damages, covenants not income from certain financial instruments to the extent derived by persons not engaged in the trade or business to compete, and , of dealing an such instrume ts * * *. FCN treaty article-XI, paragraph -5(b),- expressly reserved the-right to extend specific.tax advantages on the basis of - reciprocity and accord special, tax advantages .by virtue of agreements for the avoidance of double :taxation or the mutual protec t ion - of revenue . This reservat ion encompasses -the more favorable treatment-with,respect to:Federail income tax of U.S. gambling wa.nnings, as: extendedato Japan and sother relevant . countzies through the bilateral income tax treaties. The most- favored-nation provision. under article XI paragraph 3 of the FCN treaty is thus not available when the reservàtions of paragraph 5 (b) apply . e a e conclude that the-plain language of the FCN treaty .doe.s not extend to petitioners the more favorablé treatment-Federal - 16 - income tax exemption--with respect to gambling winnings as a provided for in the relevant bilateral income tax treaties between the United States and other countries. Trade or Business Within the United States Petitioners argue that if a treaty provision does not exempt the gambling winnings from income tax, then the income is from personal services of petitioner and taxable as income effectively connected with a U.S. trade or business. Income of a nonresident alien individual that is effectively connected with the conduct of a trade or business in the United States is generally subject to tax in the same .manner and at the same rates as that of a U.S. person. See sec. 871(b) . The phrase "trade or business within -the United States" generally includes the performance 'of personal services within the United States at any time within the taxable year . Sec . 864 (b) . Deductions are allowed to the extent that they are related to effectively connected income. See sec. 873(a) ." Section 165(d) provides that gambling losses, may be deducted against gambling winnings . Petitioners rely on Robida v. Commissioner, T.C. Memo. 21970- 86, affd. 460 F.2d 1172 (9th Cir. 1972) , to support their position that petitioner' s gambling winnings income is income from personal services: Robida addressed "earned income" under section 911 (regarding foreign earned income and taxation of,U.S. - 17 - citizens or residents)·.y Petitionersacontánd that, the te m "earned income" in section 911(b (1) (A) l'incorporates the same language as in * * *. section 864 b) :and the regulations as income attributable- to servÈcesaperfor ed' and; is certainly consistent with the definitions of income from personal services used in * * * section: 864 (b)». " "The,-issue in Robida was whether the taxpayer',Ta citizéni of the United. States, ."earned" inconie abroad Nith réspect to hist slotsmachine winnings far þurposàs of thelforeign earnedsincoine exclusionsfor U.S. citizens under sectiong910.- Itewas determined that the taxpayer' s - "diligent application t of an unusuah skill or knowledge gained during his previous employment with a manuf acturer -of slot amachines"? résulted Eine "earned' income" , Sas compared to assuning - risk and" winning - the income in a game of chance. Robida v: Commissioner, 460 F.2d at 11701-175 -I ~ Petitioner exhibited no sucl use of personal skillsfore strategiesswhen de played thess1 temachines. Thus, petitione s' reliance on Robida to claim that the gamb]:ing winnings^weree" derived, from the performance of ersonal services is misplaced. Petitioner' s gambling winnings ir come is riot income from3personal services. * Petitioners did not initial]y argue t hat petitioner' s a gambling activit constituted a trade or liusiness; but tespondent addressed this issue in his open ng brief In their reßly Brief 18 - petitioners argued that petitioner's gambling.activities were a trade or business because petitioner had a profit motive in - playing slot machines and petitioner was willing to commit the capital necessary to carry.out his gambling activity To be engaged in a trade or business:within the méaning ofs section 1402(a), an individual must be involved in an activity with continuity and regularity, sandathe primary purpose for engaging in the activity must be for income or profit. Commissioner v. Groetzinger, -480 U.S. 23, 35 (1987). If- one's "gambling activity is pursued full time, in good faith, and with i regularity, to the production of income for a livelihood, and is not a mere hobby, it is a trade or business". Id. - Cases using the Groetzinger standard have analyzed the taxpayer's gambling activities with regard to regulations promulgated under section 183 to identify activities not engaged in for profiti See, e.g., Chow v. Commissioner, T.C. Memo. 2010-48; Hastings y Commissioner, T.C. Memo. 2009-69; Merkin v. Commissioner,iT.C. Memo. 2008-146. Whether the taxpayer engages in an activity with the primary purpose of making a profit is a question of fact to be resolved on the basis of all the facts and circumstances in a particular case. Golanty v. Commissioner, 72 T.C.