t c memo united_states tax_court philip n rose and leanna rose petitioners v commissioner of internal revenue respondent docket no filed date david c dodge for petitioner kimberly a trujillo for respondent memorandum findings_of_fact and opinion pugh judge in a notice_of_deficiency dated date respondent determined the following deficiencies and penalties unless otherwise indicated all section references are to the internal_revenue_code_of_1986 as amended and in effect for the years in issue rule references are to the tax_court rules_of_practice and procedure all monetary continued year deficiency dollar_figure big_number big_number big_number penalty sec_6662 addition_to_tax sec_6651 dollar_figure big_number big_number big_number dollar_figure --- big_number big_number after concessions the issues for decision are whether petitioners had unreported income of dollar_figure for dollar_figure for and dollar_figure for whether petitioners’ real_estate losses are limited by sec_280a whether ms rose qualified as a real_estate_professional for and whether reported rental real_estate losses should have been suspended until the disposition of the property in whether petitioners were entitled to deductions for the years in issue for various expenses related to rental properties the character of continued amounts are rounded to the nearest dollar petitioners conceded that they were not entitled to expense deductions for or claimed on schedules c profit or loss from business that they are not entitled to any pre-2009 capital_loss_carryover net_operating_loss nol or capital_loss that a truck sold in and a computer sold in were not business property and that several determinations relating to the nol and the character of income addressed infra were correct respondent conceded that certain items of income discussed infra are not taxable and that petitioners substantiated certain of their expenses reported on schedules e supplemental income and loss petitioners’ business property loss in whether petitioners are liable for additions to tax under sec_6651 for failure_to_file timely and whether petitioners are liable for accuracy-related_penalties under sec_6662 findings_of_fact some of the facts have been stipulated and are so found the stipulated facts are incorporated in our findings by this reference petitioners resided in washington when they timely filed their petition in the first year in issue they had three children aged and years old mr rose is a commercial airline pilot who has flown for northwest and delta airlines since he was also a member of the u s air force for years before retiring in as a lieutenant colonel during and he was stationed at elmendorf air force base in anchorage alaska and was deployed overseas for days during as part of his active_service ms rose stayed at home with petitioners’ three children throughout until she became a part-time teacher working approximately hours per week at the anchorage montessori school in date i petitioners’ real_estate properties petitioners’ primary residence was in goodyear arizona from through date they purchased their property in arizona arizona property on date for dollar_figure petitioners moved their primary residence to anchorage alaska in they purchased their property in alaska alaska property on date for dollar_figure on date petitioners moved their primary residence to bothell washington petitioners also owned a property in donnelly idaho idaho property during the years at issue they purchased the idaho property on date for dollar_figure a arizona property the arizona property consists of land and a four-bedroom house with a two-car garage and a yard petitioners placed the arizona property in service as a rental property on date they had tenants for the arizona property throughout and and for part of petitioners engaged a management company to handle the day-to-day operations including advertising the property to prospective tenants and making repairs to the property as needed petitioners received mail related to the arizona property and paid dues to a homeowners_association b idaho property the idaho property consists of two buildings separated by a gravel driveway on one lot of land one building is a three-bedroom house and the other consists of a shop with a three-bay garage and six apartments five of which are finished and the sixth used as storage for the shop the idaho property is approximately nine miles south of mccall idaho which is considered a resort town petitioners placed the idaho property in service as a rental property on date petitioners rented the idaho property to dusty and elise bitton from date through the end of date at some point in the bittons signed an agreement with mike connor to sublease the shop and storage apartment to him and his business black tip supply in the bittons were going through bankruptcy and did not make any rent payments to petitioners after the bittons vacated the property mr connor entered into a rental agreement with petitioners in date to continue to use the shop and storage apartment for black tip supply petitioners charged black tip supply rent of dollar_figure per month under their agreement during the first half of petitioners decided to turn the idaho property into a vacation rental when the bittons’ lease terminated the bittons left the house in poor condition and petitioners--primarily ms rose-- worked on restoring the house to a rentable state ms rose’s first trip to the idaho property was from july to august accompanied by mr rose and their children during this trip ms rose took two of the children to vancouver washington for a two-week vision therapy she shopped in vancouver and portland oregon during the week while her children were being treated and returned to the idaho property on weekends ms rose next traveled to the idaho property on labor day weekend september through mr rose and their children accompanied her he primarily kept the children occupied but also assisted his wife with work which included cleaning the house and assembling furniture and supplies from october through ms rose again traveled to idaho--this time alone--to clean and bring supplies to the idaho property by the end of date petitioners believed that the house on the idaho property was ready for a tenant and they began to advertise it by word of mouth ms rose and her family returned to the idaho property on november thanksgiving--and she spent the holiday weekend cleaning both buildings and assembling furniture but in december a water pipe burst and damaged a few of the apartments petitioners hired a restoration company to remove the water and repaint the damaged rooms on december ms rose traveled to the idaho property to make further repairs in connection with the burst pipe mr rose and their children also were at the idaho property and stayed into the beginning of mr rose took the children skiing and to see a movie and after mr rose returned to alaska with their daughter ms rose dropped the remaining two children off for skiing lessons each day black tip supply continued to rent the shop and storage apartment in but no vacationers rented the house or any apartment petitioners first rented the idaho property to vacationers in date after posting it on www vrbo com a vacation rental website on march ms rose returned to the idaho property to paint and deliver supplies for the rental units mr rose and their children joined her there during their spring break from school and they all flew home on april ms rose’s final trip to the idaho property in was very brief--from april to petitioners did not own a snowmobile a boat or an all-terrain vehicle at times during their stays at the idaho property mr rose took their children skiing fishing or to see a movie to keep them occupied ms rose did not participate in