t c memo united_states tax_court martha g smith and george s lakner et al petitioners v commissioner of internal revenue respondent docket nos filed date edward j leyden for petitioners rachel l rollins and jeffrey e gold for respondent memorandum findings_of_fact and opinion lauber judge with respect to petitioners’ federal_income_tax for the internal_revenue_service irs or respondent determined 1cases of the following petitioners are consolidated herewith martha g smith and george s lakner docket no and george s lakner and martha g smith docket no deficiencies in tax additions to tax under sec_6651 and penalties under sec_6662 and sec_6663 as follows addition_to_tax penalties year deficiency sec_6651 sec_6662 sec_6663 dollar_figure big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number dollar_figure -0- big_number -0- -0- -0- dollar_figure big_number big_number after various concessions discussed below the issues for decision are whether petitioners for various years received unreported income are entitled to deductions claimed on schedules a itemized_deductions in amounts greater than respondent has allowed are entitled to deductions claimed on schedules c profit or loss from business in amounts greater than respondent has allowed are entitled to losses claimed on schedules e supplemental income and loss are entitled to deductions for net operating losses nols are liable for late-filing additions to tax under sec_6651 and are 2all statutory references are to the internal_revenue_code code in effect for the years at issue and all rule references are to the tax_court rules of prac- tice and procedure we round all monetary amounts to the nearest dollar liable for accuracy-related_penalties with minor exceptions we will sustain respondent’s determinations findings_of_fact some of the facts have been stipulated and are so found the stipulations of fact and the attached exhibits are incorporated by this reference petitioners who are husband and wife resided in washington d c when they filed their petitions a background petitioner george s lakner is a distinguished doctor and psychiatrist he has held teaching positions at columbia university harvard university and george washington university before he began teaching he had a long career in the u s army during which he was stationed at various military installations in the united_states and overseas he has worked with the national guard the vet- erans administration va and the national institutes of health all in his capa- city as a psychiatrist dr lakner joined the army in and rose through the ranks to become a colonel from to he was employed by the va medical center in loma linda california during that employment he raised concerns with his superior sec_3in the notice_of_deficiency for and the irs asserted as alternatives to the fraud penalties accuracy-related_penalties under sec_6662 that veterans with mental health problems were receiving inadequate care in date the va terminated his employment in date dr lakner filed a complaint of employment discrimina- tion with the equal employment opportunity commission eeoc and the fol- lowing month he filed an amended eeoc complaint in both complaints he al- leged that he had been the victim of discrimination on the basis of religion nation- al origin age and or disability in the alternative he alleged that he had been fired as a reprisal for protected activity in which he had engaged the record is unclear as to the status of his complaint between and after leaving the va dr lakner was deployed to bosnia where he was severely injured by a roadside bomb in while recovering from his wounds he was deployed to kosovo he alleges that in kosovo he was confined for sever- al months in military installations because the army believed that the va’s termi- nation of his employment rendered his continued military service unlawful after returning to the united_states dr lakner went on inactive status in and retired from the army in around that time he started a medical consulting practice that he operated during the years at issue the record is un- clear as to the exact nature of his consulting practice in date the eeoc held a hearing on dr lakner’s complaints dur- ing this hearing his attorney represented that the sole issue for adjudication was whether dr lakner’s employment had been unlawfully terminated by the va dr lakner testified that he had filed his complaint because he believed the va had discriminated against him for being jewish the hearing transcript contains no reference to any physical sickness or injury suffered by dr lakner in date dr lakner reached a settlement with the va under this settlement he received a lump-sum payment of dollar_figure representing pecuniary and nonpecuniary damages dollar_figure for attorneys’ fees and dollar_figure for ac- crued annual leave the va reported the latter amount to him on a form_w-2 wage and tax statement petitioner martha g smith was a licensed property manager during she was employed by realtor cathie gill inc where she supervised the firm’s property management services she also worked as an independent proper- ty manager during some or all of these years petitioners owned jointly or indi- vidually as many as six rental properties four in washington d c one in cali- fornia and one in connecticut ms smith managed these rental properties b petitioners’ tax returns petitioners jointly filed a delinquent form_1040 u s individual_income_tax_return for each year at issue they included in each return a schedule c on each schedule c they reported income and expenses for dr lakner’s medical consulting business and ms smith’s rental real_estate activity without identifying which items related to which business return for petitioners reported negative adjusted_gross_income agi of dollar_figure on their schedule c they reported gross_receipts of dollar_figure and total expenses of dollar_figure for a net_loss of dollar_figure the reported expenses were as follows item amount commissions fees insurance other than health legal professional services office supplies travel meals entertainment utilities other total dollar_figure big_number big_number big_number big_number big_number big_number big_number for petitioners claimed on schedule a the following deductions medical_expenses of dollar_figure state and local_taxes of dollar_figure and home mortgage interest of dollar_figure they also claimed an nol deduction of dollar_figure return for petitioners reported negative agi of dollar_figure on their sched- ule c they reported gross_receipts of dollar_figure and total expenses of dollar_figure for a net_loss of dollar_figure the reported expenses were as follows item amount commissions fees insurance other than health legal professional services office supplies travel meals entertainment utilities other total dollar_figure big_number big_number big_number big_number big_number big_number big_number for petitioners claimed on schedule a the following deductions medical_expenses of dollar_figure state and local_taxes of dollar_figure and home mortgage interest of dollar_figure they also claimed an nol deduction of dollar_figure return for petitioners reported negative agi of dollar_figure on their sched- ule c they reported gross_receipts of dollar_figure and total expenses of dollar_figure for a net_loss of dollar_figure the reported expenses were as follows item amount commissions fees insurance other than health legal professional services dollar_figure big_number big_number office supplies travel meals entertainment utilities other total big_number big_number big_number big_number big_number for petitioners claimed on schedule a the following deductions medical_expenses of dollar_figure state and local_taxes of dollar_figure and home mortgage interest of dollar_figure they also claimed an nol deduction of dollar_figure return for petitioners reported negative agi of dollar_figure on their sched- ule c they reported gross_receipts of dollar_figure and total expenses of dollar_figure for a net_loss of dollar_figure the reported expenses were as follows item amount insurance other than health legal professional services office supplies travel meals entertainment utilities other total dollar_figure big_number big_number big_number big_number big_number for petitioners claimed on schedule a the following deductions medical_expenses of dollar_figure state and local_taxes of dollar_figure home mortgage in- terest of dollar_figure and unreimbursed employee_expenses of dollar_figure they also claimed an nol deduction of dollar_figure return for petitioners reported negative agi of dollar_figure on their schedule c they reported gross_receipts of dollar_figure and total expenses of dollar_figure for a net_loss of dollar_figure the reported expenses were as follows item amount commissions fees insurance other than health office supplies meals entertainment other total dollar_figure big_number big_number big_number big_number big_number for petitioners claimed on schedule a the following deductions medical_expenses of dollar_figure state and local_taxes of dollar_figure and home mortgage interest of dollar_figure they claimed an nol deduction of dollar_figure and reported on schedule e a real_estate net_loss of dollar_figure irs examination the irs selected petitioners’ returns for examination on the basis of a bank_deposits analysis the irs determined that petitioners had omitted rental income from all of their rental properties for and had omitted gross_receipts from dr lakner’s medical consulting business for and and had omitted a taxable settlement payment from the va for the irs did not perform a bank_deposits analysis for the other years but determined that petitioners had omitted specific items of gross_income for and the irs disallowed for lack of substantiation some of the deductions claimed on petitioners’ schedules a and all of the deductions claimed on their schedules c after making various computational adjustments that are not at issue here the irs determined the deficiencies set forth supra p the irs also determined late-filing additions to tax for all five years accuracy-related_penalties for and fraud penalties for and and accuracy-related_penalties as alternatives to the fraud penalties for the latter three years the irs issued petitioners three timely notices of deficiency--one for one for and the third for and 2011--setting forth the deficien- cies additions to tax and penalties noted above petitioners timely petitioned this court for redetermination we consolidated the three cases for purposes of trial briefing and opinion the cases were partially tried in date and a further trial was held in date 4the irs made computational adjustments to the taxable portions of peti- tioners’ social_security income for all years itemized_deductions for and personal exemptions for we leave these adjustments to the parties’ rule_155_computations opinion i burden_of_proof the irs’ determinations in a notice_of_deficiency are generally presumed correct and taxpayers bear the burden of proving them erroneous rule a 290_us_111 for the presumption of correctness to attach to a deficiency determination of unreported income the commissioner must generally establish a minimal evidentiary showing connecting the taxpayer with the income-producing