t c memo united_states tax_court lynnda speer donor et al petitioners v commissioner of internal revenue respondent docket nos filed date michael david annis jeffrey m dean john h rains iii james a bruton iii john d cline and ari s zymelman for petitioners francis c mucciolo and stephen r takeuchi for respondent 1cases of the following petitioners are consolidated herewith roy m and lynnda l speer docket no and roy m speer donor docket no memorandum findings_of_fact and opinion ruwe judge respondent determined deficiencies in petitioners' federal income and gift_taxes and additions to tax as follows lynnda speer donor gift_tax - docket no year deficiency dollar_figure roy m and lynnda l speer income_tax - docket no accuracy-related year deficiency sec_6653 sec_6661 sec_6662 additions to tax penalty dollar_figure dollar_figure dollar_figure -- big_number -- -- dollar_figure big_number -- -- big_number roy m speer donor gift_tax - docket no year deficiency sec_6651 dollar_figure big_number big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number after concessions the issues for decision are whether petitioner roy m speer the controlling shareholder of home shopping network inc received constructive_dividend income as a result of payments made by home shopping network inc to pioneer data processing inc pursuant to a license agreement if so whether amounts equal to these license payments constituted taxable_gifts to petitioners' son richard m speer who owned all the stock of pioneer data processing inc whether petitioners’ claimed losses from two subchapter_s_corporations during the taxable years through are passive_activity_losses as defined in sec_469 whether petitioners are liable for the addition_to_tax for negligence under sec_6653 for the taxable_year whether petitioners are liable for the accuracy-related_penalty under sec_6662 for the taxable years and whether petitioners are liable for the addition_to_tax for a substantial_understatement of tax_liability under sec_6661 for the taxable_year and whether petitioner roy m speer is liable for additions to tax under sec_6651 for failure_to_file a timely gift_tax_return for the taxable years through findings_of_fact some of the facts have been stipulated and are so found the stipulation of facts and the first second third and fourth 2unless otherwise indicated all section references are to the internal_revenue_code in effect for the taxable years in issue and all rule references are to the tax_court rules_of_practice and procedure supplemental stipulations of facts are incorporated herein by this reference at the time of filing the petitions in these consolidated cases petitioner roy m speer resided in freeport grand bahamas in the bahamas and petitioner lynnda l speer resided in new port richey florida petitioners filed joint u s individual income_tax returns form sec_1040 for the taxable years through petitioner roy m speer filed a u s gift and generation-skipping_transfer_tax return form_709 for the taxable_year petitioner lynnda l speer also filed a form_709 for the taxable_year petitioners elected to split their gifts pursuant to sec_2513 for the taxable_year constructive_dividend issue pioneer data processing inc pioneer was incorporated under the laws of the state of florida in date when pioneer was originally incorporated petitioner roy m speer mr speer was the president and a shareholder on date mr speer transferred all the stock of pioneer to robert l cox mr speer’s insurance agent and resigned as president of pioneer mr cox became president of pioneer on date mr cox 3pioneer was originally incorporated under the name pasco data processing inc pioneer subsequently merged with western hemisphere sales inc a florida corporation in date in the merger pioneer was the surviving corporation and changed its name to western hemisphere sales inc for convenience the surviving corporation will hereinafter be referred to as pioneer transferred all the stock of pioneer to richard m speer petitioners’ son whereupon richard m speer became president of pioneer since the time mr cox transferred the pioneer stock to richard m speer richard m speer has been the sole shareholder and president of pioneer home shopping channels inc hsc was incorporated in under the laws of the state of florida to conduct a business consisting of selling merchandise at retail prices through televised programs in the tampa bay florida area hsc was cofounded by mr speer and lowell w paxson approximately percent of the stock of hsc was owned by richard w baker as trustee of the roy m speer trust the remaining stock was owned by mr paxson as trustee of the barbara a paxson trust and approximately other shareholders pioneer created and developed financial_accounting computer_software programs to assist customers in maintaining their general ledgers accounts_payable systems and payroll systems pioneer provided such financial_accounting software and related data processing assistance to hsc beginning in other customers of pioneer included a construction company a utility company and an oil_and_gas company in early pioneer retained harris data inc harris data to assist in the development of a customized computer_software program which would include customer maintenance order taking and inventory control programs the local software for hsc john pfeiffer was the programmer from harris data who was assigned to work on this project mr speer and mr paxson assisted mr pfeiffer by describing the logic and flow of information necessary for the business of hsc mr pfeiffer used this information to create and develop the local software in rpg ii computer language which was to be run on pioneer’s ibm system computer mr pfeiffer subsequently joined pioneer as a full- time employee on date where his primary responsibilities consisted of the continued development of the local software although pioneer billed hsc monthly for the programming and services in connection with the financial_accounting software pioneer did not bill hsc for the creation and development of the local software the initial local software programs consisted of the order taking and inventory control programs including functions to maintain open customer order files that were indexed by orders and customer telephone number maintain a detailed perpetual inventory file which included a description of the merchandise quantity available item number and warehouse location and activities maintain customer or member master files which included a customer’s name address member number special dates such as anniversary and birth dates credit card numbers all pertinent credit information and a complete history of a customer’s purchasing activities maintain customer service files and prepare management reports for the sales and purchasing departments hsc began its operations on date from a broadcast studio located in clearwater florida hsc show hosts would show items for sale through the televised programs viewers could call in to order the items shown for sale items were then moved to a mart distribution center maintained by hsc for customer pickup the next day in order to purchase merchandise a viewer had to enroll as a member of hsc once the viewer was assigned a member number the viewer could call and purchase the items being shown on the television program as the number of hsc members grew additional mart locations were added by hsc which in turn increased the complexity of keeping track of the available inventory it was important to keep accurate and current records concerning the inventory sold by hsc because most of the items sold by hsc were unique one- time acquisitions that could not be reacquired hsc’s original customer base of approximately big_number members grew to big_number members by its second month of operation by the spring of hsc had approximately big_number members in its database spanning a two-county area in florida between and pioneer upgraded its computer system from an ibm system to an ibm system to accommodate hsc’s expanding business this transition required the modification of the local software to enable it to run on an ibm system pioneer hired an independent computer consultant for this purpose in addition the local software was continually modified improved and expanded throughout this period to handle hsc’s changing needs initially all member orders were accumulated at the end of the day and sent to pioneer to be keyed into the local software on pioneer’s ibm system the local software would determine the location of inventory and determine which items needed to be moved from the warehouse to the marts and among the marts so that a sufficient quantity of inventory was on hand by a m the next morning at the mart where the member was to pick up the merchandise the local software also generated a picking slip which provided the hsc personnel with the member’s order and the specific location of the items so that member orders could be filled quickly eventually computer terminals were placed in the broadcast studio and in the marts so that inventory could be tracked more quickly and accurately in mr speer and mr paxson were exploring ways to expand hsc’s market at this time televised home shopping was new outside the tampa bay area mr speer and mr paxson organized home shopping network inc hsn in order to try to exploit this new but uncertain business opportunity hsn is a delaware corporation that was organized to conduct the business of selling merchandise at retail prices through televised programs on a national format mr speer owned percent of the stock of hsn and was the chief_executive_officer and the chairman of the board_of directors of hsn from the time it was founded until he sold his stock in date mr paxson owned the remaining percent of the stock and was the president of hsn on date hsn entered into an agreement with modern talking picture service inc for a 5-hour time segment on satellite the satellite agreement which would enable it to broadcast nationally the term of the agreement commenced on date if hsn failed to broadcast for a period of consecutive business days it would be deemed to have terminated the agreement on date the shareholders and directors of hsc held their annual meeting during which mr speer and mr paxson presented a proposal to expand hsc to a national format by forming a national group with hsn as a subsidiary a majority of the shareholders rejected the proposal as it required a significant financial commitment and was perceived as too risky hsc was beginning to realize profits after having lost money during its first fiscal_year of operations instead the hsc shareholders agreed to authorize hsn to use the trademarks 4hsn was originally incorporated under the laws of the state of florida subsequently in early hsn organized a wholly owned delaware subsidiary and merged into it management expertise and development skills of hsc in exchange for percent of its annual gross_profits in perpetuity with percent to be paid to pioneer in return for providing the local software and technical_advice to hsn the shareholders also agreed to restrict the activities of hsc to the tampa bay area if hsn would agree to exclude itself from the tampa bay area this agreement was reduced to writing in a license agreement among hsc hsn and pioneer dated date the license agreement provided in pertinent part whereas the licensor hsc has developed a localized cable displayed mass merchandising programming technique selling quantities of merchandise at retail prices and has developed an established logo and trademark and has developed through its computer services supplier pioneer data inc the necessary computer support and has developed warehousing delivery sales and logistical support and has developed a corporate infrastructure experienced in dealing in all aspects of sales management and marketing the licensors sic hsc hereby grant to the licensee hsn the exclusive worldwide right and license to