-411, 426 (1979), affd. without published opinion 647 F.2d 170 (9th Cir. 1981) secs - 1.183-2(a), Income Tax-Regs. Section.1.183-2(b), Income Tax - 19 - Regs., provides a nonexclusive 1 st of relevant factors to be weighed when considering whether a taxpayer is engaged ih an activity for profit. The releva t factors 'are: (1) The inanner in which the taxpayer carried or the 'activity; (2) the expertise of the taxpayer or his advisers; (3) the time and effort expended by the taxpayer in carrying on the activity; (4) the expectation that the assets used in the actiŸity may appreciate in value; (5) the success of the taxpayer in carrying orf -other- activities for profit; (6) the taxpayer's history of income or losses- with respect to, the activity; (7). the amount of occasional profits, if any, - that are earned from the act/ivity; (8) the financial status of the etaxpayer; and (9) whether 9elements of personal pleasure or recreation are involved in the attivity." ¿No one factor' is determinative of whether an actiÝity is engaged in for profit. Brannen v. Commissioner, 722 F 2d 695, 704' (11th Cir: 1954) , affg. 78mT.C. 471 (1982)-; Golanti v. Commissioner, supra at 426; sec. 1.183 2(b), Income Tax Regs. Petitioners do not address tihe factors of section. 1:183- 2 (b) , Income Tax Regs . , and do net persuade us that petitioner' s primary purpose for engaging in- t he gambling activity was for income or profit. Petitioners have not shown that petitioner's gambling activit i.es are a trade or business within the United States. Interest Income - " i - 20 - The parties have stipulated that petitioners earned U.S. source interest income in 2006 and 2007 that was not effectively connected with a U.S. trade or business. Petitioners contend that the interest income is excludable from tax as simple ; interest on deposits under section 871(i) (1) and - (2) (A) . Respondent requested information from petitioners to demonstrate that the interest income was from bank deposits to be considered "earnings from deposits", as petitioners contend. In their - brief, petitioners state that they "are still attempting to provide this evidence, but it is quite apparent from the face of the tax return that this is bank interest and nothing more . " Respondent asserts that petitioners have failed to, present credible evidence regarding the type of interest income received in 2006 and 2007. Respondent concedes that article 13, paragraph (2) of the U.S.-Korea income tax treaty provides for a reduced tax rate of 12 percent on the interest income for 2006 and 2007, but respondent contends that it is not excludable from Federal income tax. Section 871(a) (1) generally provides that a tax of, 30 percent is imposed, as relevant here, on interest that a . nonresident alien individual receives from sources within the United States, provided that the income is not effectively connected with the conduct of a U.S. trade or business. Article - 21 - 13, paragraph (2) of the U.S. ICo ea rincome' tax treaty provides that for interest income the tax rate is 12 percent instead of 30 percent. Section 871(i) (1) and 2) providess an exception for sinterest on deposits that ise not effectively conne'cted with a trade or business within the Unit ed States. Section 873(i) (3) provides: s For purposes of paragraph ( amounts which are-- ) , the term "deposit" means - (A) deposits with persons öarrying on the banking business, r (B) deposits or withdrawable accounts with savings institutions chartered and supervised as savings and loan or sitnilar associations under Federal or State law, Nut only to the extent that amounts paid or credited on such deposits or accounts are deductible under séction 591 (deternined without recjard to sections 265 and - 291) institutions, and in computing the (axable income of such (C) amounts held by an insurance company under an agreement to pay interest thereon. Petitioners reported intere t income on the 2006 and 2007 tax returns that was not reportect to thë IRS by the payers listed on the returns. In the 2007 notice of deficiency, respondent adjusted the interest income to reflect reporting from third parties that had not been reportàd on the tax returns, including interest income L-hat was reported to the IRS by Wells Fargo, N. A . , : a U. S . nat i.onal banking institution . Although pe -.itioners did not supply evidence with respect to the interest income from Wells F rgo, N.A. , it was the bank that - 22 - - directly reported the interest income to the IRS. The interest income from Wells Fargo, N.A., was erroneously-included by respondent in the adjusted amount because it is excludable as deposits with persons carrying on the banking business. See sec. 871(i) (1), (2), and (3). . . - - s , Interest income for 2007 was reported from another third party, First Clearing, L.L.C., abuts this entity is not a U.S. chartered national bank, and petitioners have not shown that this interest income qualifies for an exception from tax. See Rule 142(a). Petitioners have been unable to supply documentation with respect to the interest income they reported on the tax returns to demonstrate the reported interest income is from deposits as defïned in section 871(i) (3) to be excepted from;tax under section 871(i) (1) and (2). Tax returns do not -establish the truth of the facts stated therein. Lawinger v. Commissioner, 103 T.C. 428, 438 (1994); Wilkinson v. Commissioner, 71 T.C. 633, 639 (1979); Roberts v. Commissioner, 62 T.C. 834, 837 (1974). The 2006 and 2007 interest income, except the excludable 2007 interest income from Wells Fargo, N.A., is subject to income tax at the-rate of 12 percent according to the provisions of the U.S.