t c summary opinion united_states tax_court mary t kahmann and eric c kahmann petitioners v commissioner of internal revenue respondent docket no 17703-15s filed date mary t kahmann and eric c kahmann pro_se john schmittdiel and shannon m harmon for respondent summary opinion leyden special_trial_judge this case was heard pursuant to the provisions of sec_7463 of the internal_revenue_code in effect when the petition was filed pursuant to sec_7463 the decision to be entered is not 1all section references are to the internal_revenue_code in effect for the year at issue and all rule references are to the tax_court rules_of_practice and continued reviewable by any other court and this opinion shall not be treated as precedent for any other case in a notice_of_deficiency dated date the internal_revenue_service irs determined a deficiency in petitioners’ federal_income_tax of dollar_figure a sec_6651 addition_to_tax of dollar_figure for failure to timely file a tax_return and a sec_6662 accuracy-related_penalty of dollar_figure after concessions by petitioners the issues for decision are whether petitioners had unreported gross_receipts for their business and are liable for a sec_6662 accuracy-related_penalty background some of the facts have been stipulated and are so found the stipulation of facts and the attached exhibits are incorporated by this reference petitioners resided in minnesota at the time they timely filed their petition continued procedure unless otherwise indicated 2the court uses the term irs to refer to administrative actions taken outside of these proceedings the court uses the term respondent to refer to the commissioner of internal revenue who is the head of the irs and is respondent in this case and to refer to actions taken in connection with this case 3at trial mr kahmann conceded that petitioners’ tax_return was filed late and the addition_to_tax for late filing under sec_6651 mrs kahmann did not appear in court but the decision will be binding upon both spouses i petitioners’ jewelry business petitioners have been making jewelry for years in petitioners sold their jewelry through their business harpstone jewelry harpstone primarily at art shows held throughout the united_states petitioners also made some internet sales through amazon and paypal mr kahmann’s two brothers made and sold their own jewelry and participated in their own art shows during but they did not work for harpstone in petitioners used two machines in linked to two merchant account sec_5 that they maintained to accept credit and debit card payments from harpstone customers the merchant account company processed these payments and deposited the payments received less a discount into petitioners’ bank accounts the merchant account company issued two forms 1099-k merchant 4on the schedule c profit or loss from business attached to their joint tax_return only mr kahmann is listed as the proprietor of harpstone however the parties stipulated that petitioners both operated harpstone on the basis of the record the court accepts the parties’ stipulation cf 93_tc_181 we may disregard stipulations between parties where justice requires it if the evidence contrary to the stipulation is substantial or the stipulation is clearly contrary to facts disclosed by the record 5a merchant account is an arrangement whereby a bank agrees to collect credit and debit card payments and pays the merchant the sale amounts less a discount see 106_tc_103 card and third party network payments of dollar_figure and dollar_figure both forms 1099-k were issued in petitioners’ names and business and showed petitioners’ merchant account numbers and the same mailing address petitioners reported on their tax_return harpstone received most of its gross_receipts between july and december each year but paid most of its expenses between january and march each year petitioners’ expenses included show fees cost_of_goods_sold and materials ii examination of petitioners’ tax_return petitioners prepared their joint federal individual_income_tax_return for and filed it late see supra note on the schedule c attached to their tax_return petitioners reported the following for harpstone total gross_receipts 6in the housing and economic recovery act of hera pub_l_no sec a stat pincite congress enacted sec_6050w to require a payment_settlement_entity to issue an information_return to participating payees reporting the gross amount of the reportable_payment transactions a payment_settlement_entity includes a merchant-acquiring entity such as a merchant account services company see sec_6050w the new provision became effective for calendar years beginning after date hera sec e stat pincite merchant account services companies were required to report the gross amount of payments without any reduction for discounts on a form 1099-k after date see sec_6050w f sec_1 6050w- a ii h and j income_tax regs or sales of dollar_figure cost_of_goods_sold of dollar_figure and gross_profit and gross_income of dollar_figure petitioners also reported total expenses of dollar_figure including dollar_figure for visa fees petitioners reported a net profit of dollar_figure from harpstone on the schedule c the net profit was the only gross_income reported on their tax_return the irs examined petitioners’ tax_return the revenue_agent assigned to examine petitioners’ tax_return sent a letter to petitioners to request certain documents including copies of their bank account statements but petitioners did not provide the documents after the deadline for submitting the requested documents the revenue_agent issued summonses to banks at which petitioners maintained at least three bank accounts the summonses were issued to obtain petitioners’ bank account statements so the revenue_agent could conduct a bank_deposits analysis 7in the irs added to schedule c line sec_1a merchant card and third party payments and 1b gross_receipts or sales not entered on line 1a to implement the new reporting requirements under sec_6050w instructions to schedule c at c-1 see supra note on line 1a of the schedule c petitioners reported zero for taxpayers were not required to separately report amounts from forms 1099-k on line 1a because for the irs ha d deferred the requirement to report these amounts instructions to schedule c at c-1 instead taxpayers were instructed to report the amounts from forms 1099-k on line 1b id from the bank statements the revenue_agent identified the following deposits to petitioners’ three bank accounts for dollar_figure from amazon dollar_figure from bank card deposits dollar_figure from checks made payable to harpstone dollar_figure from cash deposits and dollar_figure from atm deposits the revenue_agent was not convinced petitioners had informed her of all their bank accounts therefore to determine harpstone’s total gross_receipts the revenue_agent substituted the aggregate amounts reported on the two forms k dollar_figure for the bank card deposits she had identified the revenue_agent determined that the forms 1099-k were more reliable because they were issued in petitioners’ names and business had the same mailing address petitioners’ included on their tax_return and represented amounts deposited into bank accounts the merchant account payor had associated with petitioners’ names the revenue_agent could not reconcile the amount of dollar_figure reported on one of the forms 1099-k with the bank statements she had summoned because at the time of the examination she did not have the merchant account statements showing the bank account into which the payments were deposited respondent later obtained the merchant account statements and the parties stipulated them for trial the revenue_agent calculated that harpstone’s total gross_receipts were dollar_figure for she also concluded that petitioners had unreported gross_receipts for harpstone of dollar_figure the difference between the gross_receipts petitioners reported on the schedule c dollar_figure and the gross_receipts the revenue_agent calculated using a bank_deposits analysis and the two forms 1099-k i burden_of_proof discussion the irs’ determinations in a notice_of_deficiency are generally presumed correct though the taxpayer can rebut this presumption rule a 290_us_111 in unreported income cases some courts have required the irs to establish a minimal evidentiary showing connecting the taxpayer with the income-producing activity 994_f2d_1542 11th cir aff’g tcmemo_1991_636 see 58_f3d_1342 8th cir aff’g tcmemo_1993_398 975_f2d_534 8th cir aff’g in part rev’g in part tcmemo_1991_140 respondent has met that burden by introducing bank account records forms 1099-k and merchant account statements establishing that petitioners received unreported income from their jewelry business in thus petitioners bear the burden of proving by a preponderance_of_the_evidence that respondent’s determination of unreported income is arbitrary or erroneous see page v commissioner f 3d pincite 999_f2d_760 4th cir citing 293_us_507 aff’g tcmemo_1992_153 day v commissioner f 2d pincite 87_tc_74 parker v commissioner tcmemo_2016_194 at ii unreported income sec_61 defines gross_income as all income from whatever source derived including income derived from business a taxpayer has a duty to maintain adequate_records to show whether or not he or she is liable for federal_income_tax sec_6001 the parties stipulated exhibit 9-j copies of merchant account statements related to the merchant account number ending in this page exhibit consists of statements from january through date for one of the merchant accounts that petitioners used during the last three pages of that stipulated exhibit include a three-page handwritten accounting first handwritten accounting that petitioners prepared listing the sales they made through harpstone generally a stipulation of fact is treated as a conclusive admission by the parties and is binding on the parties rule e 87_tc_1451 however the court is not bound by a stipulation of fact that appears contrary to the facts disclosed by the record rule e 66_tc_312 the amounts listed on the merchant account statements as credit card sales for each month are much less than the amounts listed by petitioners on the first handwritten accounting because the first handwritten accounting is contrary to the facts in the record including the stipulated merchant account statements and for reasons discussed below the court sets aside the first handwritten accounting at trial petitioners introduced a second version of the three-page handwritten accounting8 second handwritten accounting that they supposedly created in allegedly listing all the sales they had made through harpstone the court does not find either the first or the second handwritten accounting of harpstone’s sales for to be accurate or reliable 8the second handwritten accounting is identical to the first handwritten accounting except that the second handwritten accounting contains