enjoy commercialize and exploit the above described processes this right is inclusive of the right to exclusively use the trademark and logo and the existing merchandising format and merchandising processes of licensor hsc pioneer data inc which is the owner of the computer product sic which are part of the necessary computer programming to implement or service the above on a national format shall join in this agreement but its services shall be the subject of a separate computer services agreement the licensee hsn shall pay to the licensor hsc the sum of of its gross_profits of which of gross_profits shall be remitted to pioneer data inc for its development of the existing computer licenses programs tapes this agreement shall continue in perpetuity with its signal being broadcast to a national audience hsn believed that it would need a larger computer system to handle the potentially large customer base time was of the essence in locating a computer system because the satellite agreement required hsn to begin broadcasting on date hsn and pioneer approached ibm and other computer hardware companies to determine the type of computer system that would best suit hsn’s needs burroughs was the company ultimately selected to provide the computer hardware as a result of its ability to upgrade computer hardware without extensive modification of computer_software its willingness to have the order entry system completed by date its team approach and its flexible pricing on date pioneer and burroughs entered into a contract for the purchase of computer hardware and for burroughs’ programming services to develop software based upon the local software but written in a fourth-generation computer language known as linc the national software so that the program could be run on the burroughs computer hardware although burroughs had a library of standard computer_software available to it no such off-the-shelf_software could be found that would be sufficient to meet the needs of hsn the agreement provided that pioneer would own any software developed pursuant to the agreement in designing the national software representatives from burroughs met with mr pfeiffer and representatives from hsn to discuss the operations and needs of hsn so that they could determine the data structures the lengths of the various fields and the reports that would need to be generated although the programming code could not be copied from the local software as it was in a different language the basic descriptions of the system and reports were taken from the local software in designing the national software which saved burroughs a good deal of time during the design stage the national software included the functionality of the local software in addition to other functionality to account for differences in the business of hsn from that conducted by hsc although burroughs originally believed that it could have the whole system completed by date it later concluded that the only portion of the national software that it would have running by date was the order entry system and the show control system which included the ability to print daily sales reports picking slips and shipping labels the inventory maintenance system continued to be handled by pioneer on the ibm system using the local software until burroughs completed that portion of the software sometime around date until then the inventory information was passed between the ibm system computer and the burroughs computer on a daily basis even after the burroughs computer was handling inventory maintenance pioneer continued to generate certain reports related to inventory and rework inventory ie returned merchandise using the local software on the ibm system until early during the development of the national software mr pfeiffer added several improvements to the local software which continued to be used in hsc’s business in the tampa bay area mr pfeiffer also added specific modules in the local software to handle the functions required by hsn these modules provided a backup system in case the burroughs system was not ready or failed in operation on date hsn hired stella tavilla and carl brewer to run the burroughs computer system for hsn by that time all the design and specifications of the order entry system had been completed although burroughs was still performing the code writing programming and testing in anticipation of the july deadline on date hsn began operating in a studio located in the levitz shopping center in clearwater florida separate from hsc’s operations although hsn and hsc used the same warehouse to store their merchandise hsn delivered its merchandise to its customers via united parcel service rather than utilizing the mart distribution system used by hsc hsn’s initial operations were not successful hsn operated at a loss during its first months of operation and it laid off approximately order takers during its first days on the air in its third month of operations hsn began to realize a profit on date hsn granted to canadian home shopping network ltd chsn an exclusive perpetual noncancellable license to use hsn’s home shopping format in canada the license agreement gave chsn the right to use among other things the local software in exchange for the license chsn agreed to pay hsn percent of chsn’s net sales in perpetuity chsn began operations in early hsn owned approximately percent of the outstanding shares of chsn and mr speer and mr paxson sat on the board_of directors of chsn pursuant to its date license agreement with 5the relevant terms of the date license agreement gave chsn the right to use hsn’s computer_software programs excluding any source material and any software subject_to a burroughs license agreement presumably the national software although pioneer owned the local software hsn had been granted an exclusive license to use the software including the right to sublicense it in its date license agreement with pioneer and hsc 6hsn was prohibited from acquiring more than percent of chsn’s stock as canadian law restricted foreign ownership to percent pioneer and hsc hsn made the following payments to pioneer and pioneer included these amounts in its income calendar_year amount dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure mr speer sold his hsn stock to liberty media corp liberty in date after the sale hsn discontinued making the percent license payments to pioneer after engaging in various litigation hsn agreed to pay pioneer approximately dollar_figure to terminate the license agreement passive_activity_loss issue during and mr speer and mr paxson owned percent and percent respectively of the stock of gateway marine inc gateway gateway was an s_corporation that operated a marine tug and barge business mr speer set up the corporation hired its employees handled finances discussed the company’s bids and purchased equipment for the company petitioners reported losses from gateway of dollar_figure dollar_figure and 7we note that the 1-percent payment by hsn to hsc under the license agreement terminated in early when hsc merged into hsn hsn continued to pay pioneer the 1-percent license fee dollar_figure on their joint income_tax returns for and respectively also during through mr speer and mr paxson owned percent and percent respectively of the stock of maximo marina inc maximo maximo was an s_corporation that operated a full-service marina maximo also operated a used car sales operation maximo motors during part of and mr speer would visit maxima motors on his way to hsn to check on its operations and review the prior day’s sales mr speer reported losses from maximo of dollar_figure dollar_figure and dollar_figure on petitioners’ joint income_tax returns for and respectively mr speer did not keep a diary of the amount of time he devoted to gateway and maximo during and during those years mr speer performed work for approximately family-owned companies however he devoted a majority of his time approximately percent to his duties at hsn mr speer typically worked for these companies in an executive capacity making management decisions generally mr speer would try to visit his various companies two or three times a week opinion constructive_dividend issue the first issue is whether petitioners received constructive_dividend income during the taxable years through as a result of payments made by hsn to pioneer pursuant to the license agreement respondent argues that the license agreement was a sham designed to distribute profits of hsn to mr speer respondent contends that mr speer essentially controlled pioneer and that the payment of percent of hsn’s gross_profits for the ostensible purpose of licensing software from pioneer constituted a constructive_dividend to mr speer moreover respondent contends that the transfer of the constructive_dividend amounts to pioneer resulted in a gift to richard m speer petitioners’ son who was the sole shareholder of pioneer petitioners on the other hand argue that the license agreement was an arm’s- length agreement agreed to by parties independent of and whose interests were adverse to mr speer alternatively petitioners argue that even if the license agreement were found not to be arm’s length the terms of the agreement were fair and reasonable when judged by standards applicable to parties dealing at arm’s length and thus cannot be recharacterized as a constructive_dividend to mr speer it is well established that transfers between related corporations may result in constructive dividends to a common shareholder 497_f2d_862 3d cir affg in part revg in part and remanding tcmemo_1972_238 74_tc_60 however transfers between related corporations will not result in constructive dividends to a common shareholder solely by reason of the common ownership 472_f2d_449 5th cir affg in part and revg in part on rehearing tcmemo_1971_145 the transfer must be for the personal benefit of the common shareholder and the resulting benefit must be more than incidental 61_tc_232 60_tc_569 52_tc_888 affd 441_f2d_593 5th cir the constructive_dividend theory is used to prevent the siphoning of corporate profits under the guise of a sale or other transfer of assets by placing any transfer between related corporations on a tax parity with arm’s-length dealings between unrelated parties 26_tc_634 thus both the bona_fide nature of the transaction and the reasonableness of the payments require consideration id where the evidence is sufficient to establish that the transaction was bona_fide and conducted in an arm’s-length manner then the ultimate objective of the constructive_dividend theory has been attained and it is unnecessary for us to independently determine the value of the property transferred 458_f2d_631 9th cir affg tcmemo_1970_74 17_tc_199 affd 199_f2d_373 6th cir whether a transaction is bona_fide and arm’s length is a question of fact and the burden_of_proof is on the taxpayers rule a 290_us_111 we agree with petitioners that the license agreement was a bona_fide arm’s-length agreement this is not a case where a sole shareholder is dealing with a corporation to the contrary the shareholders of hsc knew of the proposal to move to a national format and were given an opportunity to share in the expansion however they were unwilling to risk the success that hsc had attained in order to share the opportunity to expand nationally instead they approved the terms of the license agreement including the 1-percent license fee payable to pioneer for the local software see roman systems ltd v commissioner tcmemo_1981_273 the interests of the hsc shareholders with regard to the transaction were adverse to those of mr speer in particular the largest minority shareholder of hsc mr paxson as trustee of the barbara a paxson trust had every interest in minimizing the payments to pioneer a company in which he held no stake mr paxson testified however that at the time the license agreement was entered into he felt that the license fee payable to