activity see 994_f2d_1542 11th cir aff’g tcmemo_1991_636 or demonstrate that the taxpayer actually received unreported income see 680_f2d_1268 9th cir once the commissioner makes the required threshold showing the burden_of_proof shifts to the taxpayer to prove by a prepon- derance of the evidence that the commissioner’s determinations are arbitrary or erroneous 293_us_507 87_tc_74 to satisfy his burden of production regarding unreported income for and respondent introduced bank records obtained during the irs audit these records establish that petitioners received unreported income from dr lak- ner’s medical consulting business and from ms smith’s rental real_estate activity and they establish that dr lakner in received from the va a check for dollar_figure respondent has therefore made whatever minimal evidentiary show- ing he might be required to make his determinations of unreported income are thus entitled to the general presumption of correctness see powerstein v com- missioner tcmemo_2011_271 102_tcm_497 petitioners thus bear the burden of proving by a preponderance of the evi- dence that respondent’s determinations of unreported income are arbitrary or er- roneous see 999_f2d_760 4th cir citing helvering v taylor u s pincite aff’g tcmemo_1992_153 tokarski t c pincite petitioners likewise bear the burden of proving their entitlement to deductions allowed by the code and of substantiating the amounts of claimed deductions see 503_us_79 sec_1_6001-1 income_tax regs petitioners do not contend and they could not plausibly contend that the burden_of_proof as to any issue of fact should shift to respondent under sec_7491 ii unreported income sec_61 defines gross_income as all income from whatever source derived including income derived from business exclusions from gross_income are narrowly construed 515_us_323 348_us_426 309_us_331 a taxpayer must maintain books_and_records establishing the amount of his or her gross_income see sec_6001 when a taxpayer does not keep accurate books_and_records the irs may de- termine his or her income under such method as in the opinion of the secretary does clearly reflect income sec_446 see 92_tc_661 and where the taxpayer has unexplained bank_deposits the irs may employ the bank_deposits method to estimate income estate of 132_f2d_775 2d cir aff’g 45_bta_104 64_tc_651 aff’d 566_f2d_2 6th cir the irs has great latitude in reconstructing a taxpayer’s income and the reconstruction need only be reasonable in light of all surrounding facts and cir- cumstances petzoldt t c pincite bank_deposits are prima facie evidence of income the bank_deposits meth- od starts with the presumption that all money deposited into a taxpayer’s bank ac- count during a given period constitutes taxable_income 335_f2d_671 5th cir this presumption is rebutted to the extent the deposits are shown to include nontaxable amounts and the government must take into account any non-taxable source of which it has knowledge ibid 96_tc_858 aff’d 959_f2d_16 2d cir after the irs reconstructs a taxpayer’s income and determines a deficiency the taxpayer bears the burden of proving that the irs’ implementation of the bank_deposits method was unfair or inaccurate see 102_tc_632 dileo t c pincite the taxpayer may do so by showing among other things that certain deposits came from nontaxable sources see clayton t c pincite nontaxable sources include funds attributable to interaccount bank transfers and returned checks as well as loans gifts inherit- ances or assets on hand at the beginning of the taxable_period 69_tc_729 ndollar_figure quoting troncelliti v commissioner t c memo a unreported income for and finding that petitioners lacked adequate books_and_records for and the revenue_agent ra employed the bank_deposits method to reconstruct their income for those years after obtaining petitioners’ bank statements by is- suing summonses to their banks the ra used the statements which are part of the record to prepare schedules listing all deposits after eliminating nontaxable re- ceipts of which he was aware and further reducing the total bank_deposits by the income petitioners reported on their returns the ra prepared and provided to petitioners schedules that determined unreported income the ra determined that this unreported income was attributable to dr lakner’s medical consulting business ms smith’s rental real_estate activity the va settlement payment and a separate litigation settlement of an insurance claim petitioners do not challenge the ra’s use of the bank_deposits method or his determination that their consulting and rental income was taxable rather they contend that he misapplied the bank_deposits method by failing to exclude the va settlement payment failing to exclude other allegedly nontaxable amounts and mischaracterizing certain receipts as rental income va settlement payment petitioners assert that at least part of the va settlement payment they re- ceived in was nontaxable because it represented damages for the physical in- jury dr lakner sustained in bosnia in proceeds from litigation settlements constitute gross_income unless the taxpayer proves that the proceeds fall within a specific statutory exclusion schleier u s pincite save v commission- er tcmemo_2009_209 98_tcm_218 the exclusion_from_gross_income upon which petitioners rely appears in sec_104 it provides that gross_income does not include damages received on account of personal physical injuries or physical sickness for this purpose emotional distress shall not be treated as a physical injury or physical sickness sec_104 penultimate sentence when damages are received under a settlement agreement the nature of the claim that was the actual basis for the settlement determines whether the damages are excludable under sec_104 504_us_229 the nature of the claim is typically determined by reference to the terms of the agreement see 349_f2d_610 10th cir aff’g tcmemo_1964_33 102_tc_116 aff’d in part rev’d in part and remanded on another issue 70_f3d_34 5th cir if the settlement agreement does not explicitly state which claims the payment was made to settle the intent of the payor is critical longoria v commissioner tcmemo_2009_162 98_tcm_11 see george v commissioner tcmemo_2016_156 112_tcm_239 the intent of the payor may be determined by considering all relevant facts including the amount_paid the circumstances leading to the settlement and the al- legations in the injured party’s complaint 507_f3d_857 5th cir aff’g tcmemo_2005_250 87_tc_236 aff’d 835_f2d_67 3d cir t he nature of underlying claims cannot be determined from a general release that is broad and inclusive ahmed v commissioner tcmemo_2011_295 102_tcm_607 aff’d 498_fedappx_919 11th cir in his eeoc complaints dr lakner alleged that the va had terminated his employment because of his jewish ancestry and religion and as reprisal for his advocacy on behalf of veterans with psychological illness his original and amended complaints were filed in they did not mention nor could they possibly have mentioned the injury he sustained in the eeoc hearing was held in during that hearing dr lakner’s at- torney stated that the sole issue for adjudication was whether dr lakner’s em- ployment with the va had been unlawfully terminated in neither his com- plaint nor the hearing transcript contains any reference to physical injury or physi- cal sickness the settlement agreement between dr lakner and the va states that it re- solves all matters he had raised in his complaint the va agreed to pay dollar_figure in pecuniary and nonpecuniary damages make a lump-sum payment for accrued annual leave and pay dr lakner’s attorney’s fees there is no mention of any physical injury he had suffered in exchange for the va’s payments dr lakner agreed to withdraw in their entirety all discrimination complaints apart from dr lakner’s testimony at trial there is no evidence that the eeoc settle- ment payment represented compensation_for the injuries he sustained in bosnia dr lakner contends that the injury he sustained in bosnia was exacerbated by his alleged confinement in kosovo and that the va settlement agreement had linkage to those events but in deciding whether a settlement payment is ex- cludable under sec_104 the crucial question is whether the settlement amount was actually paid to redress a physical injury see molina v commission- er tcmemo_2013_226 106_tcm_371 dr lakner alleged no physical injury in his eeoc complaints and the settlement agreement clearly states that the va settled the case in consideration of his agreement to withdraw all discrimination complaints he had made giving primacy to the terms of the settlement agreement and to the intent of the payor longoria t c m cch pincite we find that the va intended to settle and did settle dr lakner’s claims of discrimination based on religion national origin and reprisal we accordingly 5dr lakner also agreed to waive his right to pursue future causes of action against the agency based on facts in existence as of the date of this agree- ment we have found such general prospective waivers inadequate to show that a settlement payment was made for a physical injury see devine v commission- er tcmemo_2017_111 113_tcm_1496 in any event even if petitioners could show that some portion of the dollar_figure settlement was attri- butable to physical injury they have offered no evidentiary basis for calculating that portion and would thus fail to meet their burden_of_proof hold that the dollar_figure va settlement payment was not received on account of personal physical injuries or physical sickness and is therefore not excludable from gross_income under sec_104 other income for and during and petitioners maintained to personal bank ac- counts into which they made deposits when performing his bank_deposits analy- sis the ra subtracted from petitioners’ total deposits for and non- taxable transfers of dollar_figure and dollar_figure respectively these calculations yielded net taxable deposits of dollar_figure and dollar_figure respectively from these sums he subtracted the gross_income petitioners had reported on their and tax returns ie dollar_figure and dollar_figure respectively this yielded net un- reported income of dollar_figure for and dollar_figure for using information in the bank records the ra allocated this unreported income into three categories the dollar_figure va settlement payment is included in the schedule c total for item litigation settlement proceeds medical consulting schedule c rental real_estate schedule e total -0- dollar_figure dollar_figure big_number big_number big_number big_number big_number the litigation proceeds of dollar_figure reflected an insurance settlement peti- tioners received in following a casualty_loss to one of their rental homes this loss was caused by a neighbor who did unauthorized work on his property resulting in a landslide that damaged the retaining wall on petitioners’ property respondent conceded in his post-trial brief that these insurance proceeds were ex- cludable from gross_income and hence that the dollar_figure was a nontaxable deposit petitioners’ unreported income for including the va settlement payment is thus reduced to dollar_figure petitioners have supplied no credible_evidence that would justify eliminat- ing any other bank_deposits as nontaxable items petitioners