t c memo united_states tax_court deborah l watts petitioner v commissioner of internal revenue respondent docket no filed date robert m walsh for petitioner daniel p ryan for respondent memorandum findings_of_fact and opinion gale judge respondent determined a deficiency in petitioner’ sec_2002 federal_income_tax of dollar_figure and additions to tax under sec_6651 of dollar_figure under sec_6651 of dollar_figure and under sec_6654 of dollar_figure unless otherwise noted all section references are to the internal_revenue_code_of_1986 as in effect for the year in issue and all rule references are to the tax_court rules_of_practice and procedure all dollar amounts have been rounded to the nearest dollar after concessions the issues for decision are whether a dollar_figure payment petitioner received in in connection with the settlement of a class action lawsuit against her automobile insurer is includible in gross_income whether dollar_figure petitioner received from the social_security administration in is includible in gross_income under sec_86 whether petitioner was required to file a federal_income_tax return for whether petitioner i sec_1respondent has conceded that petitioner is not liable for a sec_6654 addition_to_tax petitioner claimed entitlement to a medical_expense_deduction in the petition but presented no evidence relating to this issue and did not address it on brief we therefore deem it to have been abandoned see 115_tc_26 affd 309_f3d_1290 11th cir 84_tc_693 affd without published opinion 789_f2d_917 4th cir respondent determined in the notice_of_deficiency that petitioner had total unreported gross_income for of dollar_figure in connection with payments from state farm mutual automobile insurance co state farm and the social_security administration on brief respondent takes the position that petitioner had unreported income of dollar_figure from state farm and dollar_figure from the social_security administration for total unreported income of dollar_figure respondent did not move to amend his answer to assert an increased deficiency in any event the discrepancy in the unreported income respondent asserted has no significance given that we have redetermined that petitioner had unreported income from state farm and the social_security administration of only dollar_figure and dollar_figure respectively entitled to a dependency_exemption deduction under sec_151 whether petitioner is entitled to a child_tax_credit under sec_24 and whether petitioner is liable for additions to tax under sec_6651 and findings_of_fact some of the facts have been stipulated and are incorporated by this reference at the time the petition was filed petitioner resided in new hampshire i state farm settlement payment a petitioner’s automobile accident petitioner married on date on date while living in tuscon arizona with her husband petitioner was injured in an automobile accident the fault of an uninsured motorist as a result of her injuries petitioner was unable to work for over a year at the time of the accident petitioner and her husband had two vehicles insured under separate automobile liability insurance policies through state farm mutual automobile insurance co state farm both insurance policies were purchased by petitioner and or her husband and had endorsements for uninsured and underinsured motorist um uim coverage with policy limits of dollar_figure b petitioner’s claim against state farm although petitioner filed a lawsuit against the motorist who was at fault in her accident her counsel ascertained that the defendant had no significant assets nor any insurance petitioner submitted a claim under her um uim coverage to state farm for compensation_for her injuries in the automobile accident state farm took the position that petitioner was entitled to recover under the um uim coverage of only one of the two policies held by her and her husband resulting in an effective policy limit on recovery_of dollar_figure in taking this position state farm relied on anti-stacking provisions in its insurance contracts with petitioner and her husband under which the insured was purportedly precluded from aggregating or stacking his or her um uim coverages under multiple state farm policies petitioner thereafter agreed to settle her claim with state farm for dollar_figure and after satisfaction of attorney’s fees and costs she and her husband received a payment of dollar_figure on or about date at the time she settled her claim petitioner anticipated incurring future medical_expenses on account of the automobile accident but concluded that the stacking is the practice by which insureds may seek indemnification from the same coverage under two or more policies state farm mut auto ins co v lindsey p 2d ariz citing widiss uninsured and underinsured motorist insurance sec_40 pincite 2d ed 3this payment is not at issue in this case settlement was advisable in view of the costs of further litigation and state farm’s position that the limit on her recovery was dollar_figure c class action lawsuit against state farm after petitioner had agreed to settle with state farm the arizona supreme court decided state farm mut auto ins co v lindsey p 2d ariz in which it held that anti- stacking provisions in certain other state farm automobile liability insurance policies similar to those that state farm had invoked against petitioner were ineffective to preclude stacking id pincite after the lindsey decision petitioner became a member of the plaintiff class in a class action lawsuit against state farm that had been filed on date in pima county arizona superior court superior court the class action plaintiffs alleged that state farm’s refusal to allow plaintiffs to ‘aggregate’ or ‘stack’ multiple uninsured and or underinsured motorist coverages provided by state farm policies constitutes a breach of contract the plaintiffs also raised claims for relief based on breach of covenant of good_faith and fair dealing in connection with their contracts of insurance with state farm fraud in connection with the denial of benefits under the plaintiffs’ policies violation of the arizona consumer fraud act a r s a in connection with the denial of stacking of uninsured coverage in multiple policies breach of fiduciary duty and racketeering as proscribed by a r s d the plaintiffs requested as relief compensatory_damages treble_damages punitive_damages attorney’s fees and costs and prejudgment_interest d class action settlement agreement the class action lawsuit was settled on date by means of a written settlement agreement settlement agreement pursuant to the settlement agreement state farm deposited into trust dollar_figure of which dollar_figure constituted class member settlement funds settlement funds to be used to pay certain of the plaintiffs namely eligible class members under the settlement agreement each eligible class member was entitled to receive a pro_rata share of the settlement funds plus interest accruing before disbursement provided the eligible class member executed and returned an individual release to state farm eligible class members included those plaintiff class members whom the superior court had ruled met the following criteria as described in the settlement agreement any person and each person who has a claim for the wrongful death of a person who is or was 4the remaining funds were allocated to seventh year class members whose claims apparently were subject_to a greater litigation hazard that state farm would prevail in a statute_of_limitations defense and attorney’s fees and costs a insured under multiple automobile liability insurance policies that i were purchased by one insured on different vehicles ii included uninsured um and or underinsured uim motorist coverage and iii were delivered or issued for delivery in arizona by state farm with respect to a motor_vehicle registered or principally garaged in arizona b who sustained injury or death as a result of the fault of an insured sic6 and or underinsured motorist and c who was paid the um and or uim motorist coverage limits on one automobile liability policy issued by state farm but received no payment from any other um and or uim coverage provided by any other automobile liability policy described above the settlement agreement excluded from the category of eligible class members identified plaintiffs ie those class members whom the superior court concluded had policies with anti-stacking clauses that were valid and enforceable and fully compensated plaintiffs ie those class members whom the superior court concluded were fully compensated for their injuries and not entitled to any recovery in the litigation 5we assume in deciding this case that petitioner was treated by state farm and the pima county arizona superior court superior court as meeting the one insured requirement in connection with the policies purchased by her and or her husband by virtue of arizona’s community_property_laws see state farm mut auto ins co v lindsey p 2d pincite 6given the context we find that the use of the term insured in this clause of the settlement agreement was a typographical error and that uninsured was intended by the parties to the agreement as noted an eligible class member was required to execute a prescribed individual release in order to receive his or her pro_rata share of the settlement funds the terms of the prescribed individual release are not in the record however pursuant to the settlement agreement every eligible class member regardless of whether he or she executed an individual release and received settlement funds became subject_to a general class release which released state farm from any and all claims demands suits causes of action damages costs fees expenses and civil liabilities of any nature whatsoever in law or equity arising from the transaction or occurrence giving rise to the claims in the class action complaint e receipt of payment petitioner was one of eligible class members who received pro_rata disbursements from the settlement funds that with accrued interest had grown to dollar_figure as of date sometime in petitioner received a dollar_figure payment pursuant to the settlement agreement as her pro_rata portion of the settlement funds during that year petitioner was issued a form 1099-misc miscellaneous income reflecting the payment ii social_security administration payments during petitioner was disabled as a result of reflex dystrophy syndrome she received payments totaling dollar_figure from the social_security administration on account of this disability and was issued a form ssa-1099 social_security_benefit statement reflecting the payments during petitioner and her husband were married but were