recreational activities while at the idaho property even when she dropped her children off for skiing lessons the rate petitioners charged each tenant for renting the idaho property is unclear the rate depended on whether a tenant rented the house one or more apartments or both and the record does not include any rental contracts checks in the record indicate that rates ranged from dollar_figure to dollar_figure per night but do not identify what part of the idaho property was rented petitioners also required that tenants pay a refundable deposit typically dollar_figure tenants could pay an additional dollar_figure deposit to bring a pet petitioners summarized their work in connection with the idaho property in and in logs created in preparation for trial they used calendars--also created in preparation for trial--to compile their logs they did not keep any contemporaneous logs calendars or documentation other than receipts as described below petitioners estimated in their logs that ms rose worked a total of big_number hours in and hours in on her rental properties these estimates included packing for and traveling to and from the idaho property reviewing correspondence completing administrative tasks including log management shopping for the idaho property eating meals alone or with her family discussing the rental properties with mr rose over dinner and painting cleaning and assembling furniture most of the hours petitioners reported were for the idaho property although some of petitioners’ time reported spent on administrative tasks may have been for the arizona property as well their logs did not specify the only contemporaneous documentation in the record is petitioners’ subpoenaed bank records and receipts for and the record also includes receipts for with respect to the idaho property the receipts cover travel_expenses meals and purchases at various stores of food and other items some of the receipts are barely legible and some have handwritten marks specifying which charges petitioners reported as real_estate expenses and to which property the expenses related in preparation for trial petitioners also compiled a schedule of rental expenses reported for each year for both the idaho and arizona properties c abandonments in late and early petitioners abandoned each of the alaska arizona and idaho properties petitioners abandoned the alaska property on date in petitioners’ lenders with respect to the alaska property filed forms 1099-a acquisition or abandonment of secured_property petitioners abandoned the arizona and idaho properties on date in petitioners’ lenders filed forms 1099-a with respect to both the arizona and idaho properties the forms 1099-a listed the following dates of acquisition fair market values and outstanding principal balances property alaska arizona idaho lender citimortgage wells fargo fhlmc wells fargo pnc date_of_acquisition fair_market_value dollar_figure big_number big_number big_number big_number outstanding balance dollar_figure big_number big_number big_number big_number the box indicating that petitioners were personally liable for repayment of the debt was checked on each form the evidence in the record suggests although it is not clear that the lenders took possession of the properties upon abandonment in full satisfaction of petitioners’ debts d cash and bank accounts petitioners kept approximately dollar_figure in cash from two large tax refunds in a home safe to conceal it from creditors petitioners did not keep specific records of how much money they kept in their safe but the tax refunds and christmas gift checks accounted for most of the cash they had petitioners had several bank accounts during the years in issue and transferred funds among those accounts at various times the record does not include bank deposit records for any year before the first year before the court ii petitioners’ tax returns petitioners retained an accountant to prepare their form sec_1040 u s individual_income_tax_return for the through tax years for each of the years in issue petitioners filed an untimely form_1040 they filed their return on date their return on date their return on date and their return on date a on their form_1040 petitioners reported dollar_figure of wage income and adjusted_gross_income of dollar_figure much of their reported loss is attributable to schedule e on which they reported a rental real_estate loss of dollar_figure they reported dollar_figure and dollar_figure in rents received from the idaho and arizona properties respectively on their schedule e this income was offset by dollar_figure in reported expenses including expense idaho property arizona property depreciation cleaning maintenance dollar_figure big_number dollar_figure it appears that petitioners understated their rental income attributable to the idaho property the record includes a check to petitioners from black tip supply for dollar_figure the memo line on that check reads sept oct nov dec petitioners conceded that they received dollar_figure in rental income in big_number big_number big_number big_number big_number big_number auto travel utilities legal professional fees other taxes b petitioners reported dollar_figure of wage income and a dollar_figure loss as adjusted_gross_income on their form_1040 they also reported on their form_4797 sales of business property dollar_figure from the sale of a ford excursion additionally they reported dollar_figure and dollar_figure of rental income from the idaho and arizona properties respectively and dollar_figure of rental real_estate expenses on their schedule e including expense idaho property arizona property depreciation cleaning maintenance auto travel utilities legal professional fees other repairs supplies dollar_figure big_number big_number big_number big_number big_number big_number big_number dollar_figure big_number petitioners reported a total rental real_estate loss of dollar_figure on their schedule e c on their form_1040 petitioners reported wage income of dollar_figure and adjusted_gross_income of dollar_figure they also reported dollar_figure of rental income from the idaho property and dollar_figure of rental real_estate expenses on their schedule e petitioners included in their expenses those related to the alaska property for the portion of after they moved to washington although there is no evidence that they ever rented the alaska property their reported rental real_estate expenses include expense idaho property depreciation cleaning maintenance auto travel legal professional fees other1 dollar_figure big_number big_number big_number big_number arizona property dollar_figure -0- -0- -0- big_number alaska property -0- dollar_figure -0- -0- the other expenses petitioners reported on their schedule e included dollar_figure for telephone expenses related to the idaho property the other expenses related to the arizona property included dollar_figure for association dues and dollar_figure for postage petitioners reported a total rental real_estate loss of dollar_figure on their schedule e d on their form_1040 petitioners reported dollar_figure of wage income and a loss of dollar_figure as adjusted_gross_income they reported on their form_4797 a total business loss of dollar_figure a dollar_figure loss attributable to their abandonment of the idaho property and to the sale of a computer offset by a dollar_figure gain attributable to their abandonment of the arizona property they also reported dollar_figure of rental income from the idaho property and dollar_figure of rental real_estate expenses on their schedule e including expense idaho property arizona property depreciation auto travel utilities legal professional fees dollar_figure big_number big_number -0- -0- -0- -0- petitioners reported a total rental real_estate