have stipulated that they did not receive any gifts or inheritances during these years contrary to their contention the ra correctly accounted for interaccount transfers of dollar_figure for and dollar_figure for petitioners assert that a dollar_figure check that dr lakner received from the va in was excludable from gross_income under sec_104 but they provided no credible_evidence that the va made this payment on account of disability physical injury or physical sickness there is likewise no factual basis for petitioners’ assertion that the ra erred in characterizing certain bank_deposits as rental income each deposit that the ra characterized as rent corresponded to a check that named one or both petitioners as payees and either bore the notation rent on the memo line or show- ed an address matching the address of one of petitioners’ rental properties peti- tioners assert that the ra double-counted certain deposits by treating them as rent but they have supplied no evidentiary support for that assertion in sum we find that petitioners have failed to carry their burden of showing error in the ra’s bank_deposits analysis for or apart from the errone- ous inclusion of the dollar_figure insurance settlement as conceded by respondent we accordingly find that petitioners had unreported income of dollar_figure for and dollar_figure for allocable between schedule c and schedule e as shown on the table above see supra p b unreported income for and for petitioners concede that they failed to report taxable interest in- come of dollar_figure for respondent concedes that a dollar_figure distribution peti- tioners received from an ira account was not includable in gross_income we thus sustain respondent’s determination of unreported income for but not for for and petitioners contend that the ra erred in allocating in- come between schedule c and schedule e for both years petitioners lumped to- gether on a single schedule c the income and expenses connected with dr lak- ner’s medical consulting business and the income and expenses connected with ms smith’s rental real_estate activity the latter amounts should have been reported on schedule e given the disarray in petitioners’ recordkeeping untang- ling the two streams of income and expenses was no easy task using information in petitioners’ bank records the ra determined that dollar_figure of schedule c gross_receipts for and dollar_figure of schedule c gross_receipts for should be re- characterized as rental income and transferred to schedule e petitioners have not shown that this determination was arbitrary or erroneous iii schedule a deductions for petitioners claimed a deduction of dollar_figure for home mortgage interest_expense the irs reduced the allowable deduction to dollar_figure determin- ing that petitioners had failed to substantiate the remainder petitioners introduced no credible_evidence to support a deduction larger than the irs has allowed for and petitioners deducted state and local_taxes of dollar_figure dollar_figure and dollar_figure respectively the irs in the notice_of_deficiency disallowed these deductions in their entirety in his post-trial brief respondent conceded that petitioners are entitled to state tax deductions of dollar_figure for dollar_figure for and dollar_figure for petitioners introduced no credible evi- dence to substantiate deductions for state taxes in amounts larger than respondent has conceded iv schedule c deductions deductions are a matter of legislative grace the taxpayer bears the burden of proving that reported business_expenses were actually incurred and were ordi- nary and necessary sec_162 rule a indopco inc u s pincite the taxpayer also bears the burden of substantiating expenses underlying his claimed deductions by keeping and producing records sufficient to enable the irs to determine his correct_tax liability sec_1_6001-1 e income_tax regs the failure to keep and present such records counts heavily against a taxpayer’s at- tempted proof rogers v commissioner tcmemo_2014_141 108_tcm_39 in certain circumstances the court may approximate the amount of an expense if the taxpayer proves that it was incurred but cannot substantiate the exact amount 39_f2d_540 2d cir but the taxpayer must provide some basis for such an estimate 85_tc_731 6petitioners contend that there is a substantial possibility that their disal- lowed schedule a expense deductions were attributable to their rental properties as noted in the text they supplied no credible_evidence to substantiate the expenses regardless of the schedule on which they might properly be reportable sec_274 imposes strict substantiation requirements for deductions claimed for expenses of traveling including meals_and_lodging while away from home gifts and entertainment no such deduction is allowed unless the taxpayer substantiates by adequate_records or by sufficient evidence corroborating his own statements the amount time and place and business_purpose for each expendi- ture sec_274 sec_1_274-5t b and c temporary income_tax regs fed reg date a court may not apply the cohan_rule to approximate expenses covered by sec_274 50_tc_823 aff’d per curiam 412_f2d_201 2d cir for petitioners claimed deductions on schedule c in the respec- tive amounts of dollar_figure dollar_figure dollar_figure dollar_figure and dollar_figure with minor exceptions the irs disallowed these deductions for lack of substantiation or because they constituted personal living or family_expenses see sec_262 we sustain these determinations subject_to certain concessions by re- spondent as noted below 7petitioners lumped together on their schedules c expenses allegedly in- curred both in dr lakner’s medical consulting business and in the rental real es- tate activity to the extent that petitioners have substantiated expenses properly reportable on schedule e rather than schedule c we have noted that in the text below a and to substantiate their expenses for and petitioners provided at trial numerous receipts and invoices order confirmation emails canceled checks bank statements and handwritten summaries because these documents were highly disorganized we instructed petitioners to attach to their post-trial briefs spreadsheets linking each claimed deduction to specific substantiating documents in the record the spreadsheets petitioners supplied did not do this in a helpful or plausible way we will briefly address each category of expenses petitioners claim to have paid meals entertainment and business_gifts petitioners claimed deductions for grocery shopping airline and car rental expenses dining out at numerous res- taurants and alleged business_gifts in the form of wine desserts flowers and gift cards these expenses are subject_to the strict substantiation requirements of sec_274 see sanford t c pincite sec_1_274-5t temporary income_tax regs petitioners did not satisfy these requirements because they failed to supply any credible_evidence establishing the time place and or business_purpose for these expenditures professional services petitioners claimed deductions for legal fees ap- praisal fees and accounting fees such expenses are deductible on schedule c only if incurred in connection with the taxpayer’s trade_or_business kenton v commissioner tcmemo_2006_13 test v commissioner tcmemo_2000_ aff’d 49_fedappx_96 9th cir as purported substantiation petitioners supplied canceled checks or invoices showing lawyers or other professionals as payees petitioners have provided no evidence that would enable the court to determine whether the claimed payments had any connection with dr lakner’s consulting business or with ms smith’s rental real_estate activity we therefore sustain the disallowance of all deductions in this category professional and licensing fees to substantiate these expenses petition- ers offered canceled checks made out to the d c treasurer and various medical associations we sustain disallowance of all deductions in this category because petitioners have failed to prove that the canceled checks corresponded to ordinary and necessary expenses of dr lakner’s consulting business maintenance respondent has conceded that petitioners have substantia- ted dollar_figure of deductible maintenance_expenses for the irs properly disal- lowed deductions for the other reported expenses in this category because they were personal were incurred outside the years at issue or were not shown to have any connection with dr lakner’s consulting business or with petitioners’ rental properties miscellaneous property-related expenses petitioners submitted a large stack of canceled checks receipts and invoices showing payments to numerous utility companies service companies insurance_companies and retail stores such as macy’s home depot and bed bath and beyond petitioners do not contend that any of these expenses was properly deductible on schedule c respondent has conceded that petitioners are entitled to a schedule e deduction of dollar_figure for improvements to a rental property in we did not find credible petitioners’ testimony that any of the other reported expenses related to their rental properties as opposed to their personal_residence petitioners have not carried their burden of proving that these expenses were properly deductible see sec_262 tokarski t c pincite property_tax and mortgage interest as purported substantiation for schedule c expenses in and petitioners’ spreadsheet listed real prop- erty taxes and home mortgage interest that they had separately claimed as itemized_deductions on schedule a the irs allowed all of the itemized_deductions that petitioners claimed for and petitioners have failed to substantiate any deductions for property taxes or interest beyond the amounts the irs allowed as itemized_deductions ira contributions as purported substantiation for their schedule c ex- penses petitioners’ spreadsheets listed ira contributions of dollar_figure for and petitioners separately claimed on line of their form_1040 for each year and the irs allowed an ira contribution deduction of dollar_figure petitioners have failed to prove that they are entitled to ira deductions larger than those respond- ent has allowed charitable_contributions as purported substantiation for their schedule c expenses petitioners’ spreadsheet listed charitable_contributions of dollar_figure for petitioners for separately claimed on schedule a and the irs al- lowed a charitable_contribution_deduction of dollar_figure petitioners have failed to prove that they are entitled to a charitable_contribution_deduction for in ex- cess of the amount respondent allowed on schedule a other expenses on their spreadsheet for petitioners listed an ex- pense of dollar_figure for professional training respondent conceded that petitioners substantiated dollar_figure of this expense we find that they have not substantiated the re- mainder b and for and the irs disallowed most of petitioners’ claimed schedule c expense deductions determining that they had substantiated only the following item travel meals entertainment total dollar_figure dollar_figure -0- dollar_figure big_number big_number big_number petitioners have produced no invoices bank statements credit card state- ments or other credible documentation to substantiate the existence or amount of any other schedule c expenses we reject