Court Opinion

ID: 9942725
Source: CourtListenerOpinion
Date Created: 2024-02-21 20:03:30.875718+00
Date Added: 2024-06-11T13:42:23.933617
License: Public Domain

United States Tax Court

                                  T.C. Memo. 2024-24

                    JAMES ELBERT ALDRIDGE, JR. AND
                      SHIRLEY LORRAINE ALDRIDGE,
                               Petitioners

                                            v.

               COMMISSIONER OF INTERNAL REVENUE,
                           Respondent

                                       —————

Docket No. 13742-10.                                        Filed February 21, 2024.

                                       —————

James Elbert Aldridge, Jr., and Shirley Lorraine Aldridge, pro sese.

Randall L. Eager, Christina L. Holland, and Shaina E. Boatright, for
respondent.

         MEMORANDUM FINDINGS OF FACT AND OPINION

      PARIS, Judge: By notice of deficiency dated March 31, 2010,
respondent determined deficiencies in petitioners’ federal income tax
and fraud penalties pursuant to section 6663 1 as follows:

                           Year    Deficiency    § 6663 Penalty

                           1999      $72,896        $54,672.00

                           2000        92,891         69,668.25

        1 Unless otherwise indicated, statutory references are to the Internal Revenue

Code, Title 26 U.S.C. (Code), in effect at all relevant times, regulation references are
to the Code of Federal Regulations, Title 26 (Treas. Reg.), in effect at all relevant times,
and Rule references are to the Tax Court Rules of Practice and Procedure.

                                   Served 02/21/24
                                            2

[*2]                     2001      177,319          132,989.25

                         2002      190,472          142,854.00

                         2003          62,277           46,707.75

                         2004          50,547           37,910.25

       The issues for decision are as follows:

       1.       Whether petitioners failed to report net business income,
                dividend income, and interest income for tax years 1999
                through 2004 in the following amounts:

                  1999          2000        2001           2002       2003       2004

 Net business    $185,430   $121,207      $459,898       $502,412    $194,351   $153,593
 income

 Dividend             30           46             62          200        200        200
 income

 Interest            465        13,610          2,479        1,055       757        988
 income

       2.       Whether petitioners failed to report pension and annuity
                income of $97,921 for tax year 2000;

       3.       Whether petitioners are entitled to deductions for taxes
                paid and mortgage interest claimed on Schedule A,
                Itemized Deductions, attached to their 1999 tax return;

       4.       Whether petitioners are liable for civil fraud penalties
                pursuant to section 6663(a) for tax years 1999 through
                2004;

       5.       Whether the period of limitations on assessment remains
                open pursuant to section 6501(c)(1) with respect to
                petitioners’ tax years 1999 through 2004.

      Petitioners bear the burden of proof, see Rule 142(a), except that,
with respect to the issue of fraud with intent to evade tax, the burden is
on respondent, who must carry it by clear and convincing evidence, see
§ 7454(a); Rule 142(b).
                                           3

[*3]                          FINDINGS OF FACT

        Petitioners, James Aldridge and Shirley Aldridge, were married
at all times during the years at issue and filed joint tax returns for 1999
through 2004. 2 At the time they filed the Petition, petitioners were
incarcerated. Mr. Aldridge resided at the Englewood Federal
Correctional Institution in Colorado, and Ms. Aldridge resided at the
Carswell Federal Medical Center in Texas. Before and following their
incarceration, petitioners resided in Missouri. 3

I.      Criminal Conviction

       On June 27, 2006, following a lengthy criminal investigation by
special agents within the Internal Revenue Service (IRS) Criminal
Division, 4 a grand jury approved a five-count indictment against
petitioners for filing false tax returns in violation of section 7206(1) and
aiding and abetting the filing of false tax returns in violation of 18 U.S.C.
§ 2 for tax years 2000 through 2004.

       On May 4, 2007, following a two-week trial, a jury found
petitioners guilty on all five counts charged in the indictment. Mr.
Aldridge served nine years in prison, and Ms. Aldridge served five years
and three months in prison.

II.     Petitioners’ Background

      Mr. Aldridge graduated from high school in 1975, after which he
attended the University of Kansas, where he studied architectural
engineering and received a certificate in structural drafting.