an additional fifth column supposedly listing mileage at trial respondent did not object to admitting the second handwritten accounting into evidence the first and second handwritten accountings are titled shows and purport to list all the art shows petitioners attended at which they sold their jewelry each page of the first and second handwritten accountings has four columns the first four columns do not have any headings and contain the following information the first has dates in a month-and-day format the second has cities and states the third has figures next to the dates that supposedly represent the sales made on the corresponding dates and the fourth has the supposed sums of the sales made during the total period in the listed city and state all figures are in whole dollars the second handwritten accounting has a fifth column titled miles and has figures allegedly representing the total miles petitioners supposedly drove to and from each listed city and state the last page of each of the first and second handwritten accountings has an untitled line with a dollar_figure figure supposedly representing the total sales from the art shows during below that is a line titled internet sales with a dollar_figure figure below that is another untitled line with a dollar_figure figure supposedly representing the total gross_receipts from all sales for mr kahmann however did not show how the amounts listed on the first or second handwritten accounting corresponded to the deposits to petitioners’ bank accounts or to the amounts listed on the merchant account statements although mr kahmann testified that he wrote the entries in the first handwritten accounting as the art shows were attended the court finds that the handwriting appears as if the entries were written all at once rather than over the course of the year all the entries on the second handwritten accounting except for the mileage entries appear to have been written in the same handwriting with the same shade of ink if the entries were made over the course of a year the court would expect to see variations in handwriting and ink shades similarly the mileage entries in the fifth column also appear to have been written all at once but in a lighter shade of ink than the entries in the other four columns these mileage entries were added after the first handwritten accounting was attached to the stipulation of facts the internet sales of dollar_figure were payments received through petitioners’ paypal account for however petitioners had additional internet sales totaling dollar_figure from amazon for which they did not record on either the first or second handwritten accounting as best we can determine from the record other than the first and second handwritten accountings petitioners did not kept any formal books of account or other accounting_records to track harpstone’s gross_receipts for the court concludes that petitioners did not keep accurate regular and contemporaneous business records for harpstone during because petitioners’ records did not adequately demonstrate the amount of business income they received in it was appropriate for respondent to use an indirect method to reconstruct their business income for see 54_tc_1530 sabolic v commissioner tcmemo_2015_32 at when a taxpayer does not keep accurate books_and_records the irs may determine his or her income under such method as in the opinion of the irs does clearly reflect income sec_446 see 92_tc_661 where the taxpayer has unexplained bank_deposits the irs may employ a bank_deposits analysis to estimate his or her income 64_tc_651 aff’d 566_f2d_2 6th cir the irs has great latitude in reconstructing the taxpayer’s income and the reconstruction need only be reasonable in light of all surrounding facts and circumstances petzoldt v commissioner t c pincite see 33_f3d_991 8th cir aff’g tcmemo_1993_423 884_f2d_1085 8th cir aff’g tcmemo_1988_410 bank_deposits are prima facie evidence of income 102_tc_632 a bank_deposits analysis presumes that all money deposited in a taxpayer’s bank account during a given period constitutes taxable_income id pincite t he irs must take into account any non-taxable source of which it has knowledge 96_tc_858 citing 335_f2d_671 5th cir aff’d 959_f2d_16 2d cir once the irs reconstructs the taxpayer’s income and determines a deficiency the taxpayer bears the burden of proving that the irs’ implementation of a bank_deposits analysis was unfair or inaccurate see clayton v commissioner t c pincite dileo v commissioner t c pincite the taxpayer may do so by proving that a deposit is not taxable see clayton v commissioner t c pincite nontaxable sources include funds attributable to interaccount bank transfers and returned checks as well as loans gifts inheritances or assets on hand at the beginning of the taxable_period 69_tc_729 ndollar_figure quoting troncelliti v commissioner t c memo petitioners do not challenge the revenue agent’s use of the bank_deposits analysis to reconstruct their business income for instead petitioners argue that the inclusion of certain income for is inaccurate because it is not taxable business income to petitioners at trial mr kahmann provided uncorroborated testimony to challenge the following amounts resulting from the revenue agent’s bank_deposits analysis dollar_figure in cash deposits dollar_figure in check deposits and some of the amounts reported on the forms 1099-k the court declines to accept mr kahmann’s uncorroborated testimony see eg tokarski v commissioner t c pincite for the reasons discussed below the court concludes that petitioners had unreported schedule c gross_receipts of dollar_figure for a cash deposits mr kahmann argues that the unreported cash deposits of dollar_figure are not business income to petitioners for because they were from a cash hoard petitioners kept according to mr kahmann when petitioners needed to pay expenses they supposedly took money from an alleged cash hoard deposited it into their bank accounts and paid the expenses through the bank accounts the existence of a cash hoard is endlessly claimed to explain the existence of unreported income rarely successful and often met with some suspicion see 85_tc_927 the court is suspicious of mr kahmann’s claim and finds he did not prove that petitioners maintained a cash hoard to account for the cash deposits in petitioners failed to introduce any credible_evidence showing that they maintained a cash hoard or that any of the cash deposits identified by the revenue agent’s bank_deposits analysis were from cash accumulated in a prior year petitioners also failed to provide any credible_evidence to support their claims that the cash hoard consisted of nontaxable gifts or an inheritance from mrs kahmann’s aunt and mother as petitioners claimed mr kahmann provided conflicting and uncorroborated testimony at trial to explain petitioners’ cash hoard argument first mr kahmann argued that the cash hoard was petitioners’ cash on hand at the start of the year because most of their sales occurred during the last six months of the year july to december and all their expenses were paid from january to march he testified that harpstone had to accumulate reserves of about dollar_figure during the last six months to pay expenses at the beginning of each year and that petitioners deposited the cash on hand into the bank as needed mr kahmann testified that he did not deposit cash from harpstone’s sales in into the bank accounts in and that all the cash deposits into petitioners’ bank accounts were solely from the cash hoard petitioners did not maintain regular books_and_records to prove mr kahmann’s assertions and mr kahmann did not present any other credible_evidence to support his testimony mr kahmann pointed to the first and second handwritten accountings to show that the cash deposits made before the first show on date could not have been income from harpstone but rather were cash deposits made from the cash hoard however the cash deposits made in before date total only dollar_figure not the dollar_figure of cash deposits that the revenue_agent identified from the cash deposits analysis as unreported income second mr kahmann argued that the cash hoard included gifts from mrs kahmann’s aunt mr kahmann testified that he and mrs kahmann were blessed to be born into a very wealthy family and that mrs kahmann’s aunt had given petitioners over dollar_figure million since specifically mr kahmann testified that mrs kahmann had received shares of stock from her aunt9 and that petitioners had a debit card they could use to withdraw money from the stock account however mr kahmann testified that petitioners had not withdrawn money from that stock account during petitioners did not present any evidence to support mr kahmann’s assertions that the cash hoard consisted of gifts from mrs kahmann’s aunt third mr kahmann argued that petitioners had a considerable amount of money in late because mrs kahmann had received an inheritance from her 9at trial mr kahmann offered as an exhibit a statement from an investment adviser purporting to show the value of an investment that mrs kahmann had inherited from her aunt respondent objected to the exhibit as hearsay and the court ruled that the exhibit was not admissible mother which was added to the cash hoard mr kahmann testified that in late mrs kahmann inherited from her mother dollar_figure in cash gold coins ounces of silver and dollar_figure from the sale of mrs kahmann’s mother’s home and its contents mr kahmann did not provide any other evidence to corroborate his testimony the revenue_agent testified that she did not notice any large deposits in the bank accounts she examined that would support mr kahmann’s assertion that his wife had inherited dollar_figure in cash mr kahmann also testified that in he had sold some of the gold coins mrs kahmann had inherited from her mother and that he had put the proceeds into the cash hoard in mr kahmann admitted that he had not reported the gain from the sale of the gold coins on petitioners’ tax_return when asked whether petitioners had deposited any of these proceeds into their bank accounts mr kahmann testified that petitioners probably had not the court finds petitioners’ assertions to be unsupported and rejects their claims that the source of the unreported cash deposits for was a cash hoard b check deposits petitioners also argue that an unidentified portion of the dollar_figure in check deposits the sum of the checks made payable to harpstone as determined by the bank_deposits analysis belonged to one of mr kahmann’s brothers mr kahmann testified that his brother would give him checks also made out to harpstone and mr kahmann would deposit them into petitioners’ bank accounts and would withdraw cash from the bank accounts to give to his brother mr kahmann testified that his brother had also used the name harpstone jewelry for his own separate business but did not provide any other