internal_revenue_service number release date index number ---------------------------------- ------------------------------- ----------------------------------- ---------------------------------- -------------------------- ---------------------------- legend department of the treasury washington dc third party communication none date of communication not applicable_person to contact ------------------------- id no ------------- telephone number --------------------- refer reply to cc psi b04 plr-140486-09 date november ------- ---------------------- --------------------- ----------------------- ------------------------------------------------------ ----------------------------------------------------- -------------------------------------------------------- ---------------------- ----------------------------- ------------------------ --------------------------- ---------------------------------------- year a b c trust a_trust b_trust c child child child individual trust d trust e ----------------------------------------------- trust f trust g --------------------------------------------------------------------------------------------------------- trust h --------------------------------------------------------------------------------------------------------- trust i --------------------------------------------------------------------------------------------------------- ------------------------------------------------------------------------------- ----------------------------------------- ------------------------------------------------------------------------------- -------------------------------------------------------------------------------- dear -------------- this responds to your date letter and other correspondence requesting rulings under sec_1001 sec_2501 and sec_2601 of the internal_revenue_code concerning the income gift and generation-skipping_transfer gst tax consequences of a proposed division and subsequent merger of certain trusts plr-140486-09 you have requested the following rulings the proposed transaction will not constitute a sale or other taxable division of assets under sec_1001 the proposed transaction will not result in a transfer that is subject_to gift_tax under sec_2501 the proposed transaction will not affect the status of the trusts as exempt from the gst tax under sec_2601 the facts submitted are as follows in year prior to date a created trust a b created trust b and c created trust c collectively the trusts a and b were husband and wife and had three children child child and child collectively the children thetrusts were created for the benefit of the children of a and b and their respective families under the provisions of paragraph of trusts a and b as long as any of the children are living the trustee is directed to divide all of the income of each trust into equal parts one part for each living child and one part for each deceased child survived by issue with respect to a living child the trustee has the discretion to pay to that child his her share of the income or to accumulate it in whole or in part with respect to a deceased child the trustee is directed to pay to the living issue of such child per stirpes the accumulated income of such deceased child’s share the income on the accumulated income and the current undistributed_income of the deceased child’s share under the provisions of paragraph of trust c as long as any of the children are living the trustee is directed to divide the trust’s income into equal parts one part for each living child and one part for each deceased child survived by issue the trustee is directed to apply each living child’s share of the income to the education maintenance and support of that child or in the trustee’s discretion accumulate such income in whole or in part upon the death of a child the trustee is directed to pay to the living issue of such child per stirpes the accumulated income of such deceased child’s share the income on the accumulated income and the current undistributed_income of the deceased child’s share under the provisions of paragraph of trusts a b and c upon the death of the last survivor of child child and child the trustee is directed to pay over the principal of the trusts to the then living issue per stirpes of child child and child plr-140486-09 each trust is currently being administered as a single fund with two parts one part consists of the primary trust assets and the other part contains the accumulated income no distributions have ever been made from either part child child and child are still living child child and individual are serving as the trustees of the trusts trustees propose to divide each trust into three separate trusts one for the benefit of child and his issue one for the benefit of child and her issue and one for the benefit of child and his issue following the division the trust for the benefit of child and his issue under trust a and the trust for the benefit of child and his issue under trust b will be merged into trust d the trust for the benefit of child and her issue under trust a and the trust for the benefit of child and her issue under trust b will be merged into trust e the trust for the benefit of child and his issue under trust a and the trust for the benefit of child and his issue under trust b will be merged into trust f the trusts created from the division of trust c will each continue to be held as separate trusts one for the benefit of child and his issue trust g one for the benefit of child and her issue trust h and one for the benefit of child and his issue trust i the trustees have petitioned the local court for an order approving the division and merger of the trusts subject_to favorable rulings by the service it is represented that under the proposed restructuring of the trusts the assets of trust a_trust b and trust c will be divided equally on a pro_rata basis each asset of each trust will be divided into three parts one part for each new trust if an asset cannot be divided it will be sold and the proceeds will be divided among the new trusts each of the new trusts trust d trust e trust f trust g trust h and trust i will be governed by the same provisions as the original trusts trust a_trust b and trust c except for the provisions of paragraph in each original trust as noted above paragraph of the original trusts provides that the principal of each trust is to be distributed per stirpes to the then living issue of child child and child after the death of the survivor of child child and child under the new trusts distributions of principal are to be made per stirpes to the issue of a deceased child upon that child’s death rather than at the death of the survivor of child child and child law and analysis ruling sec_61 provides that gross_income includes gains derived from dealings in property sec_1001 provides that the gain from the sale_or_other_disposition of property shall be the excess of the amount_realized therefrom over the adjusted_basis provided in sec_1011 for determining gain and the loss shall be the excess of the adjusted_basis provided in sec_1011 for determining loss over the amount_realized sec_1001 provides that except as otherwise provided in subtitle a of the code the entire amount of gain_or_loss determined under sec_1001 on the sale_or_exchange of property must be recognized sec_1_1001-1 of the income_tax regulations provides that except as otherwise provided in subtitle a of the code the gain_or_loss realized from the exchange of property for other_property differing materially either in_kind or in extent is treated as income or as loss sustained an exchange of property results in the realization of gain_or_loss under sec_1001 if the properties exchanged are materially different 499_us_554 properties exchanged are materially different if the properties embody legal entitlements different in_kind or extent or if the properties confer different rights and powers id pincite in cottage savings the supreme court held that mortgage loans made to different obligors and secured_by different homes did embody distinct legal entitlements and that the taxpayer realized losses when it exchanged interests in the loans id pincite in defining what constitutes a material difference for purposes of sec_1001 the court stated that properties are different in the sense that is material to the code so long as their respective possessors enjoy legal entitlements that are different in_kind or extent id pincite a pro_rata partition of jointly owned property is not a sale_or_other_disposition of property where the co-owners of the joint property sever their joint_interests but do not acquire a new or additional interest as a result thereof see revrul_56_437 1956_2_cb_507 in this case the trusts will be partitioned and merged into six trusts the distribution of assets from the trusts into the new trusts will be pro_rata as to value and as to each of the assets the payments and legal entitlements of the beneficiaries will not be changed the modification of the terms and conditions of the new trusts to provide for the early termination of the trusts and the early distribution of assets to the remaindermen is a change from the terms and conditions of the trusts however this change modifies only the timing of the receipt of trust assets by the remaindermen except for this change all other provisions of the trusts will remain unchanged we thus conclude that the division of each of trust a_trust b and trust c into three separate trusts one for the benefit of each child and his her family the merger of the two trusts created for the benefit of each child and his her family under trusts a and b into trust d trust e and trust f and the creation of trusts g h and i under trust c plr-140486-09 with the approval of the state court on a pro_rata basis will not cause the legal entitlements and interests of the beneficiaries of these separate trusts to differ materially from their legal entitlements and interests under the trusts the beneficiaries will hold essentially the same interests before and after the pro_rata division therefore this transaction will not result in the realization of any gain_or_loss from a sale_or_other_disposition of assets of any of the trusts under sec_1001 ruling sec_2501 imposes a tax on the transfer of property by gift by any individual sec_2511 provides that the gift_tax applies whether the transfer is in trust or otherwise whether the gift is direct or indirect and whether the property is real or personal tangible or intangible in this case the beneficial interests in the original trusts trust a_trust b and trust c will be identical to the beneficial interests in the new trusts trusts d e f g h and i therefore no interests in the original trusts will be passed gratuitously to the new trusts accordingly based upon the facts submitted and representations made we conclude that the transaction will not be subject_to gift_tax under sec_2501 ruling sec_2601 imposes a tax on every generation-skipping_transfer the term generation-skipping_transfer is defined in sec_2611 as a taxable_distribution a taxable_termination or a direct_skip under a of the tax_reform_act_of_1986 act and sec_26_2601-1 of the generation-skipping_transfer gst tax regulations the gst tax is generally applicable to generation-skipping transfers made after date however under b a of the act and