loss of dollar_figure on their schedule e iii petitioners’ audit respondent performed a bank deposit analysis for years through on the basis of the bank deposit analysis respondent determined that petitioners had unreported income of dollar_figure for dollar_figure for and dollar_figure for respondent amended his determinations of unreported income to dollar_figure for dollar_figure for and dollar_figure for after conceding that some of the deposits included nontaxable allowances for housing and cost of living for active_duty members of the military cash that petitioners were holding in their home safe an insurance payment for petitioners’ damaged truck and a cashier’s check from petitioners’ closure of some of their bank accounts the record includes a civil penalty approval form prepared by examiner diana cravey dated april and on the form examiner cravey asserts both additions to tax under sec_6651 and penalties under sec_6662 for negligence and or substantial_understatement for tax years through the space for group manager approval has an electronic signature from group manager dan thompson dated date there was no formal communication of penalties giving petitioners the right to protest those penalties or challenge them in court before the notice_of_deficiency opinion i burden_of_proof ordinarily the burden_of_proof in cases before the court is on the taxpayer rule a 290_us_111 under sec_7491 in certain circumstances the burden_of_proof may shift from the taxpayer to the commissioner petitioners have neither claimed nor shown that they have presented credible_evidence sufficient to shift the burden_of_proof to respondent as to any relevant factual issue under sec_7491 ii unreported income sec_61 provides that gross_income includes all income from whatever source derived see 348_us_426 taxpayers are responsible for maintaining adequate books_and_records sufficient to establish their income see sec_6001 96_tc_858 aff’d 959_f2d_16 2d cir with respect to unreported income the commissioner must base his determination_of_a_deficiency on some substantive evidence in order for the presumption of correctness to attach 181_f3d_1002 9th cir holding that third-party information returns were enough to satisfy the commissioner’s threshold burden aff’g tcmemo_1997_97 the use of the bank_deposit_method has long been sanctioned by courts 64_tc_651 aff’d 566_f2d_2 6th cir bank_deposits are prima facie evidence of income id pincite see also 87_tc_74 the bank_deposit_method assumes that all money deposited in a taxpayer’s bank account during a given period is taxable_income absent an explanation for the deposit dileo v commissioner t c pincite the taxpayer bears the burden of showing that the commissioner’s determinations of income are incorrect estate of mason v commissioner t c pincite we often are skeptical of arguments based only on taxpayers’ memory recalling the details of activities years later this case illustrates again why a respondent determined that petitioners failed to report dollar_figure of taxable deposits comprising multiple separate deposits from an emigrant bank account totaling dollar_figure multiple cash deposits totaling dollar_figure a dollar_figure payment from a consignment shop and a dollar_figure deposit that petitioners conceded was taxable in their bank deposit schedule petitioners have not adequately explained the dollar_figure in deposits from the emigrant bank account they maintain that those were transfers between bank accounts they owned but admit that those deposits were of checks and that they did not have an account with emigrant bank in petitioners adequately explained dollar_figure of the dollar_figure of cash deposits these deposits exactly matched withdrawals from another account they owned by both date and amount respondent also accepted petitioners’ explanation as to these amounts but petitioners failed to explain adequately the remaining dollar_figure of cash deposits petitioners argued that one dollar_figure deposit was cash that they had withdrawn in but the record does not include any bank deposit records to support this argument petitioners argued that another dollar_figure cash deposit was withdrawn from another of their accounts they point to a bank statement that shows a dollar_figure atm withdrawal from another account on the same day as the deposit but they offer no other evidence to verify the source of the cash and petitioners argued that two deposits were of cash from their safe attributable to a dental insurance reimbursement and to a withdrawal from another of their accounts because petitioners kept no records with respect to their home safe they have no way of showing that the cash deposited from their safe is attributable to the sources they claim mr rose testified at trial that petitioners received the two tax_refund checks like we talked about and that was the major cash that we had other than perhaps a christmas gift you know one of those types of checks we did not have much cash so it wasn’t very difficult to account for a couple of checks grand between a safe and a safe deposit box it wasn’t very difficult to keep track of it while we generally accept petitioners’ explanation that they were moving money around between their accounts and their safe especially where they memorialized the transfers by writing checks they did not convince us that these transfers took place in these amounts we question their ability to recall so many transactions so many years ago without contemporaneous documentation and we question whether their default explanation of money transfers between their accounts and their safe can explain all of the deposits at issue petitioners’ credibility is diminished by their reflexive tendency to claim that all of the deposits lacking another explanation were transfers either from another of their accounts or from their home safe their credibility is further reduced by their occasional inability to choose which explanation applied to a particular deposit as we explain below without better records and with the passage of time their testimony is not enough petitioners did not adequately explain the dollar_figure deposit from a consignment shop they argue it is nontaxable proceeds from the sale of household_items but did not identify which items were sold to the consignment shop and what their bases in the items were if any at the time of the sale finally petitioners conceded that dollar_figure of unreported deposits is taxable in the schedule of bank_deposits that they prepared for trial thus we find that petitioners failed to report income of dollar_figure for the tax_year b respondent determined that petitioners failed to report dollar_figure in taxable deposits for comprising dollar_figure of cash deposits a dollar_figure deposit from petitioners’ paypal account and dollar_figure of unreported rental income petitioners have adequately explained dollar_figure of the cash deposits those deposits corresponded to withdrawals on the same day and in the same amount from another account they owned however petitioners fail adequately to explain the remaining dollar_figure of cash deposits and the paypal deposit they argue that two deposits of dollar_figure made a month apart were attributable to a dollar_figure withdrawal that they made days before the first deposit petitioners argue that another deposit of dollar_figure made on date was attributable to two atm withdrawals made on march and respectively totaling dollar_figure with respect to another dollar_figure cash deposit petitioners initially stated in their schedule of bank_deposits that it was a check from another of their bank accounts but changed their position on brief stating that it was from their safe petitioners also claim that three cash deposits totaling dollar_figure