experiencing marital difficulties iii dependency_exemption deduction and child_tax_credit petitioner and her husband had two children during their marriage--tjm and tdm sometime around petitioner moved to new hampshire as noted petitioner remained married throughout she and her husband obtained a final decree of divorce in they had no written_agreement concerning the custody of tjm and tdm during iv tax_advice petitioner consulted an accountant as to the proper tax treatment of the dollar_figure payment from state farm the accountant advised petitioner that the payment might or might not be taxable and that petitioner should make further inquiry into its tax consequences v notice_of_deficiency petitioner did not file a federal_income_tax return for respondent prepared a substitute for return and on date issued a notice_of_deficiency to petitioner for in which he determined that petitioner had unreported 7tjm was born on date and tdm was born on date income of dollar_figure as disclosed by third-party payors respondent further determined that petitioner’s filing_status was single that petitioner was entitled to one personal_exemption and no credits and that petitioner was liable for additions to tax under sec_6651 and as previously described petitioner filed a timely petition for redetermination opinion generally the determinations in the notice_of_deficiency are presumed correct and taxpayers bear the burden of proving that the determinations are in error see rule a 290_us_111 petitioner has not claimed or shown entitlement to any shift in the burden_of_proof pursuant to sec_7491 as discussed infra respondent bears the burden of production with respect to the additions to tax he determined pursuant to sec_7491 generally gross_income includes all income from whatever source derived unless excluded by a specific provision of the internal_revenue_code see sec_61 sec_1_61-1 income_tax regs sec_61 broadly applies to any accession to wealth statutory exclusions from income are to be narrowly construed see 515_us_323 504_us_229 348_us_426 a 8see supra note taxpayer must demonstrate that he or she is within the clear scope of any statutory exclusion see commissioner v schleier supra pincite united_states v burke supra pincite i unreported income a state farm settlement payment we first decide whether petitioner must include in her gross_income the dollar_figure payment she received pursuant to the settlement agreement with state farm applicable internal_revenue_code provision petitioner contends that the settlement payment is excludable from gross_income under sec_104 because it constitutes damages received on account of personal physical injuries she suffered in an automobile accident respondent counters that the payment was not to settle a tort claim or to pay petitioner on account of personal physical injuries but rather to redress contract claims thus respondent argues the payment fails the two-part test under commissioner v schleier supra pincite and therefore is not excludable from gross_income under sec_104 we believe the parties have miscast the issue as governed by sec_104 sec_104 provides an exclusion_from_gross_income for the amount of any damages other than punitive_damages received whether by suit or agreement on account of personal physical injuries or physical sickness the regulations interpreting sec_104 provide sec_104 excludes from gross_income the amount of any damages received whether by suit or agreement on account of personal injuries or sickness the statutory term damages received whether by suit or agreement means an amount received through prosecution of a legal suit or action based upon tort or tort type rights or through a settlement agreement entered into in lieu of such prosecution sec_1 c income_tax regs emphasis added petitioner did not bring a suit or settle one based on tort or tort type rights the suit and settlement at issue were not against the motorist whose fault caused her injury or against that motorist’s insurer petitioner sued her own insurer concerning a disagreement over the contractual terms of policies she and her spouse had purchased--specifically whether anti- stacking clauses in those policies entitled state farm to deny coverage under the second policy the settlement petitioner reached with state farm was therefore not a settlement agreement entered into in lieu of a prosecution based on tort or type rights it was a settlement of a contract dispute concerning the terms of an insurance_policy she had purchased that purported to indemnify her against injury caused by an uninsured motorist 9the regulations do not reflect the amendment of sec_104 wherein the phrase other than punitive_damages was added after damages see small_business job protection act of publaw_104_188 sec a 110_stat_1838 sec_104 generally provides an exclusion10 from gross_income for amounts received through accident_or_health_insurance for personal injuries or sickness other than amounts received by an employee to the extent such amounts a are attributable to contributions by the employer which were not includible in the gross_income of the employee or b are paid_by the employer the regulations interpreting sec_104 provide sec_104 excludes from gross_income amounts received through accident_or_health_insurance for personal injuries or sickness other than amounts received by an employee to the extent that such amounts are attributable to contributions of the employer which were not includible in the gross_income of the employee or are paid_by the employer if therefore an individual purchases a policy of accident_or_health_insurance out of his own funds amounts received thereunder for personal injuries or sickness are excludable from his gross_income under sec_104 sec_1_104-1 income_tax regs accordingly under the regulations where an individual has purchased an accident_or_health_insurance policy the sec_104 exclusion applies to amounts received thereunder for personal injuries or sickness the regulations under sec_104 do not address the situation where the insured receives amounts only after initiation and settlement of a lawsuit against the issuer of the accident_or_health_insurance policy the parties apparently believe that the interposing of a lawsuit between the insured and 10the exclusion does not extend to amounts attributable to deductions allowed under sec_213 for any prior taxable_year the insurer in this case causes the payment petitioner received from state farm to constitute damages that may be excluded from income only by satisfying the requirements of sec_104 we disagree as more fully discussed below we conclude that petitioner’s settlement payment from state farm was received through accident_or_health_insurance for personal injuries or sickness within the meaning of sec_104 and is therefore excludable up to the policy limits under that section to decide whether the settlement payment petitioner received is excludable under sec_104 we must determine whether it constitutes an amount received through accident_or_health_insurance for personal injuries or sickness see marsh v commissioner tcmemo_2000_11 affd 23_fedappx_874 9th cir whether petitioner’s automobile liability policy was accident_or_health_insurance we believe there can be no serious dispute that petitioner’s automobile liability policy on which state farm denied coverage was accident_or_health_insurance within the meaning of sec_104dollar_figure in marsh v commissioner supra we assumed that an amount received in settlement of litigation over a claim under the uninsured motorist coverage of an automobile liability 11there is also no dispute in this case that the state farm policies at issue were purchased by petitioner or her spouse and not by any employer of either insurance_policy was in theory excludable under sec_104dollar_figure the commissioner has taken a similar position in a published revenue_ruling that disability payments received under a no fault automobile insurance_policy are excludable under sec_104 see revrul_73_155 1973_1_cb_50 we accordingly hold that the uninsured motorist coverage in the state farm automobile liability insurance policies at issue is accident_or_health_insurance within the meaning of sec_104 whether the payment was an amount received through accident_or_health_insurance sec_104 requires that an excluded amount be received through accident_or_health_insurance the regulations further clarify that an amount is excludable if an individual has purchased the policy and the amounts are received thereunder sec_1_104-1 income_tax regs marsh v commissioner supra likewise involved a claim by an insured taxpayer for indemnification for a personal injury under the uninsured motorist coverage of his automobile liability policy as in this case the insurer denied coverage on grounds subsequently found invalid by the state’s highest court in other proceedings the 12in marsh v commissioner tcmemo_2000_11 affd 23_fedappx_874 9th cir we held that an exclusion under sec_104 was not available because the claim that had been settled by the insurer was based on a false statement by the insured taxpayer thereupon sued and the insurer ultimately settled with the taxpayer for approximately dollar_figure which the taxpayer sought to exclude under sec_104 or dollar_figure a key difference in marsh was our finding that the taxpayer’s claim of personal injury was based on his false statement as a result we held that the payment was not excludable under sec_104 because it was not for personal injuries or sickness we did not suggest that the payment’s being a product of litigation with the insurer raised an issue under the requirement that the payment be received through accident_or_health_insurance indeed we assumed that a payment in these circumstances would be under an insurance_policy dollar_figure petitioner received the dollar_figure payment at issue as her share of the settlement of a class action lawsuit against state farm in order to be eligible to receive the payment petitioner was required to have been insured under multiple two or 13we found the taxpayer’s position on brief unclear as between the two subsections but the commissioner’s arguments assumed that the taxpayer was claiming an exclusion under sec_104 14in this regard we stated sec_104 provides an exclusion_from_gross_income of amounts received through accident_or_health_insurance for personal injuries or sickness emphasis added the mere fact that amounts in question are paid_by an insurance_company under an insurance_policy does not establish that such amounts were actually paid for injuries or sickness marsh v commissioner supra more insurance policies purchased from state farm with um uim