sec_26_2601-1 the gst tax does not apply to a transfer under a_trust that was irrevocable on date but only to the extent that such transfer is not made out of corpus added to the trust after date or out of income attributable to corpus so added sec_26_2601-1 provides rules for determining when a modification judicial construction settlement agreement or trustee action with respect to a_trust that is exempt from the gst tax under sec_26_2601-1 will not cause the trust to lose its exempt status sec_26_2601-1 provides that a modification will not cause an exempt trust to be subject_to the gst tax if the modification does not shift a beneficial_interest in the trust to any beneficiary who occupies a lower generation as defined in plr-140486-09 sec_2651 than the person or persons who held the beneficial_interest prior to the modification and the modification does not extend the time for vesting of any beneficial_interest in the trust beyond the period provided for in the original trust a modification of an exempt trust will result in a shift in beneficial_interest to a lower generation beneficiary if the modification can result in either an increase in the amount of a generation-skipping_transfer or the creation of a new generation-skipping_transfer a modification that is administrative in nature that only indirectly increases the amount transferred will not be considered to shift a beneficial_interest in the trust sec_26_2601-1 example illustrates a situation where a_trust that is otherwise exempt from the gst tax is divided into two trusts under the facts presented the division of a_trust into two trusts does not shift any beneficial_interest in the trust to a beneficiary who occupies a lower generation as defined in sec_2651 than the person or persons who held the beneficial_interest prior to the division and the division does not extend the time for vesting of any beneficial_interest in the trust beyond the period provided for in the original trust accordingly the two partitioned trusts will not be subject_to the gst tax in this case the original trusts will be partitioned and merged into six trusts the transaction will not result in a shift of any beneficial_interest in the trusts to any beneficiary who occupies a generation lower than the persons holding the beneficial interests further the proposed division will not extend the time for vesting of any beneficial_interest in the new trusts beyond the period provided for in the trusts accordingly based on the facts submitted and the representations made we conclude that the proposed transaction will not adversely affect the trusts’ status as exempt from the gst tax and that the new trusts will remain exempt from the gst tax in accordance with the power_of_attorney on file with this office copies of this letter are being sent to your authorized representative except as expressly provided herein no opinion is expressed or implied concerning the tax consequences of any aspect of any transaction or item discussed or referenced in this letter the rulings contained in this letter are based upon information and representations submitted by the taxpayer and accompanied by a penalty of perjury statement executed by an appropriate party while this office has not verified any of the material submitted in support of the request for rulings it is subject_to verification on examination plr-140486-09 this ruling is directed only to the taxpayer requesting it sec_6110 provides that it may not be used or cited as precedent sincerely katherine a mellody senior technician reviewer branch office of the associate chief_counsel passthroughs special industries enclosures copy for sec_6110 purposes copy of this letter


internal_revenue_service department of the treasury number release date index number washington dc person to contact telephone number refer reply to cc psi 7-plr-104616-02 date date re sec_29 request for a ruling credit for producing fuel from a nonconventional source legend p x y z a b c d site e site f state g state h date date date dollar_figurew dollar_figurex dollar_figurey dollar_figurez dear this letter responds to a letter dated date and subsequent correspondence submitted on behalf of p by its authorized representative requesting rulings under sec_29 of the internal_revenue_code the facts as represented by p and p’s authorized representative are as follows facts plr-104616-02 p is a limited_liability_company that owns a synthetic_fuel facility facility designed to produce a solid synthetic_fuel derived from coal feedstock x contributed dollar_figurey in exchange for a percent membership interest in p and y contributed dollar_figurez with respect to it sec_5 percent membership interest in p the members of p have made and will continue to make periodic cash capital contributions to p to pay its operating costs in accordance with their respective ownership interests p acquired the facility from z which is owned by y in consideration for the facility p paid i cash payments of dollar_figurew ii a fixed payment note in the principal_amount of dollar_figurex and iii a contingent payment note based on sec_29 credit claimed by p p represents that based on the expected production level of the facility on date the net present_value of the cash and the consideration payable to z under the fixed note will exceed percent of the total consideration payable to z for the facility on date y entered into two separate construction contracts with d pursuant to which d agreed to provide the equipment and services necessary to construct install and place into service the facility the facility resulted from the combination of two one- line facilities originally described in two separate contracts the facility includes moveable equipment designed to convert coal fines material into synthetic_fuel the construction_contract provides for a fixed price and a completion date the construction_contract does not provide for the payment of liquidated_damages p has provided an opinion of counsel that the construction_contract as amended constituted a binding written contract under applicable state laws prior to date the facility was constructed at the site f in state h and was in control of b y holds a percent limited_partnership_interest in b p represents that the facility was placed_in_service within the meaning of sec_29 before date while the facility was operational on date p represents that the poor quality of available coal feedstocks at the site f reduced the profitability of synthetic_fuel production following the difficulties encountered in obtaining sufficient coal fines in site f b distributed the facility to y for sale to a buyer that would be interested in moving the facility to a new location when the attempted sale to a purchaser proved unsuccessful y contributed the facility to z z disassembled and moved the facility to the site e in state g z then sold the facility to p p assumed an agreement originally entered into by z with a for the operation and maintenance of the facility a is subject_to the direction and control of p which has the sole authority to set production levels and make other strategic decisions a is paid a fixed fee for general administration and base level management services and a graduated fixed fee per ton of synthetic_fuel produced for the incentive portion of the management services p will pay all operating costs pursuant to a coal feedstock supply agreement c has agreed to sell coal feedstock to plr-104616-02 p if c is unable to provide sufficient coal supply to satisfy p’s requirements p can purchase its feedstock from other suppliers p also entered into a synthetic fuels sales agreement with c where c agreed to purchase a certain amount of the synthetic_fuel produced at the facility each year p has represented that all sales of synthetic_fuel will be to unrelated persons as described in the ruling_request and subsequent correspondence from p’s authorized representative the facility includes two pelletizers which will be used to make an agglomerated fuel product p has also supplied a detailed description of the process employed in the facility for the production of synthetic_fuel as described the facility and the process implemented in the facility meet the requirements of revproc_2001_34 2001_22_irb_1293 recognized experts in coal and chemical analysis have performed numerous tests on the fuel produced from coal using the process including specified reagent that will be used at the facility and have submitted reports in which the experts conclude that significant chemical changes take place with the application of the process to the coal under the limited_liability_company agreement of p all items of income gain loss deduction and credit including the sec_29 credit of p are allocated and any distributions made in proportion to the members’ ownership interests p has requested following rulings the synthetic_fuel produced by the facility is a solid synthetic_fuel produced from coal feedstock and constitutes a qualified_fuel as defined in sec_29 the production of the qualified_fuel from the facility will be attributable solely to p entitling p to the sec_29 credit for qualified_fuel sold to unrelated persons the contract for construction of the facility constitutes a binding written contract in effect before date for purposes of sec_29 g a if the facility was placed_in_service prior to date within the meaning of sec_29 relocation of the facility after date or replacement of parts of the facility after that date will not result in a new placed_in_service_date for the facility for purposes of sec_29 provided the fair_market_value of the original property is more than percent of the facility’s total fair_market_value at the time of relocation or replacement we express no opinion on when p’s facility was placed_in_service the facility is placed_in_service for purposes of sec_29 on the date the facility was first placed in a condition or state of readiness and availability to produce qualified_fuel as provided in regulations sec_1_46-3 and sec_1 a - e i we express no opinion on when the facility was placed_in_service plr-104616-02 if the facility was placed_in_service prior to date within the meaning of sec_29 the facility will continue to be treated as placed_in_service before date if sold to a new owner after such date therefore p’s purchase of the facility will not affect the date that the facility placed_in_service for purposes of sec_29 the sec_29 credit attributable to p may be allocated to the members of p in accordance with the members’ interests in p when the credit arises for the sec_29 credit a member’s interest in p is determined based on a valid allocation of the receipts from the sale of the sec_29 qualified_fuel and a termination of p under sec_708 will not preclude the reconstituted partnership from claiming the sec_29 credit on the production and sale of synthetic_fuel ruling requests sec_29 allows a credit for qualified_fuels sold by the taxpayer to an unrelated_person during the taxable_year the production of which is attributable to the taxpayer the credit for the taxable_year is an amount equal to dollar_figure adjusted for inflation multiplied by the barrel-of-oil_equivalent of qualified_fuels sold sec_29 defines qualified_fuels to include liquid gaseous or solid synthetic fuels produced from coal including lignite including such fuels when used