their request that we estimate their deductible expenses because they have provided no evidentiary basis on which we could base such an estimate see 939_f2d_874 9th cir requiring the taxpayer to present credible_evidence from which the court can make an estimate under the cohan_rule aff’g in part rev’g in part tcmemo_1989_390 we find that petitioners have not substantiated schedule c expenses for or in excess of the amounts respondent has allowed v schedule e loss on their schedule e for petitioners reported income of dollar_figure from two rental properties and negative income of dollar_figure from three rental properties producing an alleged rental real_estate loss of dollar_figure they reported the full amount of that loss on line of their form_1040 in the notice_of_deficiency the irs disallowed any deduction for that loss stating your rental loss was disal- lowed because you are not a real_estate_professional and your modified ad- justed gross_income is over dollar_figure the code allows an individual who actively participates in a rental real es- tate activity to deduct against ordinary_income up to dollar_figure of losses from that activity if agi is less than dollar_figure see sec_469 and respondent concedes that ms smith actively participated in the rental real_estate activity dur- ing in light of the adjustments to income that we have sustained however petitioners’ agi for was substantially in excess of dollar_figure thus assum- ing arguendo that petitioners have substantiated their claimed real_estate loss they cannot deduct any portion of it unless ms smith during was a real_estate_professional ie a taxpayer engaged in a real_property business within the meaning of sec_469 sec_469 generally disallows a current deduction for a passive activ- ity loss incurred by an individual sec_469 defines passive_activity to include an activity involving a trade_or_business in which the taxpayer does not materially participate and any rental_activity regardless of whether the taxpay- er materially participates sec_469 but sec_469 provides that the rental real_estate activity of a real_estate_professional is not per se passive see kosonen v commissioner tcmemo_2000_107 79_tcm_1765 sec_1_469-9 c income_tax regs if a real_estate_professional materially participates in a rental real_estate activity that activity is treated as non- passive and the sec_469 disallowance does not apply see shiekh v com- missioner tcmemo_2010_126 99_tcm_1526 fowler v com- missioner tcmemo_2002_223 84_tcm_281 sec_1_469-9 income_tax regs to qualify as a real_estate_professional a taxpayer must among other things perform more than hours of services during the taxable_year in real_property trades_or_businesses in which she materially participates sec_469 the taxpayer must satisfy the 750-hour requirement personally participation in the real_estate activity by the taxpayer’s spouse is not attributed to the taxpayer for this purpose oderio v commissioner tcmemo_2014_39 t c m cch sec_1_469-9 income_tax regs moreover personal services performed as an employee shall not be treated as performed in real_property trades_or_businesses unless such employee is a 5-percent_owner in the employer sec_469 during ms smith was employed by realtor cathie gill inc where she supervised the firm’s property management services there is no evidence that she held a ownership_interest or any ownership_interest in that firm her services rendered as an employee therefore do not count in determining whether she met the 750-hour requirement petitioners have produced no documentary_evidence of any kind to substan- tiate the number of hours that ms smith or dr lakner devoted to their rental properties ms smith did not testify at trial dr lakner testified that his wife spent to hours annually and that he spent another big_number to big_number hours annually managing those properties there was no documentary support for these assertions which were at best ballpark guesstimates and we did not find dr lakner’s testimony credible see 135_tc_365 tokarski t c pincite finding as we do that neither petitioner was a real estate professional during we sustain respondent’s disallowance of the dollar_figure schedule e loss deduction petitioners claimed for that year vi nols on line of their returns captioned other income petition- ers claimed net_operating_loss_carryover s in the following amounts year nol dollar_figure big_number big_number big_number big_number respondent disallowed these nol deductions entirely and properly so a taxpayer may generally deduct as an nol for a taxable_year an amount equal to the sum of the nol carryovers and carrybacks to that year sec_172 a taxpayer claiming an nol deduction must file with his return a concise state- ment setting forth the amount of the nol deduction claimed and all mater- ial and pertinent facts relative thereto including a detailed schedule showing the computation of the nol deduction sec_1_172-1 income_tax regs 8petitioners did not claim any rental real_estate losses on their returns for and did not include a schedule e in any of those returns they have not substantiated for any of those years rental real_estate expenses in excess of the schedule e income that respondent has determined thus they are not entitled to any deductions for real_estate losses for or petitioners bear the burden of establishing both the existence of nols for prior years and the nol amounts that may properly be carried forward to the years at issue see rule a 115_tc_605 the dollar_figure nol deduction petitioners claimed for allegedly repre- sented the carryforward of losses petitioners had incurred in petition- ers did not attach to their return the explanatory statement required by the regulations they offered no evidence that they had sustained bona_fide losses during apart from submitting copies of the tax returns on which they reported those losses merely claiming a loss does not substantiate it see coburn v commissioner tcmemo_2014_113 107_tcm_1551 a tax- payer’s return is merely a statement of the taxpayer’s position and cannot be used to substantiate a deduction see also 139_tc_418 aff’d 552_fedappx_250 4th cir the nol carryforward deductions petitioners claimed for re- sulted from the dollar_figure nol carryforward from to which they were not entitled and the negative agi they reported for in the aggregate amount of dollar_figure as a result of the adjustments we have sustained requiring inclusion of unreported income and disallowing petitioners’ claimed schedule c loss deductions petitioners will have substantial positive agi for each year at is- sue because they have no operating losses to carry forward the irs properly disallowed all of their claimed nol deductions vii additions to tax sec_6651 provides for an addition_to_tax of of the tax required to be shown on the return for each month or fraction thereof for which there is a failure_to_file the return not to exceed in toto the parties have stipulated that petitioners’ returns were filed late respondent has thus met his burden of production under sec_7491 a taxpayer who files his return late is liable for the sec_6651 addi- tion to tax unless he shows that his failure was due to reasonable_cause and not due to willful neglect 469_us_241 petition- ers first assert that dr lakner’s deployment overseas constitutes reasonable_cause for their failure_to_file timely but dr lakner returned to the united_states from overseas deployment in petitioners have offered no cogent explanation why his overseas military service during and prior years rendered them unable to file timely returns for the first of which was not due for filing until date alternatively petitioners contend that significant health problems made it impossible for them to file their returns on time petitioners introduced no cred- ible evidence to support this assertion they insisted throughout the trial that they actively engaged in a medical consulting business and a rental real_estate activity during the tax years at issue their returns for each year were prepared by a certified_public_accountant cpa at physicians’ tax service if ill health did not prevent petitioners from managing their commercial affairs we find no basis for concluding that ill health prevented them from furnishing information timely to their return preparer see poppe v commissioner tcmemo_2015_205 110_tcm_401 rejecting ill health defense where taxpayer as a se- curities trader engag ed in activities that required a high degree of concentration and ability to analyze and organize information hardin v commissioner tcmemo_2012_162 103_tcm_1861 rejecting ill health de- fense where taxpayer was able to manage his business affairs including managing two rental properties selling one of them and being employed full time in sum we conclude that petitioners have failed to carry their burden of proving that they had reasonable_cause for failing to file their returns on time we thus sustain the addition_to_tax under sec_6651 for each year viii penalties in his post-trial brief respondent conceded that petitioners are not liable for fraud penalties under sec_6663 as the irs had determined in the notice of de- ficiency for and but respondent contends that petitioners are liable for accuracy-related_penalties under sec_6662 for all five years we agree with that submission the code imposes a penalty on the portion of any underpayment_of_tax attributable to n egligence or disregard of rules and regulations or a ny sub- stantial understatement of income_tax sec_6662 and b and negli- gence includes any failure to make a reasonable attempt to comply with the in- ternal revenue laws sec_6662 an understatement of income_tax is substan- tial if it exceeds the greater of dollar_figure or of the tax required to be shown on the return sec_6662 under sec_7491 respondent bears the burden of production with re- spect to the liability of any individual for any penalty see 116_tc_438 respondent has satisfied his burden of production as to negligence by showing that petitioners for each year failed to report all of their taxable_income and failed to maintain any meaningful books_and_records for their business activities see sec_1_6662-3 income_tax regs in graev v commissioner t c __ date supplementing and overruling in part 147_tc_460 we held that respondent’s burden of pro- duction under sec_7491 also includes establishing compliance with sec_6751 that section requires that penalties be personally approved in writing by the immediate supervisor of the individual making such determination see 851_f3d_190 2d cir aff’g in part rev’g in part tcmemo_2015_42 for and the record includes copies of civil penalty approval forms signed by the immediate supervisor of the revenue_agent who examined petitioners’ returns approving imposition of sec_6662 penalties against pe- titioners for those years for and the record includes copies of a civil penalty approval form signed by the immediate supervisor of the revenue_agent who examined petitioners’ returns approving imposition of sec_6663 fraud penalties and in the alternative sec_6662 accuracy-related_penalties against petitioners for those years we accordingly find that respondent has satis- fied his burden of production to show compliance with sec_6751 no penalty is imposed with respect to any portion of an