pioneer for the local software was equitable and reasonable moreover mr baker as trustee of the roy m speer trust the controlling shareholder of hsc recognized that he 8respondent argues that mr speer was actually the controlling shareholder of hsc because he owned percent of the stock through the roy m speer trust respondent contends continued would have to place the trust assets at risk in order to finance a national expansion which he was unwilling to do mr baker testified that he agreed to the terms of the license agreement respondent argues that the local software was of no use to hsn since it could not be used on the burroughs computer hardware thus respondent concludes the agreement to pay for the license of such software was a sham we disagree hsn substantially benefited from securing the rights to the local software even though burroughs could not copy the programming code from the local software to develop the national software the basic descriptions of hsn’s system and reports were taken from the local software in designing the national software the sales representatives and one of the system developers at burroughs testified that using the local software in this manner saved burroughs a great deal of time during the design stages of the software development which was important if hsn wanted to have the national software running by its date deadline the local software also provided a valuable backup system in the event the national software failed as it turned out hsn relied on the local software to manage its inventory from date continued that mr baker the trustee and a longtime business acquaintance of mr speer did whatever mr speer wanted of him mr baker testified that as the trustee of the roy m speer trust he owed a fiduciary duty to the trust and its beneficiary lynnda speer we find mr baker’s testimony to be credible and are thus unwilling to attribute the ownership of the hsc stock to mr speer until date when burroughs completed the inventory maintenance system for the national software hsn’s ability to function during this initial startup phase was critical to its survival and ultimately to its phenomenal success respondent also argues that defects in the license agreement itself illustrate its sham nature for example respondent points out that the agreement does not specifically identify the computer licenses programs tapes that hsn was licensing from pioneer and that the agreement does not define gross_profits respondent also points out that mr speer signed the agreement as the president of pioneer even though he did not hold that title we find this argument unpersuasive although the license agreement may have been inartfully drafted the evidence indicates that the parties understood the term computer licenses programs tapes to refer to the local software as opposed to the financial_accounting software and the term gross_profits to be used in its general accounting sense ie sales less returns breakage and cost_of_goods_sold moreover hsn made payments to pioneer and pioneer accepted these payments and included them in income on its federal_income_tax returns we think that any indefiniteness in the terms of the agreement was cured by the parties’ subsequent performance see williston on contracts sec_4 4th ed finally the fact that mr speer was not president of pioneer when he signed the license agreement does not negate the license agreement mr speer provided services to pioneer during the years in issue and was compensated for his services by pioneer based on the totality of the facts presented we find that mr speer was acting on behalf of pioneer when he signed the license agreement the license agreement served a valid business_purpose and was approved by independent unrelated shareholders despite respondent’s assertion that mr speer made the business decisions and essentially controlled hsn hsc and pioneer respondent has not argued that we should disregard the corporations as separate viable taxable entities nor do we find any basis for doing so there is no evidence that mr speer or his son richard personally received the license fees paid_by hsn to pioneer pioneer actually received the license payments and included them in its income for federal_income_tax purposes any benefit that 9pioneer is now barred by the statute_of_limitations from claiming a refund for the taxable years through petitioners have asserted the affirmative defense of equitable_recoupment in the event this court upholds respondent’s determination that the license payments should be recharacterized as constructive dividends from hsn to mr speer followed by a gift to his son richard m speer the doctrine_of equitable_recoupment prevents unjust enrichment and may be invoked by a taxpayer to recover taxes erroneously collected from the same taxpayer or one with a sufficient identity of interest where the refund of such erroneously collected taxes is otherwise barred by the statute_of_limitations 301_us_532 101_tc_551 petitioners contend that respondent is seeking to subject the license payments to multiple taxes based on inconsistent legal theories ie gross_income to pioneer and a constructive_dividend followed by a gift moreover respondent has asserted continued was received was at most derivative or indirect in nature therefore we find that the license agreement was a bona_fide arm’s-length agreement which did not result in constructive dividends to mr speer even if the agreement itself were not arm’s length it is still enforceable and thus will not give rise to constructive dividends if its terms particularly the amount of the payments are fair and reasonable when judged by the standards of a transaction entered into by parties dealing at arm’s length sparks nugget inc v commissioner f 2d pincite 208_f2d_849 7th cir place v commissioner t c pincite we must assess the reasonableness of the license agreement at the time it was entered without the benefit of hindsight if the terms were reasonable as of that date it is immaterial that hsn’s success may have gone beyond the parties’ expectations and produced license fees in excess of what would be considered reasonable for a single year viewed in isolation see 255_f2d_436 5th cir revg tcmemo_1957_37 at the time the parties agreed to license the local software continued that mr speer really controlled pioneer because of our holding with respect to the constructive_dividend issue however we need not address the question of whether equitable_recoupment would apply for percent of gross_profits hsn had not begun operations the amount of the license fees was contingent upon the success of hsn and thus was quite uncertain televised home shopping was a new business outside the tampa bay area the shareholders of hsc viewed hsn as a risky venture even mr speer and mr paxson while hopeful were unsure whether the concept of home shopping which had just started to become successful in a local market would catch on nationwide in fact hsn performed poorly during its first couple of months of operation the ultimate success of hsn was beyond the wildest expectations of mr speer and mr paxson both parties presented expert testimony as to the value of the local software as of date the date of the license agreement while expert opinions can assist the court in evaluating a claim we are not bound by the opinion of any expert witness and may reach a decision based on our own analysis of all the evidence in the record 304_us_282 538_f2d_927 2d cir affg tcmemo_1974_285 robert f reilly petitioners’ expert utilized several approaches to valuing the local software first he attempted to perform a market analysis but concluded that there were no available off-the-shelf computer_software packages that were 10petitioners also presented the report of lawrence h putnam sr as an expert rebuttal report comparable to the local software in terms of functionality and utility as of the valuation_date next mr reilly performed two cost approach methods--the constructive cost model cocomo and the software lifecycle management slim modeldollar_figure both models are empirical cost approach models that is the development time and cost of the subject software are estimated by reference to a large database of actual software development projects these models are used by companies to project the costs of various projects the cocomo approach estimates the amount of effort required to reproduce the software and the slim approach utilizes a computerized model which permits the user to estimate the cost of developing the subject software from a database of over big_number actual software projects next mr reilly performed two income approach methods he used the slim model to estimate the cost savings or income increment associated with having the local software available during the development of the national software he also applied a lost income_method under which he estimated the amount of income that would have been lost to hsn if hsn had not been operational as of the date startup date mr reilly reached an overall valuation conclusion giving similar weight to each approach of dollar_figure mr reilly then compared this value to the value of the license agreement mr reilly used the discounted cash-flow 11the slim model was developed by mr putnam petitioners’ rebuttal expert witness method to determine the present_value of the future cash flows generated by the license agreement mr reilly applied a discount rate of percent to account for the high degree of risk associated with the startup venture and the risk in general for small thinly capitalized equity investments mr reilly applied this discount to two income streams--the actual payments made by hsn to pioneer from date through and the projected payments based on estimates of hsn’s penetration level with nationwide cable operators average purchases by viewers and hsn’s gross_profit margin assigning similar weight to each approach mr reilly concluded that the value of the license agreement as of date was dollar_figure within the range of value for the local software douglas f benn and udo w pooch respondent’s experts utilized the valpro model developed by mr benn to estimate reproduction and replacement costs for the local software the valpro model attempts to incorporate and synthesize a number of widely accepted methods it is based on the concept of the software development process as a long life cycle a concept developed by lawrence h putnam sr the valpro model however has had no commercial usage or publication pursuant to this method respondent’s experts concluded that the cost to replace the local software was dollar_figure and the cost to reproduce the software after applying an adjustment for obsolescence was dollar_figure next messrs benn and pooch determined from a comparable sales approach that functionally equivalent systems could be purchased and installed for dollar_figure finally messrs benn and pooch applied an income approach capitalizing the stream of income to hsn that might be derived from the use of the local software under this approach however messrs benn and pooch concluded that the capitalized income stream had no effect on the final fair_market_value determination because the income stream was indeterminate overall respondent’s experts concluded that the local software had a value of dollar_figure mr putnam upon whose work the valpro model relies stated in his rebuttal report that his work was taken out of context and inappropriately applied mr putnam also noted that he compared the valuation of messrs benn and pooch with actual cost data on 12respondent argues on brief that the value should be only dollar_figure after eliminating duplicate lines of code and programs that were added to the local software after date and set out the revised calculations in appendices attached to her brief appendix was prepared by mr benn and appears to be an amendment to his valuation report this would actually constitute a second amendment since an