as feedstocks in revrul_86_100 1986_2_cb_3 the internal_revenue_service ruled that the definition of the term synthetic_fuel under sec_48 and its regulations is relevant to the interpretation of the term under sec_29 former sec_48 provided a credit for the cost of equipment used for converting an alternate_substance into a synthetic liquid gaseous or solid fuel revrul_86_100 notes that both sec_29 and former sec_48 contain almost identical language and have the same overall congressional intent namely to encourage energy conservation and aid development of domestic energy production under sec_1_48-9 of the income_tax regulations a synthetic_fuel differs significantly in chemical composition as opposed to physical composition from the alternate_substance used to produce it coal is an alternate_substance under sec_1_48-9 based on the representations of p and p’s authorized representative including the test results submitted by p we agree that the fuel produced in the facility using the process and reagent described in p’s ruling_request and subsequent correspondence will result in a significant chemical change to the coal transforming the coal feedstock into a solid synthetic_fuel because p owns the facility and operates and maintains the facility through its agent we conclude p will be entitled to the sec_29 credit for the production of the qualified_fuel from the facility that is sold to an unrelated_person plr-104616-02 ruling_request sec_29 and f provide that sec_29 applies with respect to qualified_fuels which are produced in a facility placed_in_service after date and before date and which are sold before date sec_29 modifies sec_29 in the case of a facility producing qualified_fuels described in sec_29 sec_29 provides that for purposes of sec_29 a facility shall be treated as placed_in_service before date if the facility is placed_in_service before date pursuant to a binding written contract in effect before date sec_29 provides that if the facility is originally placed_in_service after date sec_29 shall be applied by substituting date for date a contract is binding only if it is enforceable under local law against a taxpayer and does not limit damages to a specified amount eg by use of a liquidated_damages provision a contract provision limiting damages to an amount equal to at least five percent of the total_contract_price for example should be treated as not limiting damages the construction_contract executed prior to date includes such essential features as a description of the facility to be constructed a completion date and a maximum price in addition the contract does not limit damages to a specified amount p provided an opinion of counsel that the contract is binding under applicable state law prior to date therefore we conclude that the facility was constructed pursuant to a binding written contract for purposes of sec_29 ruling requests sec_29 and f of the code provide that sec_29 applies with respect to qualified_fuels which are produced in a facility placed_in_service after date and before date and which are sold before date sec_29 of the code modifies sec_29 in the case of a facility producing qualified_fuels described in sec_29 which qualified_fuels include solid synthetic fuels produced from coal or lignite sec_29 provides that for purposes of sec_29 such a facility is to be treated as placed_in_service before date if the facility is placed_in_service before date pursuant to a binding written contract in effect before date sec_29 provides that if the facility is originally placed_in_service after date sec_29 is to be applied by substituting for the date therein date to qualify for the sec_29 credit p’s facility must be placed_in_service before date pursuant to a binding written contract in effect before date while sec_29 does not define placed_in_service the term has been defined for purposes of the deduction for depreciation and the investment_tax_credit property is placed_in_service in the taxable_year the property is placed in a condition or state of readiness and availability for a specifically assigned function sec_1_167_a_-11 and plr-104616-02 sec_1_46-3 of the regulations placed_in_service has consistently been construed as having the same meaning for purposes of the deduction for depreciation and the investment_tax_credit see revrul_76_256 1976_2_cb_46 revrul_94_31 1994_1_cb_16 concerns sec_45 which provides a credit for electricity produced from certain renewable resources including wind the credit is based on the amount of electricity produced_by_the_taxpayer at a qualified_facility during the 10-year period beginning on the date the facility was originally placed_in_service and sold by the taxpayer to an unrelated_person during the taxable_year revrul_94_31 holds that for purposes of sec_45 a facility qualifies as originally placed_in_service even though it contains some used_property provided the fair_market_value of the used_property is not more than percent of the facility’s total value the cost of the new property plus the value of the used_property revrul_94_31 concerns a factual context similar to the present situation consistent with the holding in revrul_94_31 if p’s facility was placed_in_service prior to date within the meaning of sec_29 relocation of p’s facility after date or replacement of parts of the facility after that date will not result in a new placed_in_service_date for the facility for purposes of sec_29 if the fair_market_value of the original property is more than percent of the facility’s total fair_market_value at the time of relocation or replacement when property is placed_in_service is a factual determination and we express no opinion on when p’s facility was placed_in_service ruling_request the sec_29 credit has always been a time sensitive credit in that eligibility for the credit is determined when facilities or wells producing qualified_fuels are placed_in_service and when the qualifying fuels are produced and sold to unrelated persons for example the sec_44d credit as originally enacted in the crude_oil windfall profit tax act of was generally available for the production and sale of alternative fuels after date and before date from facilities placed_in_service after date and before date on property which first began production after date the sec_29 credit has been extended by congress four times the placed-in-service deadline and the period for claiming the sec_29 credit were extended in the technical_and_miscellaneous_revenue_act_of_1988 for placed_in_service omnibus budget reconciliation act of for placed_in_service and for the end of the credit_period energy policy act of for placed_in_service and for the end of the credit_period and small_business job protection act of date for placed_in_service it is clear from the legislative_history of sec_44d that congress intended the credit to plr-104616-02 apply to facilities placed_in_service after and that the placed-in-service deadline in sec_29 must be read as applying to when the facility is first placed_in_service within the applicable dates the placed-in-service deadlines contained in sec_29 and sec_29 focus on the facility and not the owner of the facility the legislative_history of sec_44d clearly shows that congress wanted to encourage the production of new alternative fuels from facilities first placed_in_service after and not provide a tax incentive for production capacity in service before sec_29 demonstrates that congress knows how to preclude transferees of facilities from claiming the sec_29 credit that provision provides that extension of the period for placing facilities in service after does not apply to any facility that produces coke or coke gas unless the original_use of the facility commences with the taxpayer accordingly the determination of whether a facility has satisfied the placed-in-service deadline under either sec_29 or sec_29 is made by reference to when the facility is first placed_in_service not when the facility is transferred or sold to a different taxpayer therefore if p’s facility was placed_in_service prior to date within the meaning of sec_29 the sale of the facility after date will not result in a new placed_in_service_date for the facility for purposes of sec_29 for the new owner when property is placed_in_service is a factual determination and we express no opinion on when p’s facility was placed_in_service ruling_request under sec_7701 the term taxpayer means any person subject_to any internal revenue tax sec_7701 provides that the term person includes an individual trust estate partnership_association company or corporation sec_702 provides that each partner determines the partner’s income_tax by taking into account separately the partner’s distributive_share of the partnership’s other items of income gain loss deduction or credit to the extent provided by regulations prescribed by the secretary under sec_1_702-1 the distributive_share is determined as provided in sec_704 and sec_1_704-1 sec_704 provides that a partner’s distributive_share of income gain loss deduction or credit is except as otherwise provided in chapter of subtitle a of title_26 determined by the partnership_agreement sec_704 provides that a partner’s distributive_share of income gain loss deduction or credit or item thereof is determined in accordance with the partner’s interest in the partnership determined by taking into account all facts and circumstances if i the partnership_agreement does not provide for the partner’s distributive_share of income gain loss deduction or credit or item thereof or ii the allocation to a partner under the plr-104616-02 agreement of income gain loss deduction or credit or item thereof lacks substantial economic_effect under sec_1_704-1 allocations of tax_credits and tax_credit recapture except for sec_38 property are not reflected by adjustments to the partners’ capital accounts thus these allocations cannot have economic_effect under sec_1_704-1 and the tax_credits and tax_credit recapture must be allocated in accordance with the partners’ interests in the partnership as of the time the tax_credit or tax_credit recapture arises if a partnership expenditure whether or not deductible that gives rise to a tax_credit in a partnership taxable_year also gives rise to valid allocations of partnership loss or deduction or other downward capital_account adjustments for the year then the partners’ interests in the partnership regarding the credit or the cost giving rise to it are in the same proportion as the partners’ respective distributive shares of the loss or deduction and adjustments see sec_1_704-1 example identical principles apply in determining the partners’ interests in the partnership regarding tax_credits that arise from receipts of the partnership whether or not taxable based on the information submitted and the representations made we conclude that the sec_29 credit attributable to p may be passed through to and allocated to the members of p in accordance with each member’s interest in p when the credit arises for the sec_29 credit a member’s interest in p is determined based on a valid allocation of the receipts from the sale of the sec_29 qualified_fuel we express no opinion however regarding what constitutes a valid allocation ruling_request sec_708 provides that a partnership shall be considered as terminated if within a twelve-month period there