       Beginning in 1979 Mr. Aldridge worked a series of sales jobs until
joining Concept Marketing International (CMI) in 1989. Mr. Aldridge

        2 At the time of trial, petitioners were no longer married.

        3 Although Mr. and Ms. Aldridge were detained in Colorado and Texas,
respectively, at the time they filed the Petition in this case their legal residence for
purposes of appeal venue remained in Missouri, the state in which they resided before
and after incarceration. See, e.g., Berkery v. Commissioner, 90 T.C. 259, 262–63 (1988)
vacated on other grounds, 91 T.C. 179 (1988); Brewin v. Commissioner, 72 T.C. 1055,
1059 (1979), rev’d and remanded on other grounds 639 F.2d 805 (D.C. Cir. 1981); Smith
v. Commissioner, T.C. Memo. 1989-171, aff’d, 926 F.2d 1470 (6th Cir. 1991). Because
the parties have not stipulated a venue for appeal, venue for purposes of an appeal in
this case would be the U.S. Court of Appeals for the Eighth Circuit. See § 7482(b).
        4 The IRS criminal investigation is described in greater detail infra.
                                   4

[*4] obtained a real estate agent’s license in 1980 and formed a real
estate company called Lorbert & Co. Real Estate Investment and
Management (Lorbert). Lorbert focused on buying and selling owner-
financed homes and remained in operation through the 2000s.

      Ms. Aldridge holds a bachelor’s degree in engineering from the
University of Kansas. From 1979 until 1999 she was employed by the
Southwestern Bell Corp., where she held various positions in
engineering, project design, and management. Ms. Aldridge left
Southwestern Bell in 1999. In 2000, after leaving Southwestern Bell,
Ms. Aldridge took a distribution of $97,921 from her Southwestern Bell
pension benefit fund and deposited those funds into a money market
account titled in the name of the Liberty Commerce Group Trust.

III.   CMI

       CMI was a corporation whose sole shareholders were Greg Rogers
and Sherry Parrott. In 1989 Mr. Rogers recruited Mr. Aldridge to serve
as head of sales, marketing, and training for CMI. CMI was a multilevel
marketing structure that sold American Silver Eagle coins; its sales
representatives would earn commissions not only on the sale of the
coins, but also on recruitment of their customers to sell the coins. Mr.
Aldridge, as sales manager, not only trained other sales representatives
but also made presentations at seminars, focusing on investing in
American Silver Eagle coins through CMI.

       CMI’s business grew rapidly during those years. In its first year
CMI’s sales were minimal. In its second year its sales revenue increased
to over $600,000, and by its third year its sales revenue exceeded $1.2
million.

IV.    Reorganization of CMI and Creation of the Aldridge Family Trust
       System

       A.    National Trust Services Seminar

      In 1992 petitioners attended a two-day seminar held by National
Trust Services following customer suggestions that they might
reorganize CMI as a trust. Petitioners convinced Mr. Rogers that
reorganizing as a trust would benefit CMI, and Mr. Rogers agreed to
provide the $9,500 tuition for the workshop. National Trust Services
instructed attendees on how to devise a family trust system that would
purportedly allow them to control the amount of tax they would pay and
convert their living expenses to business expenses. The workshop
                                           5

[*5] instructors walked petitioners through the preparation of
documents to set up the trusts, and by the end of the workshop,
petitioners had executed documents purporting to create trusts,
transferring their property to the trusts, and applying for employer
identification numbers. 5

        B.      The Aldridge Family Trust System

      Following the National Trust Services workshop, petitioners
began to place all of their business and personal assets in a tiered trust
arrangement (collectively, Aldridge Family Trust System). The trust
system was established using several steps:

        1. On March 25, 1993, Ms. Aldridge executed a bill of sale and
           quitclaim deed by which she conveyed to Mr. Aldridge all of
           her interests in all real and personal property, including all
           clothing, furniture, household items, personal effects, and her
           interest in their home, in exchange for $10 and other
           consideration.

        2. Also on March 25, 1993, Mr. Aldridge, as grantor, executed a
           declaration of trust prepared by National Trust Services
           entitled “The Aldridge Family Trust”. In the declaration of
           trust, Mr. Aldridge promised to convey to the trust all of his
           “rights, title, and interest” in all of his real and personal
           property, including “[t]he exclusive use of His [sic] lifetime
           services, including ALL of His [sic] earned remuneration
           accruing therefrom, from ANY current source whatsoever . . .
           .” In exchange, Mr. Aldridge received all 100 beneficial units
           in the Aldridge Family Trust. The declaration of trust was
           signed by Ms. Aldridge and a representative from National
           Trust Services, as trustees.