amendment to his report was admitted during the trial appendices were prepared by agents of respondent and set forth a summary of the parsed software duplicate lines of code and programs added after date on date petitioners filed a motion to strike portions of brief for respondent asking this court to strike these appendices as an improper attempt to introduce evidence after the record was closed we agree allowing respondent’s experts to amend their report after the record is closed would unfairly prejudice petitioners as petitioners did not have the opportunity to rebut or cross-examine respondent’s experts with respect to these additional matters moreover the agents who prepared appendices were not identified as witnesses in respondent’s trial memorandum and did not testify in this case we therefore grant petitioners’ motion to strike portions of brief for respondent comparable projects completed during the same time period and found the valpro model to be highly biased in favor of producing very low cost estimates moreover we note that respondent’s experts found the income stream from the local software to be indeterminate and thus were unable to conclude what the percent license fee was worth as of date we need not determine the precise value of the software we need only compare the value of the local software with the reasonably anticipated value of the future license payments in order to determine whether the terms of the agreement are reasonable when judged by the standards of an arm’s-length transaction sparks nugget inc v commissioner f 2d pincite stearns magnetic manufacturing co v commissioner f 2d pincite place v commissioner t c pincite we think it is significant that both parties’ experts determined that the software was of some value to hsn even though these values are widely divergent the parties to the license agreement did not obtain or rely upon an expert valuation of the local software when they entered into the agreement nor could they have accurately predicted the value of the 1-percent license fee what the parties to the agreement did know at the time of the agreement was that hsn needed a software program that would perform the functions that the local software performed hsn needed such software quickly hsc and pioneer after spending a considerable amount of time developing and refining the local software had a tested working and successful program in their possession the local software could be used to develop and supplement the national software and the success of hsn’s new business endeavor was highly speculative under the circumstances we think that hsn’s agreement to pay percent of its gross_income for the software was reasonable it is immaterial that hsn’s success may have gone beyond the parties’ wildest expectations see brown printing co v commissioner f 2d pincite indeed had the other shareholders of hsc anticipated that the gross_profits of hsn would be so great they would have invested in it when given the opportunity to do so finally in rejecting respondent’s primary argument that the license agreement was a sham we note that the license agreement had been disclosed in hsn’s public filings including its annual reports prospectuses and proxy statements after mr speer sold his interest in hsn hsn paid pioneer more than dollar_figure million to terminate its obligation to pay the 1-percent license fee after considering all the evidence we hold that mr speer did not receive constructive_dividend income during the taxable years through as a result of payments made by hsn to pioneer pursuant to the license agreement it follows that petitioners did not make gifts during the taxable years through in amounts equal to these license payments to their son richard m speer passive_activity_loss issue the next issue is whether petitioners’ claimed losses for the taxable years through from two subchapter_s_corporations gateway and maximo constitute passive_activity_losses as defined in sec_469 pursuant to sec_469 a passive_activity_loss of an individual for the taxable_year is generally not allowed as a deduction a passive_activity is defined as a trade_or_business in which the taxpayer does not materially participate sec_469 sec_469 provides that an individual shall be treated as materially participating in an activity only if he or she is involved in the operations of the activity on a basis that is regular continuous and substantial the regulations contain seven safe_harbor provisions under which an individual will be treated as materially participating in an activity sec_1_469-5t temporary income_tax regs fed reg date petitioners rely on sec_1_469-5t temporary income_tax regs fed reg date which provides the activity is a significant_participation_activity for the taxable_year and the individual’s aggregate participation in all significant participation activities during such year exceeds hours a significant_participation_activity is defined as a trade_or_business activity in which the individual significantly participates but in which the individual would not be treated as materially participating under any of the other safe_harbor provisions sec_1_469-5t temporary income_tax regs fed reg date an individual is treated as significantly participating in an activity for a taxable_year only if he or she participates in the activity for more than hours sec_1_469-5t temporary income_tax regs fed reg date a taxpayer can establish his or her participation by any reasonable means reasonable means may include but are not limited to the identification of services performed over a period of time and the approximate number of hours spent performing such services during such period based on appointment books calendars or narrative summaries sec_1_469-5t temporary income_tax regs fed reg date contemporaneous daily time reports are not required if the extent of the taxpayer's participation may be established by other reasonable means id petitioners attempt to come within the provisions of sec_1_469-5t temporary income_tax regs supra by relying on mr speer's testimony that during and he devoted over hours to gateway over hours to maximo and over hours to another business named scheer commerce center inc scheer mr speer did not keep a diary of the amount of time he devoted to gateway maximo and scheer during and nor did petitioners offer any records similar to those described in the above regulation petitioners claim however that mr speer’s testimony about the various types of activities he engaged in with respect to gateway and maximo and the approximate number of hours he spent on these activities constitutes a narrative summary sufficient to establish material_participation although the regulations are somewhat inconclusive concerning the records needed to substantiate material_participation we do not think that they contemplate this type of postevent ballpark guesstimate that petitioners used goshorn v commissioner tcmemo_1993_578 we therefore find that petitioners have not met their burden of proving that mr speer materially participated in the activities in question rule a additions to tax respondent determined that petitioners were liable for an addition_to_tax for negligence or intentional disregard of rules or regulations pursuant to sec_6653 for and a penalty for negligence pursuant to sec_6662 for and with respect to petitioners’ failure to report constructive_dividend income during those taxable years respondent also determined that petitioners were liable for the addition_to_tax for a substantial_understatement of tax_liability under sec_6661 and for increased interest on tax-motivated transactions under sec_6621 for these additions to tax too were applied with respect to petitioners’ failure to report constructive_dividend income during that year finally respondent determined that mr speer was liable for additions to tax for failure_to_file gift_tax returns under sec_6651 for the tax years through because we have held that petitioners did not receive constructive_dividend income during the years in issue and likewise did not make gifts of the license fees to their son richard m speer we hold that petitioners are not liable for any of the above additions to tax decisions will be entered for petitioners in docket nos and decision will be entered under rule in docket no an appropriate order will be issued granting petitioners' motion to strike portions of brief for respondent


internal_revenue_service number release date index number --------------------------------------------------- -------------------------------- -------------------------- -------------------- -------------------------------------- department of the treasury washington dc third party communication none date of communication not applicable_person to contact -------------------- id no ------------- telephone number --------------------- refer reply to cc psi b02 plr-137757-08 date date x --------------------------------------------------------------------------------------------------- ----------------------- country ---------- d1 --------------------------------------------------------------------------------------------------- ---------------- dear ---------------- this is in response to a letter dated date submitted by x requesting an extension of time under sec_301_9100-3 of the procedure and administration regulations to file an election to be classified as a partnership for federal tax purposes the information submitted states that x was formed under the laws of country as an entity eligible to make a classification election x’s default status for federal tax purposes was an association_taxable_as_a_corporation x intended to be classified as a partnership for federal tax purposes effective d1 however a form_8832 entity classification election for x to elect to be treated as a partnership effective d1 was not timely filed sec_301_7701-2 generally provides that a business_entity is any entity recognized for federal tax purposes that is not properly classified as a_trust under sec_301_7701-4 or otherwise subject_to special treatment under the internal_revenue_code sec_301_7701-3 provides that so long as a business_entity is not classified as a corporation under sec_301_7701-2 an eligible_entity it may elect its classification for federal tax purposes plr-137757-08 sec_301_7701-3 provides guidance on the classification of a foreign eligible_entity for federal tax purposes generally a foreign eligible_entity is treated as an association_taxable_as_a_corporation if all members have limited_liability unless the entity makes an election to be treated otherwise sec_301_7701-3 provides that an eligible_entity may elect to be classified other than as provided under sec_301_7701-3 by filing a form_8832 with the appropriate service_center under sec_301_7701-3 this election will be effective on the date specified by the entity on form_8832 or on the date filed if no such date is specified on the election form the date specified on form_8832 cannot be more than days prior to the date on which the election is filed and cannot be more than months after the date on which the election is filed sec_301_9100-1 provides that the commissioner may grant a reasonable extension of time to make a regulatory election or a statutory election but no more than six months except in the case of a taxpayer who is abroad under all subtitles of the code except subtitles e g h and i sec_301_9100-1 defines the term regulatory election as including an election with a deadline prescribed by a regulation published in the internal_revenue_bulletin sec_301_9100-1 through provide the standards the commissioner will use to determine whether to grant an extension of time to make an election sec_301_9100-2 provides automatic extensions of time for making certain elections sec_301_9100-3 provides extensions of time for making elections that do not meet the requirements of sec_301_9100-2 sec_301_9100-3 provides that request for relief under sec_301_9100-3 will be granted when the taxpayer provides evidence to establish that the taxpayer acted reasonably and in good_faith and that granting relief will not prejudice the interests of the government based solely on the facts submitted and representations made we conclude that the requirements of sec_301_9100-3 have been satisfied accordingly x is granted an extension of sixty days from the date of this letter to elect to be classified as a partnership for federal tax purposes effective d1 the election should be made by filing form_8832 with the appropriate service_center a copy of this letter should be attached to the election plr-137757-08 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 this ruling is directed only to the taxpayer requesting it sec_6110 of the internal_revenue_code provides that it may not be used or cited as precedent sincerely curt g wilson deputy associate chief_counsel passthroughs special industries enclosures copy of this letter copy for sec_6110 purposes