coverage injured through the fault of an uninsured or underinsured motorist and denied payment under one of the foregoing policies while receiving payment under another we are satisfied that these prerequisites establish that petitioner received the settlement payment through accident insurance or under such a policy within the meaning of sec_104 and the regulations petitioner’s claim against state farm in the class action lawsuit was at its core a demand for payment under the second of the two policies purchased by her and her husband with respect to which state farm had denied coverage that petitioner had to litigate to establish her rights to payment under the second policy does not change the conclusion that the payment was received through accident insurance it is apparent that a primary issue in the litigation was the proper interpretation of the contractual terms of petitioner’s policies certain members of the plaintiff class the identified plaintiffs were excluded from any payment under the settlement agreement because the anti-stacking provisions in their policies had been found sufficient to support state farm’s denial of coverage in these circumstances we are persuaded that state farm settled with petitioner because the company believed there was a significant likelihood its denial of coverage under the second policy would be found improper we accordingly conclude that but for her status as an insured under the second policy petitioner would not have received the settlement payment we therefore hold that the settlement payment was received through accident_or_health_insurance whether the payment was received for personal injuries or sickness petitioner was a member of a plaintiff class whose members had sustained personal injury as the result of the fault of an uninsured or underinsured motorist but had been denied coverage under one or more of their state farm policies with um uim coverage petitioner’s eligibility to receive the payment at issue required in addition to the foregoing that she also not have been classified as a fully compensated plaintiff namely a member of the plaintiff class whom the superior court had ruled had been fully compensated for his or her injuriesdollar_figure only by meeting the foregoing requirements did petitioner become qualified to receive a pro_rata distribution of the dollar_figure settlement funds on the basis of these terms of the settlement agreement we are satisfied that petitioner received her share of the settlement funds in significant part because she had 15in order to qualify as an eligible class member petitioner also must not have been classified as a seventh year class member namely a plaintiff class member whose claims under a state farm policy had been the subject of an unsuccessful state farm motion for summary_judgment on the basis of the statute_of_limitations uncompensated personal injuries for which she had made a bona_fide claim against her insurer for indemnification which was settled respondent argues however that the class action lawsuit involved a multitude of claims beyond those premised on personal injury eg breach of contract breach of covenant of good_faith and fair dealing fraud violation of the arizona consumer fraud act breach of fiduciary duty and racketeering and sought compensatory_damages treble_damages punitive_damages and prejudgment interestdollar_figure since the settlement agreement did not expressly allocate any portion of the payment to personal injury and petitioner became subject_to a general release of all claims against state farm it cannot be said respondent argues that petitioner received the payment for personal injurydollar_figure rather the argument goes the payment was made in exchange for release of all claims against state farm and petitioner has failed to prove that any portion is attributable to personal injury 16although respondent’s argument was directed at sec_104 we consider it to the extent it may apply to petitioner’s entitlement to an exclusion under sec_104 17respondent also relies on 35_f3d_93 2d cir and morabito v commissioner tcmemo_1997_315 but this reliance is misplaced in both cases the taxpayers had never advanced a claim of any kind before receiving payment petitioner formally sued state farm and the litigation was settled pursuant to a written settlement agreement taggi and morabito offer no guidance in this context we disagree while the general release may have extinguished all of petitioner’s claims in the lawsuit we find more persuasive the fact that petitioner’s eligibility for a share of the settlement funds depended upon her showing that she had not been fully compensated for her injuries petitioner’s injuries were extensive she testified credibly that she was out of work for a year and that she anticipated medical_expenses in future years as a consequence of her injuries when she settled her claim under the first state farm policy in in these circumstances we are persuaded that state farm’s payment to her up to the dollar_figure limit on um uim coverage in her policy was for personal injuries within the meaning of sec_104 that leaves the excess of the settlement payment over the dollar_figure coverage limit of the second policy ie dollar_figure this amount could not have been indemnification under the policy for petitioner’s personal injuries because state farm’s obligation under the policy did not extend that far rather we are persuaded that dollar_figure of the settlement payment was for something else either interest18 or resolution of any claims that 18petitioner has conceded that dollar_figure of the dollar_figure payment is taxable interest that concession is consistent with the undisputed facts state farm initially deposited dollar_figure into trust to be distributed pro_rata to the eligible class members petitioner’s share of the original deposit would have been dollar_figure petitioner’s distribution was approximately dollar_figure more than that petitioner was entitled to recover damages on account of state farm’s wrongful denial of coverage consequently we conclude that petitioner has shown that dollar_figure of the payment at issue is excludable from gross_income pursuant to sec_104 and has failed to show any basis for excluding the remainder b social_security payments we now consider whether petitioner must include in her gross_income the dollar_figure of payments she received from the social_security administration as respondent determined petitioner’s unchallenged testimony was that she was disabled in as a result of reflex dystrophy syndrome and received the payments from the social_security administration at issue as a result of that disability we accordingly find that the payments were social_security disability insurance benefits sec_86 requires the inclusion in gross_income of up to percent of social_security_benefits received during the taxable_year including social_security disability insurance benefits see sec_86 d see also 123_tc_245 affd 436_f3d_344 2d cir joseph v commissioner tcmemo_2003_19 thomas v commissioner tcmemo_2001_120 generally under section sec_86 defines social_security_benefits to include amounts received under tit ii of the social_security act u s c secs as amended which include social_security disability insurance benefits id sec_423 a social_security_benefits are includible in gross_income in an amount equal to the lesser of-- a one-half of the social_security_benefits received during the taxable_year or b one- half of the excess described in subsection b the excess described in subsection b is the sum of the taxpayer’s modified_adjusted_gross_income magi and one-half of the social_security_benefits received during the taxable_year over the taxpayer’s base_amount if the sum of the magi and one-half of the social_security_benefits received exceed the taxpayer’s adjusted_base_amount then the amount of social_security_benefits includible in gross_income is equal to the lesser_of a the sum of-- i percent of such excess plus ii the lesser_of the amount determined under paragraph or an amount equal to one-half of the difference between the adjusted_base_amount and the base_amount of the taxpayer or b percent of the social_security_benefits received during the taxable_year sec_86 for purposes of sec_86 a taxpayer’s magi is her adjusted gross income-- a determined without regard to this section and sec_135 sec_137 sec_221 sec_222 sec_911 sec_931 and sec_933 and b increased by the amount of interest received or accrued by the taxpayer during the taxable_year which is exempt from tax sec_86 sec_86 defines the term base_amount to mean zero in the case of a taxpayer who-- i is married as of the close of the taxable_year within the meaning of sec_7703 but does not file a joint_return for such year and ii does not live apart from his spouse at all times during the taxable_year sec_86 defines the term adjusted_base_amount to mean zero in the case of a taxpayer described in paragraph c respondent determined that petitioner’s sole item_of_gross_income for other than her disability insurance benefits of dollar_figure was the dollar_figure payment from state farm we have redetermined that only dollar_figure of the state farm payment is includible in petitioner’ sec_2002 gross_income as a consequence none of the adjustments in sec_86 applies petitioner’s gross_income_adjusted gross_income and magi in were the same--dollar_figure petitioner’s base_amount and adjusted_base_amount were both zerodollar_figure see sec_86 c 20petitioner has not shown that she is entitled to any of the deductions under sec_62 that would cause adjusted_gross_income to be less than gross_income 21petitioner’s base_amount was zero because she was a taxpayer described in sec_86 petitioner was married at the end of has not shown she satisfied the requirements of sec_7703 to be treated as not married in and did not file a joint_return for the year see sec_86 see also 86_tc_433 n affd in part and revd in part on another issue 851_f2d_1492 d c cir brunner v commissioner tcmemo_2004_187 joint filing_status not allowable unless a joint_return is filed and made a part of the record before the case is submitted to the tax_court for decision affd per curiam 142_fedappx_53 3d cir further petitioner has not shown that she lived apart continued under sec_86 petitioner’s magi dollar_figure plus one- half of the social_security disability insurance benefits of dollar_figure dollar_figure equals dollar_figure which exceeds her adjusted_base_amount of zero accordingly under sec_86 the amount of social_security_benefits includible in petitioner’s gross_income is equal to the lesser_of dollar_figure percent of the excess of dollar_figure dollar_figure