        3. Between March 26 and April 17, 1993, Mr. Aldridge executed
           a bill of sale and quitclaim deeds which recited that he
           conveyed all of his interest in real and personal property to the
           Aldridge Family Trust in exchange for $10 and other
           consideration.

       5 By use of the terms “trust,” “trustee,” “beneficiary,” and other related terms,

the Court intends no implication as to the validity of the trusts involved in this case.
                                    6

[*6]   4. On March 25, 1993, petitioners executed a declaration of trust
          establishing the Concept Marketing International Trust (CMI
          Trust).

       5. At some time between March 26 and April 3, 1993, Mr. Rogers
          contributed his ownership interest in CMI to the CMI Trust in
          exchange for 100 beneficial units of the CMI Trust.

       6. Mr. Rogers conveyed 50 beneficial units of the CMI Trust to
          the Aldridge Family Trust.

       At or around the same time, petitioners executed documents to
establish two other trusts. Petitioners formed the Lorbert & Co. Trust
(Lorbert Trust), to which Mr. Aldridge executed quitclaim deeds
purporting to convey their personal residence and all of their rental
properties from the Aldridge Family Trust. Mr. Aldridge served as
trustee of the Lorbert Trust.

       Petitioners also formed the Excalibur Trust and executed
documents purporting to convey title to their personal vehicles to the
trust. Petitioners named themselves trustees of Excalibur Trust and
entered into lease agreements with the Aldridge Family Trust for the
use of the vehicles under “terms to be determined.” No rent or other
payment was ever made for the use of the vehicles.

V.     Liberty Commerce Group Trust

       A.    Formation

      Around 1994 or 1995 Mr. Aldridge became a trust counselor for
National Trust Services and Trust Educational Services, another entity
promoting family trust schemes similar to those offered by National
Trust Services. Mr. Aldridge worked as an independent contractor, and
he formed a new trust, Liberty Commerce Group Trust, out of which he
operated his trust counselor business. Mr. and Ms. Aldridge were
trustees of Liberty Commerce Group Trust, and its sole beneficiary was
the Aldridge Family Trust.

       Around this time, petitioners also created Alliance Financial
Trust as a vehicle for numismatic investment. Petitioners were the
trustees of Alliance Financial Trust, and all of its income or loss flowed
to Liberty Commerce Group Trust.
                                    7

[*7]   B.    Business Activity

       As a trust counselor, Mr. Aldridge gave seminars and
presentations to prospective clients of the trust system. Mr. Aldridge’s
seminars discussed the purported tax benefits of family trust systems,
telling potential clients that such systems could reduce or eliminate
their taxes if they transferred their homes and other assets to the trust
and assigned all future income to the trust. Mr. Aldridge pushed the
trust systems on the basis of claims that the trust system could be used
to pay the trustees’ or beneficiaries’ personal expenses, such as their
mortgages, utility bills, and automobile payments, converting the
personal expenses to deductible business expenses of the trust and
thereby reducing income. If, after the seminar, the client wished to
restructure his business under the trust system, Mr. Aldridge would
refer the client to National Trust Services or Trust Education Services.
Mr. Aldridge earned a commission, typically ranging between $1,500
and $9,500, for each referral.

VI.    CMI Trust

       A.    Postreorganization Activities

       Before the creation of CMI Trust, Mr. Rogers and Ms. Parrot
together owned 100% of the stock of CMI. Following the reorganization
of CMI into CMI Trust, the trustees of CMI Trust were Mr. Rogers, Ms.
Parrot, Mr. Aldridge, and Ms. Aldridge. Mr. Rogers and Ms. Parrot were
each allotted 25 beneficial units in CMI Trust, and the Aldridge Family
Trust received 50 beneficial units. In agreeing to reorganize his business
in this way, it was Mr. Rogers’s understanding that beneficial units were
akin to ownership interests, and that he and Ms. Parrot would be
entitled to a proportionate share of CMI Trust’s profits.

       CMI Trust continued to conduct its business in much the same
manner as CMI had before the reorganization, selling American Silver
Eagle coins through a multilevel marketing strategy. Mr. Rogers
continued to handle customer service, distribution of the product,
bookkeeping, and financials, while Mr. Aldridge continued to handle
sales and marketing.