department of the treasury i n t e r n a l r e v e n u e s e r v i c e washington d c date office_of_chief_counsel number info release date uil conex-153497-06 the honorable john ensign united_states senator las vegas boulevard south suite las vegas nevada attention ------------------------- dear senator ensign this letter is in response to your inquiry to the ------------------------------------------------------- ------------------------------------------------------------------------------------------------------dated ------ -------------------- on behalf of your constituent ---- ----------------- he requested a recalculation of his liability for taxes under the federal_insurance_contributions_act fica on amounts deferred under a nonqualified_deferred_compensation_plan because his employer terminated the plan the ------ forwarded your request to our office although i sympathize with ---- ------------ situation the fica_taxes imposed on amounts deferred under a nonqualified_deferred_compensation arrangement are not refundable just because benefits are never ultimately distributed as a result of plan termination a nonqualified_deferred_compensation_plan is an arrangement between an employer and an employee to pay the employee compensation in the future nonqualified_deferred_compensation_plans are generally unfunded arrangements whereby the employer's promise to pay the deferred_compensation benefits in the future is not secured in any manner therefore amounts deferred are subject_to claims by the employer's creditors thus the risk that an employee may not receive any benefits in the future is an inherent feature of nonqualified_deferred_compensation_plans the law imposes fica tax on the wages paid_by employers to employees for employment sec_3101 and sec_3111 of the internal_revenue_code code generally an employer must withhold and pay fica tax on compensation deferred according to a nonqualified_deferred_compensation_plan at the later of when the employee performs the services that create the right to a deferral or when a substantial risk that the employee's rights to the deferred amounts will be forfeited no longer exists sec_3121 of the code nonqualified_deferred_compensation arrangements can be either account balance plans or nonaccount balance plans a nonaccount balance plan such as the plan --------------- participated in does not credit deferred amounts to particular participants' individual accounts employment_tax regulation sec_31_3121_v_2_-1 if a nonqualified_deferred_compensation_plan is a no naccount balance plan a special rule permits an employer to delay withholding and paying fica_taxes until the amount deferred is reasonably ascertainable employment_tax regulation sec_31_3121_v_2_-1 the law considers amounts deferred under nonaccount balance plans reasonably ascertainable on the first date the employer knows the amount form and beginning date of the benefits so he or she can compute their present_value when the present_value of a benefit becomes reasonably ascertainable the present_value amount is subject_to fica tax employment_tax regulation sec_31_3121_v_2_-1 under some nonaccount balance p lans retirement benefits do not become reasonably ascertainable until retirement the present_value calculation does not consider the probability that an employer will not make payments because of the unfunded status of the plan the risk associated with any deemed or actual investment of the amounts deferred under the plan or similar risks or contingencies employment_tax regulation sec_31_3121_v_2_-1 i am sorry my response is not more favorable but i hope this information is helpful if you have any questions please contact me or ----------------------at ----- ------------- sincerely lynne a camillo chief employment_tax branch office of the associate chief_counsel division counsel tax exempt government entities macro form rev department of the treasury - internal_revenue_service


id office uilc cca_2010012115125915 ---------- number release date from --------------- sent thursday date pm to -------------------- cc ------------------------------------------------------------------------------------------ subject re allocation issue ----------- i think tam accurately describes the national_office position on whether the accounting firm's allocation report is an other record within the meaning of the regulations that tam basically says that the field must examine any information the taxpayer provides but the field then determines based on all the evidence provided whether the taxpayer has provided sufficient documentation to support the taxpayer's allocation not sure i read the rebuttal as being contrary to the tam i read it as engaging in an analysis of whether the information was probative but nonetheless i agree with you that there is no per se rule that automatically excludes consideration of any information a taxpayer provides --


id uilc cca_2016090812034054 number release date from sent thursday september pm to cc bcc subject advice re b and repetitive audits for ------------- thanks for your patience while i coordinated with the sec_7605 experts in counsel it is counsel’s position that there has been no violation of law with respect to these taxpayers regarding the number of times their returns have been looked at over the years below are the facts upon which counsel relied in reaching this conclusion ------------------------------------- -------------------------------------------------------------------------------------------------------------------------------- --------------------------------- -------------------------------------------------------------------------------------------------------------------------------- -------------------------------------------------------------------------------------------------------------------------------- --------------------------------------------------- -------------------------------------------------------------------------------------------------------------------------------- -------------------------------------------------------------------------------------------------------------------------------- --------------------------------------------------- -------------------------------------------------------------------------------------------------------------------------------- -------------------------------------------------------------------------------------------------------------------------------- --------------------------------------------------- -------------------------------------------------------------------------------------------------------------------------------- -------------------------------------------------------------------------------------------------------------------------------- ------------------------------------------------- ---------------------------- ------- based on revproc_2005_32 looking at a tax_return ie surveying it is not an examination thus while these taxpayers have had their returns routinely looked at many of the tax returns were not in fact audited and the repetitive audit procedures in irm dollar_figure only apply to individual returns without a schedule c or schedule f ----- --------------------------------------------------------------------------------- again i appreciate your patience while counsel took a close look at the facts of this case please let me know if you have any questions ------------------------------------------------------------------------------ ------------------------------------------------------------------------------ ------------------------------------------------------------------------------ ------------------------------------------------------------------------------ -----------------


internal_revenue_service index no number release date cc dom p si - plr-112517-99 date x a d1 year state dear this is in reply to your letter dated date and subsequent correspondence written on behalf of x requesting a ruling under sec_1362 of the internal_revenue_code the information submitted states that x was incorporated on d1 x’s shareholder a intended that x elect to be an s_corporation beginning with its year taxable_year a directed x’s attorney to take the necessary steps for x to be an s_corporation however due to a misunderstanding between a and the attorney a form_2553 election by a small_business_corporation was not filed for x for x’s year taxable_year x and its shareholder filed their federal tax returns consistent with x being treated as an s_corporation sec_1362 of the code provides that if-- a an election under sec_1362 is made for any taxable_year after the date prescribed by sec_1362 for making such election for such taxable_year or no such election is made for any taxable_year and b the secretary determines that there was reasonable_cause for the failure to timely make such election the secretary may treat such an election as timely made for such taxable_year based solely on the facts and the representations submitted we conclude that x has established reasonable_cause for failing to make a timely election to be an s_corporation for x's year taxable_year accordingly provided that x makes an election to be an s_corporation by filing a completed form_2553 with the appropriate service_center effective for its year taxable_year within days following the date of this letter then such election will be treated as timely made for x’s year taxable_year a copy of this letter should be attached to the form_2553 except as specifically ruled above we express no opinion concerning the federal tax consequences of the transactions described above under any other provisions of the code including whether x was or is a small_business_corporation under sec_1361 this ruling is directed only to the taxpayer who requested it sec_6110 of the code provides that it may not be used or cited as precedent pursuant to a power_of_attorney on file with this office a copy of this letter is being sent to x sincerely yours branch h grace kim assistant to the chief office of the assistant chief_counsel passthroughs and special industries enclosures copy of this letter copy for sec_6110 purposes