plus zero22 or dollar_figure percent of the social_security_benefits received accordingly petitioner must include in her gross_income for dollar_figure of the dollar_figure of social_security disability insurance benefits she received during the year pursuant to sec_86 ii filing requirement we have redetermined that petitioner had gross_income in totaling dollar_figure consisting of the dollar_figure taxable_portion of the state farm payment and the dollar_figure taxable_portion of the social_security_benefits as a consequence the court will consider sua sponte whether petitioner had an obligation to file a federal_income_tax return for continued from her former spouse at all times during see sec_86 petitioner’s adjusted_base_amount was also zero because she is a taxpayer described in sec_86 see sec_86 22one-half of the difference between the adjusted_base_amount zero and the base_amount zero is zero which is less than the amount determined under par see sec_86 sec_6012 requires the filing of an income_tax return by every individual having gross_income for the taxable_year which equals or exceeds the exemption_amount ie dollar_figure with four exceptions petitioner does not satisfy the first three exceptions ie clauses i ii and iii of sec_6012 which apply to unmarried individuals unmarried heads of households and surviving spouses respectively because she was married as of the close of petitioner also fails to satisfy the fourth exception in clause iv of sec_6012 which applies to an individual iv who is entitled to make a joint_return and whose gross_income when combined with the gross_income of his spouse is for the taxable_year less than the sum of twice the exemption_amount plus the basic_standard_deduction applicable to a joint_return but only if such individual and his spouse at the close of the taxable_year had the same household as their home petitioner fails to satisfy the exception in clause iv in three respects first she is not entitled to file a joint_return since she had not filed such a return or any return as of the submission of this case for decision see 86_tc_433 n affd in part and revd in part on another issue 851_f2d_1492 d c cir 23for purposes of sec_6012 a taxpayer’s exemption_amount has the same meaning as provided in sec_151 sec_6012 sec_151 provides that generally a taxpayer’s exemption_amount is dollar_figure increased by a cost-of- living adjustment sec_151 for taxable years beginning in the exemption_amount under sec_151 adjusted for the cost of living was dollar_figure see revproc_2001_59 sec_3_11 2001_2_cb_623 brunner v commissioner tcmemo_2004_187 affd per curiam 142_fedappx_53 3d cir second petitioner has provided no evidence concerning her spouse’s gross_income in third petitioner has not shown that she and her spouse had the same household as their home at the close of the available evidence suggests the contrary namely petitioner testified that in her marriage was dissolving and that she and her husband weren’t really talking too much because petitioner did not satisfy any of the exceptions she was required to file an income_tax return under sec_6012 in that her gross_income of dollar_figure exceeded dollar_figure iii dependency_exemption deduction we next consider whether petitioner is entitled to a dependency_exemption deduction for petitioner contends that she is entitled to a dependency_exemption deduction for one of her children while respondent’s position is that she has failed to show entitlement because there is no evidence of the child’s whereabouts or source of support during we agree with respondent sec_151 and c allows a taxpayer a deduction for each individual who is a dependent of the taxpayer as defined in sec_152 including a child of the taxpayer who has not reached age by the close of the taxable_year the allowance is conditional however on the taxpayer’s including the identifying number of the dependent on the return claiming the exemption see sec_151 sec_7701 sec_6109 sec_152 defines a dependent in pertinent part to include a son of the taxpayer over half of whose support for the year was received from the taxpayer or is treated as received from the taxpayer under subsection c or e of sec_152 sec_152 provides special rules for treating one taxpayer as if he or she provided more than half the support of his or her child in the case of divorced parents which for this purpose includes married individuals who notwithstanding the absence of a divorce legal_separation or written_separation_agreement nonetheless live apart at all times during the last months of the calendar_year sec_152 application of sec_152 also requires that the child receive over half of his support during the calendar from his parents and be in the custody of one or both of them for more than one-half of the calendar_year id if these conditions are met the child is treated as receiving over half of his support from the parent having custody for a greater portion of the calendar_year id or from the parent having custody for the lesser portion if the other parent releases his or her claim in a written declaration attached by the claiming parent to his or her return sec_152 petitioner has failed to show that she satisfies any of the sec_152 requirements for claiming either of her children as dependents she has proven only that during her marriage she had two children who were minors during beyond that there is no evidence of the source of the children’s support in or of which parent had custody over what period during that year petitioner asserts on brief that she provided over half of the support of one of her two children however statements on brief are not evidence see rule b 115_tc_43 affd 299_f3d_221 3d cir petitioner testified that she and her husband had an oral agreement covering under which petitioner was entitled to claim one of their children as a dependent however even a formal written_agreement incorporated in a state court decree granting the dependency_exemption deduction for a child to one parent is ineffective if the requirements of sec_152 are not met see 114_tc_184 it follows that any oral understanding between petitioner and her husband is likewise ineffective given that the record does not establish the children’s whereabouts in petitioner has failed to show either that she provided over half of the support of either child as required under sec_152 or that she should be treated as providing over half of that support under sec_152 because she had custody of the child for the greater portion of or had a written declaration from her husband releasing any claim to one of the dependency_exemption deductions for their two childrendollar_figure respondent’s determination that petitioner is entitled to only one personal_exemption is therefore sustained iv child_tax_credit we turn to petitioner’s claim of a child_tax_credit for subject_to income limitations not pertinent here a child_tax_credit is allowed with respect to each qualifying_child of the taxpayer sec_24 and b sec_24 generally defines a qualifying_child as a child of the taxpayer for whom the taxpayer is allowed a dependency_exemption deduction under sec_151 and who has not attained age since we have concluded that petitioner is not entitled to a dependency_exemption deduction for either tjm or tdm neither child is petitioner’s qualifying_child under sec_24 consequently petitioner is not entitled to a child_tax_credit and we sustain respondent’s determination to that effect 24the exceptions in sec_152 and also do not apply there is no evidence that there was a multiple_support_agreement as defined in sec_152 covering petitioner’s children in and there was no pre-1985 instrument within the meaning of sec_152 applicable to them v additions to tax finally we consider whether petitioner is liable for additions to tax under sec_6651 and respondent bears the burden of production with respect to petitioner’s liability for the additions to tax see sec_7491 in order to meet that burden respondent must offer sufficient evidence to indicate that it is appropriate to impose the additions see 116_tc_438 once respondent meets his burden of production petitioner bears the burden of proving error in the determination including establishing reasonable_cause or other exculpatory factors id pincite a sec_6651 addition_to_tax sec_6651 imposes an addition_to_tax for any failure_to_file a return by its due_date the addition is equal to percent of the amount_required_to_be_shown_as_tax on the return for each month or portion thereof that the return is late up to a maximum of percent see id the addition will not apply if it is shown that the failure_to_file a timely return was due to reasonable_cause and not due to willful neglect see id see also 469_us_241 a failure_to_file timely is due to reasonable_cause if the taxpayer exercised ordinary business care and prudence and was nevertheless unable to file the return within the prescribed time sec_301_6651-1 proced admin regs see united_states v boyle supra pincite willful neglect is interpreted as a conscious intentional failure or reckless indifference united_states v boyle supra pincite as previously discussed we have sustained respondent’s determination that petitioner had gross_income in to the extent of dollar_figure which exceeded her exemption_amount she was therefore required to file a return for see sec_6012 petitioner’s return for was due on date in the absence of any extensions see sec_6072 sec_6081 the parties stipulated that petitioner did not file a return for the foregoing satisfies respondent’s burden of production under sec_7491 and establishes petitioner’s liability for the sec_6651 addition_to_tax unless petitioner can establish reasonable_cause for her failure_to_file timely see higbee v commissioner supra pincite petitioner has not made an explicit claim that she had reasonable_cause for her failure_to_file she testified however that she consulted an accountant regarding the proper tax treatment of the payment she received from state farm and that he advised her that it might or might not be taxable and that she should make further inquiry assuming this testimony should be treated as a claim of reasonable_cause it falls short while it is true that the receipt of professional advice to the effect that the taxpayer does not have a tax_liability or filing obligation may constitute reasonable_cause for a failure to timely file see eg united_states v boyle supra pincite n 97_tc_385 affd in part and revd in part on other grounds 7_f3d_774 8th cir petitioner received no such advice regarding her obligations with respect to the state farm payment and no advice whatsoever regarding the social_security payments we accordingly