proof to support his assertion mr kahmann testified that his brother did not have a website a business card or other information showing that he also had a business called harpstone jewelry petitioners failed to introduce any credible_evidence to prove that any of the checks deposited into their bank accounts included checks for the business of mr kahmann’s brother the court finds petitioners’ assertions to be unsupported and rejects their claim that a portion of the check deposits consisted of checks for a separate business operated by mr kahmann’s brother c amounts on the two forms 1099-k petitioners argue that some or all of the reported amounts on the two forms 1099-k are income attributable to mr kahmann’s brothers petitioners argue that dollar_figure of the dollar_figure reported on one of the forms 1099-k is income attributable to one of mr kahmann’s brothers and that all the dollar_figure reported on the second form 1099-k is income attributable to his other brother in any court_proceeding where a taxpayer asserts a reasonable dispute with respect to income reported on a third-party information_return if the taxpayer fully cooperates with the irs then the secretary shall have the burden of producing reasonable and probative information concerning such deficiency in addition to such information_return sec_6201 full cooperation requires informing the irs of the dispute within a reasonable_time h_r rept no pincite 1996_3_cb_49 in addition the taxpayer must provide timely access to and inspection of all witnesses information and documents within the control of the taxpayer as reasonably requested by the secretary sec_6201 sec_6201 does not apply in this case because petitioners failed to fully cooperate with the irs the revenue_agent requested certain documents from petitioners including copies of their bank account statements petitioners did not provide the documents to the revenue_agent and as a result she had to issue summonses to petitioners’ banks to obtain the bank account statements for at trial mr kahmann attempted to introduce letters written by his brothers to corroborate his testimony his brothers were not available to be called as witnesses and the court ruled that the letters were inadmissible hearsay mr kahmann agreed that petitioners did not bring mr kahmann’s brothers to meet with either the revenue_agent during the examination or with respondent’s counsel in preparation for trial petitioners bear the burden of proving that respondent’s determination to include the amounts reported on the forms 1099-k is arbitrary or erroneous see page v commissioner f 3d pincite day v commissioner f 2d pincite united_states v gunnink no u s dist lexis at d minn date holding that data obtained from third-party information returns to reconstruct income was reasonable when the taxpayer did not maintain regular business records mr kahmann’s testimony was vague and uncorroborated petitioners have not convinced the court that respondent’s determination to include the amounts reported on the forms 1099-k is arbitrary or erroneous or that some or all the amounts are attributable to mr kahmann’s brothers mr kahmann testified that his brothers commingled their credit card transactions with petitioners’ transactions in by using petitioners’ two merchant account machines he also testified that he had given one of his brothers an atm card for petitioners’ bank account and that his brother was free to withdraw from the bank account in order to obtain the merchant account payment deposits mr kahmann also testified that he kept of what his brother deposited as part of the arrangement although mr kahmann testified that he still had the atm card he had given to his brother he failed to provide it to the revenue_agent during the examination or to produce it at trial morever mr kahmann contended that the dollar_figure reported on one of the forms 1099-k was directly deposited into his brother’s bank account however petitioners provided no corroborating evidence to support this claim petitioners have not persuaded the court that it should disregard the amounts listed on the forms 1099-k as unreported gross_receipts petitioners have not produced any credible_evidence to dispute their receipt of the cash deposits check deposits and amounts reported on the forms 1099-k for accordingly the court sustains respondent’s determination that petitioners had unreported schedule c gross_receipts of dollar_figure for iii sec_6662 accuracy-related_penalty respondent determined an accuracy-related_penalty for because petitioners’ underpayment was due to a substantial_understatement_of_income_tax or negligence or careless disregard of rules or regulations sec_6662 and b and respondent’s contentions necessarily reflect alternative grounds for imposing the sec_6662 accuracy-related_penalty because only one sec_6662 accuracy-related_penalty may be imposed with respect to any given portion of an underpayment even if that portion is attributable to more than one type of conduct listed in sec_6662 see 132_tc_161 aff’d 408_fedappx_908 6th cir sec_1_6662-2 income_tax regs under sec_7491 the commissioner bears the burden of production with regard to penalties see 116_tc_438 to meet that burden the commissioner must produce sufficient evidence to show that it is appropriate to impose the accuracy-related_penalty see id as explained below the court concludes that respondent has met his burden of production with respect to a substantial_understatement_of_income_tax under sec_6662 and b or in the alternative with respect to negligence or disregard of rules or regulations under sec_6662 and b for once the commissioner meets his burden of production a taxpayer must come forward with persuasive evidence that the commissioner’s determination is incorrect rule a see higbee v commissioner t c pincite the taxpayer may meet this burden by proving that he or she acted with reasonable_cause and in good_faith with respect to the underpayment see sec_6664 higbee v commissioner t c pincite sec_1_6664-4 income_tax regs as explained below petitioners did not provide persuasive evidence that they acted with reasonable_cause and in good_faith with respect to the underpayment_of_tax for a substantial_understatement the court has sustained the item in the notice_of_deficiency that was not conceded--the unreported gross_receipts for harpstonedollar_figure the result is a substantial_understatement_of_income_tax for an understatement means the excess of the amount of the tax required to be shown on the tax_return over the amount of tax that is shown on the tax_return reduced by any rebate sec_6662 there is a substantial_understatement_of_income_tax for any taxable_year if the amount of the understatement exceeds the greater of of the tax required to be shown on the tax_return or dollar_figure sec_6662 petitioners’ tax_return showed a tax of dollar_figure respondent determined the amount of tax required to have been shown on petitioners’ tax_return was dollar_figure thus the understatement_of_tax determined by respondent was dollar_figure that amount exceeds dollar_figure which is greater than dollar_figure of the tax required to be shown on petitioners’ tax_return therefore 10petitioners conceded that they were liable for the addition_to_tax under sec_6651 for filing their tax_return late see supra note petitioners have substantially understated their income_tax and are liable for the accuracy-related_penalty under sec_6662 and b for b negligence or disregard of rules or regulations the accuracy-related_penalty may also be imposed under sec_6662 because of negligence or disregard of rules or regulations sec_6662 in the alternative petitioners are liable for the accuracy-related_penalty because they were negligent and acted in careless disregard of rules or regulations negligence includes any failure to make a reasonable attempt to comply with the provisions of the internal_revenue_code and any failure to keep adequate books_and_records or to substantiate items properly sec_6662 see higbee v commissioner t c pincite sec_1_6662-3 income_tax regs negligence has also been defined as the failure to exercise due care or the failure to do what a reasonable person would do under the circumstances see 85_tc_934 disregard includes any careless reckless or intentional disregard of rules or regulations sec_6662 see higbee v commissioner t c pincite respondent has met his burden of production with respect to petitioners’ negligence and careless disregard of rules or regulations because petitioners failed to maintain adequate_records demonstrating their gross_receipts for harpstone for mr kahmann testified that petitioners’ returns for four prior years had been audited by the irs for their underreporting of income nevertheless petitioners failed to maintain adequate books_and_records documenting harpstone’s gross_receipts for accordingly the court concludes that in the alternative petitioners were negligent and acted in careless disregard of rules or regulations and are liable for the accuracy-related_penalty under sec_6662 and b for c reasonable_cause for the underpayment_of_tax a penalty will not be imposed under sec_6662 however if a taxpayer establishes that he or she acted with reasonable_cause and in good_faith sec_6664 circumstances that indicate reasonable_cause and good_faith include reliance on the advice of a tax professional or an honest misunderstanding of the law that is reasonable in the light of all the facts and circumstances sec_1 b income_tax regs see higbee v commissioner t c pincite relevant facts and circumstances for the court to consider include the knowledge and experience of the taxpayer sec_1_6664-4 income_tax regs petitioners did not hire a tax professional or seek advice from a tax professional to prepare their tax_return petitioners who bear the burden of persuasion have not come forward with any evidence that they had an honest misunderstanding of the law in the light of all the facts and circumstances petitioners’ only assertion as to why the accuracy-related_penalty should not be sustained is that their tax_return was accurate as filed when petitioners filed their tax_return they had access to the bank statements and merchant account statements the irs relied upon to determine their tax_liability petitioners’ course of action does not reflect a good-faith effort to calculate their proper tax_liability the court concludes that petitioners are liable for the sec_6662 accuracy-related_penalty for in reaching its conclusions the court has considered all arguments made by the parties and to the extent not mentioned above the court concludes they are moot irrelevant or without merit to reflect the foregoing decision will be entered for respondent