underpayment if the taxpayer acted with reasonable_cause and in good_faith with respect thereto see sec_6664 the taxpayer generally bears the burden of proving reasonable cause and good_faith higbee t c pincite reasonable_cause can be shown by good-faith reliance on the advice of a qualified_tax professional sec_1_6664-4 c income_tax regs whether the taxpayer actually relies on the advice and whether such reliance is reasonable present questions of fact neona- tology assocs p a v commissioner 115_tc_43 aff’d 299_f3d_221 3d cir sec_1_6664-4 income_tax regs for reliance to be reason- able the taxpayer must among other things have provided necessary and accu- rate information to the adviser neonatology assocs p a t c pincite petitioners contend that they made a good-faith effort to determine their federal_income_tax liabilities correctly because they hired a cpa to prepare their returns petitioners did not call the cpa to testify at trial they offered no evi- dence to show that he was a competent adviser or that they actually relied on him in good_faith all of the adjustments we have sustained in this case involve unreported income and unsubstantiated deductions assuming arguendo that petitioners’ cpa was competent it is obvious that petitioners did not supply him with all necessary and accurate information needed to prepare their returns properly ibid we conclude the reasonable_cause exception does not apply and that all of the underpayments as redetermined are attributable to negligence al- ternatively in the event the rule_155_computations show that the various understatements of income_tax exceed the greater of dollar_figure or of the amounts required to be shown on the respective returns we conclude that those underpay- ments are attributable to substantial understatements of income_tax for which reasonable_cause has not been shown to reflect the foregoing decisions will be entered under rule


internal_revenue_service p o box cincinnati om department of the treasury number release date date novambar legend w organization x corporation scholarship program adninistrator employer identification nuzber contact person - contact telephone number id number vil to a private is classified as of the code and that it of the internal_revenue_code of the internal_revenue_code or a similar dear we have considered your request for advance approval of your employer-related grant-making program under sec_4945 dated december our records indicate that w was recognized as exempt from faderal incone tax under section s01 c foundation as defined in section dollar_figure a your letter indicates that w will opezate a grant-making program called is to make scholarship awards under an employer-related the purpose of grant program to benefit the dependent_children of employees at x is help eligible individuals solely for the purpose of making it financially possible to obtain an education the scholarships will be administered by z which is an exempt_organization under sec_501 organization of x who have a minimum of one year_of_service with x of the application no other eligibility requirements related to deadline date dependent_children are defined as naturally and legally employment with x adopted children or stepchildren age or younger living in the employee s household or primarily supported by the employee persons eligible for the scholarship are dependent_children school seniors or graduates who plan to enroll or students who are already enrolled in four-year college or university ox vocational-technical school and the minimum standards for admission to an educational_institution for which the scholarships are available the educational_institution must normally maintain a regular faculty and curriculum and normally have a regularly enrolled body of students in attendance at the place where its educational activities are carried on within the meaning of sec_170th a a who are high a full-time undergraduate course of study at an accredited two or meet y will be awarded to dependent_children of full-time employees there will be as the selection w may require the but will consist of applicants will be required to w may reduce but may not increase the number of and only the selection committee can vary the amounts of scholarships may be selection committee members will not be in a position to a former employee of w or x the selection of individual scholarship recipients will be made by a selection committee designated by awards will be made solely in the order recommended by scholarships awarded scholarships recommended by the selection committee granted to dependents of exempt and non-exempt employees based on the number of applications submitted in each employee group selection committee to forward to the selections made by the selection committee for the purpose of verifying the selection criteria followed by the selection committee in considering the candidates and in making its selections comply with these scholarship award procedures committee will be totally independent of w and x except for the participation on the committee derive a private benefit directly or indirectly no member of the selection committee will be individuals knowledgeable in the education field so that they have the background and knowledge to properly evaluate the potential applicants the criteria for selecting scholarship xecipients are as follows selection of recipients will be based on objective standards completely unrelated to the employment of the applicants or their parents guardians or to x's line_of_business the objective standards may include prior academic performance and future potential performance on tests designed to measure ability and aptitude for higher education leadership and participation in school and community activities work experience unusual personal or family circumstances reconmendations from instructors or other persons unrelated to the candidate and conclusions drawn from personal interviews as to motivation and character financial need may be considered in the future as a standard for determining the recipient submit a complete biographical record supporting materials including academic report information relating to work history community involvement statement of educational and career aspirations and goals a personal statement and letters of reference applicants will be solicited through xs newsletters emails and or intranet directed to all full-time employees of x identified as the grantor of the scholarships scholarships will be made by the selection committee or w scholarships will be available for all courses of study conditions on what the recipient must study in order to receive the scholarship each recipient will receive a letter sent by which will outline the terms ang conditions of the scholarship communicate his her acceptance by returaing a signed copy of the letter accepting the terms and conditions of the scholarship to z the terms’ and conditions will include the specific purpose of the scholarship its duration the total amount of the scholarship requirements for submitting reports and documentation including due dates for submitting reports and documents the xecipient will be advised in the letter that the amounts granted may only be used for his her tuition and fees required for enrollment the educational_institution and including room and board or attendance at fees dooks supplies and equipment required for courses of instruction at the educational_institution the recipient will be told if any portion of the scholarship is not so used it must be returned to w scholarships may be paid directly to the recipient by z educational_institution on behalf of to use the grant to pay the recipient’s expenses only if the recipient is enrolled in good standing at the educational_institution an educational_institution unless the educational_institution agrees to or to the applicable no payment will be made the recipient will be required to w will be the organization public announcements of there will be no the recipient if a final report will be it bas received the recipient's this confirmation and verification procedure will not be z will confirm a recipient's enrollment and arrange to receive a report of the recipient's courses taken and grades received in each academic period the report must be verified by the educational_institution attended by the recipient and will be obtained at least once a year obtained upon completion of the course of study at the educational_institution conducted if the scholarship is awarded directly to the educational_institution w will review each report submitted by and or tne recipient to determine if purposes are being or have been fulfilled the scholarship w will look into any questions that have been raised requiring further examination or investigation the investigation will occur when the reports indicate any or all of the scholarship funds are being used for purposes other than the intended purpose for the scholarship this will include tne failure to submit reports after a reasonable_time has elapsed from their due_date w if determines any part of the scholarship has been used for improper purposes w wil take all reasonable and appropriate steps to recover diverted funds ot insure the restoration of diverted funds and the dedication of the other scholarship funds held by the grantee w determines any part of the tf scholarship has been used for improper purposes and the recipient has not w will withhold further payments on previously diverted scholarship funds the pazticular scholarship until assurances that future diversions will not occur any delinquent reports have been submitted and it nas required the recipient to take extraordinary precaution to prevent future diversion from occurring determines any part of the scholarship has been used for improper purposes and the recipient has previously diverted scholarship funds w will withhold further payment until the three preceding conditions have been met and the diverted funds have been recovered or restored w will retain records pertaining to all scholarships to individuals these vecords wil include all information w secures to evaiuate the qualifications of potential recipients identification of recipients specification of the amount and purpose of each scholarship and any follow-up information which w obtains in complying with the requirements for obtaining reports and investigating jeopardized grants once the scholarship is awarded it will not be terminated if the recipient’s parent ox guardian terminates employment with x there will be no express or implied suggestion condition or requirement that the recipient's parent or guardian render future services incentive to recruit employees renewal of the scholarship will be determined on a case by case basis awards may be senewed up to three years or until a bachelor's degree is earned which ever occurs first provided the predetermined cumulative grade point average has been maintained the renewal is not dependent on the recipient’s parent or guardian still being employed by x sec_4945 and expenditures made by a private_foundation of the code provides that the term taxable_expenditure sec_4945 means any anount paid_or_incurred by a private_foundation as a grant to an individual for travel study or other similar puzposes by euch individeal