conclude that petitioner did not have reasonable_cause for her failure_to_file and we sustain respondent’s determination of the addition_to_tax under sec_6651 with the amount_required_to_be_shown_as_tax on the return computed in a manner consistent with petitioner’s gross_income as redetermined herein b sec_6651 addition_to_tax sec_6651 imposes an addition_to_tax for any failure to pay the tax shown on a return on or before the date prescribed for payment of such tax the addition is equal to percent of the amount shown as tax on the return for each month or fraction thereof during which the failure to pay continues up to a maximum of percentdollar_figure see id the date prescribed for 25the sec_6651 addition_to_tax is reduced by the amount of the sec_6651 addition for any month or fraction thereof to which an addition_to_tax applies under sec_6651 and see sec_6651 payment of income_tax is the due_date for filing the return determined without regard to any extension of time for filing see id the addition applies only when an amount of tax is shown on a return see 127_tc_200 120_tc_163 a substitute for return sfr made by the secretary under sec_6020 is treated as the return filed by the taxpayer for purposes of determining the amount of the addition under sec_6651 sec_6651 for these purposes an sfr must be subscribed it must contain sufficient information from which to compute the taxpayer’s tax_liability and the return form and any attachments must purport to be a ‘return’ spurlock v commissioner tcmemo_2003_124 see also cabirac v commissioner supra pincite the addition will not apply if it is shown that the failure to pay timely was due to reasonable_cause and not due to willful neglect see sec_6651 a failure to pay is due to reasonable_cause if the taxpayer exercised ordinary business care and prudence in providing for payment of his tax_liability and was nevertheless either unable to pay the tax or would suffer an undue_hardship if he paid on the due_date sec_301_6651-1 proced admin regs see merriam v commissioner tcmemo_1995_432 affd without published opinion 107_f3d_877 9th cir as noted petitioner did not file a return for respondent pursuant to sec_6020 prepared an sfr for showing tax due of dollar_figure the sfr qualifies as a valid_return for purposes of sec_6651 petitioner failed to pay timely her tax_liability as shown on the sfr these undisputed facts satisfy respondent’s burden of production under sec_7491 and establish petitioner’s liability for the sec_6651 addition_to_tax unless petitioner can establish reasonable_cause for her failure to pay timely see higbee v commissioner t c pincite petitioner was disabled during and although petitioner testified at trial that she received social_security disability insurance benefits in there is no other evidence of her financial circumstances at that time on this record we are unable to conclude that petitioner was unable to pay her tax due or that she would have suffered undue_hardship if she had paid the tax on its due_date see guterman v commissioner tcmemo_2008_283 bray v commissioner tcmemo_2008_113 see also sec_301_6651-1 proced admin regs 26the tax was calculated on the basis of the same adjustments subsequently determined in the notice_of_deficiency we therefore hold that petitioner has not shown reasonable_cause with respect to the sec_6651 addition_to_tax and we sustain respondent’s determination of the sec_6651 addition_to_tax for reduced in accordance with sec_6651 to reflect our redetermination of petitioner’s gross_income for to reflect the foregoing decision will be entered under rule


department of the treasury internal_revenue_service washington d c l tax exempt and government entities mar uniform issue list ief ep atr legend taxpayer a tax advisor k date date date ira x ira y roth_ira z amount m dear this is in response to letters dated date date date date and date in which your authorized representative on your behalf requests relief under sec_301_9100-3 of the procedure and administration regulations the regulations following conversion of your traditional individual_retirement_accounts to your roth_ira you request a ruling to allow the recharacterization of your roth_ira as a traditional_ira after the expiration of the election_period under code sec_408a and sec_1_408a-5 of the federal_income_tax regulations the regulations’ you submitted the following facts and representations in connection with your request rene taxpayer a age is sole_proprietor of a consulting and repair business which generated a net_operating_loss in year resulting in negative adjusted_gross_income for said year taxpayer a’s business continued to struggle during year and his modified_adjusted_gross_income for year was less than and as a dollar_figure taxpayer a separated from his wife in calendar_year result lived separate and apart from her for all of calendar_year taxpayer a maintained individual_retirement_accounts iras ra x and ira y on date taxpayer a sent an e-mail to tax advisor k inquiring whether taxpayer a should convert ira x and ira y to a new roth_ira account tax advisor k responded on date by advising taxpayer a that he could make the conversion of his iras to a roth_ira without incurring excise_taxes or penalties specifically tax advisor k noted in his date response that since taxpayer a was not generating business operating profits and that he and his wife had been separated for the entire year of a conversion of the traditional iras would be permitted under the code and regulations on date taxpayer a caused the holder of iras x and y to convert by means of trustee-to-trustee transfers his entire_interest in iras x and y to roth_ira z on the conversion date the value of taxpayer a’s iras was amount m approximately double the value of the roth_ira at the end of year during year taxpayer a requested that tax advisor k file an automatic_extension of the due_date for filing his year federal_income_tax return taxpayer a did not provide tax information or communicate his tax plans with tax advisor k until late in year which was after the expiration of the period of automatic_extension of the due_date for filing his year federal_income_tax return tax advisor k upon learning that the date conversion had occurred informed taxpayer a that taxpayer a missed the date deadline for any recharacterization of roth_ira z to a traditional_ira based on your submission and the above facts and representations you request a ruling that pursuant to sec_301_9100-3 of the regulations taxpayer a be granted a period not to exceed days from the date of this letter_ruling to recharacterize roth_ira z as a traditional_ira with respect to your ruling_request code sec_408a and sec_1 408a- of the regulations provide that except as otherwise provided by the secretary a taxpayer may elect to recharacterize an ira contribution made to one type of ira as having originally been made to another type of ira by making a trustee- to-trustee transfer of the ira contribution plus earnings to the other type of ira in a recharacterization the ira contribution is treated as having been made to the transferee ira and not the transferor ira under sec_408a and sec_1_408a-5 this recharacterization election generally must occur on or page before the date prescribed by law including extensions for filing the taxpayer's federal_income_tax returns for the year of contributions sec_1_408a-5 question answer-6 of the regulations describes how a taxpayer makes the election to recharacterize the ira contribution to recharacterize an amount that has been converted from a traditional_ira to a roth_ira the taxpayer must notify the roth_ira trustee of the taxpayer's intent to recharacterize the amount the taxpayer must provide the trustee and the transferee trustee if different from the transferor trustee with specified information that is sufficient to effect the recharacterization and the trustee must make the transfer code sec_408a provides that an individual with an adjusted_gross_income as modified within the meaning of subparagraph c c in excess of dollar_figure for a taxable_year or an individual that is married and files a separate_return is not permitted to make a qualified_rollover_contribution to a roth_ira from an individual_retirement_plan other than a roth_ira during that taxable_year sec_1_408a-4 q a-2 of the regulations provides that an individual with modified_adjusted_gross_income in excess of dollar_figure for a taxable_year is not permitted to convert an amount to a roth_ira during that taxable_year sec_1_408a-4 q a-2 further provides that an individual and his spouse must file a joint federal tax_return to convert a traditional_ira to a roth_ira and that the modified_adjusted_gross_income agi subject_to the dollar_figure limit for a taxable_year is the modified agi derived from the joint_return using the couple's combined income sec_408 as applicable to calendar_year referred to sec_219 and provided that a married individual who files a separate_return and who lives apart from his spouse for the entire taxable_year shall not be treated as a married individual for purposes of sec_408a sec_301_9100-1 sec_301_9100-2 and sec_301_9100-3 of the regulations provide guidance concerning requests for relief submitted to the service on or after date sec_301_9100-1 provides that the commissioner of internal revenue in his discretion may grant a reasonable extension of the time fixed by a regulation a revenue_ruling a revenue_procedure a notice or an announcement published in the internal_revenue_bulletin for the making of an election or application_for relief in respect of tax under among others subtitle a of the code sec_301_9100-2 of the regulations lists certain elections for which automatic extensions of time to file are granted sec_301_9100-3 generally provides guidance with respect to the granting of relief with respect to those elections not referenced in sec_301_9100-2 the relief requested in this case is not vee referenced in sec_301_9100-2 sec_301_9100-3 of the regulations provides that applications for relief that fall within sec_301_9100-3 will be granted when the taxpayer provides sufficient evidence including affidavits described in sec_301_9100-3 to establish that the taxpayer acted reasonably and in good_faith and granting relief would not prejudice the interests of the government sec_301 b of the regulations provides that a taxpayer will be deemed to have acted reasonably and in good_faith i if its request for sec_301_9100-1 relief is filed before the failure to make a timely election is discovered by the service ii if thé taxpayer inadvertently failed to make the election because of intervening events beyond the taxpayer's