internal_revenue_service number release date index number ------------------------------------------------ ------------------------------ ------------------------- ------------------------- -------------- department of the treasury washington dc third party communication none date of communication not applicable_person to contact ----------------------------- id no ------------- ----------------- telephone number ---------------------- refer reply to cc psi plr-138150-14 date date legend x y country date date ----------------------------------------------------------------------------------------- ----------------------- ----------------------------------------------------------------------------------------- --------------------------------------- ------------- --------------------------- ---------------------- dear ---------------- this letter responds to a letter dated date and subsequent correspondence submitted on behalf of x requesting an extension of time under sec_301_9100-3 of the procedure and administration regulations to file an election under sec_301_7701-3 to be treated as a partnership for federal tax purposes facts the information submitted states that x was formed under the laws of country on date y is the sole member of x x represents that as of date it was a foreign_entity eligible to elect to be disregarded as an entity separate from its owner however x failed to timely file a form_8832 entity classification election electing to treat x as a disregarded_entity for federal tax purposes effective date x represents that y consistently filed personal u s tax returns with the intent to treat x as a disregarded_entity x also represents that granting relief will not prejudice the interests of the government and that hindsight is not involved in seeking relief to file a late election x further represents that such relief will not lower x’s aggregate tax_liability for tax years affected by the election finally x represents that it acted reasonably and in good_faith law and analysis plr-138150-14 sec_301_7701-3 provides that a business_entity that is not classified as a corporation under sec_301_7701-2 or an eligible_entity can elect its classification for federal tax purposes an eligible_entity with at least two members can elect to be classified as either an association or a partnership and an eligible_entity with a single owner can elect to be classified as an association or to be disregarded as an entity separate from its owner sec_301_7701-3 provides guidance on the classification of a foreign eligible_entity for federal tax purposes generally a foreign eligible_entity is treated as an association if all members have limited_liability unless the entity makes an election to be treated otherwise a foreign eligible_entity with a single member having limited_liability may elect to be treated as a disregarded_entity pursuant to the rules of sec_301_7701-3 sec_301_7701-3 provides that an eligible_entity may elect to be classified other than as provided under sec_301_7701-3 by filing form_8832 with the appropriate service_center under sec_301_7701-3 this election will be effective on the date specified by the entity on form_8832 or on the date filed if no such date is specified the date specified on form_8832 cannot be more than days prior to the date on which the election is filed and no more than months after the date the election is filed sec_301_7701-3 provides that if an eligible_entity classified as an association elects to be disregarded as an entity separate from its owner the following is deemed to occur the association distributes all of its assets and liabilities to its single owner in liquidation of the association sec_301_9100-1 provides that the commissioner may grant a reasonable extension of time to make a regulatory election or a statutory election but no more than months except in the case of a taxpayer who is abroad under all subtitles of the internal_revenue_code except subtitles e g h and i sec_301_9100-1 provides that the term regulatory election includes an election whose due_date is prescribed by a regulation published in the federal_register or a revenue_ruling revenue_procedure notice or announcement published in the internal_revenue_bulletin sec_301_9100-1 through provide the standards the commissioner will use to determine whether to grant an extension of time to make the election sec_301_9100-2 provides the rules governing automatic_extension of time for making certain elections sec_301_9100-3 provides the standards the commissioner will use to determine whether to grant an extension of time for the regulatory elections that do not meet the requirements of sec_301_9100-2 under sec_301_9100-3 a request for relief will be granted when a taxpayer provides evidence to establish to the satisfaction of the commissioner that the taxpayer acted reasonable plr-138150-14 and in good_faith and granting relief will not prejudice the interests of the government conclusions based solely on the facts submitted and representations made we conclude that x has satisfied the requirements of sec_301_9100-1 and sec_301_9100-3 accordingly x is granted an extension of time of one hundred twenty days from the date of this letter to file form_8832 with the appropriate service_center to elect to be treated as a disregarded_entity for federal tax purposes effective date a copy of this letter is attached for that purpose this ruling is contingent on the owner of x filing within days of this letter all required returns for all open years consistent with the requested relief these returns may include but are not limited to the following forms i forms information_return of u s persons with respect to certain foreign_corporations and ii forms information_return of u s persons with respect to foreign disregarded entities such that these forms reflect the consequences of the relief granted in this letter a copy of this letter should be attached to any such returns except as expressly set forth herein no opinion is expressed or implied concerning the federal tax consequences any aspect of any transaction or item discussed or referenced in this letter this ruling is directed only to the taxpayer requesting it sec_6110 of the code provides that it may not be used or cited as precedent pursuant to a power_of_attorney on file with this office a copy of this letter is being sent to x’s authorized representatives sincerely associate chief_counsel passthroughs special industries by david r haglund david r haglund branch chief branch passthroughs special industries enclosures copy of this letter copy for sec_6110 purposes


t c memo united_states tax_court john a malone and brenda k malone petitioners v commissioner of internal revenue respondent docket no filed date jill e bliss for petitioners william mccarthy and keith g medleau for respondent memorandum findings_of_fact and opinion colvin judge respondent determined that petitioners had deficiencies in federal_income_tax of dollar_figure for dollar_figure for and dollar_figure for petitioners bought all of the stock of seattle pump company inc seattle pump they gave the seller a note secured_by letters of credit the letters of credit were secured in part by a deed_of_trust on petitioners’ residence seattle pump employed petitioner john a malone petitioner and other members of his family after petitioners bought the stock petitioners deducted interest they paid on the notes they used to buy the stock respondent disallowed the deduction on the grounds that the interest was personal_interest under sec_163 after concessions we must decide whether sec_163 which was effective for taxable years beginning after date applies to interest_paid in and on indebtedness incurred in date we hold that it does whether the interest at issue either is trade_or_business interest under sec_163 or is investment_interest under sec_163 and d we hold that the interest is investment_interest and that petitioners have not shown that they received any investment_income sec_163 whether petitioners may deduct the interest at issue as an expense for the production_of_income under sec_212 we hold they may not whether petitioners may deduct the interest at issue as qualified_residence_interest under sec_163 and we hold that they may not section references are to the internal_revenue_code in effect for the years in issue rule references are to the tax_court rules_of_practice and procedure findings_of_fact some of the facts have been stipulated and are so found a petitioners petitioners are married and lived in bothell washington when they filed their petition from date to date petitioner was an internal_revenue_service revenue_agent from date to petitioner was comptroller for a company in seattle from to petitioner earned about dollar_figure per year as a vice president of a real_estate development company that converted apartments to condominiums petitioner had invested in real_estate and had owned other businesses he owned an ice business and an accounting business in the 1970's he and his wife owned an ice cream and candy store in the 1980's during the 1970's and 1980's petitioner bought several houses and a condominium most jointly with his brother as rentals or as investments and bought a condominium to rent to his daughter and son-in-law petitioner was unemployed in the summer of he began to look for work for which he could earn at least dollar_figure per year b seattle pump company inc sale to petitioners petitioner’s brother thomas malone is an attorney who represented helene voier voier the owner of seattle pump she wanted to sell her seattle pump stock petitioner studied seattle pump’s books_and_records he concluded that it had been profitable and that he could earn wages of dollar_figure per year from it on date petitioners bought all of the seattle pump stock from voier petitioners agreed to pay dollar_figure to voier as follows a dollar_figure by date b dollar_figure by date and c dollar_figure by date with percent interest seattle pump's records of accounts_receivable and payable were not very accurate petitioners agreed to increase the purchase_price of voier’s stock later based on the accounts_receivable and payable voier agreed to finance the sale if petitioners gave security other than seattle pump stock on date petitioners signed a dollar_figure promissory note payable to voier the note required petitioners to pay dollar_figure by date and to make monthly payments of dollar_figure the balance was payable by date with interest pincite percent on date petitioners borrowed dollar_figure from seattle pump’s cash reserves to make a downpayment to voier petitioners offered to secure the note with their home voier rejected it because she did not want to have to foreclose on their home if they defaulted petitioner asked roy throndson throndson chief_executive_officer of evergreen bank in seattle whether the bank would approve a letter_of_credit to secure the note sometime before date throndson said the bank could approve a letter_of_credit for petitioners voier accepted a letter_of_credit as security for the note letter_of_credit to secure