unless such grant satisfies the requirements of subsection g sec_4945 of the code provides that sec_4945 shall not apply to individual grants awarded on an objective and nondiscriminatory basis pursuant to a procedure approved in advance if it is demonstrated tha‘ of the code impose certain excise_taxes on taxable the program will not be a means of the b an educational_organization described in section the grant constitutes a scholarship or fellowship_grant which is subject_to the provisions of sec_117 and is ta be used for study pincite tb a gi the grant constitutes a prize or award which is subject_to the provisions of sec_74 b is selected from the general_public or the purpose of the grant is to achieve a specific objective produce a report or similar product or improve or enhance a literary artistic musical scientific teaching or other similar capacity skill talent of the grantee if the recipient of such prize or award or sec_53 c a private_foundation must demonstrate that of the regulations provides that to secure approval its grant procedure includes an objective and nondiscriminatory selection process such procedure is reasonably calculated to result in performance by grantees of the activities that the grants are intended to finance and grantees performed activities that the grants are intended to finance iif the foundation plans to obtain reports to determine whether the if a child of c b of the code proc the recipient will not a scholarship grant that meets the provisions of sets forth guidelines to be used in an employee of the particular employer to waich as that section read before the tax reform act of a private foundation’s program satisfies the seven condirions set proc and meets the the service will assume the grants revproc_76_47 determining whether a grant made by a private_foundation under an employer- related program to the program relates is seczion a forth in sections dollar_figure through dollar_figure of rev percentage_test described in sec_4 mee the provisions of sec_127 as that section read before the tax_reform_act_of_1986 you have agreed that procedures in awarding grants under your program will be in compliance with sections dollar_figure through dollar_figure of rev without regard to the amendments to sec_117 made by the tax_reform_act_of_1986 in particular the selection of individual grant recipients will be made by a selection committee the members of which are totally independent and separate from the private_foundation the foundation's creator and the relevant employer the grants will not be used as a means of inducement to recruit empioyees nor will a grant be terminated if the employee leaves the employer would be of particular benefit to the relevant employer or to tne foundation section dollar_figure of rev_proc provides a percentage_test guideline a program that awards grants to children of employees states in the case of a particular employee the program meets the percentage_test if either of the following tests are met the number of grants awarded under that program in any year to such children do not exceed percent of the number of employees’ children who were eligible were applicants for such grants and were considered by the selection committee in selecting the recipients of grants in that year year to such children dees not exceed percent of the number of employees’ children who can be shown to be eligible for grants whether or not they submitted an application in that year you have agreed that your program wil meet the requirements of either the percent or a program that awards grants to children of employees of or the number of grants awarded under the program in any percent percentage_test of section dollar_figure applicable to a course of study that a particular employer be restricted in it it is based is further c b proc records should be maintained to show that you meet the applicable_percentage test of sec_4 this determination is issued with the understanding that in applying the percent test applicable to employees’ children set forth in rey you will include as eligible only those children who meet the eligibility standards described in rev_proc this determination will remain in effect as long as the procedures in awarding grants under your program remain in compliance with sections dollar_figure through dollar_figure of rev_proc without regard to the amendments to section i17 a made by the tax_reform_act_of_1986 if you enter into any other program covering the same individuals the percentage_test of rev_proc must be met in the aggregate based on the information submitted and assuming your award programs will be conducted as proposed your procedures for granting the awards comply with the requirements contained in sec_4945 q of the code and that awards granted in accordance with such procedures will not constitute taxable_expenditures within the meaning of sec_4945 in addition we have determined that awards made under your procedures are excindable from the gross_income of the recipients subject_to the limitations provided by sec_117 of the code this determination is conditioned on the understanding that there will be no material_change in the facts upon which it conditioned on the premise that no grants will be awarded to foundation managers or members of the selection committee ox for a purpose that is inconsistent witn the purpose described in sec_170 b the approval of your employer-related grant-making program is approval this determination only covers the grant programs described above thus approval shall apply to subsequent qrant programs only as long as the standards and procedures under which they are conducted do not differ materially from those described in your request any funds you distribute to individuals must be made on a true charitable basis in furtherance of the purposes for which you are organized therefore you should maintain adequate_records and histories so that any or all grant distributions can be substantiated upon request by the internal_revenue_service this detexmination is directed only to the organization that requested it sec_6110 of the code provides that it may not be used or cited as precedent you must report any future changes in your grant making procedures keep a copy of this letter in your permanent records if you have any questions please contact the person whose nane and telephone number are shown above robert choi director exempt_organizations rulings and agreements sincerely yours of the code a one-time please a


department of the treasury internal_revenue_service p o box irs cincinnati oh number release date uil number dear date date employer id number contact person id number contact telephone number form you must file tax years this letter is our final_determination that you don’t qualify for tax-exempt status under sec_501 of the internal_revenue_code the code recently we sent you a proposed adverse determination in response to your application the proposed adverse determination explained the facts law and basis for our conclusion and it gave you days to file a protest because we didn’t receive a protest within the required days the proposed determination is now final because you don’t qualify as a tax-exempt_organization under sec_501 of the code donors can’t deduct contributions to you under sec_170 of the code you must file federal_income_tax returns for the tax years listed at the top of this letter using the required form also listed at the top of this letter within days of this letter unless you request an extension of time to file we’ll also notify the appropriate state officials of our determination by sending them a copy of this final letter and the proposed determination_letter under sec_6104 of the code you should contact your state officials if you have questions about how this determination will affect your state responsibilities and requirements we'll make this final adverse determination_letter and the proposed adverse determination_letter available for public inspection as required under sec_6110 of the code after deleting certain identifying information please read the enclosed notice notice of intention to disclose and review the two attached letters that show our proposed deletions if you disagree with our proposed deletions follow the instructions in the notice on how to notify us if you agree with our deletions you don’t need to take any further action catalog number 47632s letter rev if you have questions about this letter you can contact the person listed at the top of this letter if you have questions about your federal_income_tax status and responsibilities call our customer service number pincite-829-1040 tty for deaf or hard of hearing or customer service for businesses pincite-829-4933 sincerely stephen a martin director exempt_organizations rulings and agreements enclosures notice redacted letter proposed adverse determination under sec_501 c redacted letter final adverse determination under sec_501 - no protest letter rev catalog number 47632s department of the treasury internal_revenue_service cincinnati oh legend x state y date z dollars amount dear date date employer id number contact person id number contact telephone number contact fax number uil we considered your application_for recognition of exemption from federal_income_tax under sec_501 of the internal_revenue_code the code based on the information provided we determined that you don’t qualify for exemption under sec_501 of the code this letter explains the basis for our conclusion please keep it for your records issues do you qualify for exemption under sec_501 of the code no for the reasons stated below facts you incorporated in the state of x as a non-profit corporation on y your articles of incorporation state that you are formed for the cultivation and promotion of civic and community improvements to promote social interaction with members and to promote the sport of fishing in your region you provided a copy of an amendment to your articles which includes a statement that you are organized exclusively for charitable purposes including for such purposes the making of distributions to organizations that qualify as exempt_organizations under sec_501 of the code you described your activities as operating exclusively of the cultivation and promotion of civic and community improvements to promote foster and afford the opportunity for social interaction and to promote the sport of fishing in your region you went on to say that your primary function is to perform fundraising activities to provide funding for local civic purposes and developments as well as to provide scholarship funds for individuals hoping to obtain a college education you raise funds by holding an annual fishing tournament individuals wishing to participate in your tournament can purchase a ticket the ticket allows them to participate in the weekend-long fishing competition participants compete for prizes in various fishing categories children do not need to purchase a ticket to enter you will also seek sponsorships and donations you assert that you spend all your time on this fishing tournament as it take sec_12 months of planning when we asked for more detail about your activities you described your activities as the gathering of fishermen to compete against one another there are designated categories of fish