tcmemo_2016_185 united_states tax_court ramon reynoso petitioner v commissioner of internal revenue respondent docket no filed date ramon reynoso pro_se andrew r moore patricia p davis and matthew williams for respondent memorandum findings_of_fact and opinion holmes judge this case is about a very successful chiropractor who used many different ids to hide millions in bank_deposits he didn’t file tax returns for at least eight years and when criminal investigators for the irs showed up at his house with a search warrant he offered up his wrists as if to be cuffed we concern ourselves not with his guilt however but only with the determination of his gross_receipts deductions and a series of penalties--the most significant of which depends on whether his failure_to_file was fraudulent findings_of_fact i ramon reynoso dr ramon reynoso is a self-employed chiropractor in hayward california during through 2004--the years at issue--dr reynoso was licensed in california and was a qualified medical examiner for the state he was also an aggressive self-marketer--listed in the yellow pages when that meant something and a big spender on television and radio ads most of the patients he attracted were victims of personal injury and his income was almost entirely from insurance_companies though he did receive some directly from at least one attorney who represented some of his patients dr reynoso also bought and sold securities during the years at issue until dr reynoso reported his income on form sec_1040 but in he just stopped he admitted during trial that he did not file any_tax returns for the through tax years his business however had impressive gross_receipts for the years at issue high gross_receipts without returns would ordinarily catch the commissioner’s attention but dr reynoso’s money- management scheme was clever and for some time avoided scrutiny ii how dr reynoso managed his cashflow dr reynoso began his practice in as a sole_proprietorship in he incorporated it and renamed the business dr ramon reynoso chiropractic professional_corporation he claimed during trial that during the transition-- january to date--he was doing business as ramon reynoso yet using the taxpayer_identification_number tin from one of his trusts what didn’t change through the years is how dr reynoso managed his cashflow after treating a patient dr reynoso would submit a claim to the appropriate insurance company--the same as any other provider in the industry dr reynoso received payments from multiple insurance_companies during the years at issue they include icw group explorer insurance gab robins north america inc sierra insurance group ca indemnity insurance co commercial casualty co farmers insurance group zenith insurance co wausau insurance cos crawford co cna state compensation insurance fund ward north america inc athens california state automobile association liberty mutual group and travelers indemnity the manager of the special investigations unit at icw group credibly explained how dr reynoso avoided detection by the commissioner first an insurance_company or at least icw though we find it likely others are similar gets a bill from a service provider that identifies who was treated once the insurance_company checks the claim into the system the bill is sent to a review committee the committee checks only that the insurance_company agreed to pay for whatever service is on the bill and sends an explanation of benefits to the patient and the insurance_company cuts a check to the provider--relying solely on the information provided on the practitioner’s form_w-9 request for taxpayer_identification_number and certification the system is not on the lookout for red flags if a provider puts the wrong information on the claim the system won’t catch it even if there are two tax identification numbers for the same claim and policy dr reynoso did just that he sent w-9s with false social_security or tins to insurance_companies and avoided detection for some time in some cases the tax id numbers were made to look like social_security numbers but with one digit off he would also use multiple variations of his own name or have zeus trust1 bill on his behalf at one point an investigator at travelers insurance reached out to dr reynoso when he realized it didn’t have a w-9 on file for him when dr reynoso didn’t respond the investigator dropped a form off at his office there was no response because it’s not normal for a provider to be difficult about providing a w-9 the investigator examined dr reynoso’s corporation and realized that its charter had been suspended dr reynoso avoided detection in another way too after he received proceeds from the insurance_companies he deposited the money into his checking accounts at various banks when he opened these accounts he didn’t provide his real social_security_number when the balance in one of these account grew large enough he transferred it zeus trust is one of a few trusts that dr reynoso set up dr reynoso organized it in with the help of an attorney though it’s unclear from the record what assets dr reynoso put in zeus trust when he created it he claims its only purpose was to conduct business dr reynoso habitually billed insurance_companies from zeus trust though less frequently than he did from other eins dr reynoso organized the tlaquepaque family_trust t f trust in the same day he created zeus trust the documents related to t f trust are incomplete it seems however that dr reynoso obtained a proper tin for t f trust though he may have botched much of the rest of the paperwork dr reynoso claimed on an application to a broker that the t f trust was an irrevocable_trust but the record shows that it was at best a grantor trust--if it’s a_trust at all there is an affidavit in the record in which dr reynoso swears he is the grantor of the trust but while the document is notarized the signature line is blank and other than applying for a tin dr reynoso didn’t observe the formalities that typically come with owning an irrevocable_trust such as for example filing any trust income_tax returns for any of the years at issue at trial dr reynoso tried to persuade us that the t f trust’s purpose was to protect him somehow but he was unable to provide any explanation as to how the trust would do that we find that the only purpose behind the t f trust was to move money starting in dr reynoso used the t f trust to open various brokerage accounts at e trade td ameritrade and schwab on the application_for the schwab account dr reynoso notably listed the tin for the t f trust instead of with one exception--the t f trust also owned a mercedes that dr reynoso bought sometime in his ssn--which was what the application asked for he used the t f trust to trade stocks and bonds and as a place to store money once he collected a certain amount of money in a bank account he would move the money to the t f trust via check from there dr reynoso would use that money in his trading but one way or another almost all of dr reynoso’s money would make its way into a brokerage account dr reynoso did put some of his assets into the mary s caballero family_trust family_trust the family_trust was a grantor_trust and appears to have a legitimate federal tin but like the paperwork for the other trusts the paperwork for the family_trust is incomplete dr reynoso organized the family_trust in and claimed during trial that he is one of its trustees he claimed and from the evidence we find it true that he started the trust with a refund check from the commissioner while dr reynoso did not use the family_trust for billing he did at one point move dollar_figure from his bank of america account into the family_trust he later moved the money to the t f trust the t f trust’s tin was shown correctly elsewhere on the application the applications for other brokerage accounts did not ask for that kind of information iii recordkeeping dr reynoso kept no track of his business receipts or expenses he had neither an accountant nor a bookkeeper and the search by irs criminal investigators that began with dr reynoso’s presentation of his wrists found no business records at all he claimed during trial that he kept a checkbook and that he has receipts for his business_expenses but because there are just so many of them he could not be bothered to submit them as evidence in his own case it’s a similar story with dr reynoso’s stock trades while he did offer some brokerage statements into evidence the records do not cover every year at issue and are incomplete dr reynoso also submitted spreadsheets that show an incredible but sporadic churn in his trading he would sometimes make hundreds of trades in a single day and many hundreds of trades in a single month what they don’t show us however is dr reynoso’s net gains and losses rather dr reynoso’s spreadsheets show us a tally of total purchases and sales for the year year bought dollar_figure dollar_figure dollar_figure sold dollar_figure big_number big_number net gain_or_loss dollar_figure big_number dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number dollar_figure big_number he made no attempt to match the sale of a security with its purchase--data that would be necessary under sec_1001 to determine his gain and make a mark-to- market election but more on that later his spreadsheets also do not account for purchases from earlier years of securities sold during the years at issue after trial the commissioner tried to correctly compute dr reynoso’s net gains and losses but we recognize that with such limited documentation the attempt cannot be entirely accurate but it does show how wildly off dr reynoso’s numbers are year net gain_or_loss year dollar_figure dollar_figure big_number dollar_figure net gain_or_loss dollar_figure dollar_figure no documents big_number iv dr reynoso’s nonreporting dr reynoso admitted during trial that he did not file any individual tax returns for the to tax years his reason--at least his reason during trial-- was that his losses as a day trader exceeded his income and he believed that a return was not necessary there is also no record of dr reynoso’s ever filing a corporate return for any of the to tax years or for that matter any returns for any of his trusts zeus trust t f trust and the family_trust for the years at issue while dr reynoso wouldn’t have had to file a return for a grantor_trust sec_671 see also 139_tc_418 aff’d 552_fedappx_250 4th cir he did claim at least once that the t f trust was an irrevocable_trust if this were true it should have filed a return see eg kalapodis v commissioner tcmemo_2014_205 no exception to general_rule taxing irrevocable_trust at trust level without proof of special provisions all section references are to the internal_revenue_code in effect for the years at issue and all rule reference are to the tax_court rules_of_practice and procedure sec_671 and the provisions that follow lay out the rules for when a taxpayer is treated as the owner of a_trust see secs see eg adams irrevocable life_insurance trusts tr est mulligan sale to a defective_grantor_trust an alternative to a grat est plan v the criminal investigation julie ryer--a special_agent with the irs criminal investigation division-- began investigating dr reynoso in ryer subpoenaed dr reynoso’s bank records and contacted insurance_companies for information about any payments they had made to him the fruits of her initial investigation were enough for probable cause and a district_court authorized a search warrant for the tax years on dr reynoso’s business and residence during the search ryer and her team collected statements from banks brokerages and mortgage companies as well as trust documents credit-card statements and blank irs forms she found 1099s separated and stacked by their year--many of them with incorrect social_security numbers she also found several tax-protester documents books magazines and articles one important thing ryer and her fellow investigators did not find was any business records that showed dr reynoso’s annual income and expenses investigators at the scene did not consider any documents that fell outside the tax years listed on the warrant they also did not see any mark-to-market_election paperwork they seized all relevant documents and dr reynoso’s computers among the irs forms was a form_941 employer’s quarterly federal tax_return filled out with all zeros--a common tax-protester practice see eg coulton v commissioner tcmemo_2005_199 the evidence against him was damning and in date dr reynoso pleaded guilty to income_tax evasion under sec_7201 but only for the tax_year in his plea he agreed that he knowingly and willfully failed to file his income_tax return for and that he made an affirmative attempt to evade and defeat the