the dollar_figure balance owed under the promissory note petitioners gave voier a letter_of_credit for dollar_figure dated date issued by evergreen bank the letter_of_credit guaranteed that the bank would pay voier if petitioners defaulted on their promissory note to her the letter_of_credit was secured_by two deeds of trust that were dated date the deeds of trust were filed on date securing dollar_figure and date securing dollar_figure the dollar_figure deed_of_trust was secured_by petitioners’ residence which was located on acre of land the dollar_figure deed_of_trust was secured_by acres of land with no residence which petitioners and thomas malone jointly owned the deeds of trust provided that the properties were to be reconveyed to petitioners if they met their obligations under the letter_of_credit the letter_of_credit allowed petitioners to pay any amounts voier drew on it thus petitioners could have avoided collection by evergreen bank by paying the bank the amount due petitioners renewed the letter_of_credit annually they used the deeds of trust that secured the letter_of_credit to secure later letters of credit evergreen bank required petitioners to manage and to participate materially in the seattle pump business as a condition for issuing the letter_of_credit evergreen bank knew petitioner had previously owned and successfully managed other businesses petitioners’ operation of seattle pump petitioners became employees of and began operating seattle pump when they bought voier’s stock on date petitioner was president petitioner wife was vice president and both were employees of seattle pump during the years in issue petitioner was responsible for business operations and hiring and firing of employees petitioners ran seattle pump from date through the date of trial petitioners received wages for services they provided to seattle pump during the years in issue as follows year john malone dollar_figure dollar_figure dollar_figure brenda malone dollar_figure dollar_figure dollar_figure their combined wages from seattle pump were dollar_figure in modification of the sale agreement on date petitioners and voier agreed to raise the seattle pump stock purchase_price by dollar_figure based on seattle pump's accounts_receivable on that date voier agreed not to compete with petitioners and petitioners agreed to give bonuses to certain key employees petitioners gave voier a promissory note for dollar_figure secured_by petitioners' savings account promissory note and letter_of_credit a balloon payment for the balance owing on the dollar_figure note was due in late petitioners asked voier to extend the due dates of the dollar_figure and dollar_figure promissory notes voier agreed to refinance and extend the due dates of the two notes on date petitioners signed a dollar_figure promissory note note to voier which combined the outstanding obligations of the and promissory notes and increased the interest rate voier required petitioners to secure the note with a letter_of_credit petitioners applied to evergreen bank for a new letter_of_credit evergreen bank issued a new letter_of_credit on date the letter_of_credit to secure the note as with the letter_of_credit the letter_of_credit allowed petitioners to pay amounts drawn on it by voier enabling petitioners to avoid collection by evergreen bank by paying the amount due petitioners used the same two deeds of trust to secure the letter_of_credit that they had used for the letter_of_credit letter_of_credit on date petitioners applied for another letter_of_credit in favor of voier to secure the note petitioners obtained a letter_of_credit on date the letter_of_credit as with the letter_of_credit the letter_of_credit allowed petitioners to pay any amounts drawn on it the letter_of_credit expired on date and could be renewed for year c key bank loan in petitioners asked evergreen bank for a line of credit to cover seattle pump's working_capital needs evergreen bank denied petitioners’ request key bank of puget sound key bank agreed to grant a line of credit to petitioners if they gave key bank all of seattle pump’s loan business petitioners agreed to refinance their obligation to voier through key bank on date petitioners borrowed dollar_figure from key bank and paid voier in full evergreen bank reconveyed the deeds of trust to petitioners and petitioner’s brother petitioners and petitioner’s brother gave one deed_of_trust to secure the key bank loan the deed_of_trust covered the 1-acre parcel that petitioners owned and on which they lived and a separate 4-acre parcel that petitioners and thomas malone jointly owned petitioners had borrowed money to buy the 1-acre and 4-acre parcels d petitioners’ interest deductions petitioners claimed the following interest deductions on schedule c of their returns for the years in issue 1dollar_figure big_number big_number opinion a contentions of the parties petitioners contend that they may deduct the interest at issue they contend that the limitation in sec_163 on the deduction of personal_interest does not apply because they signed the sales agreement before sec_163 was effective and because congress did not intend sec_163 to apply to the owners of a corporation who were also employees of the corporation if sec_163 applies petitioners contend that they may deduct the interest at issue because it is trade_or_business interest under sec_163 investment_interest under sec_163 an expense for the production_of_income under sec_212 or qualified_residence_interest under sec_163 1respondent determined that petitioners may not deduct those amounts except respondent determined that petitioners may not deduct dollar_figure for there is no explanation for the dollar_figure discrepancy respondent contends that the interest at issue is nondeductible personal_interest under sec_163 and that sec_212 does not apply b limitation on the deduction of personal_interest generally a taxpayer other than a corporation may not deduct personal_interest sec_163 investment sec_163 provides in pertinent part h disallowance of deductions for personal_interest -- in general --in the case of a taxpayer other than a corporation no deduction shall be allowed under this chapter for personal_interest paid_or_accrued during the taxable_year personal_interest --for purposes of this subsection the term personal_interest means any interest allowable as a deduction under this chapter other than-- a interest_paid or accrued on indebtedness properly allocable to a trade_or_business other than the trade_or_business of performing services as an employee b any investment_interest within the meaning of subsection d d any qualified_residence_interest within the meaning of paragraph and qualified_residence_interest --for purposes of this subsection-- a in general --the term qualified_residence_interest means any interest which is paid or continued continued accrued during the taxable_year on-- i acquisition_indebtedness with respect to any qualified_residence of the taxpayer or ii home_equity_indebtedness with respect to any qualified_residence of the taxpayer for purposes of the preceding sentence the determination of whether any property is a qualified_residence of the taxpayer shall be made as of the time the interest is accrued b acquisition_indebtedness -- i in general --the term acquisition_indebtedness means any indebtedness which-- i is incurred in acquiring constructing or substantially improving any qualified_residence of the taxpayer and ii is secured_by such residence c home_equity_indebtedness -- i in general --the term home_equity_indebtedness means any indebtedness other than acquisition_indebtedness secured_by a qualified_residence to the extent the aggregate amount of such indebtedness does not exceed-- i the fair_market_value of such qualified_residence reduced by ii the amount of acquisition_indebtedness with respect to such residence ii limitation --the aggregate amount continued interest interest allocable to a trade_or_business other than the trade_or_business of performing services as an employee and qualified_residence_interest are not personal_interest sec_163 however investment_interest may be deducted only to the extent that the the taxpayer has net_investment_income sec_163 deductions are a matter of legislative grace and are strictly construed 292_us_435 76_tc_1001 a taxpayer bears the burden of proving that he or she may deduct the claimed expense rule a 290_us_111 c effective date of sec_163 petitioners contend that the personal_interest deduction limits of sec_163 do not apply to interest they paid after continued treated as home_equity_indebtedness for any period shall not exceed dollar_figure dollar_figure in the case of a separate_return by a married individual 3petitioners called lee e lott lott as an expert witness respondent objected because petitioners did not provide an expert witness report before trial as required by rule f petitioners' counsel said that she wanted to ask lott if petitioners handled their interest deductions correctly on their tax returns we would have not considered lott's testimony because it was a legal opinion 966_f2d_443 9th cir 550_f2d_505 2d cir estate of cartwright v commissioner tcmemo_1996_286 petitioners did not raise this issue on brief thus we treat it as conceded because petitioners bought the seattle pump stock and signed a promissory note for it before the effective date of that section we disagree sec_163 applies to taxable years beginning after date sec_511 of the tax_reform_act_of_1986 publaw_99_514 100_stat_2085 petitioners paid the interest at issue in and all of which was during petitioners' taxable years beginning after date petitioners contend that sec_162 a or sec_163 a allows them to deduct the interest at issue here because congress did not amend those sections when it enacted sec_163 we disagree sec_163 limits the deduction of personal_interest that was previously deductible under sec_163 d whether petitioners may deduct the interest at issue as trade_or_business interest under sec_163 or investment_interest under sec_163 background sec_162 provides in part a in general -- there shall be allowed as a deduction all the ordinary and necessary expenses paid_or_incurred during the taxable_year in carrying on any trade_or_business sec_163 provides a general_rule -- there shall be allowed as a deduction all interest_paid or accrued within the taxable_year on indebtedness interest_paid on indebtedness allocable to a trade_or_business other than the trade_or_business of performing services as an employee is not personal_interest sec_163 investment_interest is not personal_interest sec_163 however investment_interest may be deducted only to the extent of the taxpayer's net_investment_income sec_163 petitioners contend that the interest at issue is allocable to a trade_or_business and that it was not the trade_or_business of performing services as employees alternatively petitioners