were from their safe and that the paypal deposit was either proceeds from a sale of personal items or a refund petitioners provided no evidence beyond their testimony that these cash deposits correspond to withdrawals in different amounts and at different times we again reject their unsupported testimony respondent determined dollar_figure of rental deposits on the basis of the bank deposit analysis dollar_figure more than the dollar_figure that petitioners reported on their schedule e petitioners acknowledged dollar_figure of taxable rental deposits in their bank deposit schedule accounting for dollar_figure of the dollar_figure of unreported rental income and leaving a balance of dollar_figure petitioners contend that the dollar_figure is not taxable because it consists of security and pet deposits that they refunded to tenants petitioners’ bank records contain evidence of only dollar_figure in refunded deposits relating to tenants who made payments in they do not provide an adequate explanation for the remaining dollar_figure of unreported rental deposits between the dollar_figure of unexplained cash deposits the paypal deposit and the dollar_figure of unreported rental payments we find that petitioners failed to report dollar_figure of income for the tax_year c respondent determined that petitioners failed to report dollar_figure of taxable deposits for comprising dollar_figure from paypal dollar_figure of proceeds from an auction of rental property and dollar_figure of unknown deposits petitioners argue that the dollar_figure paypal deposit is not taxable because it was a refund and that the auction proceeds of dollar_figure are not taxable because the value of the items sold was inevitably exceeded by the cost of the items petitioners did not provide any documentation of a refund from paypal nor did they provide any evidence of the items sold at auction or their bases in them they cannot avoid tax with mere argument and speculation years later evidence that they characterize as persuasive enough is not adequate to carry their burden and citations of the entire record cannot cover up gaps in the record petitioners have adequately explained dollar_figure in unknown deposits a dollar_figure gift from family members and a dollar_figure refund of a dollar_figure payment on a line of credit that they canceled plus a dollar_figure service fee the memo line on the gift petitioners argue that they had lost their rental properties by the time they deposited the proceeds of the auction and that their total basis in those rental properties was likely higher than the proceeds of the auction sale however the only evidence in the record with respect to this deposit is the check from the auction house which does not specify anything other than the amount_paid the date the payor and the recipient check reads christmas and bank statements show prior payments of dollar_figure on the line of credit they have not adequately explained the remaining dollar_figure in unknown deposits they argue that a dollar_figure cash deposit was a birthday gift but provide no evidence in support of that argument they also argue that a dollar_figure payment was both a refund from the bank and a transfer from another of their bank accounts but offer no evidence to support either explanation thus we find that petitioners failed to report income of dollar_figure for the tax_year iii real_estate losses a petitioners’ use of the idaho property as a residence respondent argues that petitioners used the idaho property as a residence or a vacation rental for purposes of sec_280a rather than as a residential or business rental property and thus are not entitled to deduct their rental real_estate losses related to that property ordinarily no deduction is allowed with respect to the personal_residence of the taxpayer sec_280a a dwelling_unit is considered to be a taxpayer’s residence if its use for personal purposes exceeds the greater of days or of the days the unit is rented at a fair rental value in a taxable_year sec_280a a taxpayer is deemed to have used a dwelling_unit for personal purposes when for any part of a day the taxpayer or any member of the taxpayer’s family uses the unit for personal purposes or any individual uses the unit unless a fair rental is charged for the use sec_280a c however use of the unit for repairs and maintenance on a substantially_full-time basis will not be considered personal_use merely because other individuals on the premises are engaged in some other activity sec_280a expenses directly attributable to the rental of the dwelling_unit may be deducted but the deduction is generally limited to a proportion of expenses equaling the proportion of the days the unit is used that it is rented at a fair value sec_280a e the idaho property was rented for almost all of whether to the bittons6 or to black tip supply and much of there are no allegations that petitioners charged the bittons a below-market rental we also find that each of ms rose’s trips to the idaho property--with the exception of the trip during which she took her children to vancouver washington for vision therapy--was for repair and maintenance the fact that mr rose and their children were present at the idaho property and primarily engaged in recreational or other personal the bittons defaulted on their rent payments as they went through bankruptcy but because the record suggests that petitioners did charge them a fair rental we will not deem this use personal activities while ms rose was working does not change the principal purpose of her visits repair and maintenance see sec_280a the time petitioners spent at the idaho property for personal purposes--the stay during the vision therapy trip and spring break in 2010--totaled less than days in each year we conclude therefore that sec_280a does not limit the extent to which petitioners can deduct rental real_estate losses with respect to the idaho property b passive loss limitation sec_469 limits the amount of a taxpayer’s deductible loss from passive activities in a taxable_year to the taxpayer’s income from passive activities sec_469 any loss from passive activities exceeding the income from such activities constitutes a passive_activity_loss and is disallowed for that taxable_year but may be carried over to the next taxable_year to offset passive_activity income for that year id subsecs a b d a passive_activity is any activity involving the conduct of a trade or business--or an income-producing activity--in which a taxpayer does not materially participate id subsec c material_participation requires that a taxpayer be involved in the activity on a regular continuous and substantial basis id subsec h the taxpayer may deduct any loss as a result of the passive_activity_loss limitation for the taxable_year in which she disposes of her entire_interest in the passive_activity id subsec g rental_activity is ordinarily passive regardless of whether a taxpayer meets the material_participation requirement id subsec c rental losses may be excepted from the sec_469 limitation however if the taxpayer qualifies as a real_estate_professional id para a a taxpayer qualifies as a real_estate_professional for a taxable_year if she performs more than hours of services in connection with real_property trades_or_businesses more than half of the personal services she performs are in connection with real_property trades_or_businesses compared to other trades_or_businesses and she materially participates in those real_property trades_or_businesses id subpara b this real_estate_professional test applies separately to each spouse filing a joint_return id a taxpayer may prove that she qualifies as a real_estate_professional by any reasonable means sec_1_469-5t temporary income_tax regs fed reg date contemporaneous