control iii if the taxpayer failed to make the election because after exercising reasonable diligence the taxpayer was unaware of the necessity for the election iv the taxpayer reasonably relied upon the written advice of the service or v the taxpayer reasonably relied on a qualified_tax professional including a tax professional employed by the taxpayer and the tax professional failed to make or advise the taxpayer to make the election sec_301_9100-3 of the regulations provides that ordinarily the interests of the government will be treated as prejudiced and that ordinarily the service will not grant relief when tax years that would have been affected by the election had it been timely made are closed by the statute_of_limitations before the taxpayer's receipt of a ruling granting relief under this section taxpayers a's ruling_request requires the internal_revenue_service to determine whether he is eligible for relief under the provisions of sec_301_9100-3 of the regulations taxpayer a represents that he was unaware of the deadline for recharacterizing roth_ira z because tax advisor k did not mention the sec_408a and sec_1_408a-5 recharacterization deadline in his initial date response to taxpayer a’s inquiry about converting his iras to a roth_ira taxpayer a - also asserts that complicated divorce proceedings during year _ contributed to his failure_to_file his federal_income_tax return timely and to communicate with tax advisor k about his tax_return preparation tax advisor k has represented that had there been such communication in a timely manner tax advisor k would have discussed the recharacterization election deadline before the due_date for filing taxpayer a’s year federal_income_tax return including any extension based upon the representations made the service notes that taxpayer a was eligible to convert his iras to a roth_ira and that taxpayer a received correct advice from tax advisor k concerning the conversion the correct advice page 201024e71 provided by tax advisor k included taxpayer a's eligibility to convert iras x and y based upon taxpayer a having an adjusted_gross_income of below dollar_figure and taxpayer a’s marital status for the tax_year in question the service further notes that an election to recharacterize roth_ira z was not required to avoid tax penalties or liabilities because there is no evidence of an error in the conversion of iras x and y to roth_ira z consequently the service concludes that since there was no evidence of taxpayer error in the original conversion there was no necessity for a timely election to recharacterize and as a result there was no failure to make a timely election which could be discovered by the service a discovery by the service within the meaning of section b i of the regulations necessarily requires some element of taxpayer error in the conversion additionally under the set of circumstances described above taxpayer a has not presented to the service a set of facts that comes within any of the five clauses of section b of the regulations accordingly we rule that taxpayer a is not granted under sec_301_9100-3 of the regulations an additional period beyond the expiration of the election_period described in code sec_408a and sec_1_408a-5 of the regulations to recharacterize roth_ira z as a traditional_ira this letter assumes that the above iras qualify under either code sec_408 or code sec_408a at all relevant times this letter is directed only to the taxpayer who requested it code sec_6110 provides that it may not be used or cited as precedent a copy of this letter has been sent to your authorized representative in accordance with a power_of_attorney on file in this office if you wish to inquire about this ruling please contact correspondence to se t ep ra t3 please address all sincerely yours j d prccce a je emp ances v sloan manager loyee plans technical group enclosures deleted copy of ruling letter notice of intention to disclose


tcmemo_2013_77 united_states tax_court william d rogers and yen-ling k rogers petitioners v commissioner of internal revenue respondent docket no filed date william d rogers and yen-ling k rogers pro sese sarah e sexton for respondent memorandum findings_of_fact and opinion cohen judge respondent determined a dollar_figure deficiency and a dollar_figure sec_6662 penalty with respect to petitioners’ federal_income_tax for the issues for decision are whether all or a portion of petitioners’ income may be excluded under sec_911 and whether petitioners are liable for the accuracy-related_penalty unless otherwise indicated all section references are to the internal_revenue_code in effect for the year in issue and all rule references are to the tax_court rules_of_practice and procedure findings_of_fact some of the facts have been stipulated and the stipulated facts are incorporated in our findings by this reference at all material times yen-ling k rogers petitioner was a u s citizen and a bona_fide_resident of hong kong she worked as a flight attendant for united airlines united on international flights based out of hong kong international airport the scope of her employment and compensation was determined under the agreement between united airlines inc and the flight attendants agreement pursuant to the agreement petitioner accrued nonflight time such as sick and vacation hours based on the period of her flight attendant service and united compensated petitioner for additional categories such as required training and meetings and the performance incentive program united required petitioner to perform preboarding and postarrival services on every flight on which she worked she was required to report to work hour and minutes before the departure of a flight and to perform approximately minutes of postarrival services the flight time begins at out time when the plane’s brake is released and the plane pushes back from the airport the flight time ends at in time when the plane’s parking brake is set after landing petitioner was not separately compensated for the time spent performing preboarding and postarrival services petitioner worked the following flights in flights between hong kong hk and san francisco sfo flights between sfo and hk flights between hk and chicago chi flights between chi and hk flights between hk and ho chi minh city flights between ho chi minh city and hk flights between sfo and nagoya and flights between nagoya and sfo the percentage of petitioner’s flight time within or over foreign countries during was as follows itinerary hk-sfo-hk hk-chi-hk hk-ho chi minh city-hk sfo-nagoya-sfo foreign flight time percent dollar_figure dollar_figure dollar_figure united reported dollar_figure of wages to petitioner for on form_w-2 wage and tax statement her pay statements from united allocated her wages between u s taxable_income and hong kong taxable_income united provided petitioner a duty time apportionment for her flights during that apportioned the minutes of her flight times within or over the united_states international waters and foreign countries petitioners excluded of petitioner’s united wages dollar_figure as other income on a jointly filed form_1040 u s individual_income_tax_return which specified the other income by reference to the attached form ez foreign_earned_income_exclusion on the form 2555-ez petitioners reported dollar_figure as the total amount of foreign_earned_income petitioner earned and received in and the same amount as their foreign_earned_income_exclusion petitioner prepared the return on date respondent sent petitioners a notice_of_deficiency determining that petitioners were not entitled to exclude the of compensation petitioner received for flight time over international waters and the united_states petitioner’s hk-chi-hk exclusion percentage wa sec_73 and her hk-sfo-hk exclusion percentage wa sec_22 flight times were based on the duty time apportionment for petitioner’s flight routes and other information using the average time over foreign countries during and the percentages were average approximate percentage minutes of petitioner’s flight times over foreign countries over petitioner’s total minutes the notice_of_deficiency did not determine a percentage for petitioner’s sfo-nagoya-sfo flights opinion generally taxpayers have the burden of proving that the commissioner’s determination is in error see rule a however the burden_of_proof may shift to the commissioner under certain circumstances see sec_7491 this case involves application of law to essentially undisputed facts although petitioner quarrels with the methodology used to determine her actual flight times the parties stipulated the percentages set forth in our findings_of_fact the burden_of_proof does not affect our decision as to the deficiency foreign_earned_income petitioner was a u s citizen as she was in and years previously litigated in this court in rogers v commissioner tcmemo_2009_111 we stated the applicable rules and we incorporate repeat and supplement that explanation here sec_61 specifies that e xcept as otherwise provided gross_income includes all income from whatever source derived although most countries employ territorial tax systems the united_states employs a worldwide tax system--it taxes its citizens on their income regardless of its geographic source see 85_tc_376 the united_states was historically and continues to be virtually unique in taxing its citizens wherever resident on their worldwide income solely by reason of their citizenship see also 117_tc_95 aff’d sub nom 68_fedappx_44 9th cir and aff’d sub nom 357_f3d_1108 10th cir however as is often the case with our tax laws there are exceptions sec_911 which applies to petitioners is an exception to the u s worldwide tax system sec_911 allows a qualified_individual to exclude from gross_income foreign_earned_income foreign_earned_income is the amount received by such individual from sources within a foreign_country which constitute earned_income attributable to services performed by such individual sec_911 sec_911 does not define foreign_country the regulations provide the term foreign_country when used in a geographical sense includes any territory under the sovereignty of a government other than that of the united_states it includes the territorial waters of the foreign_country determined in accordance with the laws of the united_states the air space over the foreign_country and the seabed and subsoil of those submarine areas which are adjacent to the territorial waters of the foreign_country and over which the foreign_country has exclusive rights in accordance with international law with respect to the exploration and exploitation of natural_resources sec_1_911-2 income_tax regs consistent