contend that they may deduct the interest at issue as investment_interest under sec_163 we agree that the interest at issue is investment_interest however we disagree that petitioners may deduct it because they have not shown that they had any investment_income during the years at issue whether the interest at issue is allocable to an investment or to a trade_or_business petitioners contend that the interest at issue is allocable to the trade_or_business of owning and operating seattle pump petitioner testified that he bought the stock to get a job for himself and his family and that he believed he was not making an investment when he bought the stock petitioners contend that 70_tc_448 supports their position that the purchase of stock in a company to obtain a job is in connection with a trade_or_business we disagree in miller v commissioner supra the taxpayer borrowed money to buy a controlling_interest in the stock of a bank so that he could become the bank's president the corporation paid little or no dividends while the taxpayer owned it the taxpayer contended that he held the bank stock as part of his trade_or_business of banking and not as an investment because it allowed him to become the bank president id pincite we concluded that the taxpayer ran the corporation to increase its resale value and that the taxpayer held the stock as an investment we recognize that petitioner wanted to work for seattle pump however like miller the objective facts show that petitioners held the stock as an investment not as part of a trade_or_business the stock of seattle pump is a capital_asset petitioner researched the company before buying the stock as a prudent investor would he learned that seattle pump had been profitable petitioner believed petitioners paid fair_market_value for the stock payment of fair_market_value for stock suggests that the stock was held for investment purposes payment of a price above fair_market_value would have suggested it was not held as an investment id pincite petitioners have held the stock for a relatively long period of time they have enjoyed the benefits of stock ownership including control of seattle pump petitioners will benefit as any investor would if the value of the stock rises petitioner testified that he was not counting on stock appreciation but he did not deny that the value of the stock could rise like the corporation in miller seattle pump did not pay dividends in the years in issue we concluded in miller that the taxpayer held the stock as an investment even though he bought it so he could become president of the corporation similarly we believe petitioner held seattle pump stock as an investment despite the fact that he served as its president petitioners rely on schanhofer v commissioner tcmemo_1986_166 in which we held that the investment_interest limitations under sec_163 did not apply to interest_paid by a taxpayer who borrowed money to buy stock in the company for which he worked that case is distinguishable in schanhofer the taxpayer paid a substantial premium for stock that was not marketable because of restrictions in beverage permit and franchise agreements the stock in schanhofer had minimal growth potential in contrast petitioners' sale of the stock of seattle pump was not restricted petitioners paid fair_market_value for the stock and they did not show that it has no growth potential we did not consider sec_163 in 70_tc_448 and schanhofer v commissioner tcmemo_1986_166 because it had not yet been enacted we decided whether the interest at issue was limited by sec_163 petitioners' purchase of seattle pump stock is not a trade_or_business the internal_revenue_code does not define trade_or_business for this purpose 480_us_23 889_f2d_29 2d cir affg t c memo t o be engaged in a trade_or_business the taxpayer must be involved in the activity with continuity and regularity and the taxpayer's primary purpose for engaging in the activity must be for income or profit commissioner v groetzinger supra pincite the ownership of stocks and bonds is not generally a trade_or_business under sec_162 312_us_212 managing securities investments and collecting income therefrom generally is not a trade_or_business regardless of the amount invested continuity of effort or amount of time devoted to the activity the purchase of the stock of one company is not ordinarily an activity of an ongoing trade_or_business id there is no evidence that petitioners bought any stock other than that of seattle pump or that were in a trade_or_business of buying stock devoting one's time and energies to the affairs of a corporation is generally not of itself a trade_or_business of the person so engaged 373_us_193 we conclude that petitioners held the seattle pump stock as an investment not as part of a trade_or_business thus the interest at issue does not qualify under the trade_or_business exception under sec_163 limitation of deduction of investment_interest the amount of investment_interest that a taxpayer other than a corporation may deduct may not exceed the taxpayer's net_investment_income for the taxable_year sec_163 petitioners have not shown that they had any net_investment_income during the years in issue there is no evidence that seattle pump paid dividends during the years in issue we conclude that petitioners may not deduct any of the interest at issue as investment_interest except as allowed next phase-in limitations disallowance of the deduction of net_investment_income interest is phased-in during taxable years to sec_163 disallowance of personal_interest is phased-in for to under different rules than for net investment_interest sec_165 respondent determined that the interest at issue is personal_interest consistent with that determination petitioners should be entitled to an interest 7in light of this conclusion we need not decide respondent's contention that petitioners' purchase of seattle pump stock was properly allocable to their trade_or_business of providing services as an employee see sec_163 8petitioners do not argue that their wages are investment_income under sec_163 wages received by a shareholder are not investment_income under sec_163 wages are compensation_for_personal_services sec_162 deduction that is no less than the amount that would be allowed under personal_interest phase-in rules for each year e whether petitioners may deduct the interest at issue as an expense for the production_of_income under sec_212 petitioners contend that they may deduct the interest at issue as an expense for the production_of_income under sec_212 we disagree petitioners asserted without explanation in their pretrial memorandum and posttrial briefs that they may deduct the interest at issue under sec_212 petitioners have not cited and we are not aware of any case in which a court disallowed interest deductions under sec_163 and allowed them under sec_212 petitioner testified that petitioners bought seattle pump stock so that he and his family could have jobs sec_1 f income_tax regs provides that taxpayers may not deduct under sec_212 the costs of seeking employment or placing oneself in a position to begin rendering personal services for compensation the limits of sec_163 would be undermined if taxpayers could deduct under sec_212 interest which is not deductible under sec_163 we conclude that petitioners may not deduct any of the interest at issue under sec_212 f whether petitioners may deduct the interest at issue as qualified_residence_interest under sec_163 petitioners contend that they may deduct the interest at issue as qualified_residence_interest under sec_163 and a ii respondent contends that the interest_paid on the notes to voier was not qualified_residence_interest respondent also contends that petitioners did not prove the amount of qualified_residence_interest attributable to the key bank loan qualified_residence_interest is interest that is paid_or_accrued on acquisition or home_equity_indebtedness with respect to any qualified_residence of the taxpayer sec_163 acquisition_indebtedness is indebtedness paid to acquire construct or substantially improve a qualified_residence and is secured_by that residence sec_163 home_equity_indebtedness is indebtedness other than acquisition_indebtedness that is secured_by a qualified_residence if the indebtedness is not more than the fair_market_value of the qualified_residence reduced by the amount of acquisition_indebtedness for the qualified_residence sec_163 there is no evidence of the fair_market_value of the residence that petitioners contend is the qualified_residence or the amount of acquisition_indebtedness there are no facts in the record upon which we may estimate the fair_market_value or acquisition_indebtedness in the opening brief respondent contended that the amount of qualifying_indebtedness cannot be ascertained petitioners did not respond to respondent's contention we conclude that petitioners may not deduct any amount as qualifying residence interest because facts needed to calculate the deduction are not in the record g conclusion petitioners may deduct interest for each year in issue under the phase-in rules of sec_163 for investment_interest or sec_163 for personal_interest whichever is greater to reflect concessions and the foregoing decision will be entered under rule 9in light of our conclusion we need not decide respondent's contention that petitioners have not shown that they meet the limitations that apply to home_equity_indebtedness we also need not decide petitioners' contention that mortgage interest on their residence is qualified_residence_interest under sec_163 because the residence secured the letters of credit that in turn secured their note to voier