-Korea income tax treaty. Section 6662 (a) Penalties 23 - Petitioners contest the impo ition of accuracy-related penalties for the years in issue. Section 6662(a): and (b) (1) and (2) iniposes a 20 percent accuracy related penaltypon anyre underpayment of Tederal income ta attributable to a taxpayer' s 1 negligence or disregard of rules br regurations, or substantial ùnderstatement of inoome tax y i Se t ione 666!2 (c ) . de f ines negligence as including any failure to make reasonable attempt to comply with the provisions of the-Internal Revenue .Code, and defines disregard as any carelessy rèckless or intentional disregard. Disregard of rulessor'regulations is:c~areless sif the taxpayer does not" exercise reasonable diligence to determine- the 9 y e correctness of a return position that isscontrary-to rules-or a regulations . sed. 14.6662-3 (b) (2) Income Tax Rec.js., ,Disregard of rules or regulations is reckless if ther taxpayer. makes lïttle, or no effort to determine whether a rule or regulation exists. Id. There isi a substantial understatement of income tax -if . the amount of the understatement exceeds the greater of 10 percent of the tax required to be shown on the returnt or $5,000 Sec. 6662 (d) (T) (A) . Under section- 7491(c), the Commissiôner bears the burden:of þroduction withs egard to penalt es and must come forward with suf f idient evidence indicating - that it is appropriate _ to impose penalties . See' Hicibee v. Commissioner, 116 T . C. 438 , . 446 (-2001) . - 24 - However, once the Commissioner has met the burden of production, the burden of proof remains with the taxpayer, including the burden-of proving that the penalties are inappropriate because of reasonable cause or substantial authority under section 6664. See Rule 142(a) ; Higbee v. Commissioner, supra at 446-447. r Respondent has met the burden of production by showing that petitioners' failure to report gambling and interest income for the years in issue resulted in understatements of their, income tax-forathe years in issue by.more than $5,000 and by more than 10 percent of the tax required to be shown on the returns. The accuracy-related-penalty under section 6662(a) 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); Higbee v. Commissioner, 116 T.C. 438, 448 (2001). The decision as to whether a taxpayer acted with reasonable cause and in good- faith is made on a case-by-case basis, taking into account all of the pertinent facts and circumstances. Sec. 1.6664-4(b) (1), Income Tax Regs. "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 relevant facts and circumstances, including the experience, knowledge, and education of the taxpayer." Id. Reliance on professional advice may constitute reasonable cause and good faith if, under all,the - 25 - circumstances, stch reliance was reasonable ands the taxpayer acted in good fa.itl See United tates v. Boyle; 1469 U.Se 241, 250 251 (1985); Freytag v. Commissioner, 89 T.C. 849, 888 (1987), af fd.- -904 F . 2d 1C 11 (5th Cir s 1990) , af fd. 501 U: S; - 868 (1991) ; sec 1.6664-4 (b)N1) , Incomer Tax Regs. In order for reliance on prof essional -adv-i ce to excusei a tàxpayer f rom negligence, the taxpayer musta show that the profesional had the requisite expertise, as well as knowledge o the pertinent ofacts, to provide informed advice on-the subject -matter. . See David v. Commissioner, 43 F.3d -788, 789-79 (2d Cire. 1995)., affg. T.C. Memo. 1993-621; Freytag v. Commissioner, supra.at 888. Petitioners contend that the could reasonably rely on Pechanga to follow the law and on the tax preparer to properly report the gambling winnings inco e . Pechanga did not withhold the 30-percent tax from all of petitioner's gambling winnings and reported the winnings on Forms W2-G. However, petitioner signed a Form W-9 in 2007 that erroneously represented his status for - withholding purposes. Petitioners have failed to provide any evidence concerning information provided to or advice received from ttheir tax return preparers and/or other professionals. Petitioner as educated in the United States and is a high- ranking executive at a large chemical company. These factors tend to weigh against petitioners' claim of reasonable cause and good faith with respect to a 1 o part of ethe underpayments. - 26 - We conclude that petitioners' underpayments of Federal income tax were the result of negligence or disregard of rules or regulations under section 6662 (a) and (b) (1) . We also conclude that petitioners have not shown that they had reasonable cause for and acted in good faith regarding the underpayments. Thus, we sustain the IRS determination -that petitioners are liable for the penalties for 2006 and 200T under section 6662(a) . We have considered all arguments of othe parties, and to the extent not mentioned they are moot or without merit. To reflect concessions and our conclusions stated above, Decisions will be entered under Rule 155.