reports logs or similar documentation are not required if the taxpayer can establish her qualification by other reasonable means id reasonable means may include identifying services performed over a period of time and the approximate time spent performing those services using appointment books calendars or narrative summaries id but postevent ballpark guestimates of hours do not suffice e g fowler v commissioner tcmemo_2002_223 wl at bailey v commissioner tcmemo_2001_296 wl at carlstedt v commissioner tcmemo_1997_331 wl at respondent determined that ms rose was not a real_estate_professional during the and tax years in part because she did not perform more than service hours in connection with petitioners’ rental properties in respondent therefore determined that petitioners cannot deduct their real_estate losses until when they disposed of the arizona and idaho properties petitioners argue that ms rose has shown that she meets the requirements on the basis of their logs petitioners argue that their logs are reliable because they were prepared after studying p etitioners’ receipts records travel records and ms rose’s excellent memory but petitioners’ logs were not created contemporaneously with the activities rather they were prepared using calendars that were not contemporaneous either the calendars on which ms rose based their logs do not break down how she spent her time while at the idaho property they simply petitioners concede that mr rose was not a real_estate_professional in and and that neither mr nor ms rose was a real_estate_professional in or indicate that those days were devoted to a real_estate management trip idaho without allowing time for sleep personal hygiene or meals ms rose did allow time for sleep and meals in her logs but they were not reasonable for example ms rose routinely reports working 16-hour days on the properties and some days in excess of hours acknowledging breaks only for meals typically half an hour each this does not leave much time for sleeping personal hygiene or spending time with her young children ms rose also reported working through the holidays that petitioners spent at the idaho property thanksgiving was an 5-hour day that included shopping for over hours during the afternoon and new years day was a 25-hour day while we believe petitioners’ testimony that ms rose worked very hard these hours are not plausible especially with young children even though mr rose was supervising them see pohoski v commissioner tcmemo_1998_17 wl at rejecting as implausible testimony regarding time spent on a real_estate trade_or_business that did not allow time for breaks for meals travel or leisure time with the family--all of which certainly occurred additionally ms rose included on the logs time she spent shopping for the idaho property even though she used those shopping trips for personal purchases as well see infra section iv and she included time spent to keep up the logs even though she testified they were compiled in preparation for trial not contemporaneously the inclusion of so much time for emails shopping log management meals dinner meetings travel and packing further erodes the logs’ reliability because these defects permeate the logs we need not make specific adjustments to exclude categories of hours the logs themselves are not reliable and therefore are not reasonable means of establishing real_estate service hours nor are we persuaded by petitioners’ repeated concessions on brief to eliminate defects identified by respondent this is not a negotiation but rather an examination of the record to determine whether petitioners’ logs and other evidence are reliable rather than improving their reliability these repeated concessions highlight the logs’ inherent unreliability the logs amount to postevent ballpark guestimates and do not establish that ms rose performed more than hours of services in connection with the idaho and arizona properties even if we assume ms rose materially participated in her rental real_estate business therefore she does not qualify as a real_estate_professional because ms rose does not meet the exception to the passive loss limitation in sec_469 petitioners’ rental real_estate losses are suspended until when they disposed of the arizona and idaho properties iv real_estate expenses petitioners argue that they are entitled to deduct their rental real_estate expenses under either sec_162 or sec_212 a taxpayer may deduct all ordinary and necessary expenses paid_or_incurred in a taxable_year in carrying on any trade_or_business sec_162 a taxpayer also may deduct all ordinary and necessary expenses paid_or_incurred in a taxable_year relating to the management conservation or maintenance of rental real_estate held_for_the_production_of_income sec_212 sec_1_212-1 income_tax regs to qualify as a deduction under sec_212 ordinary and necessary expenses_incurred for the conservation or maintenance of property must satisfy the same requirements that apply to a trade_or_business expense under sec_162 except that the person claiming the deduction need not be in the trade_or_business 674_f2d_1359 10th cir quoting 490_f2d_218 7th cir respondent conceded on brief that the rental properties were business properties at least for the later years as we discuss infra section v deductions are a matter of legislative grace and taxpayers must prove their entitlement to deductions claimed 503_us_79 292_us_435 taxpayers therefore are required to substantiate expenses underlying each claimed deduction by maintaining records sufficient to establish the amount of the deduction and to enable the commissioner to determine the correct_tax liability sec_6001 116_tc_438 under the cohan_rule the court may estimate the amount of the expense if the taxpayers are able to demonstrate that they have paid_or_incurred a deductible expense but cannot substantiate the precise amount as long as they produce credible_evidence providing a basis for the court to do so 39_f2d_540 2d cir certain expenses including travel lodging and meal expenses are subject_to the heightened substantiation requirements of sec_274 sec_274 supersedes the cohan_rule sec_1_274-5t temporary income_tax regs fed reg date sec_274 contemplates that no deduction or credit shall be allowed on the basis of the taxpayers’ mere approximations or unsupported testimony to meet these strict requirements taxpayers must substantiate the following by adequate_records or by sufficient evidence corroborating their own statements the amount of the expense the time and place of the travel or use and the business_purpose of the expense sec_274 to substantiate by adequate_records taxpayers must provide an account book log or similar record and documentary_evidence which together are sufficient to establish each element with respect to an expenditure sec_1_274-5t temporary income_tax regs fed reg date although a contemporaneous log is not required corroborative evidence to support the taxpayers’ reconstruction must have a high degree of probative value to elevate such statement to the level of credibility of a contemporaneous record id subpara respondent challenged certain of petitioners’ schedule e expenses for the through tax years on the basis that petitioners did not substantiate those expenses we agree petitioners provided schedules of their expenses for each year containing references to thousands of photocopied and sometimes illegible receipts or bank statements and contend on brief that their reported expenses are well enough documented however whenever confronted by respondent with specific problems regarding their reported expenses petitioners conceded those expenses that respondent identified petitioners also point out on brief that they made significant concessions but this is not a negotiation petitioners