internal_revenue_service department of the treasury number release date index number washington dc person to contact telephone number refer reply to cc psi 4-plr-113000-01 date date legend original trust decedent brother sister a b c d e f g h i date1 date date plr-113000-01 date dear this is in response to your letter dated date and prior correspondence in which you request rulings concerning the federal income gift and generation- skipping transfer_tax consequences of the proposed division of a_trust you represent the facts to be as follows decedent’s legal guardian established an irrevocable_trust the original trust for decedent’s benefit on date the original trust was amended on date date is prior to date decedent died on date article i paragraph of the original trust provides that upon the death of decedent the trustee shall divide the remaining income into two equal parts and pay over and distribute not less frequently than annually one such equal part to brother so long as he lives and upon his death to his child or children in equal shares the remaining equal part is to be paid to sister and upon her death to her child or children in equal shares upon the death of both brother and sister the entire corpus is to be divided and distributed to the children of brother and sister share and share alike and to the child or children of any such niece or nephew of decedent who is then deceased per stirpes brother died on date brother has four children a b c and d who are currently receiving one-half of the income from the original trust sister is living and receives the remaining one-half of the income sister has five children e f g h and i the parties propose to divide the original trust into six separate trusts trust will consist of four-ninths of the corpus sister will be the sole income_beneficiary of trust upon termination of trust the remaining principal will be distributed to sister’s issue per stirpes except that if any child of sister has predeceased her and leaves no issue surviving her the share that would otherwise have been distributed to such deceased child or the issue of such deceased child will be divided into equal shares one for each living child of brother one for each living child of sister and one for the living issue by representation of each deceased child of either of them who leaves such issue such shares will then be distributed to the person or persons for whom they were set apart subject_to any other applicable terms of trust trust will consist of one-ninth of the corpus brother’s children will be the beneficiaries of one-half of the income of trust and sister will be the beneficiary of the other one-half upon termination of trust the remaining principal will be distributed to sister’s issue per stirpes except that if any child of sister has predeceased her and leaves no issue surviving her the share that would otherwise plr-113000-01 have been distributed to such deceased child or the issue of such deceased child will be divided into equal shares one for each living child of brother one for each living child of sister and one for the living issue by representation of each deceased child of either of them who leaves such issue such shares will then be distributed to the person or persons for whom they were set apart subject_to any other applicable terms of trust trust will consist of one-ninth of the corpus c will be the sole income_beneficiary of trust during her lifetime or until the earlier termination of trust if trust terminates before c’s death the remaining principal will be distributed to c if c dies before the termination of trust the income will be distributed in equal shares to the then living children of brother until the trust’s termination if trust terminates after c’s death the remaining principal will be divided in equal shares one for each living child of brother one for each living child of sister and one for the living issue by representation of each deceased child of either of them who leaves such issue the shares will then be distributed to the person or persons for whom they were set apart subject_to the other applicable terms of trust trust will consist of one-ninth of the corpus a will be the sole income_beneficiary of trust during his lifetime or until the earlier termination of trust if trust terminates before a’s death the remaining principal will be distributed to a if a dies before the termination of trust the income will be distributed in equal shares to the then living children of brother until the trust’s termination if trust terminates after a’s death the remaining principal will be distributed to a’s issue per stirpes however if a has no issue then living the remaining principal will be divided in equal shares one for each living child of brother one for each living child of sister and one for the living issue by representation of each deceased child of either of them who leaves such issue the shares will then be distributed to the person or persons for whom they were set apart subject_to the other applicable terms of trust trust will consist of one-ninth of the corpus b will be the sole income_beneficiary of trust during her lifetime or until the earlier termination of trust if trust terminates before b’s death the remaining principal will be distributed to b if b dies before the termination of trust the income will be distributed in equal shares to the then living children of brother until the trust’s termination if trust terminates after b’s death the remaining principal will be distributed to b’s issue per stirpes however if b has no issue then living the remaining principal will be divided in equal shares one for each living child of brother one for each living child of sister and one for the living issue by representation of each deceased child of either of them who leaves such issue the shares will then be distributed to the person or persons for whom they were set apart subject_to the other applicable terms of trust trust will consist of one-ninth of the corpus d will be the sole income_beneficiary of trust during his lifetime or until the earlier termination of trust if plr-113000-01 trust terminates before d’s death the remaining principal will be distributed to d if d dies before the termination of trust the income will be distributed in equal shares to the then living children of brother until the trust’s termination if trust terminates after d’s death the remaining principal will be distributed to d’s issue per stirpes however if d has no issue then living the remaining principal will be divided in equal shares one for each living child of brother one for each living child of sister and one for the living issue by representation of each deceased child of either of them who leaves such issue the shares will then be distributed to the person or persons for whom they were set apart subject_to the other applicable terms of trust trust trust trust trust trust and trust will each continue to be governed by the terms of the original trust including the termination_date all assets of the original trust will be divided on a pro_rata basis among the six trusts you represent that no additions have been made constructive or actual to the original trust since the death of decedent decedent’s death was prior to date the parties have petitioned the court with jurisdiction over the original trust and on date obtained an order from the court to divide the original trust you have represented that you will petition the court to modify the existing order consistent with the representations made in this ruling_request you have requested the following rulings that if the original trust is divided into six separate trusts each trust will be considered to have been created and irrevocable prior to date and as a result will be exempt from the generation-skipping_transfer_tax imposed by sec_2601 that the division of the original trust will not constitute an additional or constructive_addition to the six newly formed trusts that future distributions from the six newly formed trusts will be exempt from the generation-skipping_transfer_tax imposed by sec_2601 that the division of the original trust the partitioning of the trust assets and the allocation of such assets among the six new trusts will not be considered a sale exchange or other_disposition of property under sec_1001 that as a result of the division of the original trust the beneficiaries will not be deemed to have sold or exchanged their interests in the original trust for interests in the new trusts under sec_1001 that the consent by the beneficiaries to the division of the original trust or the actual division itself will not constitute a transfer for gift_tax purposes by plr-113000-01 those individuals ruling_request sec_1 through generation-skipping_transfer_tax sec_2601 imposes a tax on every generation-skipping_transfer gst made after date under b a of the tax_reform_act_of_1986 act and sec_26 b i of the generation-skipping_transfer_tax regulations the gst tax provisions do not apply to any generation-skipping_transfer under a_trust as defined in sec_2652 that was irrevocable on date however this exemption does not apply to additions actual or constructive that are made to the trust after date sec_26_2601-1 provides that except as provided in sec_26 b ii b or c any trust as defined in sec_2652 in existence on date is considered an irrevocable_trust sec_26_2601-1 provides rules for determining when a modification judicial construction settlement agreement or trustee action with respect to a_trust that is exempt from the generation-skipping_transfer_tax will not cause the trust to lose its exempt status sec_26_2601-1 provides that a modification will not cause an exempt trust to be subject_to the provisions of chapter if the modification does not shift a beneficial_interest in the trust to any beneficiary who occupies a lower generation as defined in sec_2651 than the person or persons who held the beneficial_interest prior to the modification and the modification does not extend the time for vesting of any beneficial_interest in the trust beyond the period provided for in the original trust a modification of an exempt trust will result in a shift in beneficial_interest to a lower generation beneficiary if the modification can result in either an increase in the amount of a generation-skipping_transfer or the creation of a new generation-skipping_transfer in this case the original trust was irrevocable on date and no additions constructive or actual have been made to the original trust after that date the parties propose to divide the original trust into six separate successor trusts as described above the proposed division of the original trust does not result in a shift of any beneficial_interest in the trust to any beneficiary who occupies a generation lower than the persons holding the beneficial interests prior to the division in addition the proposed division will not extend the time for vesting of any beneficial_interest in the trust beyond the period provided for in the original trust based on the information submitted and the representations made we conclude that the division as proposed will not subject the original trust or any successor trust plr-113000-01 created under the division to the generation-skipping_transfer_tax after the division the resulting successor trusts will continue to be exempt from the generation-skipping_transfer_tax imposed under sec_2601 provided there are no additions to the trusts after date therefore future distributions from trust trust trust trust trust and trust will be exempt from the generation-skipping_transfer_tax ruling_request sec_4 and income_tax sec_61 provides that gross_income includes gains derived from dealings in property sec_102 excludes from gross_income the value of property acquired by gift bequest devise or inheritance sec_1001 provides that the gain from the sale_or_other_disposition of property shall be the excess of the amount_realized therefrom over the adjusted_basis provided in sec_1011 for determining gain and the loss shall be the excess of the adjusted_basis over the amount_realized sec_1001 provides that the amount_realized