with this regulation this court has held that a u s taxpayer is allowed the foreign_earned_income_exclusion only with respect to wages earned while in or over foreign countries and not for wages earned in international airspace or in or over the united_states letourneau v commissioner tcmemo_2012_ rogers v commissioner tcmemo_2009_111 see also 332_f3d_622 9th cir unlike for example a foreign nation--which is unquestionably a ‘place outside’ the united states--international airspace is neither a point of origin nor a destination of a drug shipment it is merely something through which an aircraft must pass on its way from one location to another clark v commissioner tcmemo_2008_71 i nternational waters are not a ‘foreign country’ for purposes of sec_911 and income earned while traveling in international waters is not ‘foreign earned income’ excludable from gross_income although petitioners excluded of petitioner’s united wages as foreign_earned_income they stipulated that only a percentage of petitioner’s flight time occurred within or over foreign countries therefore only a percentage of petitioner’s united wages qualifies for the sec_911 exclusion see letourneau v commissioner tcmemo_2012_45 rogers v commissioner tcmemo_2009_111 see also cabaccang f 3d pincite clark v commissioner tcmemo_2008_71 petitioners argue that wages allocable to petitioner’s nonflight time such as vacation and training pay are foreign_earned_income respondent contends that all of petitioner’s united wages should be allocated in proportion to her flight time because her earnings were inextricably based on her flight time services sec_911 provides that t he term ‘earned income’ means wages salaries or professional fees and other_amounts received as compensation_for_personal_services actually rendered see also sec_1_911-3 income_tax regs in general we look to the place where the services are performed and not the place the compensation was paid or the location of the taxpayer at the time of payment to determine whether compensation is treated as income from sources within a foreign_country see 4_tc_727 see also 36_tc_235 sec_1_911-3 income_tax regs united required petitioner to perform preboarding and postarrival services on every flight she worked and did not specifically compensate her for those services hence those services are inextricably linked to each of her completed international flights regardless of whether she performed preboarding and postarrival services within the united_states or within a foreign country in addition the agreement establishes that petitioner accrued nonflight time such as sick and vacation hours based on the period of her flight attendant service although petitioner may have spent sick leave or vacation_leave within a foreign_country the basis for her receipt of compensation in connection therewith was her international flight attendant services only a percentage of which were performed in or over foreign countries the agreement also establishes that united compensated petitioner for additional categories such as required training and meetings and the performance incentive program we conclude that petitioner’s stipulated flight time percentages apply to any of her wages that are allocable to nonflight time that was based on international flight attendant services she performed for united there is no rational basis for allocating these forms of compensation to foreign_earned_income see kollmar v commisioner t c pincite letourneau v commissioner tcmemo_2012_45 rogers v commissioner tcmemo_2009_111 see also zimmerman v commissioner t c pincite sec_6662 penalty the commissioner has the burden of producing evidence that the sec_6662 penalty applies see sec_7491 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 see rule a 116_tc_438 sec_6662 and b imposes a accuracy-related_penalty on any underpayment of federal_income_tax attributable to a taxpayer’s negligence or disregard of rules or regulations sec_6662 defines negligence as including any failure to make a reasonable attempt to comply with the provisions of the internal_revenue_code and defines disregard as any careless reckless or intentional disregard the accuracy-related_penalty under sec_6662 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 higbee v commissioner t c pincite 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 see sec_1_6664-4 income_tax regs generally the most important factor is the extent of the taxpayer’s effort to assess his or her proper tax_liability id 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 disregard of rules or regulations is careless if the taxpayer does not exercise reasonable diligence to determine the correctness of a return position that is contrary to the rule_or_regulation sec_1_6662-3 income_tax regs respondent has met the burden of production by showing that only a portion of petitioner’s united wages qualified as foreign_earned_income excludable under sec_911 and that petitioners excluded of those wages on their return we conclude that petitioners failed to prove that they acted with reasonable_cause and in good_faith in excluding of petitioner’s united wages as foreign_earned_income pursuant to sec_911 and we sustain the sec_6662 penalty although at the time petitioners filed the federal_income_tax return the court’s opinion in petitioners’ prior case rogers v commissioner tcmemo_2009_111 had not yet been filed petitioners were well aware that a percentage of petitioner’s united wages was taxable united had notified petitioner as early a sec_2002 that a portion of her pay was taxable petitioner acknowledges that petitioners filed their and tax returns according to the irs’ new interpretation and calculation format for fear of further audits and petitioners read the tax regulations and believe the irs’ interpretation and calculation format were not following the whole statue sic her united pay statements allocated her wages between u s taxable_income and hong kong taxable_income before the date on which petitioners filed their federal_income_tax return that petitioner prepared united had provided her a duty time apportionment setting forth her estimated flight times apportioning the minutes of those flight times as to minutes within or over the united_states international waters and foreign countries and providing the percentages petitioners were well aware that certain of their prior federal_income_tax returns had excluded of petitioner’s united wages as foreign_earned_income and these returns were the subject of an internal_revenue_service irs audit and a subsequent notice_of_deficiency that was in issue in rogers v commissioner tcmemo_2009_111 petitioners were further well aware that certain of petitioner’s flights had flown over u s airspace and landed in and departed from u s cities san francisco and chicago however petitioners argue that at the time petitioner prepared the federal_income_tax return she had been unable to obtain her actual flight times she read the law to require her to use actual facts in preparing the return and she believed that the irs would not accept estimations nonetheless petitioners chose to ignore that petitioner’s flights landing in and departing from u s cities and her flight times established that of her united income did not qualify as foreign_earned_income petitioners simply substituted their judgment for that of the irs and united in excluding all of petitioner’s united income from taxation they did not prove that they sought competent professional advice and they did not have reasonable_cause for excluding all of her income from taxation in reaching our conclusions we have considered all arguments made by the parties and to the extent not mentioned above we conclude they are moot irrelevant or without merit to reflect differences between the statutory notice allowances and the stipulation of the excludable percentages of petitioner’s income decision will be entered under rule


internal_revenue_service index number department of the treasury washington dc number release date person to contact telephone number refer reply to cc dom fi p 2-plr-110566-99 date date legend parent company state a state b statute series a-1 a b c d e f dear this letter is in reply to your letter dated date and other correspondence asking the internal_revenue_service to rule on the transaction described below parent is the common parent of an affiliated_group_of_corporations that includes company parent files a consolidated_return for the group facts plr-110566-99 company a calendar_year taxpayer that uses the accrual_method of accounting is an investor-owned electric utility in state a company generates transmits and distributes electricity to residential commercial and industrial customers within a designated territory company has the exclusive right to sell electricity at retail within its territory and is regulated by state a’s board_of public_utilities bpu and the federal energy regulatory commission state a is deregulating its electric industry as a result company’s customers will be allowed to contract directly with alternative suppliers of electricity and company will compete with other parties to sell electricity in a competitive market some of company’s generation facilities will have values substantially below their book_value and some of its contracts to purchase electricity will be at rates above the market price to enable company to recover the net uneconomic portions of its prudently incurred costs of generation-related assets and obligations transition costs state a enacted statute and the bpu issued orders allowing company to collect nonbypassable charges from consumers of electricity located in company’s territory the charges will be based in part on the amount of electricity purchased by the consumer whether from company or from an alternative supplier under statute a portion of company’s transition costs may be recovered by collecting separate nonbypassable usage-based charges called transition bond charges tbcs and by issuing securities that will be secured_by company’s right to collect the tbcs the tbcs will be collected from consumers of electricity located in company’s territory to obtain the authority to collect tbcs and to issue securities company must apply for a financing order from the bpu under a financing order tbcs to be collected by company will be generally based on the actual electricity usage of each affected consumer actual collection of tbcs will vary from expected collections due to a number of factors including power usage and delinquencies the financing order will require the adjustment of the tbc charge at least annually under statute the right to collect tbcs is separate_property