is a sale_or_exchange of percent or more of the total interest in partnership capital and profits sec_1_708-1 provides that if a partnership is terminated by a sale_or_exchange of an interest the following is deemed to occur the partnership contributes all of its assets and liabilities to a new partnership in exchange for an interest in the new partnership and immediately thereafter the terminated partnership distributes interests in the new partnership to the purchasing partner and the other remaining partners in proportion to their respective interests in the terminated partnership in liquidation of the terminated partnership either for the continuation of the business by the new partnership or for its dissolution and winding up sec_1_708-1 applies to terminations of partnerships under sec_708 occurring on or after date as discussed above the placed-in-service deadline in sec_29 and sec_29 must be read as applying to when the facility is first placed_in_service within the applicable dates the placed-in-service deadlines contained in sec_29 plr-104616-02 and g a focus on the facility and not the taxpayer owning the facility accordingly the determination of whether a facility has satisfied the placed-in-service deadline under sec_29 and sec_29 is made by reference to when the facility is first placed_in_service not when the facility is placed_in_service by a transferee taxpayer therefore we conclude that a termination of p under sec_708 will not preclude the reconstituted partnership from claiming the sec_29 credit on the production and sale of synthetic_fuel to unrelated persons conclusions accordingly based on the representations of p and p’s authorized representative we conclude as follows the synthetic_fuel produced by the facility is a solid synthetic_fuel produced from coal feedstock and constitutes a qualified_fuel as defined in sec_29 the production of the qualified_fuel from the facility will be attributable solely to p entitling p to the sec_29 credit for qualified_fuel sold to unrelated persons the contract for construction of the facility constitutes a binding written contract in effect before date for purposes of sec_29 g a if the facility was placed_in_service prior to date within the meaning of sec_29 relocation of the facility after date or replacement of parts of the facility after that date will not result in a new placed_in_service_date for the facility for purposes of sec_29 provided the fair_market_value of the original property is more than percent of the facility’s total fair_market_value at the time of relocation or replacement we express no opinion on when p’s facility was placed_in_service the facility is placed_in_service for purposes of sec_29 on the date the facility was first placed in a condition or state of readiness and availability to produce qualified_fuel as provided in regulations sec_1_46-3 and sec_1 a - e i we express no opinion on when the facility was placed_in_service if the facility was placed_in_service prior to date within the meaning of sec_29 the facility will continue to be treated as placed_in_service before date if sold to a new owner after such date therefore p’s purchase of the facility will not affect the date that the facility placed_in_service for purposes of sec_29 the sec_29 credit attributable to p may be allocated to the members of p in accordance with the members’ interests in p when the credit arises for the sec_29 credit a member’s interest in p is determined based on a valid allocation of the receipts from the sale of the sec_29 qualified_fuel and plr-104616-02 a termination of p under sec_708 will not preclude the reconstituted partnership from claiming the sec_29 credit on the production and sale of synthetic_fuel except as specifically ruled upon above we express no opinion concerning the federal_income_tax consequences of the transaction described above specifically we express no opinion on when p’s facility was placed_in_service for purposes of sec_29 this ruling is directed only to the taxpayer who requested it sec_6110 provides that it may not be used or cited as precedent temporary or final regulations pertaining to one or more of the issues addressed in this ruling have not yet been adopted therefore this ruling may be modified or revoked by the adoption of temporary or final regulations to the extent the regulations are inconsistent with any conclusion in this ruling see section dollar_figure of revproc_2002_1 2002_1_irb_1 however when the criteria in section dollar_figure of revproc_2002_1 are satisfied a ruling is not revoked or modified retroactively except in rare or unusual circumstances cc sincerely yours joseph h makurath senior technician reviewer branch office of associate chief_counsel passthroughs and special industries


internal_revenue_service department of the treasury number release date index number washington dc person to contact telephone number refer reply to cc psi plr-109747-00 date date company trust state m n a b c d e f dear this letter responds to your letter dated date submitted on behalf of company requesting a ruling under sec_1362 of the internal_revenue_code that the termination of company's s_corporation_election was inadvertent company represents the following facts company was incorporated under the laws of state on a and elected under sec_1362 to be an s_corporation effective b_trust was created on c for the benefit of m a minor n the parent of m is trust’s current trustee n elected under sec_1361 to have the qualified plr-109747-00 subchapter_s_trust qsst rules apply to trust effective b company’s s election terminated on d when n failed to make the trust income distribution for e as required by sec_1361 company’s accountant in conjunction with company’s s_corporation_election prepared election statements for both an electing_small_business_trust esbt and a qsst intending that n select one of the forms upon receipt of the election statements n signed both forms not realizing the difference between the two company represents however that it was n’s intention that trust not be required to make annual distributions and that it therefore be an esbt and not a qsst n’s secretary also not knowing the difference between the two executed forms sent the qsst election statement to the accountant and placed the esbt election statement in n’s files for trust the accountant filed the qsst election with the internal_revenue_service the company represents however that the accountant believed that trust had made an esbt election n made no distributions from trust for e believing that no distributions were required on or about f the accountant while preparing company’s tax_return realized that the qsst election statement had been filed with the service and not the esbt statement except as provided in sec_1362 sec_1362 provides that a small_business_corporation may elect in accordance with the provisions of sec_1362 to be an s_corporation sec_1361 provides that for purposes of subchapter_s the term small_business_corporation means a domestic_corporation that is not an ineligible_corporation and that does not among other things have as a shareholder a person other than an estate a_trust described in sec_1361 or an organization described in sec_1361 who is not an individual sec_1361 provides that a_trust all of which is treated under subpart e of part i of subchapter_j of this chapter as owned by an individual who is a citizen or resident_of_the_united_states may be a shareholder of an s_corporation for purposes of sec_1361 sec_1361 provides that in the case of a_trust described in sec_1361 the deemed owner shall be treated as the shareholder sec_1361 provides that in the case of a qsst with respect to which a beneficiary makes an election under sec_1361 - a b the trust shall be treated as a_trust described in sec_1361 and for purposes of sec_678 the beneficiary of the trust shall be treated as plr-109747-00 the owner of that portion of the trust which consists of stock in an s_corporation with respect to which the election under sec_1361 is made sec_1361 provides that a beneficiary of a qsst or his legal_representative may elect to have sec_1361 apply sec_1361 provides that an election under sec_1361 shall be effective up to days and months before the date of the election sec_1361 provides that for purposes of sec_1361 the term qualified_subchapter_s_trust means a trust- a the terms of which require that- i ii iii iv during the life of the current income_beneficiary there shall be only one income_beneficiary of the trust any corpus distributed during the life of the current income_beneficiary may be distributed only to such beneficiary the income_interest of the current income_beneficiary in the trust shall terminate on the earlier of the beneficiary’s death or the termination of the trust and upon the termination of the trust during the life of the current income_beneficiary the trust shall distribute all of its assets to that beneficiary and b all of the income within the meaning of sec_643 of which is distributed or required to be distributed currently to one individual who is a citizen or resident_of_the_united_states sec_1_1361-1 of the income_tax regulations provides that if a qsst ceases to meet the income distribution requirement specified in sec_1_1361-1 sec_1361 but continues to meet all of the requirements in sec_1_1361-1 sec_1361 the provisions of sec_1_1361-1 the qsst rules will cease to apply as of the first day of the first tax_year beginning after the first tax_year in which the trust ceased to meet the income distribution requirement if a corporation’s s election is inadvertently terminated as a result of a_trust ceasing to meet the qsst requirements the corporation may request relief under sec_1362 sec_1362 provides that an election under sec_1362 terminates whenever the corporation ceases to be a small_business_corporation sec_1362 provides that if an election under sec_1362 by any corporation was terminated under sec_1362 or the secretary determines that the circumstances resulting in termination were inadvertent no later than a reasonable period of time after discovery of the circumstances resulting in termination steps were taken so that the corporation is a small_business_corporation and the plr-109747-00 corporation and each person who was a shareholder of the corporation at any time during the period specified pursuant to sec_1362 agrees to make the adjustments consistent with the treatment of the corporation as an s_corporation as might be required by the secretary regarding this period then notwithstanding the circumstances resulting in termination the corporation shall be treated as an s_corporation during the period specified by the secretary sec_1_1362-4 provides that the determination of whether a termination was inadvertent is made by the commissioner the corporation has the burden of establishing that under the relevant facts and circumstances the commissioner should determine that the termination was inadvertent the fact that the terminating event was not reasonably within the control of the corporation and was not part of a plan to terminate the election or the fact that the event took place without the knowledge of the corporation notwithstanding its due diligence to safeguard itself against such an event tends to establish that the termination was inadvertent according to the legislative_history