assessment and payment of income_tax by placing assets into nominee accounts to conceal ownership of assets and receipt of income and by opening bank accounts with false social_security numbers vi the notice_of_deficiency the commissioner sent dr reynoso a notice_of_deficiency for the tax years after his criminal proceedings ended the notice reflected the following increases in tax and penalties year deficiency dollar_figure big_number big_number big_number big_number big_number big_number big_number a dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure n a f dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure dr reynoso petitioned this court and we tried the case in san francisco dr reynoso was a california resident when he filed his petition opinion there are three substantive issues in this case dr reynoso’s gross_income his stock-trading income and the correct amount of his business deductions even though the parties here disagreed about the amount of dr reynoso’s income there was no dispute that he made money through his practice the commissioner asserts that we should use his bank-deposits analysis to determine the amount of dr reynoso’s unreported gross_receipts dr reynoso answers that whatever gross_receipts he had were offset by his stock-trading losses the commissioner replies however that dr reynoso cannot offset his income with stock-trading losses because he didn’t correctly calculate these losses and that in any event sec_1211 limits them to dollar_figure per year dr reynoso then rejoins that the usual cap doesn’t fit him because he made a mark-to-market_election he also argues that he is entitled to deductions greater than those already allowed by the commissioner for the expenses of running his business during the years at issue these three substantive issues are matched by the three penalties that the commissioner says that dr reynoso owes a fraudulent-failure-to-file penalty under sec_6651 a failure-to-timely-pay penalty under sec_6651 and a penalty for failing to pay estimated_tax under sec_6654 beneath all six of these issues is the common ground of dr reynoso’s credibility and we must find that there is not much there here are just some examples dr reynoso admitted during trial that he didn’t file his tax returns because he didn’t think he had to but the substantial amount of tax-protester propaganda found in his home suggests otherwise dr reynoso claimed during trial that he didn’t bring his business records to trial because of their vastness but ms ryer the criminal investigator credibly testified that she never saw any records whatsoever during the search of dr reynoso’s residence on brief dr reynoso changed his story and now accuses the criminal investigators of taking and losing his business records dr reynoso asserts that the misinformation on his 1099s and bank account records were mere typos believing this would require us to find that several insurance_companies and large banks made multiple and similar typos rather than find that dr in the alternative the commissioner asserts that dr reynoso is liable for a failure-to-timely-file penalty for each of the years at issue reynoso submitted the incorrect information to those institutions dr reynoso insisted during trial that he created the t f trust to protect himself but could not offer up a single explanation as to how the trust would do so i the substantive issues a gross_income dr reynoso stipulated his gross_receipts from his chiropractic business for some of the years at issue he admits that he received payments from his chiropractic business for the and tax years of dollar_figure dollar_figure dollar_figure and dollar_figure respectively but dr reynoso wouldn’t stipulate for the remaining years and in the absence of adequate_records the commissioner performed a bank-deposits analysis for the and tax years the commissioner often uses bank-deposits analyses to reconstruct taxpayers’ income--and we have long approved their use see 204_f3d_1228 9th cir aff’g tcmemo_1998_ 281_f2d_100 9th cir aff’g tcmemo_1958_94 deposits in a taxpayer’s bank account are prima facie evidence of income welch f 3d pincite the commissioner does not have to show that a deposit came from a certain source 102_tc_632 he must deduct from the total deposited moneys any income that the taxpayer reported and any nontaxable items 96_tc_858 aff’d 959_f2d_16 2d cir the burden is on the taxpayer to show that the commissioner’s analysis is wrong rule a welch f 3d pincite one way he could do this is by showing that a particular deposit came from a nontaxable source azimzadeh v commissioner tcmemo_2013_169 a revenue_agent in this case analyzed dr reynoso’s bank_deposits during the criminal investigation she examined each deposit check disbursement and withdrawal and debit memos for six bank accounts and two brokerage accounts dr reynoso didn’t report any income during the years at issue so there was nothing for her to subtract from her totals dr reynoso argues that this analysis is riddled with errors and not trustworthy but he offers no evidence to prove his assertion he does argue that a dollar_figure transfer from the family_trust to the t f trust should not be included because it was nontaxable he explained during trial that the dollar_figure was money he moved to the family_trust temporarily from a bank account he was closing--he later transferred the sum back to himself by putting it in the t f trust but that money was included in the analysis as a nonincome transfer dr reynoso also pointed to dollar_figure frozen by california as part of a levy--he claims that when the levy was released the commissioner improperly included the amount twice but the commissioner did not include this in his total either dr reynoso also seemed to argue that a loan he took out was improperly included as taxable he was however unsure of the amount of money lent to him and in which year he received it he offers nothing but his own testimony to substantiate the existence of this loan and we do not believe his uncorroborated testimony dr reynoso did not contest any other deposits during trial or on brief we therefore find that the revenue agent’s bank-deposits analysis accurately reflected dr reysoso’s gross_receipts for the and tax years we find for the commissioner on this issue b stock-trading income dr reynoso next asserts that his stock trading produced losses that completely offset his gross_receipts the problem with that argument is that sec_1211 limits his losses from trading securities to dollar_figure a year dr reynoso therefore insists that he is in the trade_or_business of trading securities and that he made a mark-to-market election--thereby removing the limitation see sec_475 traders are those engaged in the trade_or_business of selling securities for their own account see 89_tc_445 kay v commissioner tcmemo_2011_159 their expenses reduce adjusted_gross_income which means traders get bigger breaks on their taxes kay tcmemo_2011_159 a trader without a mark-to-market_election however is still limited to a dollar_figure loss per year on his trades see sec_475 we’ll assume dr reynoso was a trader sec_475 permits ordinary gain_or_loss treatment for securities only if a trader makes a mark-to-market_election sec_475 129_tc_58 revproc_99_17 1999_1_cb_503 outlines how to make a mark-to- market election a taxpayer must make the election no later than the due_date for the return for the year before the election_year revproc_99_17 sec_5 perkins t c pincite a taxpayer now does this by attaching a form_3115 application_for change in accounting_method to his tax_return rev_proc though we are skeptical for dr reynoso to be considered a trader his trading activity needed to be substantial king t c pincite and he didn’t keep adequate_records a trader also typically relies on his trading activities as his primary source_of_income and does not have a full-time business like dr reynoso’s practice see kay tcmemo_2011_159 chen v commissioner tcmemo_2004_132 sec_5 poppe v commissioner tcmemo_2015_205 knish v commissioner tcmemo_2006_268 dr reynoso’s biggest problem is that we see little evidence that he made such an election despite his adamance during trial and in his briefing that he made it in we find it impossible for him to have done so his first problem is that it’s clear he didn’t comprehend what mark-to-market meant this is evident in the way he kept track of his trades dr reynoso merely tallied his total purchases and sales for each year--making no attempt to match a particular stock’s sale or year-end price with its purchase under sec_1001 the gain from the sale of property is the excess of the amount_realized over the adjusted_basis to properly calculate his gain_or_loss dr reynoso needed to match each stock sale or year-end price to its purchase_price see sec_1001 he didn’t do this then there is the problem with forms dr reynoso claims that he filed the appropriate mark-to-market forms but that through no fault of his own they were lost he claimed during trial that when he got his documents back after the investigation they were in disarray and on brief he accuses the government of losing them when they raided him at gunpoint the agents that searched his home however credibly testified that they didn’t find a single document indicating that dr reynoso ever made a mark-to-market_election that’s no surprise revproc_99_17 didn’t come out until before the irs had no procedure for how to make a mark-to-market_election see knish tcmemo_2006_268 to make an election for the tax_year as dr reynoso insists he did would have required a very sophisticated understanding of the code if it were the case that dr reynoso had a sophisticated understanding of the code it would not be the case that he thought he didn’t have to file his tax returns for eight years in a row see sec_6012 even after the irs released the revenue_procedure dr reynoso still couldn’t have made a mark-to-market election--he broke the rules when he didn’t file his tax returns see revproc_99_17 sec_5 and in any case we reiterate there is no proof that he ever made such an election dr reynoso offers us nothing but his uncorroborated testimony that he made a mark-to-market_election that’s not enough see eg perkins t c pincite for these reasons we find that dr reynoso did not during any year at issue make a mark-to-market_election we also find that he is not entitled to offset his income by any more than the dollar_figure cap per year--and even that only to the extent that the commissioner has determined that he had losses we find for the commissioner on this issue c business_expense deductions sec_162 allows deductions for all the ordinary and necessary expenses paid_or_incurred during the taxable_year in carrying on any trade_or_business during the criminal case the commissioner determined dr reynoso’s allowable deductions by examining check and credit-card payments in making her calculations the revenue_agent was lenient and treated all credit-card transactions as business-expense deductions even if the item could have been personal so for the years and the commissioner determined the following deductions from subpoenaed financial documents and credit-card statements collected in the search of dr reynoso’s home year amount dollar_figure big_number big_number big_number for the other years at issue the commissioner was unable to determine any business-expense deductions because dr reynoso didn’t provide check and credit-card statements he also didn’t bring any of those records to trial dr reynoso argues that although he is unable to reconstruct his business_expenses we can at least estimate his expenses he proposes new numbers for each year at issue in accordance with national statistics for chiropractors’ offices found on the commissioner’s own website but dr reynoso attached these statistics only to his brief and did not enter them into evidence we therefore won’t use them see generally rule bauer v