right bondable transition property proposed transaction the bpu has issued a recovery order authorizing the recovery_of company’s transition costs the recovery order specifies that dollar_figurea of company’s transition costs are eligible for bond financing company has applied to the bpu for a financing or er authorizing the issuance of the notes in an aggregate principal_amount not to exceed dollar_figureb the financing order will authorize tbcs in an amount needed to service the notes pay transaction costs and provide for credit enhancement the financing order will create bondable transition property in the right to collect the tbcs and will provide that the bondable plr-110566-99 transition property may be assigned to a special purpose entity spe in the recovery order the bpu has also granted company the authority to recover the federal income taxes and state corporate business taxes it will incur as it bills customers for tbcs company’s tax_liability will be collected under separate non- bondable charges tax charges company will form the spe under state b law as a bankruptcy remote limited_liability_company for the special purpose of effectuating the proposed transaction the spe will use the accrual_method of accounting company will be the sole member of the spe the spe will not elect to be treated as an association_taxable_as_a_corporation under sec_301_7701-3 of the procedure and administration regulations company will contribute as equity to the spe cash equal to c percent of the total issue_price of the notes pursuant to the financing order company will transfer the bondable transition property to the spe the spe will issue and sell notes to investors not to exceed the aggregate principal_amount of dollar_figureb the proceeds from the issuance of the notes net of issuance costs will be transferred to company in consideration for the bondable transition property the issuer will initially issue one series of notes to investors series a-1 series a-1 will be divided into sequential classes each with a different legal maturity_date company expects that the notes will have scheduled maturity dates of no more than d years and legal maturity dates of no more than e years scheduled maturity is the date on which the final principal payment is expected to be paid legal maturity is the date on which nonpayment is a default interest on series a-1 will be payable quarterly or semiannually at rates that are based on yields commensurate with similarly rated debt obligations of comparable weighted average lives the notes are expected to be sold at or near par_value principal payments will be scheduled to be made quarterly or semiannually and will be applied in sequential order to each class of series a-1 until the outstanding principal balance of the class is reduced to zero series a-1 will be subject_to an optional clean-up call ie early payment of all outstanding principal and accrued interest when the outstanding principal of the series declines to less than f percent of the original issue_price of the series because the classes will be allocated principal payments in sequential order the clean-up call for series a-1 will apply only to the classes with the longest maturities initially company will service the consumer accounts that are subject_to the tbcs as servicer company will on a monthly basis bill and collect tbcs remit collected tbcs to the spe and retain all books_and_records regarding the tbcs subject_to the spe’s right of inspection company will retain all investment_income plr-110566-99 earned on the tbcs between the time they are collected and the time they are remitted to the spe only in the event that company fails satisfactorily to perform its servicing functions will company be subject_to replacement as servicer company’s ability to resign as servicer will be restricted it is possible that third-party suppliers tps may bill and collect payments including tbcs from customers in that event the servicer will bill the tps for the full amount of tbcs based on the amount of electricity delivered by company and other charges owed to the company in its individual capacity tps may be required to take additional steps designed to reduce commingling risks including providing a cash deposit of two months’ estimated collections nonetheless in all events the amounts paid will be based on electricity usage the tbcs will be set to provide for recovery_of the costs associated with billing and collecting the tbcs as well as for an excess_amount overcollateralization amount that will eventually reach c percent of the original principal_amount of the notes the overcollateralization amount will be collected approximately ratably over the expected term of the notes the spe will retain all remitted tbcs in the collection account which consists of four subaccounts entitled general reserve capital and overcollateralization the general subaccount holds all funds in the collection account not held in any of the other three subaccounts the servicer will remit all tbc payments to the general subaccount and the trustee will draw on amounts in the general subaccount to pay expenses of the spe and to make scheduled payments on the notes and to make other_payments and transfers in accordance with the terms of the indenture tbc collections in excess of amounts necessary to pay interest and principal on the notes related fees and expenses of the spe replenish the capital subaccount up to the required capital level and fund and maintain the overcollateralization subaccount up to its required level will be allocated to the reserve subaccount if the tbcs collected in any period are insufficient to satisfy the spe’s payment obligations on the notes the trustee may draw on amounts in the reserve subaccount the overcollateralization subaccount and finally the capital subaccount to make necessary payments and transfers under the indenture to the extent that amounts in the capital subaccount or the overcollateralization subaccount are used to satisfy scheduled principal and interest payments future tbcs will be adjusted to replenish those subaccounts in addition any funds in the reserve subaccount from prior payment dates will be used to replenish the capital subaccount and the overcollateralization subaccount investment_income earned on amounts in the collection account also may be used to satisfy scheduled interest and principal payments on the notes and to replenish the spe’s equity and the scheduled overcollateralization amount any excess revenues up to an amount equal to the investment_income on the capital subaccount plr-110566-99 will be remitted to the the spe which may distribute the earnings to company the notes will provide for the following events of default a default in the payment of interest within five days after a payment is due a default in the payment of outstanding principal as of the legal maturity_date a default in company’s obligation to repurchase the bondable transition property in the event of the breach of certain material representations concerning the effectiveness of the financing order and company’s rights in the bondable transition property certain breaches of covenants representations or warranties by the spe in the indenture that go unremedied for days and certain events of bankruptcy or insolvency of the spe in the event of a payment default the trustee or holders of a majority in principal_amount of all series then outstanding may declare the principal of all classes of the notes to be immediately due and payable the notes will be secured_by all property of the spe including the bondable transition property the servicing agreement the collection account all rights to obtain adjustments to the bondable transition property and any swap agreement executed to permit the issuance of floating rate notes company expects the notes to receive one of the three highest credit ratings from one or more nationally recognized credit rating agencies issues does the issuance of the financing order authorizing the collection of the tbcs and the issuance of the recovery order authorizing the collection of the tax charges result in gross_income to company does the issuance of the notes result in gross_income to company are the notes obligations of company law sec_61 of the internal_revenue_code generally defines gross_income as income from whatever source derived except as otherwise provided by law gross_income includes income realized in any form whether in money property or services sec_1_61-1 of the income_tax regulations this definition encompasses all accessions to wealth clearly realized and over which the taxpayers have complete dominion 348_us_426 1955_1_cb_207 the right to collect the tbcs and the tax charges is of significant value in producing income for company moreover state a’s action in making the tbc rights plr-110566-99 transferable has enhanced that value generally the granting of a transferable right by the government does not cause the realization of income revrul_92_16 1992_1_cb_15 allocation of air emission rights by the environmental protection agency does not cause a utility to realize gross_income revrul_67_135 1967_1_cb_20 fair_market_value of an oil_and_gas lease obtained from the government through a lottery is not includable in income the economic_substance of a transaction generally governs its federal tax consequences 293_us_465 xiv-1 c b affixing a label to an undertaking does not determine its character revrul_97_3 1997_1_cb_9 an instrument secured_by property may be an obligation of the taxpayer or alternatively may be a disposition of the underlying property by the taxpayer cf id the small_business administration is the primary obligor of certain guaranteed_payment rights that are created under its participating security program conclusions based on the facts as represented we rule as follows the issuance of the financing order authorizing the collection of the tbcs and the issuance of the recovery order authorizing the collection of the tax charges will not result in gross_income to company the issuance of the notes will not result in gross_income to company the notes will be obligations of company except as specifically ruled on above no opinion is expressed or implied regarding the federal tax aspects of the transaction this ruling is directed only to company under sec_6110 of the code this ruling may not be used or cited as precedent a copy of this letter should be attached to the federal_income_tax return of company for the taxable years that include the transaction described in this letter sincerely assistant chief_counsel financial institutions products by marshall feiring senior technician reviewer branch plr-110566-99