of sec_1362 f -- if the internal_revenue_service determines that a corporation's subchapter_s_election is inadvertently terminated the service can waive the effect of the terminating event for any period if the corporation timely corrects the event and if the corporation and the shareholders agree to be treated as if the election had been in effect for such period the committee intends that the internal_revenue_service be reasonable in granting waivers so that corporations whose subchapter_s eligibility requirements have been inadvertently violated do not suffer the tax consequences of a termination if no tax_avoidance would result from the continued subchapter_s treatment in granting a waiver it is hoped that taxpayers and the government will work out agreements that protect the revenues without undue_hardship to taxpayers it is expected that the waiver may be made retroactive for all years or retroactive for the period in which the corporation again became eligible for subchapter_s treatment depending on the facts s rep no 97th cong 2d sess 1982_2_cb_718 company represents that tax_avoidance was not a motive for any of the actions described in its ruling_request and that the termination of its s_corporation_election resulted solely because the wrong election statement was filed for trust the company intended at all times to retain its s_corporation status after applying the applicable law and regulations to the facts and representations of this ruling_request we conclude that the termination of company's s_corporation_election due to n’s failure to make the required income distribution from trust was plr-109747-00 inadvertent within the meaning of sec_1362 consequently we rule that company will be treated as continuing to be an s_corporation from d to the present unless company's s election otherwise is terminated under sec_1362 as a condition for this ruling n must make the trust income distribution for e as required by sec_1361 within days of the date of this ruling letter the ruling in this letter is based on information and representations submitted by the taxpayer and accompanied by a penalty of perjury statement executed by an appropriate party while this office has not verified any of the material submitted in support of the request_for_ruling it is subject_to verification on examination except for the specific ruling above no opinion is expressed or implied concerning the federal_income_tax consequences of the facts of this case under any other provision of the code specifically no opinion is expressed regarding company's eligibility to be an s_corporation or trust’s qualifications as a qsst in accordance with the power_of_attorney on file with this office we are sending a copy of this letter to company this ruling is directed only to the taxpayer who requested it according to sec_6110 this ruling may not be used or cited as precedent sincerely robert honigman acting assistant to the chief branch office of associate chief_counsel passthroughs and special industries enclosure copy for sec_6110 purposes


t c memo united_states tax_court bharat i patel and vibha b patel petitioners v commissioner of internal revenue respondent docket no filed date jon j jensen for petitioners melissa j hedtke trent usitalo and blaine holiday for respondent memorandum findings_of_fact and opinion haines judge bharat i patel mr patel and vibha b patel mrs patel petitioned the court for redetermination of the following deficiencies in federal_income_tax and penalties year deficiency dollar_figure big_number big_number penalties sec_6663 sec_6662 dollar_figure dollar_figure big_number big_number big_number big_number the issues for decision after concessions are whether the statute_of_limitations under sec_6501 bars the issuance of the notice_of_deficiency whether petitioners failed to report gross_receipts of dollar_figure in and dollar_figure in whether petitioners failed to report on their schedule e supplemental income and loss income of dollar_figure whether petitioners overstated their expenses in and whether petitioners are entitled to deductions for self-employed health insurance greater than dollar_figure dollar_figure and dollar_figure for and respectively whether petitioners are liable for fraud penalties under sec_6663 and whether petitioners are liable for accuracy-related_penalties under sec_6662 for all purposes hereafter the years at issue shall refer to and findings_of_fact some of the facts have been stipulated and are so found the stipulation of facts and the supplemental stipulation of facts together with the attached exhibits are incorporated 1unless otherwise indicated all section references are to the internal_revenue_code as amended and all rule references are to the tax_court rules_of_practice and procedure amounts are rounded to the nearest dollar herein by this reference at the time petitioners filed their petition they resided in north dakota petitioners are husband and wife mr patel moved to the united_states from india in at the age of mrs patel moved from india to join him in petitioners have owned and managed hotels or motels in the united_states since petitioners filed joint federal_income_tax returns for the years at issue in a civil audit of petitioners’ return was initiated and later expanded to include their and returns in petitioners’ returns for the years at issue were referred for criminal investigation on date mr patel was convicted of income_tax fraud under sec_7206 for on date respondent sent petitioners a notice_of_deficiency for the years at issue petitioners filed a timely petition with this court and a trial was held on date in st paul minnesota on date as a result of evidence presented at trial the court granted respondent’s motion for leave to amend his answer to increase the deficiency by dollar_figure for a total deficiency of dollar_figure and to increase the fraud_penalty under sec_6663 by dollar_figure for a total fraud_penalty of dollar_figure i petitioners’ motel business a motel business petitioners owned three motels during the years at issue budget inn in dickinson north dakota budget inn super motel in glendive montana s8 glendive and super motel in dickinson north dakota s8 dickinson s8 glendive and s8 dickinson s8 motels were operated as sole proprietorships and petitioners reported income and expenses related to the s8 motels on their schedules c profit or loss from business budget inn was operated as an s_corporation petitioners also held a partnership_interest in bisk bk partnership l l p and bi sk partnership l l p the partnerships during the years at issue bisk bk partnership l l p owned and operated super motel in willmar minnesota while bi sk partnership l l p owned and operated super motel in winona minnesota the partnership motels the partnerships were owned by petitioners and mr patel’s relatives dr b k patel and dr s k patel b record keeping petitioners performed the bookkeeping for the s8 motels and budget inn themselves during the years at issue petitioners were also in charge of accounting record keeping and management including the hiring and firing of motel personnel at the s8 motels and budget inn mr patel instructed the manager of s8 glendive on how to run a motel the manager of s8 glendive who had previous experience managing other hotels believed mr patel was a competent and knowledgeable manager petitioners received the business bank account statements for the s8 motels budget inn and the partnership motels during the years at issue bank statements checks and deposit tickets for s8 glendive were mailed directly to petitioners in dickinson north dakota each day during the years at issue petitioners received the daily reports for the s8 motels budget inn and the partnership motels the daily reports for each of the s8 motels showed which rooms were rented out the amount received for each room the type of payment received the amount of tax charged daily video income and miscellaneous charges such as telephone and fax fees petitioners reconciled the daily reports for each of their five motels to the corresponding business bank statements during the years at issue mr patel discussed the daily reports with petitioners’ night auditor on several occasions mr patel explained to the night auditor how to calculate the room tax petitioners paid the bills for each of the s8 motels budget inn and each of the partnership motels during the years at issue petitioners maintained a separate check register or check listing for each of the s8 motels budget inn and each of the partnership motels during the years at issue c video rental business petitioners operated a video rental business out of s8 glendive called movies to go during the years at issue petitioners kept roughly big_number videos to rent or sell to hotel guests and the general_public customers desiring to rent videos from movies to go would fill out a rental agreement set up an account and pay a rental fee video rental fees were not included in the s8 glendive room rental bill and guests paid for video rentals separately video rental and sale information was entered into a separate computer at s8 glendive that was used only for video rentals petitioners used this computer to compile daily and monthly video rental summaries showing daily and monthly video sales and rentals at s8 glendive the s8 glendive video rental agreements were cross-checked each day with the computer- generated daily video rental summaries the night auditor for s8 glendive added up the income from video rentals and video sales and recorded that amount on the bottom of each s8 glendive daily video rental summary for the years at issue at the end of each month during the years at issue the daily video rental summaries were attached to the monthly video rental summaries and given to petitioners a copy of the s8 glendive daily report was also faxed to petitioners each day and the original daily reports were mailed to petitioners each month d vending income petitioners received income from vending machines at s8 glendive during the years at issue income from vending machines was not recorded on the s8 glendive daily reports during the years at issue however the daily reports for s8 glendive show income from the sale of coffee which was not sold from a vending machine e bank accounts and bank records petitioners owned and maintained a personal checking account as well as a personal savings account during the years at issue petitioners paid some of their personal expenses from their personal checking account petitioners had a separate business bank account for each of the five motels that they owned or in which they had an interest petitioners maintained a business checking account at the american state bank trust in dickinson north dakota in the name super motel c o budget inn of dickinson s8 dickinson account during the years at issue petitioners maintained a business checking account at the firstwest bank now stockman bank in the name super motel of glendive s8 glendive account during the years at issue petitioners maintained a checking account at american state bank trust in the name budget inn of dickinson inc budget inn account in ii petitioners’ returns and recalculation a personal returns larry robinson c p a mr robinson prepared petitioners’ individual income_tax returns and the forms 1120s u s income_tax return for an