commissioner tcmemo_2012_156 estimating expenses from industry statistical reports introduced at trial pugh v commissioner tcmemo_1985_67 aff’d in part 782_f2d_1039 5th cir and aff’d in part 817_f2d_755 5th cir we are limited to the record before us see 829_f2d_828 9th cir aff’g tcmemo_1986_223 when a taxpayer claims business_expenses that he cannot fully substantiate we may estimate the allowable_amount see 39_f2d_540 2d cir but he must still provide at least some reasonable evidence that enables us to do so the commissioner argues here that because dr reynoso provided no documentation to substantiate any expenses we have no reasonable evidence and should not allow any expenses we have no obligation to apply cohan when a taxpayer doesn’t cooperate with the commissioner or the tax_court 970_f2d_412 7th cir aff’g t c memo 877_f2d_624 7th cir aff’g tcmemo_1987_295 we acknowledge that dr reynoso must of course have had expenses for his business but even though the commissioner was able to extrapolate deductions from subpoenaed documents during the criminal investigation for some years dr reynoso’s utter lack of credibility unwillingness to cooperate with the commissioner and lack of documentation for any of the other years renders us unable and unwilling to apply the cohan_rule see edelson f 2d pincite we find for the commissioner on this issue ii penalties a fraudulent_failure_to_file the commissioner asserts that dr reynoso is liable for a sec_6651 fraudulent-failure-to-file penalty for each year at issue because the assertion is dr reynoso argues that he is entitled to deductions for the and tax years and additionally argues that he is entitled to greater deductions than the commissioner allowed for the remaining years dr reynoso however did not provide any documentation to support his argument and we uphold the commissioner’s determinations for the and tax years he also argues that he can’t substantiate his expenses because the investigators returned his documents in such disarray but as we pointed out earlier the investigators found no business records to take or return and even though they did take credit-card statements they took only those relevant to the years at issue during the criminal investigation this means dr reynoso cannot blame the commissioner for his lack of records outside the years at issue during that investigation fraud the burden swings to the commissioner who must prove by clear_and_convincing evidence dr reynoso’s failure_to_file was fraudulent see sec_7454 rule b clayton v commissioner t c pincite mohamed v commissioner tcmemo_2013_255 fraud is established by proving that a taxpayer intended to evade tax believed to be owing by conduct intended to conceal mislead or otherwise prevent the collection of such tax clayton t c pincite for the tax_year our job is easy--collateral estoppel applies a judgment in a prior proceeding precludes litigation in a second proceeding as long as the issues and parties are the same 439_us_322 n 99_tc_202 it makes no difference that dr reynoso’s conviction under sec_7201 was the result of a guilty plea and not a trial see 698_f3d_160 3d cir aff’g tcmemo_2009_44 dileo t c pincite montalbano v commissioner tcmemo_2007_349 aff’d 307_fedappx_322 11th cir and conviction for tax_evasion under sec_7201 requires proof of specific intent to defraud--the same element necessary for the civil-fraud penalty under sec_6651 see clayton t c pincite wallace v commissioner tcmemo_2000_49 so dr reynoso is collaterally estopped from contesting that he fraudulently failed to file hi sec_2001 tax_return but what of the other years this is an area of law that has become hyperprongified so we’ll list our usual badges_of_fraud which 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 lack of credibility of the taxpayer’s testimony filing false documents failing to file tax returns and dealing in cash clayton t c pincite mohamed tcmemo_2013_255 dr reynoso argues that he made his guilty plea under duress he says he simply wanted peace at any price this argument lacks merit--any relief of this sort must be requested in an appeal or in a habeas corpus proceeding see fed r crim p e see also anderson v commissioner tcmemo_2009_44 aff’d 698_f3d_160 3d cir several badges_of_fraud are also present for each of the remaining years to start dr reynoso admitted during trial that he didn’t file any_tax returns for 2004--that’s at least eight years of nonfiling while a pattern of nonfiling alone does not establish fraud per se it is a strong indicator 544_f2d_883 5th cir aff’g tcmemo_1975_368 this is especially true in the case of someone like dr reynoso who used to file before he chose to stop see 84_tc_405 while dr reynoso testified that it was his belief that he didn’t have to file because his losses exceeded his income we find his testimony incredible see huminski v commissioner tcmemo_2012_302 like the taxpayer in huminski dr reynoso did not simply misunderstand the law rather dr reynoso knew his legal duty to file his returns and pay any_tax but he sought to avoid it see supra p during through dr reynoso did what he could to squirrel away his income from the commissioner he posted false social_security numbers on his bank accounts to conceal assets during all those years at issue see simmons v commissioner tcmemo_2009_283 he says he didn’t use false tins or ssns but he stipulated that he opened at least two bank accounts under an incorrect social_security_number and the relevant exhibits show signature cards for those accounts reflecting incorrect taxpayer identification information he also hid the income he got from insurance_companies by giving them false tins--for each of the years at issue he received payments under false tins after dr reynoso received his income under false tins and put it in bank accounts opened under false social_security numbers he would transfer large sums to the t f trust--removing them from the commissioner’s reach removing assets from the commissioner’s reach in such a way is another affirmative act of fraud see simmons v commissioner tcmemo_1997_269 that should be enough to support a finding that the sec_6651 penalty applies but we’ll list some more dealing in cash to avoid the commissioner’s scrutiny is another badge of fraud 796_f2d_303 9th cir aff’g tcmemo_1984_601 temple v commissioner tcmemo_2000_337 aff’d 62_fedappx_605 6th cir during at least the to tax years dr reynoso made substantial cash transactions--cashing checks he received from an attorney at local banks instead of at his own dr reynoso claims he used the cash for business_expenses but was of course unable to substantiate that claim the best evidence here of dr reynoso’s intent to conceal mislead or otherwise prevent the collection of tax is the affirmative steps he took to do so but in addition to those dr reynoso did not maintain adequate business records in fact he did not maintain any records whatsoever for the years involved in the criminal investigation bank records and checks were subpoenaed from the financial institutions and not obtained from dr reynoso his lack of recordkeeping tends to indicate an intent to distort the calculation of his income and strongly indicates fraud see clayton t c pincite determining taxpayer failed to maintain records and even destroyed records because they would be evidence of his income for the reasons listed above we find that the commissioner has shown by clear_and_convincing evidence that dr reynoso failed to file his required returns with the intent to conceal mislead or otherwise prevent the collection of tax for the and tax years b failure to timely pay the commissioner determined that dr reynoso is liable for a sec_6651 penalty for his failure to timely pay his through tax the commissioner prepared substitute returns under sec_6020 for the years at issue that are in the record the code tells us to treat these returns as filed by the taxpayer to determine whether the sec_6651 penalty applies sec_6651 127_tc_200 aff’d f 3d 10th cir we’ve already found that dr reynoso willfully failed to file his return for each of those years so he has no reasonable-cause defense to the sec_6651 penalty we sustain this penalty c failure to make estimated_tax payments we likewise sustain the commissioner’s assertion that a sec_6654 addition_to_tax applies for the through tax years other than small amounts of withholding reported on his dr reynoso willfully failed to pay any_tax owing for the years at issue he has no defense decision will be entered under rule


internal_revenue_service department of the treasury number release date index number washington dc person to contact telephone number refer reply to cc psi 1-plr-118029-00 date date legend x country d1 this letter responds to a letter dated date together with subsequent correspondence submitted on behalf of x requesting a time extension under sec_301_9100-3 of the procedure and administration regulations facts according to the information submitted x was validly formed under country law on d1 x and x’s shareholders intended from inception to elect to classify x as a partnership for federal tax purposes however form_8832 entity classification election was not timely filed law and analysis sec_301_7701-3 provides that unless a foreign eligible_entity elects otherwise the entity is a a partnership if it has two or more members and at least one member does not have limited_liability b an association if all members have limited_liability or c disregarded as an entity separate from its owners if it has a single owner that does not have limited_liability sec_301_7701-3 provides that for purposes of b i a member of a foreign eligible_entity has limited_liability if the member has no personal liability for the debts of or claims against the entity by reason of being a member sec_301_7701-3 allows an entity to elect to change its classification by filing form_8832 entity classification election with the service_center designated on that form sec_301_7701-3 provides that all such elections become effective on plr-118029-00 the date specified by the entity on form_8832 or on the date filed if no effective date is specified the specified effective date must not be earlier than days prior to the filing_date of form_8832 nor later than twelve months after that filing_date sec_301_9100-1 gives the commissioner discretion to grant reasonable extensions of time to make regulatory elections under the rules of sec_301_9100-2 and sec_301_9100-3 under sec_301_9100-1 a regulatory election includes an election whose due_date is prescribed by a regulation published in the federal_register or a notice published in the internal_revenue_bulletin sec_301_9100-3 sets forth the standards which the commissioner uses to determine whether to grant a discretionary time extension under sec_301_9100-3 a request for relief will be granted when the taxpayer provides evidence proving to the satisfaction of the commissioner that the taxpayer acted reasonably and in good_faith and that granting relief will not prejudice the interests of the government conclusion based solely on the facts submitted and the representations made we conclude that x has satisfied the requirements of sec_301_9100-1 and sec_301_9100-3 as a result x is granted an extension of time for making the election to be classified as a partnership for federal tax purposes effective d1 until days following the date of this letter x should make the election by filing form_8832 a copy of this letter should be attached to that form 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 this ruling is directed only to the taxpayer s requesting it sec_6110 of the code provides that it may not be used or cited as precedent in accordance with the power_of_attorney on file with this office a copy of this letter is being sent to the taxpayer s paul f kugler associate chief_counsel passthroughs and special industries sincerely enclosures copy of this letter copy for sec_6110 purposes