from the sale_or_other_disposition of property shall be the sum of any money received plus the fair_market_value of the property other than money received sec_1001 provides that except as otherwise provided in subtitle a the entire amount of gain_or_loss determined under sec_1001 on the sale_or_exchange of property shall be recognized sec_1_1001-1 of the income_tax regulations provides that the gain_or_loss realized from a conversion of property into cash or from an exchange of property for other_property differing materially in_kind or extent is treated as income or as loss sustained an exchange of property results in the realization of gain_or_loss under sec_1001 if the properties exchanged are materially different 499_us_554 there is a material difference if the exchanged properties embody legal entitlements different in_kind or extent or if they confer different rights and powers id pincite the conversion for the purpose of eliminating a survivorship feature of a joint_tenancy into a tenancy_in_common is a nontaxable_transaction likewise the severance of a joint_tenancy under a partition action pursuant to state law is a nontaxable_transaction see revrul_56_437 1956_2_cb_507 cf revrul_69_486 c b nonpro-rata in-kind distribution from trust pursuant to agreement of beneficiaries is an exchange between the beneficiaries because the trustee was not plr-113000-01 authorized by the trust instrument or local law to make nonpro-rata distribution the determination of how much to whom and when the original trust distributes income and corpus revolves around sister’s life this same result will obtain under the successor trusts after the proposed partition for example if all presumptive beneficiaries or their issue outlive sister the proposed partition will not alter the identity of a beneficiary nor the timing and amount of a distribution as set forth under the original trust when a presumptive beneficiary fails to outlive sister the proposed partition will not alter the identity of a beneficiary nor the amount and timing of a distribution to that beneficiary as set forth under the original trust for example after the partition if an income_beneficiary fails to outlive sister that beneficiary’s income_interest will be divided among the beneficiary’s siblings an identical distribution occurs under the original trust in this circumstance as to corpus after the partition the interest of a beneficiary who fails to outlive sister passes to that beneficiary’s issue if any this same result would obtain under the original trust under these circumstances upon failure of issue the beneficiary’s interest is divided among the children of brother and the children of sister per capita with issue taking by representation this mirrors the required_distribution under the original trust under these circumstances no material_change will occur in the identity of the beneficiaries the amount each will receive or in when the beneficiaries will receive their interests as set forth under the original trust thus no beneficiary will receive an additional interest as a result of the partition or a different interest as a result of the partition also other terms and conditions of each successor trust will be the same as those of the original trust we conclude therefore that the original trust will merely divide into its constituent parts hence the original trust and its beneficiaries will not participate in an exchange for which gain_or_loss must be recognized under sec_61 or sec_1001 as a result of the described partition ruling_request gift_tax sec_2501 imposes a tax on the transfer of property by gift by an individual sec_2511 provides that the tax imposed by sec_2501 applies whether the transfer is in trust or otherwise whether the gift is direct or indirect and whether the property is real or personal tangible or intangible sec_2512 provides that if a gift is made in property the value thereof at the date of the gift shall be considered the amount_of_the_gift in this case the interest of each beneficiary will remain the same after the proposed division of the original trust into six separate trusts as it was prior to the plr-113000-01 division accordingly based on the facts submitted and the representations made we conclude that the proposed division will not cause any beneficiary to be considered as having made a taxable gift under sec_2501 except as specifically set forth above no opinion is expressed or implied regarding the federal tax consequences of this transaction under the cited provisions or any other provision of the code this ruling is expressly conditioned on the modification of the court order dated date this letter is directed only to the taxpayer who requested it sec_6110 provides that it may not be used or cited as precedent pursuant to a power_of_attorney on file with this office a copy of this ruling is being sent to the taxpayer sincerely associate chief_counsel passthroughs and special industries by george l masnik chief branch


internal_revenue_service department of the treasury number release date index number washington dc person to contact telephone number refer reply to cc psi b01-plr-156463-02 date april x y z a b state entity state date date date date dear this responds to a letter dated date and subsequent correspondence submitted on behalf of y requesting relief under sec_301_7701-3 and sec_301_9100-3 of the procedure and administration regulations for y to elect to change its federal tax classification effective date plr-156463-02 facts according to the information submitted y was organized on date as a state entity by default y was treated as a partnership for federal_income_tax purposes y elected to be treated as a corporation for federal tax purposes effective date on date x acquired the shares of z the indirect owner of y on date a and b the direct owners of y were liquidated into z in conjunction with this restructuring y desired to change its federal tax classification since the sixty month post election_period under sec_301_7701-3 had not expired y submitted this ruling_request seeking the commissioner’s consent to make an elective change in classification furthermore y intended to make the elective change in entity classification effective date however y can no longer timely file a form_8832 entity classification election to make the election effective as of date law and analysis sec_301_7701-3 provides in relevant part that an eligible_entity may elect to be classified other than as provided under sec_301_7701-3 sec_301_7701-3 provides that if an eligible_entity makes an election under sec_301_7701-3 to change its classification other than an election made by an existing entity to change its classification as of the effective date of sec_301_7701-3 the entity cannot change its classification by election again during the sixty months succeeding the effective date of the election the commissioner however may permit an eligible_entity to make a new election before the sixty month period expires if more than percent of the ownership interests in the entity as of the effective date of the subsequent election are owned by persons that did not own any interests in the entity on the filing_date or on the effective date of the entity’s prior election sec_301_7701-3 allows an eligible_entity to elect to change its classification by filing form_8832 with the service_center designated on that form sec_301_7701-3 provides that all such elections become effective on the date specified by the entity on form_8832 or on the date filed if no effective date is specified the effective date specified on form_8832 can not be more than days prior to the date on which the election is filed and can not be more than months after the date on which the election is filed sec_301_7701-3 provides that if an eligible_entity classified as an association elects under sec_301_7701-3 to be classified as a partnership the following is deemed to occur the association distributes all of its assets and liabilities to its shareholders in liquidation of the association and immediately thereafter the shareholders contribute all of the distributed assets and liabilities to a newly formed partnership plr-156463-02 sec_301_7701-3 provides that the transactions that are deemed to occur as the result of an elective change in entity classification are treated as occurring immediately before the close of the day before the election is effective sec_301_7701-3 provides that if an elective classification change under sec_301_7701-3 is effective at the same time as a membership change the deemed transactions of sec_301_7701-3 must be given effect sec_301_9100-1 gives the commissioner discretion to grant reasonable extensions of time to make regulatory elections under the rules of sec_301_9100-2 and sec_301_9100-3 under sec_301_9100-1 a regulatory election includes an election whose due_date is prescribed by a regulation published in the federal_register sec_301_9100-3 sets forth the standards which the commissioner uses to determine whether to grant a discretionary extension of time these standards indicate that the commissioner will grant relief when the taxpayer provides evidence proving to the satisfaction of the commissioner that the taxpayer acted reasonably and in good_faith and that granting relief will not prejudice the interests of government conclusion based solely on the representations made and on the information submitted we grant permission for y to elect to change its classification for federal tax purposes further we conclude that y has satisfied the requirements of sec_301_9100-1 and sec_301_9100-3 as a result y is granted an extension of time of days following the date of this letter to make the election to be classified as a partnership for federal tax purposes effective date y should make the election by filing form_8832 with the philadelphia service_center a copy of this letter should be attached to that form the ruling in this letter is based on information and representations submitted by taxpayer and accompanied by a penalty of perjury statement executed by an appropriate party while this office has not verified any of the material submitted in support of the request_for_ruling it is subject_to verification on examination except as specifically set forth above no opinion is expressed concerning the federal tax consequences of the facts described above under any other provision of the code specifically no opinion is expressed concerning whether y is an eligible_entity this ruling is directed only to the taxpayer who requested it sec_6110 of the internal_revenue_code provides that it may not be used or cited as precedent plr-156463-02 pursuant to a power_of_attorney on file with this office a copy of this letter is being sent to your authorized representative sincerely heather c maloy associate chief_counsel passthroughs and special industries enclosures copy of this letter copy for sec_6110 purposes