s_corporation for budget inn for the years at issue when petitioners hired mr robinson they told him that all of their business income was deposited into their business accounts and that all business_expenses were paid_by check mr patel prepared yearend income expense summary sheets summary sheets for budget inn and the s8 motels mr patel prepared the summary sheets from bank statements and check registers however he would also insert personal expenses such as the purchase of cars or gold bullion on the summary sheets under business_expenses related to the operation of the s8 motels petitioners provided mr robinson with summary sheets for the s8 motels and budget inn to use in the preparation of petitioners’ personal income_tax returns for the years at issue mr patel told mr robinson that the summary sheets for the s8 motels and budget inn for the years at issue were a recap of his bank statements and check listings he did not inform mr robinson that he had inserted personal expenses on the summary sheets mr robinson transferred all of the totals set forth on the summary sheets for the s8 motels and budget inn for the years at issue to petitioners’ returns either as single figures or as combinations of figures with the exception of payroll information and a record of interest_paid on bank notes the only information provided to mr robinson regarding schedule c income and expenses during the years at issue was listed on the summary sheets petitioners did not provide mr robinson with the daily reports for their s8 motels or for budget inn mr robinson did not recalculate the amounts listed on the summary sheet for the s8 motels when he prepared petitioners’ form_1040 u s individual_income_tax_return mr robinson did not prepare balance sheets transaction details or profit and loss statements for the s8 motels or for budget inn until he recalculated petitioners’ tax_liability in for each of the years at issue petitioners reported a loss on their s8 dickinson schedule c for and petitioners reported losses on their s8 glendive schedules c b the partnership returns petitioners were responsible for having the tax returns for the partnerships prepared during the years at issue these tax returns were prepared by mr robinson for preparation of these tax returns petitioners provided mr robinson with bank statements and check registers listing disbursements for each of the partnership motels mr robinson reconciled the bank statements and prepared yearend summaries yearend balance sheets and yearend profit and loss statements for the partnerships during the years at issue petitioners did not provide mr robinson with summary sheets for the partnership motels to use in the preparation of the returns petitioners reported a profit from each of their partnership motels on their schedule e for each of the years at issue c petitioners’ recalculation of their tax_liabilities in in response to the criminal investigation petitioners requested that mr robinson recalculate their income_tax liabilities for the years at issue for each of the years at issue profit or loss was reported by petitioners on their schedules c and recalculated by mr robinson as follows year s8 glendive s8 dickinson reported recalculated dollar_figure big_number dollar_figure big_number reported dollar_figure recalculated big_number dollar_figure big_number reported recalculated dollar_figure big_number dollar_figure big_number mr robinson determined that petitioners failed to report percent percent and percent of their taxable_income in and respectively mr robinson recalculated petitioners’ income_tax liabilities by obtaining the bank statements the check registers and the reconciliation check listings for each s8 motel and entered the information into quick books software mr robinson then reviewed the recap with petitioners and removed any items from the check listings that were questionable mr robinson also removed items from business_expenses that were confirmed to be personal mr robinson estimated all credit card processing fees in his recalculation and did not require petitioners to substantiate any of their expenses after mr robinson recalculated their income_tax liabilities petitioners sent payments to the internal_revenue_service irs for and in the amounts of dollar_figure dollar_figure and dollar_figure respectively iii unreported income petitioners understated their adjusted_gross_income in and by percent percent and big_number percent respectively for the years at issue schedule c gross_receipts for the s8 motels reported on petitioners’ returns the corrected amounts of gross_receipts as determined by petitioners the corrected amounts of gross_receipts as determined by respondent and respondent’s adjustments to originally reported gross_receipts are set out below super of glendive schedule c gross_receipts year per return corrected per petitioners corrected per respondent’s respondent adjustment dollar_figure big_number big_number dollar_figure big_number big_number dollar_figure big_number big_number dollar_figure big_number big_number super of dickinson schedule c gross_receipts year per return corrected per petitioners corrected per respondent’s respondent adjustment dollar_figure big_number big_number dollar_figure big_number big_number dollar_figure big_number big_number dollar_figure big_number big_number the following gross_receipts were reported on petitioners’ schedules c recorded on the daily reports for petitioners’ s8 motels and recalculated by petitioners for each of the years at issue s8 glendive s8 dickinson dollar_figure dollar_figure total gross_receipts per return gross_receipts per daily reports room rental tax telephone miscellaneous videos total gross_receipts per daily reports total gross_receipts per petitioners’ recalculation big_number big_number big_number big_number big_number big_number big_number big_number ---- -0- big_number big_number s8 glendive s8 dickinson total gross_receipts per return gross_receipts per daily reports room rental tax telephone miscellaneous videos total gross_receipts per daily reports total gross_receipts per petitioners’ recalculation big_number big_number big_number big_number big_number big_number dollar_figure dollar_figure big_number big_number ---- big_number big_number -0- big_number big_number s8 glendive s8 dickinson dollar_figure dollar_figure total gross_receipts per return gross_receipts per daily reports room rental tax telephone miscellaneous videos total gross_receipts per daily reports total gross_receipts per petitioners’ recalculation big_number big_number big_number big_number ---- big_number -0- big_number big_number big_number big_number big_number big_number a schedule c income from s8 glendive respondent calculated petitioners’ unreported gross_receipts from s8 glendive in by taking the total gross_receipts shown on the s8 glendive daily reports adding unreported income from vending machines in the motel and adding a small amount of room tax respondent estimated income from vending machines at s8 glendive by using a 100-percent markup on vending items for total vending income of dollar_figure in respondent then subtracted dollar_figure in vending income already reported and estimated that petitioners failed to report vending income in of dollar_figure b schedule c income from s8 glendive petitioners made total deposits into their s8 dickinson account in of dollar_figure consisting of dollar_figure of nontaxable deposits and dollar_figure of taxable deposits during western geco f k a geco-prakla or stc geco- prakla paid petitioners dollar_figure by check for crew accommodations at s8 glendive western geco was an oil_and_gas exploration firm with a crew of based at s8 glendive during petitioners deposited dollar_figure in payments from western geco into their s8 glendive account in however petitioners failed to deposit dollar_figure in income from western geco into their s8 glendive account in c schedule e income from budget inn petitioners reported gross_receipts on their budget inn schedule e of dollar_figure petitioners made total deposits into their budget inn account in of dollar_figure consisting of dollar_figure of nontaxable deposits and taxable deposits of dollar_figure petitioners failed to report gross_receipts of dollar_figure from budget inn on their schedule e petitioners also failed to substantiate dollar_figure in expenses claimed on their form_1120s for budget inn iv overstated schedule c expenses petitioners concede that they overstated their schedule c expenses for each of the years at issue in the following amounts schedule c overstated schedule c expenses s8 glendive s8 dickinson total dollar_figure big_number big_number dollar_figure big_number big_number dollar_figure big_number big_number respondent determined that petitioners overstated their schedule c expenses for each of the years at issue in the following amounts schedule c overstated schedule c expenses s8 glendive s8 dickinson total dollar_figure big_number big_number dollar_figure big_number big_number dollar_figure big_number big_number for each of the years at issue petitioners concede they improperly deducted personal expenses as schedule c business_expenses neither petitioners nor their partners deducted personal expenses as business_expenses on their partnership returns for the years at issue a expenses petitioners improperly deducted the following personal expenses as business_expenses under the following categories on their s8 motels schedules c expense amount deducted as schedule c big_number personal home mortgage payments dollar_figure personal medical_expenses medical insurance premiums family trip to india big_number car lease payments big_number personal health insurance premium sec_452 family trip to india auto personal homeowner’s insurance premiums big_number ¹ ¹ ¹ ¹ rent s8 glendive s8 glendive s8 glendive s8 glendive s8 glendive insurance s8 dickinson ¹ ¹ s8 dickinson s8 dickinson ¹the schedule c category under which this personal_expense was deducted is undetermined on date petitioners took out a dollar_figure home mortgage loan on their personal_residence located pincite 15th ave west dickinson north dakota with liberty bank and trust in and automatic monthly debits of dollar_figure were taken out of the s8 glendive account and applied to petitioners’ home mortgage loan on date petitioners paid their home mortgage loan in full by making a payment of dollar_figure out of their s8 glendive account petitioners did not deduct the dollar_figure home mortgage payment as a business_expense on their s8 glendive schedule c however petitioners deducted all of the other personal home mortgage payments that they made during and as business_expenses on their s8 glendive schedules c petitioners’ personal health insurance was provided by golden rule insurance co golden rule on date mr patel signed a personal health insurance certification with golden rule stating that he understood that the golden rule coverage for which he was applying was personal health insurance and could not be used by any employer to provide for any employee mr patel also certified that he would not treat the policy as part of any employer-provided health insurance plan for any purpose including tax purposes nevertheless mr patel paid the golden rule premiums with business checks out of the s8 dickinson account petitioners then