and each category is awarded trophies for specified places there are also drawings of ticket stubs for a chance at winning monetary prizes and donated door prizes all ticket holders also receive a cap and a free seafood lunch you hire two non-members to perform the duties of weighmaster and fish cleaner for the three-day event the fish are then used for the seafood lunch you promote your fishing tournament through the local tourism commission posters radio ads tv spots and bits in various publications you submitted a copy of one of the posters there is no mention of the scholarship in the advertisement the poster has a lot of information about the tournament including the dates location various categories for trophies and the prizes you also submitted a sample of one of the tickets for admission to the tournament the tickets have a lot of the same information as the poster but also does not mention the scholarship or other charitable giving the scholarship you intend to fund will be z dollars the cash prizes you give to the top winners of the fishing tournament total three times the amount given for the scholarship you also give out many trophies for various categories you indicated that you spend about percent of your funds on the fishing tournament and the rest goes toward your scholarship this is not in alignment with the budgets you provided the budgets indicate that your yearly revenue is derived from one annual fishing tournament and about percent of your revenue is used for the scholarship most of your expenses are related to the fishing tournament law sec_501 of the code provides for exemption from federal_income_tax for organizations organized and operated exclusively for educational_purposes sec_1_501_c_3_-1 states that to be exempt as an organization described in sec_501 of the code an organization must be both organized and operated exclusively for one or more of the purposes specified in such section if an organization fails to meet either the organizational_test or the operational_test it is not exempt sec_1_501_c_3_-1 provides that an organization will be regarded as operated exclusively of one or more exempt purposes only if it engages primarily in activities which accomplish one or more of such exempt purposes specified in sec_501 of the code an organization will not be so regarded if more than an insubstantial part of its activities is not in furtherance of an exempt_purpose sec_1_501_c_3_-1 defines charitable as including the following purposes relief of the poor and distressed or of the underprivileged advancement of religion advancement of education or science erection or maintenance of public buildings monuments or works lessening of the burdens of government and promotion of social welfare by organizations designed to accomplish any of the above purposes or i to lessen neighborhood tensions ii to eliminate prejudice and discrimination iii to defend human and civil rights secured_by law or iv to combat community deterioration and juvenile delinquency revrul_77_366 c b states that a nonprofit organization that arranges and conducts wintertime ocean cruises during which activities to further religious and educational_purposes are provided in addition to extensive social and recreational activities is not operated exclusively for exempt purposes and does not qualify for exemption under sec_501 of the code letter rev catalog number 47630w in 326_us_279 the supreme court held that the presence of a single non-exempt purpose if substantial in nature will destroy a claim for exemption regardless of the number or importance of truly exempt purposes application of law to qualify for exemption as described in sec_501 of the code you must be both organized and operated exclusively for one or more exempt purposes as explained in sec_1_501_c_3_-1 you are not operating exclusively for exempt purposes described under sec_501 because your primary activity is holding an annual fishing tournament for any interested person because your activities are primarily recreational in nature and not exclusively charitable as defined in sec_1_501_c_3_-1 you do not qualify for exemption you are not described in sec_1_501_c_3_-1 because you are operating for the substantial non-exempt purpose of operating a fishing tournament you spend percent of your time conducting activities related to the fishing tournament approximately percent of your revenue is designated for a scholarship most of your expenses are for prizes awards advertising and various supplies associated with the fishing tournament none of the advertisements you submitted mention the scholarship to prospective fisherman your activities are like those described in rev_rul you spend a majority of your time and funds to conduct an annual fishing tournament and any educational or charitable activities are incidental to your social and recreational activities you are like the organization described in better business bureau of washington d c inc because the presence of a single non-exempt purpose if substantial in nature will destroy a claim for exemption regardless of the number or importance of truly exempt purposes all of your time and most of your funds are devoted to a three-day annual fishing competition although you intend to use a small portion of the funds raised to provide a scholarship most of your efforts and income are directed towards the fishing tournament because your fishing tournament is a substantial non-exempt purpose you are not exempt under sec_501 of the code conclusion based on the facts and information provided you are operated for the substantial non-exempt purpose of holding an annual fishing tournament any educational or charitable activities you conduct are incidental to your non-exempt recreational purposes therefore you do not qualify for exemption under sec_501 of the code if you don’t agree you have a right to file a protest if you don’t agree with our proposed adverse determination to do so you must send a statement to us within days of the date of this letter the statement must include e e e your name address employer_identification_number ein and a daytime phone number acopy of this letter highlighting the findings you disagree with an explanation of why you disagree including any supporting documents letter rev catalog number 47630w e e e the law or authority if any you are relying on the signature of an officer director trustee or other official who is authorized to sign for the organization or your authorized representative one of the following declarations for an officer director trustee or other official who is authorized to sign for the organization under penalties of perjury i declare that i examined this protest statement including accompanying documents and to the best of my knowledge and belief the statement contains all relevant facts and such facts are true correct and complete for authorized representatives under penalties of perjury i declare that i prepared this protest statement including accompanying documents and to the best of my knowledge and belief the statement contains all relevant facts and such facts are true correct and complete your representative attorney certified_public_accountant or other individual enrolled to practice_before_the_irs must file a form_2848 power_of_attorney and declaration of representative with us if he or she hasn’t already done so you can find more information about representation in publication practice_before_the_irs and power_of_attorney we'll review your protest statement and decide if you provided a basis for us to reconsider our determination if so we’ll continue to process your case considering the information you provided if you haven’t provided a basis for reconsideration we’ll forward your case to the office of appeals and notify you you can find more information about the role of the appeals_office in publication how to appeal an irs decision on tax- exempt status if you don’t file a protest within days you can’t seek a declaratory_judgment in court at a later date because the law requires that you use the irs administrative process first sec_7428 of the code where to send your protest please send your protest statement form_2848 if needed and any supporting documents to the applicable address u s mail street address for delivery service internal_revenue_service eo determinations quality assurance room p o box cincinnati oh internal_revenue_service eo determinations quality assurance main street room cincinnati oh you can also fax your statement and supporting documents to the fax number listed at the top of this letter if you fax your statement please contact the person listed at the top of this letter to confirm that he or she received it letter rev catalog number 47630w if you agree if you agree with our proposed adverse determination you don’t need to do anything if we don’t hear from you within days we’ll issue a final adverse determination_letter that letter will provide information on your income_tax filing_requirements you can find all forms and publications mentioned in this letter on our website at www irs gov formspubs if you have questions you can contact the person listed at the top of this letter sincerely stephen a martin director exempt_organizations rulings and agreements enclosure publication letter rev catalog number 47630w


t c memo united_states tax_court mazhar tabrezi f k a agha hussain and sajida razvi commissioner of internal revenue respondent petitioners v docket no filed date richard d grossman for petitioners kathleen c schlenzig for respondent memorandum opinion goeke judge respondent determined a deficiency in petitioners’ federal_income_tax of dollar_figure and an accuracy- related penalty of dollar_figure pursuant to sec_6662 after 1unless otherwise indicated all section references are to the internal_revenue_code and all rule references are to the tax continued concessions the remaining issues for decision are whether respondent has the burden_of_proof in this case under rule a whether petitioners must recognize cancellation of indebtedness cod income under sec_61 of dollar_figure and whether petitioners are liable for the accuracy-related_penalty under sec_6662 we hold that respondent has the burden_of_proof in this case petitioners do not have to recognize cod income because respondent failed to meet his burden of proving that they were solvent on the date immediately preceding the discharge of the debt calculation date and as a result there is no accuracy-related_penalty under sec_6662 continued court rules_of_practice and procedure 2on brief respondent concedes that petitioners are not liable for cod income attributable to the discharge of three debts as determined in the notice_of_deficiency because that income is excludable under sec_108 however respondent also takes the position that petitioners must recognize cod income of dollar_figure from discharge of a fourth debt that was not included in the notice_of_deficiency in addition respondent continues to assert that petitioners are liable for the accuracy-related_penalty under sec_6662 respondent also determined in the notice_of_deficiency that petitioners had gross_income of dollar_figure in dividends received by sajida razvi from her mellon investment services account petitioners did not raise this item_of_income in their