had an obligation to maintain adequate_records and failed our limited review of petitioners’ documentation shows a recurring failure to separate personal from rental expenses and on many of the receipts that we reviewed--to the extent we could make out the included charges--petitioners failed to provide any connection between the expenses and their rental properties for example on one receipt from a drug store petitioners marked four items as personal and failed to explain how other items were rental expenses those other items that petitioners claim are rental expenses include everyday card tnctn chill lcd spry and ra napr sodium cap 50ct other receipts list clothing and dvds and petitioners included their entire grocery receipt from date our very limited sampling is sufficient to establish that petitioners did not segregate personal expenses from rental expenses notwithstanding their notations while some of petitioners’s expenses may have related to rental properties petitioners failed to do the work necessary to separate personal from rental expenses we will not do that work for them now see hale v commissioner tcmemo_2010_229 wl at in support of his claim that he has adequately substantiated all of his deductions petitioner offers us what amounts in effect to a shoebox full of papers we need not and shall not undertake the task of sorting through the voluminous evidence petitioner has provided in an attempt to see what is and what is not adequate substantiation of the items on petitioner’s returns petitioner has failed to carry his burden of proving that respondent erred in determining the deficiencies in issue fn ref omitted thus petitioners have not satisfied their burden to maintain sufficient records and respondent’s determinations are sustained respondent disallowed or limited petitioners’ schedule e deductions for the following expenses solely on the basis of their use of the idaho property as a personal_residence under sec_280a depreciation expense for tax years through utility expenses for and taxes for and supply and repair expenses for because we concluded that petitioners were not subject_to the limitation under sec_280a we also conclude that petitioners are entitled to substantiated deductions that respondent disallowed or limited solely on the basis of sec_280a subject_to the limits imposed by sec_469 respondent also argued that petitioners’ rental expenses with respect to the idaho property are startup expenditures under sec_195 and must be capitalized a startup expenditure is any amount_paid or incurred in connection with investigating the creation or acquisition of an active trade_or_business creating an active trade_or_business or any activity engaged in for profit and for the production_of_income before the day on which the active trade_or_business begins in anticipation of such activity’s becoming an active trade_or_business which if paid_or_incurred in connection with the operation of an existing active trade_or_business would be allowable for that taxable_year sec_195 sec_195 applies to both sec_162 activities and sec_212 activities 128_tc_1 93_tc_684 see sec_195 rental_activity must have commenced in order for related expenses to be considered ordinary and necessary see 114_tc_333 woody v commissioner tcmemo_2009_93 wl at aff’d 403_fedappx_519 d c cir even accepting respondent’s premise that renting the idaho property to vacationers was a new business distinct from their earlier rentals to the bittons and black tip supply we have found that the bittons and black tip supply rented the idaho property for a substantial part of and petitioners offered the property as a vacation rental in late we therefore conclude that petitioners’ rental costs incurred were deductible rental expenses to the extent substantiated and subject_to the limits under sec_469 see charlton v commissioner t c pincite holding that the taxpayers’ costs were startup expenditures because they did not at least offer the properties for rent v capital_gains losses business loss nols petitioners assigned error to several of respondent’s determinations relating to the character of certain of their gains and losses and raised the issue of their entitlement to deduct a nol in their pretrial memorandum petitioners raised only one character issue in either their opening or answering brief so we deem the others including the nol to have been conceded see 89_tc_46 mallory v commissioner tcmemo_2016_110 at campbell v commissioner tcmemo_2001_51 wl at aff’d 28_fedappx_613 8th cir the only character issue petitioners raised is whether their abandonment of the idaho and arizona properties resulted in an ordinary or capital_loss petitioners argue that these properties were used in their rental business and therefore their dispositions of these properties resulted in an nol of dollar_figure gains and losses from the disposition of depreciable real_property used in a trade_or_business are not treated as capital_gain or loss except to the extent provided for in sec_1231 sec_1221 sec_1_1221-1 income_tax regs respondent in his answering brief conceded that the idaho property was business property in and and did not dispute whether the arizona property was business property but respondent did not concede the loss amount and contends that rule_155_computations will be required we agree respondent has not argued that these were not sales or exchanges because they were abandonments of property securing recourse_debt that was not continued respondent’s notice_of_deficiency accepted petitioners’ reported gain of dollar_figure on abandonment of the arizona property we have ruled that sec_280a does not apply to the idaho property and we have allowed deductions for some expenses but not others that will affect the size of losses carried forward to pursuant to sec_469 therefore the treatment of petitioners’ gain and loss from their dispositions of the arizona and idaho properties will depend on rule_155_computations vi penalties and additions to tax the commissioner bears the burden of production with respect to a taxpayer’s liability for additions to tax and accuracy-related_penalties requiring the commissioner to come forward with sufficient evidence indicating that imposition of the additions to tax and penalties is appropriate see sec_7491 continued extinguished therefore we will treat these abandonments as sales or exchanges see 74_tc_970 it has been well established that where a taxpayer transfers property to his mortgagee in settlement of a mortgage obligation for which he is personally liable any loss sustained by him will be deemed to have resulted from a sale_or_exchange on the ground that the taxpayer received consideration in return for transferring the property the consideration being his release from liability see also 94_tc_252 computations also should address whether the gain was double counted in respondent’s notice_of_deficiency as petitioners argue in their opening brief higbee v commissioner t c pincite in addition the commissioner must show that he complied with the procedural requirements of sec_6751 for the sec_6662 accuracy-related_penalty imposed see sec_6751 a c graev v commissioner 149_tc_485 supplementing and overruling in part 147_tc_460 sec_6751 requires the commissioner to show that penalties assessed under sec_6662 were personally approved in writing by the immediate supervisor of the individual making such determination see graev v commissioner t c pincite once the commissioner satisfies the burden of production the taxpayer must come forward with persuasive evidence that the commissioner’s determination of additions to tax or penalties is incorrect or that the taxpayer has an affirmative defense such as reasonable_cause see rule a higbee v commissioner t c pincite a sec_6651 additions to tax