deducted the premiums as a business_expense in each of the years at issue b expenses petitioners improperly deducted the following personal expenses as business_expenses under the following categories on their s8 motels schedules c expense amount deducted as schedule c big_number utilities s8 glendive big_number personal home mortgage payments dollar_figure home mortgage interest payments big_number family trip to india gold bullion purchase personal health insurance premiums personal auto insurance home owner’s insurance on personal_residence big_number life_insurance big_number family trip to india big_number car lease payments big_number big_number rent rent s8 glendive s8 glendive travel s8 glendive insurance s8 dickinson insurance s8 dickinson insurance s8 dickinson travel s8 dickinson car expense s8 dickinson petitioners deducted the home mortgage interest payment on their personal return schedule a itemized_deductions as well as on their s8 glendive schedule c under rent petitioners subclassified the gold bullion purchase as a garbage expense on the s8 glendive summary sheet they provided to mr robinson petitioners also overstated their insurance expenses by dollar_figure and their super motels royalty payments by dollar_figure on their s8 dickinson summary sheet c expenses petitioners overstated the following expense categories on the summary sheets that they prepared and provided to mr robinson for use in the preparation of their s8 glendive schedule c expense amount per addition of figures on summary sheet total set forth on summary sheet per return overstated amount dollar_figure credit card office supplies big_number electric water big_number breakfast supplies super motel royalties big_number big_number dollar_figure big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number petitioners improperly deducted personal expenses as business_expenses under the following categories on their s8 motels schedules c expense amount deducted as schedule c dollar_figure travel expense s8 glendive big_number insurance s8 glendive diamond jewelry life_insurance personal medical_expenses big_number guest supplies s8 glendive jewelry big_number guest supplies s8 glendive payment to relatives big_number laundry supplies s8 dickinson orthodontic expenses s8 dickinson personal health auto homeowner’s insurance jewelry s8 dickinson big_number office supplies s8 dickinson big_number insurance big_number insurance v matters pertaining to fraud a vehicles on date petitioners purchased a dodge grand caravan for dollar_figure mr patel received a trade-in allowance of dollar_figure for a mazda and paid the remainder of the purchase_price in full with a cashier’s check from his personal savings account at norwest bank in the amount of dollar_figure on date petitioners purchased a mercedes benz sec_420 for dollar_figure mr patel made a dollar_figure downpayment on the mercedes through his discover credit card and received a trade-in allowance of dollar_figure on a mazda petitioners paid the remainder of the purchase_price in full with a check in the amount of dollar_figure neither the check register for s8 glendive nor the check register for s8 dickinson reflects a payment for dollar_figure in date or a payment for dollar_figure in date on date petitioners also purchased a ford pickup truck for dollar_figure b false statements on date mr patel and mr robinson met with revenue_agent karen dassinger ms dassinger at that meeting mr patel falsely told ms dassinger that he had never visited the local irs office in dickinson north dakota mr patel was familiar with the irs agents who worked in the irs office in dickinson north dakota because he had been to the office several times to get answers to tax questions mr patel later admitted in private to ms dassinger that he had been to the local irs office but had not wanted mr robinson to know mr patel also falsely told ms dassinger in private that he supplied videos for guests of s8 glendive because there was no cable at s8 glendive cable was available to guests at s8 glendive during the years at issue and petitioners deducted cable expenses on their s8 glendive schedule c in and in a meeting with ms dassinger on date mr patel stated that the only vehicles he owned in were a dodge caravan and a mazda during a meeting with special_agent andrew smith on date mr patel stated that he did not use cash or cashier’s checks to purchase goods for personal_use c criminal case mr patel admitted that for the taxable_year he willfully made and submitted a false tax_return made under penalty of perjury and filed with the irs knowing it to be false in violation of sec_7206 in his plea agreement mr patel admitted that he overstated business_expenses on this form_1040 by classifying personal expenditures such as diamond jewelry gold bullion medical_expenses orthodontic work and house payments as business_expenses i burden_of_proof opinion respondent’s revenue_agent first met with petitioners in after the start of his examination of their and returns because respondent’s examination of petitioners’ returns began before date sec_7491 does not apply see internal_revenue_service restructuring and reform act of publaw_105_206 sec 112_stat_726 respondent’s determinations in the notice_of_deficiency are presumed correct and petitioners bear the burden of proving that respondent’s determinations are incorrect see rule a respondent has the burden_of_proof by clear_and_convincing evidence with respect to his determination of fraud see rule b respondent also has the burden_of_proof with respect to the increased deficiency for the year see rule a ii period of limitations on assessment petitioners contend that the 3-year period of limitations on assessment in sec_6501 expired before respondent issued the notice_of_deficiency and respondent’s assessment is barred respondent argues that the period of limitations in sec_6501 does not apply because petitioners filed false or fraudulent_returns with the intent to evade taxes for the years at issue sec_6501 accordingly our determination of whether the period of limitations expired before the notice_of_deficiency was issued depends on whether petitioners committed fraud in the filing of their and returns the determination of fraud for purposes of sec_6501 is the same as the determination of fraud for purposes of the penalty under sec_6663 116_tc_79 114_tc_533 mr patel’s guilty plea under sec_7206 for intentionally filing a false return does not in itself prove that sec_6501 applies respondent must show that petitioners intended to evade tax for each of the years at issue see 84_tc_636 for federal tax purposes fraud entails intentional wrongdoing with the purpose of evading a tax believed to be owing see neely v commissioner supra pincite in order to show fraud respondent must prove an underpayment exists and petitioners intended to evade taxes known to be owing by conduct intended to conceal mislead or otherwise prevent the collection_of_taxes see 94_tc_654 a underpayment_of_tax respondent must first show by clear_and_convincing evidence that petitioners made an underpayment_of_tax in each of the years at issue for and petitioners have conceded that they made underpayments of tax of at least dollar_figure dollar_figure and dollar_figure respectively therefore respondent has satisfied his burden_of_proof for this issue b fraudulent intent because direct evidence of fraud is rarely available fraud may be proved by circumstantial evidence and reasonable inferences from the facts 92_tc_661 courts have developed a nonexclusive list of factors or badges_of_fraud that demonstrate fraudulent intent 99_tc_202 these badges_of_fraud include understating income maintaining inadequate records implausible or inconsistent explanations of behavior concealment of income or assets failing to cooperate with tax authorities engaging in illegal activities an intent to mislead which may be inferred from a pattern of conduct lack of credibility of the taxpayer’s testimony filing false documents failing to file tax returns and dealing in cash id see also 317_us_492 419_f3d_829 8th cir affg tcmemo_2003_332 91_tc_874 although no single factor is necessarily sufficient to establish fraud the combination of a number of factors constitutes persuasive evidence niedringhaus v commissioner supra pincite respondent must prove fraud for each year at issue see id pincite ferguson v commissioner tcmemo_2004_90 petitioners’ behavior with respect to their income shows of the badges_of_fraud as follows petitioners understated their adjusted_gross_income by percent percent and big_number percent in and respectively petitioners maintained inadequate records by failing to substantiate a large portion of their schedule c business_expenses petitioners concealed the true nature of their income and expenses from their return preparer by providing inaccurate summary sheets for their super motels and not providing source documentation petitioners completely omitted their income from video sales and rentals petitioners engaged in a pattern of conduct that indicates an intent to mislead critically petitioners disguised clearly personal items such as medical insurance premiums the purchase of gold bullion and gifts to relatives as business_expenses under categories such as utilities and laundry supplies on their summary sheets petitioners’ explanation for their behavior is implausible and inconsistent mr patel testified that he believed all personal expenses were deductible however petitioners did not deduct major personal items such as mr patel’s purchases of a mercedes and a dodge grand caravan in petitioners also did not deduct personal items as business_expenses on their partnership returns petitioners have failed to fully cooperate with tax authorities mr patel twice lied to respondent’s revenue_agent regarding his income and assets petitioners’ testimony regarding their level of sophistication and ability to comply with the tax laws is not credible petitioners claim that they did not have any significant sophistication with regard to tax matters and attempted to voluntarily comply with the tax law when they learned that they had made errors on their returns we are unconvinced by petitioners’ explanations petitioners kept systematic if incomplete records of their finances and personally compiled the summary sheets which they provided to their return preparer mr patel’s experienced manager believed him to be highly competent with regard to business matters and mr patel visited the local irs office in dickinson on several occasions to receive answers to tax questions petitioners’ assertion of ignorance is not credible petitioners filed a false tax_return for mr patel pleaded guilty under sec_7206 to willfully filing a false tax_return for as a result mr patel is estopped from arguing that he did not willfully file a false return for see wright v commissioner supra pincite although the estoppel is not extended to petitioners’ fraudulent intent to evade tax the factor militates toward a finding of fraud as a result of the number of badges_of_fraud in this case we find that respondent has shown by clear_and_convincing evidence that petitioners filed their and returns with the intent to evade tax therefore the 3-year period of limitations under sec_6501 does not apply to petitioners’ and years and respondent is not barred