petition or otherwise argue against it throughout the litigation process we therefore consider petitioners to have conceded their liability on the dividend issue background petitioners who are husband and wife resided in glendale heights illinois at the time of filing their petition between date and date petitioners signed notes as the obligors in the aggregate principal of dollar_figure and mortgages securing those notes petitioner sajida razvi’s brother syed razvi asked petitioners to sign the documents as a personal favor to him petitioners signed the documents without extensively reviewing them each note was used to purchase a different property all condominiums and was secured_by a mortgage there was a covenant in most of the notes and the accompanying mortgages obligating either petitioner to pay the full amount of principal and accrued interest of the debt petitioners also signed u s department of housing and urban development hud settlement statements in connection with each mortgage the principal_amount due under each of the notes was over dollar_figure unknown to petitioners the mortgages were obtained by fraud because the fair_market_value of the properties securing the mortgages was substantially inflated and in some cases was in fact far less than the face_amount of the notes that petitioners signed in date mr razvi was indicted for participating in a scheme with others to defraud and obtain more than dollar_figure million of mortgage loan proceeds from various banks and mortgage lending institutions by means of materially false and fraudulent pretenses petitioners although mentioned in the indictment were not charged with any crime regarding their involvement in mr razvi’s fraudulent scheme and there is no evidence in the record that petitioners were aware of the fraudulent scheme thereafter most of the properties securing the mortgages were foreclosed upon in separate actions with petitioners named as defendants the sheriff then sold the properties in a judicial sale pursuant to the decree of foreclosure after the sale the illinois state court where the actions were brought issued orders approving the sales some sales resulted in deficiencies ie the proceeds were less than the judgment amount in those cases the plaintiffs usually a bank or other type of commercial lender obtained an in rem deficiency judgment3 against the properties but did not obtain an in personam judgment against petitioners other sales resulted in zero deficiencies and the a judgment in rem affects the interests of all persons in designated property whereas a judgment in personam imposes a personal liability or obligation on one person in favor of another 357_us_235 it is characteristic of a judgment in rem that it operates on a thing or status rather than against the person and binds all persons to the extent of their interest in the thing whether or not they were parties to the proceedings c j s judgments sec_1054 outstanding debts were extinguished during four of the notes were partially discharged by the following lenders creditor initial note amount of debt amount canceled household dollar_figure dollar_figure finance countrywide big_number big_number home loans superior big_number big_number federal bank washington big_number big_number mutual the household finance debt was canceled on date and the superior federal bank debt was canceled on date the remaining debts listed were canceled in petitioners did not include the amounts of debts canceled as income in their joint federal_income_tax return petitioners reported a total income in of dollar_figure comprising mostly wages on date respondent issued petitioners a notice_of_deficiency for the taxable_year respondent determined that the amounts of canceled debt from countrywide home loans superior federal bank and washington mutual should have been included in petitioners’ gross_income respondent did not include the canceled debt of dollar_figure from household finance in the notice_of_deficiency but raised it at trial through the stipulation of related exhibits without explaining that it was a new_matter in the posttrial brief respondent conceded the discharge of the other three mortgages did not result in cod income because petitioners were insolvent on the calculation dates and argued only for the inclusion of the household finance debt in petitioners’ income also respondent conceded that he failed to include the household finance mortgage in the notice_of_deficiency respondent did not attempt to amend any of his pleadings discussion a petitioners’ argument that respondent’s addition of the fourth adjustment increases the overall deficiency petitioners question whether respondent met the requirements of sec_6214 which provides sec_6214 determinations by the tax_court a jurisdiction as to increase of deficiency additional_amounts or additions to the tax -- t he tax_court shall have jurisdiction to redetermine the correct amount of the deficiency even if the amount so redetermined is greater than the amount of the deficiency and to determine whether any additional_amount or any addition to the tax should be assessed if claim therefor is asserted by the secretary at or before the hearing or a rehearing although respondent argued on brief that the household finance mortgage gave rise to cod income without seeking to amend his pleadings see 243_f2d_954 4th cir affg 26_tc_528 koufman v commissioner tcmemo_1977_225 mazzoni v commissioner tcmemo_1970_37 supplemented tcmemo_1970_144 affd 451_f2d_197 3d cir 25_bta_946 respondent conceded that the cod income from the discharge of the three mortgages countrywide home loans superior federal bank and washington mutual identified in the notice_of_deficiency qualified under the exception to cod income provided in sec_108 because petitioners were insolvent on the dates those mortgages were discharged the new adjustment claimed by respondent to be cod income is dollar_figure while the three mortgages respondent treated in the notice_of_deficiency as giving rise to cod income totaled dollar_figure therefore since there is no assertion of an overall increase in deficiency this case does not fall under sec_6214 however by claiming that an amount arising from a different mortgage is cod income respondent has raised a new_matter and therefore under our rules has the burden_of_proof in regard to that claim b burden_of_proof gross_income includes income from the cancellation of indebtedness sec_61 however an exception to the inclusion of cod income in gross_income is provided for taxpayers who are insolvent at the time of cancellation of indebtedness sec_108 the determination of insolvency is based on the taxpayer’s liabilities and assets immediately before the discharge of debt sec_108 petitioners claim that they were insolvent on the calculation date normally the burden_of_proof is on the taxpayers rule a accordingly the burden of establishing that the insolvency_exception applies is generally placed on the taxpayers traci v commissioner tcmemo_1992_708 bressi v commissioner tcmemo_1991_651 affd 989_f2d_486 3d cir in order to prove insolvency and therefore qualify for the exception under sec_108 a taxpayer must prove by a preponderance_of_the_evidence that he or she will be called upon as of the date of cancellation of the debt to pay an obligation claimed to be a liability and that the total amount of liabilities so proved exceed the fair_market_value of his or her assets 192_f3d_844 9th cir affg 109_tc_463 there are exceptions to the general_rule that the taxpayers bear the burden_of_proof see rule a one of those exceptions is if the commissioner raises a new_matter id if the new_matter is allowed to be raised rule a requires that the commissioner bear the burden_of_proof 112_tc_183 the commissioner raises a new_matter when he attempts to rely on a basis that is beyond the scope of the original deficiency determination id in particular a new_matter is raised when the commissioner’s new_theory ‘either alters the original deficiency or requires the presentation of different evidence ’ id pincite quoting 93_tc_500 thus we conclude that respondent has raised a new_matter respondent went beyond the scope of the original deficiency determination by arguing in his posttrial brief that the discharge of the household finance mortgage gave rise to cod income the deficiency determined in the notice_of_deficiency was based on cod income from the discharge of three other mortgages different evidence is required to show that the household finance mortgage generated cod income because the date of its cancellation and thus the date for determining petitioners’ solvency for purposes of sec_108 and d differs from the date on which any of the other three mortgages was canceled therefore respondent bears the burden_of_proof and must show by a preponderance_of_the_evidence that petitioners were solvent under sec_108 as of the calculation date for the reasons discussed below we conclude that respondent has failed to meet his burden_of_proof c respondent’s failure to meet his burden_of_proof in order to establish petitioners’ solvency as of the calculation date respondent must prove by a preponderance_of_the_evidence that the fair_market_value of petitioners’ assets then exceeded their liabilities see merkel v commissioner 109_tc_483 to exclude from that calculation any portion of an obligation claimed by petitioners to be a liability respondent must prove that it is more probable than not that petitioners would not be called upon to pay that portion of the obligation claimed id respondent has failed to prove that the value of petitioners’ assets exceeded their liabilities as of the calculation date of date the record shows that petitioners had dollar_figure in assets with known values and respondent concedes that petitioner had dollar_figure in liabilities on the calculation date respondent claims that petitioners failed to introduce evidence with respect to the values of several of their assets and therefore failed to prove that they were insolvent however the burden_of_proof is on respondent therefore respondent had the burden to produce evidence that petitioners were not insolvent respondent has not done so petitioners argue that under illinois state law they were still personally liable for several of their mortgage debts as of the calculation date of date because the foreclosure sales that took place with respect to those debts had not yet been approved by the illinois state court see eg citicorp sav v first chicago trust co n e 2d ill app ct 27a ill law and practice mortgages sec_87 quoting morgan v sherwood ill since we have decided that respondent had the burden_of_proof in this case and failed to meet his burden it is unnecessary for us to decide whether petitioners’ liabilities on the calculation date were greater than the amount respondent conceded conclusion because he introduced a new_matter respondent has the burden under rule a of proving that petitioners were insolvent rule a respondent failed to meet that burden we therefore hold that no cod income is includable in petitioners’ gross_income for the year in suit in addition because we find there is no cod income there is no addition_to_tax to reflect petitioners’ concession of the dividend income and the foregoing decision will be entered under rule