sec_6651 authorizes the imposition of an addition_to_tax for failure_to_file a return timely unless it is shown that such failure is due to reasonable_cause and not due to willful neglect see 469_us_241 whether a taxpayer has reasonable_cause within the meaning of section a depends on whether the taxpayer exercised ordinary business care and prudence but was nevertheless unable to file the return within the prescribed time boyle u s pincite sec_301_6651-1 proced admin regs petitioners failed to file their form_1040 timely for any of the years in issue petitioners do not address this issue on brief and therefore we deem it conceded see money v commissioner t c pincite mallory v commissioner at campbell v commissioner wl at we hold that they are liable for additions to tax for failure_to_file timely for the years at issue as determined by respondent b sec_6662 penalties sec_6662 and b and imposes an accuracy-related_penalty equal to of the portion of an underpayment_of_tax required to be shown on a return that is attributable to n egligence or disregard of rules or regulations and or a substantial_understatement_of_income_tax negligence includes any failure to make a reasonable attempt to comply with the provisions of this title sec_6662 we have defined negligence as the failure to exercise due care or the failure to do what a reasonable person would do under the circumstances see 92_tc_1 aff’d 925_f2d_348 9th cir 85_tc_934 an understatement of income_tax is a substantial_understatement if it exceeds the greater of of the tax required to be shown on the return or dollar_figure sec_6662 a civil penalty approval form for the accuracy-related_penalties signed by the group manager before the first formal communication of penalties giving petitioners the right to challenge them the notice_of_deficiency is included in the record see clay v commissioner t c ___ ___ slip op pincite date petitioners failed to keep sufficient records to document their income and expenses and ms rose’s work on their rental properties as required we hold therefore that respondent has met his burden of production for accuracy-related_penalties attributable to negligence the burden then shifts to petitioners to show that they had reasonable_cause for the understatement and that they acted in good_faith see 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 pertinent facts and circumstances see sec_1_6664-4 income_tax regs generally the most important factor is the extent of the taxpayer’s efforts to assess the proper tax_liability id see halby v commissioner tcmemo_2009_204 we also consider the taxpayer’s experience knowledge and education sec_1_6664-4 income_tax regs petitioners have not shown reasonable_cause for their underpayments of tax for the years in issue they argued that they relied on their accountant and that they tried in good_faith to comply with the tax law and to keep sufficient records but they failed to explain what steps they took to comply beyond their vague claims we have found throughout this opinion that petitioners’ recordkeeping was insufficient their records do not reflect a reasonable attempt to comply with the rules and regulations we therefore hold that petitioners are liable for understatement penalties attributable to negligence any contentions we have not addressed we deem irrelevant moot or meritless to reflect the foregoing decision will be entered under rule


internal_revenue_service index number number release date department of the treasury p o box ben franklin station washington dc contact person telephone number refer reply to cc dom p si - plr-109768-99 date legend partnership gp1 gp2 lp1 plr-109768-99 lp2 agency project state city a b c d e f g h k m n p plr-109768-99 r s dear this letter responds to your letter dated a submitted on behalf of agency and partnership requesting a letter_ruling under sec_42 of the internal_revenue_code and sec_1_42-13 of the income_tax regulations to correct an administrative error in an allocation of the low-income_housing_credit dollar amounts agency and partnership represent that the facts are as follows facts partnership is a state limited_partnership that was formed on h for the purpose of developing land and constructing owning and operating a k unit residential_rental_project in city the project partnerships’s general partners are gp1 and gp2 and its limited partners are lp1 and lp2 partnership expects that all of the units in the project will qualify for low-income_housing credits pursuant to sec_42 on m partnership submitted an application to agency for a reservation of g low- income housing credits in the amount of dollar_figuren the application reflected a site plan calling for k units in d buildings on p the project received a reservation letter from agency tentatively reserving low-income_housing credits in the amount of dollar_figuref for d buildings in the project on r the project received dollar_figuref in carryover allocation credits from agency for d buildings prior to the carryover allocation the project architect on b prepared plans and specifications consisting of c residential buildings for the project the preparer of partnership’s carryover certification unaware of the architect’s plans submitted the carryover certification consisting of d buildings the project was completed consisting of c buildings according to the plans and specifications of the architect after completing the project partnership in e submitted a request for forms for the project to agency upon receipt of a tax regualtory agreement and compliance monitoring agreement for the project from agency partnership’s accountants discovered that there was a mismatch between the carryover allocation and the actual number of buildings shortly after discovery of the error the general partners contacted agency and agency informed the general partners that a private_letter_ruling would be necessary to correct the administrative error plr-109768-99 as a result of this mistake the number of buildings that are to be used on the certificates of occupancy will no longer match the number assigned by agency for purposes of providing a carryover allocation thus the forms low-income_housing_credit allocation certification to be issued to the project will not reflect the correct number of buildings agency and partnership at the time of the g carryover allocation intended for k units to be constructed in the project the existing building-by-building allocation pursuant to the carryover allocation does not allow partnership to maximize the credits allocated to the project and seriously affects the project’s financial feasibility thus the g carryover allocation inaccurately reflects the intent of agency and partnership at the time the carryover allocation document was prepared at the time of the carryover allocation it was the intent of agency and partnership to maximize the credits allocated to the project the correction of the administrative error or omission will have no affect on the low-income_housing credits allocated to the entire project the correction however will affect the credits allocated to each building furthermore the correction of the administrative error or omission will have no effect on the housing_credit ceiling under sec_42 or on agency’s unused housing_credit carryover that is assigned to the secretary under sec_42 in connection with the above statement of facts agency represents that it intended to make a project-based allocation to the project pursuant to sec_42 the number of buildings in the project was not material to the carryover allocation for the project and the fact that the project had c residential buildings rather than d would not have affected a the amount of low-income_housing tax_credit allocated to the project b the ranking of the project in