from assessing any deficiencies in petitioners’ tax for those years iii unreported income if a taxpayer has not maintained business records or its business records are inadequate the commissioner is authorized to reconstruct the taxpayer’s income by any method that in the commissioner’s opinion clearly reflects that taxpayer’s income sec_446 parks v commissioner t c pincite a j concrete pumping inc v commissioner tcmemo_2001_42 the commissioner’s reconstruction need not be exact but it must be reasonable in the light of all the surrounding facts and circumstances a j concrete pumping inc v commissioner supra petitioners bear the burden of proving that respondent’s determinations are erroneous see rule a a gross_receipts respondent determined that petitioners failed to report gross_receipts from s8 dickinson and s8 glendive of dollar_figure and dollar_figure respectively respondent made his determination by totaling the income recorded on petitioners’ daily reports and in the case of s8 glendive combining the income recorded on the daily reports with vending income petitioners argue that respondent erred in using the daily reports to determine gross_receipts because the daily reports do not take into account credit card processing fees that may be deducted by credit card companies before making payment to petitioners petitioners also argue that respondent miscalculated the s8 glendive gross_receipts because income from vending machines was already reflected on the s8 glendive daily reports for the reasons discussed below we disagree with petitioners the amount of a credit card processing fee is not relevant to a determination of petitioners’ schedule c gross_receipts gross_income includes all income from whatever source derived sec_61 it is not necessary that the income be deposited or received so long as the taxpayer has an unfettered right to receive it see 281_us_376 petitioners had an unfettered right to income at the time one of their motel rooms was rented although deductible credit card processing fees would reduce the amount of petitioners’ net schedule c profit or loss they would not affect their gross_receipts petitioners’ proposition that income from vending machines is already reflected on the s8 glendive daily reports is not supported by the record petitioners’ night auditor who prepared the daily reports testified that income from vending machines in the motel was not recorded in the daily reports and we find the auditor’s testimony credible additionally petitioners did not produce a single s8 glendive daily report on which income from vending machines was reported thus petitioners have failed to show that respondent’s calculation of gross_receipts is erroneous or unreasonable under the circumstances b gross_receipts respondent has the burden_of_proof with regard to the tax increase resulting from his amended answer see rule a we find that respondent’s burden has been met through trial testimony and petitioners’ stipulations the burden now shifts to petitioners to show that respondent’s determination is erroneous 29_tc_601 respondent determined that petitioners failed to report s8 glendive gross_receipts of dollar_figure respondent made his determination by using a bank_deposits analysis supplemented by an analysis of specific items not deposited petitioners argue that respondent double counted western geco payments when calculating unreported gross_receipts from s8 glendive in because undeposited payments from western geco were already included in the s8 glendive daily reports petitioners also argue that respondent erroneously included undeposited western geco payments in gross_receipts from s8 glendive in because all western geco income was deposited into the s8 glendive account and reported on petitioners’ return petitioners’ position is not supported by the record petitioners stipulated that they received dollar_figure from western geco in respondent determined that petitioners deposited only dollar_figure of western geco payments into their s8 glendive account the record indicates that this determination is reasonable none of the evidence presented at trial shows that any of the deposits determined by respondent to be taxable were duplications or somehow tax exempt the undeposited western geco income identified by respondent had in fact never been received by petitioners the unreported western geco income identified by respondent had in fact been reported or deposited or the undeposited western geco income identified by respondent was somehow tax exempt as a result petitioners have failed to show that respondent’s findings are erroneous and we sustain respondent’s determination c schedule e income respondent determined that petitioners failed to report budget inn schedule e income of dollar_figure respondent made his determination by conducting a bank_deposits analysis and disallowing dollar_figure of business_expenses that petitioners conceded were unsubstantiated nothing in the record indicates that respondent’s method of calculating the unreported schedule e income from budget inn was erroneous or unreasonable the bank_deposits method is an acceptable method of income reconstruction 102_tc_632 96_tc_858 affd 959_f2d_16 2d cir petitioners have failed to show that respondent’s method is unreasonable and thus respondent’s determination is sustained iv expenses respondent determined that petitioners overstated their s8 dickinson schedule c business_expenses on their and returns by dollar_figure dollar_figure and dollar_figure respectively and their s8 glendive expenses by dollar_figure dollar_figure and dollar_figure respectively petitioners maintain that they overstated their s8 dickinson schedule c business_expenses on their and returns by dollar_figure dollar_figure and dollar_figure respectively and their s8 glendive business_expenses by dollar_figure dollar_figure and dollar_figure respectively we sustain respondent’s determination deductions are a matter of legislative grace and the taxpayer must prove he is entitled to the deductions claimed rule a 292_us_435 sec_162 allows a taxpayer to deduct all ordinary and necessary expenses paid_or_incurred in carrying_on_a_trade_or_business however petitioners have failed to produce any evidence showing that they are entitled to a deduction for schedule c business_expenses greater than the amounts allowed by respondent if a factual basis exists to do so the court may in another context approximate an allowable expense bearing heavily against the taxpayer who failed to maintain adequate_records 39_f2d_540 2d cir sec_1 5t a temporary income_tax regs fed reg date however in order for the court to estimate the amount of an expense the court must have some basis upon which an estimate may be made 85_tc_731 without such a basis any allowance would amount to unguided largesse 245_f2d_559 5th cir the record provides no satisfactory basis for estimating petitioners’ business_expenses although petitioners’ accountant recalculated petitioners’ tax_liabilities petitioners did not produce at trial all of the source documents necessary to ascertain the accuracy of their determinations at trial additionally petitioners’ accountant testified that he did not require petitioners to substantiate the payment and purpose of each claimed expense accordingly respondent’s determination regarding petitioners’ business_expenses shall be sustained v self-employed health insurance deductions petitioners failed to offer any evidence that they are entitled to a deduction for self-employed health insurance greater than the amounts already allowed by respondent accordingly respondent’s determination is sustained vi fraud_penalty under sec_6663 if the commissioner shows that any portion of an underpayment is due to fraud the entire underpayment will be treated as attributable to fraud for purposes of the penalty under sec_6663 except any portion of the underpayment that the taxpayer establishes by a preponderance_of_the_evidence is not attributable to fraud see sec_6663 knauss v commissioner t c memo as stated above respondent has shown that petitioners committed fraud in filing their and returns petitioners have not shown that any portion of the deficiencies should not be subject_to fraud penalties therefore with the exception of the overstatements of s8 motel expenses that respondent determined relate to negligence the deficiencies for the years at issue are subject_to fraud penalties vii accuracy-related_penalty under sec_6662 respondent determined that petitioners are liable for accuracy-related_penalties under sec_6662 for underpayments related to the overstatement of s8 motel expenses by dollar_figure dollar_figure and dollar_figure for the years at issue respectively the penalty applies to any underpayment_of_tax required to be shown on a return that is attributable to negligence or disregard of rules or regulations under sec_6662 negligence is defined as any failure to make a reasonable attempt to comply with the provisions of the internal_revenue_code sec_6662 however sec_6664 provides that a penalty under sec_6662 will not be imposed on any portion of an underpayment if the taxpayer shows reasonable_cause for such portion of the underpayment and that the taxpayer acted in good_faith with respect to such portion reliance on the advice of a professional such as a certified_public_accountant may constitute a showing of reasonable_cause if under all the facts and circumstances such reliance is reasonable and the taxpayer acted in good_faith 170_f3d_1217 9th cir revg tcmemo_1997_29 802_f2d_365 9th cir affg in part and revg in part tcmemo_1984_264 sec_1_6664-4 c income_tax regs to prove reasonable_cause based on the receipt of professional advice a taxpayer must show that he reasonably relied in good_faith upon a qualified adviser after full disclosure of all necessary and relevant facts 857_f2d_1383 9th cir affg dister v commissioner tcmemo_1987_217 sec_1_6664-4 income_tax regs the burden_of_proof rests with petitioners see rule a applying these principles to the case before us we conclude that petitioners have failed to prove that respondent’s determination is incorrect petitioners are unable to substantiate the schedule c expenses underlying the accuracy- related penalty despite relying on mr robinson to file their returns petitioners are also unable to show reasonable_cause for their errors based on the receipt of advice from a tax professional although petitioners relied on their accountant mr robinson to prepare their returns petitioners have conceded that they provided mr robinson with incomplete and false information regarding their expenses petitioners having failed to show reasonable_cause substantial_authority or any other basis for reducing the 2as this case deals with examinations commencing before date sec_7491 does not apply to place the burden of production on respondent however even if sec_7491 did apply respondent has clearly met his burden by demonstrating that petitioners overstated their schedule c expenses for each of the years at issue underpayments are liable for the sec_6662 penalties for the years at issue as determined by respondent in reaching our holdings herein we have considered all arguments made and to the extent not mentioned above we conclude they are moot irrelevant or without merit to reflect the foregoing decision will be entered under rule