agency’s g allocation round or c any other aspect of the carryover allocation for the project agency and partnership request the internal_revenue_service to rule that agency can amend the g carryover allocation to allocate the appropriate amount of low- income housing_credit to each of the c buildings in the project not exceeding dollar_figuref for the entire project as required under sec_1_42-13 agency and partnership agree to such conditions as the secretary considers appropriate if the above ruling_request is granted law and analysis under sec_42 state and local housing_credit agencies may correct administrative errors and omissions concerning allocations and recordkeeping within a reasonable period of time after their discovery sec_1_42-13 defines an administrative error or omission as a mistake that results in a document that inaccurately reflects the intent of the agency at the time the document is originally plr-109768-99 completed or if the mistake affects a taxpayer a document that inaccurately reflects the intent of the agency and the affected taxpayer at the time the document is originally completed sec_1_42-13 however provides that an administrative error or omission does not include a misinterpretation of the applicable rules and regulations under sec_42 in the present case partnership committed an administrative error when the g credit application referenced d buildings when the actual number of residential buildings was c this error was not a misinterpretation of the applicable rules and regulations under sec_42 however this error did result in a document ie g carryover allocation that did not accurately reflect the intent of agency and partnership at the time the document was executed the intent of agency was to allocate the same amount of credit to the project notwithstanding the number of the buildings in the project further the change does not affect the amount of housing_credit_dollar_amount allocated to the project the ranking of the project in agency’s g allocation round or any other aspect of the carryover allocation for the project thus a correctable administrative error occurred in this situation under the represented facts the g carryover allocation is the credit allocating document under sec_1_42-13 the secretary must pre-approve a correction of an administrative error or omission if the correction is not made before the close of the calendar_year of the error or omission and the correction requires a numerical change to the credit_amount allocated for the building or project in the present case the correction would involve a numerical change to the credit_amount allocated to the c buildings that properly received bins based solely on the representations and the relevant law and regulations set forth above we conclude as follows partnership committed an administrative error when it failed to correctly identify the actual number of residential buildings in the project in its g credit application to agency because of that administrative error the g carryover allocation inaccurately reflects the intent of agency and partnership when the g carryover allocation was executed agency and partnership requested to correct the administrative error within a reasonable period of time after agency became aware of the administrative error agency will remove the s bins that were assigned in error to accurately reflect that there are c residential buildings in the project and plr-109768-99 agency will allocate low-income_housing tax_credit to each of the c residential buildings in the project not exceeding dollar_figuref for the entire project to correct this administrative error agency must do the following amend the g carryover allocation to remove the s bins erroneously assigned to the project and to allocate the appropriate amount of low-income_housing tax_credit to each of the c residential buildings in the project not exceeding dollar_figuref for the entire project on the amended g carryover allocation agency should indicate that it is making the correction under sec_1_42-13 and attach a copy of the amended g carryover allocation to an amended form_8610 annual low-income_housing_credit agencies report for g and file the amended form_8610 with the service when completing the amended form_8610 agency should follow the specific instructions on the form_8610 under the heading amended reports no opinion is expressed or implied regarding the application of any other provisions of the code or regulations specifically we express no opinion on whether the project qualifies for the low-income_housing tax_credit under sec_42 or the validity of the project’s costs included in eligible_basis in accordance with the power_of_attorney filed with this request we are sending a copy of this letter_ruling to partnership agency and agency’s authorized representative plr-109768-99 this ruling is directed only to the taxpayer who requested it sec_6110 provides that it may not be used or cited as precedent harold e burghart sincerely yours harold e burghart assistant to the chief branch office of assistant chief_counsel passthroughs and special industries


of f i c e of c h i ef c ou n sel number info release date genin-121389-09 department of the treasury i n t e r n al r e v e n u e s e r v i c e w ashington d c date ---------------- ----------------------- -------------------------- uil dear -------------- thank you for your letter of february to commissioner shulman regarding the tax consequences to victims of the investment fraud mr bernard l madoff perpetrated on date we issued guidance revrul_2009_9 and revproc_2009_20 on the tax treatment of losses from so-called ponzi schemes similar to that mr madoff operated i am enclosing copies for your information revrul_2009_9 explains the income_tax law that applies to an investor who loses money in a fraudulent investment arrangement it provides that an investor who was the victim of a fraudulent investment arrangement is entitled to a theft_loss deduction that is not limited by the rules that apply to capital losses investment theft losses are not subject_to limitations that apply to personal casualty and theft losses the theft_loss is deductible in the year the fraud is discovered except to the extent the investor has a reasonable_prospect_of_recovery the amount of the theft_loss includes not only the investor's unrecovered investment but also amounts reported as income from the investment in prior years and reinvested in the fraudulent investment arrangement a theft_loss deduction that creates a net_operating_loss for the investor can be carried back and forward according to the timeframes prescribed by law to generate a refund of taxes paid in other taxable years genin-121389-09 to claim a theft_loss deduction in any taxable_year an investor must prove that the loss was due to theft and that no reasonable prospect exists of recovering the investment investors often cannot make highly factual determinations with certainty in the year the loss is discovered for this reason we published revproc_2009_20 to provide a simplified_method for investors to compute and report their losses from fraudulent investment schemes this revenue_procedure generally allows an investor who was a victim of mr madoff’s fraud to claim a theft_loss in the amount the investor may deduct is up to percent of the loss less the amount of reimbursement he or she expects to receive as an advance for customer claims from the securities investor protection corporation sipc or from private insurance or other contractual arrangements that guarantee the investor against loss i hope this information is helpful please call me at --------------------- if i can further assist you sincerely john p moriarty chief branch office of associate chief_counsel income_tax and accounting enclosures