       Shortly after the creation of CMI Trust and Liberty Commerce
Group Trust, Mr. Aldridge began to market the trust system to CMI
customers. Mr. Aldridge kept any money earned in connection with the
trust systems for himself, and Mr. Rogers was unaware of Mr. Aldridge’s
activities until clients informed him.
                                    8

[*8]   B.    Removal of Mr. Rogers and Ms. Parrot

       In 1996 Mr. Aldridge informed Mr. Rogers and Ms. Parrott that a
person was not allowed to be both a trustee and an owner of beneficial
units of CMI Trust. As a solution, he proposed that Ms. Parrott resign
as a trustee and Mr. Rogers transfer his beneficial units to her.
Consequently, Ms. Parrott and the Aldridge Family Trust each held 50
beneficial units of the CMI Trust, and its trustees were Mr. Aldridge,
Ms. Aldridge, and Mr. Rogers.

       After learning that Mr. Aldridge was marketing the trust system
to CMI clients without his knowledge, Mr. Rogers no longer wished to
be in business with him. Mr. Rogers resigned from his position with CMI
Trust in March 1996.

       At the time of Mr. Rogers’s resignation, Ms. Parrott still owned
50 beneficial units of CMI Trust, but neither she nor Mr. Rogers ever
received any distributions from the trust. Mr. Rogers tried to contact
petitioners, sending emails and registered letters requesting Ms.
Parrott’s share as a beneficial owner. Having received no response from
petitioners, Mr. Rogers attempted to sell the units. He contacted two
individuals, but neither had any interest.

       Petitioners learned of Mr. Rogers’s attempts to sell the units and,
citing a provision of the trust documents prohibiting the sale of
beneficial units, they voted to cancel Ms. Parrott’s units. Petitioners,
consequently, now owned 100% of the outstanding beneficial units of
CMI Trust; and neither Ms. Parrott nor Mr. Rogers received any
compensation or other value for the canceled units.

VII.   Organization and Operation of the Aldridge Family Trust System

       A.    Operation of Trusts and Flow of Income

       During the years at issue the trusts controlled by petitioners
included CMI Trust, Liberty Commerce Group Trust, Alliance Financial
Trust, the Aldridge Family Trust, Excalibur Trust, and Lorbert Trust.
Petitioners organized their trusts as an affiliated trust group, with CMI
Trust as the managing entity. During the years at issue, CMI Trust
continued to sell American Silver Eagle coins and provide financial
education services, and Liberty Commerce Group Trust continued to
hold its trust seminars and refer clients to National Trust Services and
Trust Educational Services. Alliance Financial Trust received funds
from petitioners or from clients of CMI Trust and Liberty Commerce
                                   9

[*9] Group and held numismatic investments. Excalibur held assets,
including petitioners’ vehicles, motorcycles, and jet skis, and purported
to rent them to the Aldridge Family Trust but did not receive any rental
payments. Lorbert Trust held rental properties.

       Fifty percent of CMI Trust’s income flowed to Liberty Commerce
Group Trust, and the other 50% flowed to the Aldridge Family Trust.
One hundred percent of Alliance Financial Trust’s income also flowed to
Liberty Commerce Group, and 100% of Liberty Commerce Group Trust’s
income flowed to the Aldridge Family Trust. One hundred percent of
Lorbert Trust’s income flowed to the Aldridge Family Trust, as well.
Under this arrangement, then, all of the income from CMI Trust,
Alliance Financial Trust, Lorbert Trust, and Liberty Commerce Group
Trust ultimately went to the Aldridge Family Trust. The Aldridge
Family Trust used this income to pay petitioners’ personal living
expenses, including their mortgage, utilities, and groceries, purchase
clothing and vehicles, and cover nearly any other expense, describing
them as business expenses. During the years at issue the beneficiary of
the Aldridge Family Trust was petitioners’ minor son. Any funds
remaining were then transferred to the Aldridge Foundation, created in
1993 purportedly to support local charitable causes. The Aldridge
Foundation, in turn, distributed those funds back to CMI Trust and
Liberty Commerce Group Trust in the guise of loans.

      B.     Trust Headquarters

       From the beginning of 1999 until October 11, 1999, petitioners
resided at a home on Byram’s Ford Road in Kansas City, Missouri. From
the formation of the Aldridge Family Trust in early 1999 until October
11, 1999, petitioners listed the same address as the address of each of
the trusts in the Aldridge Family Trust System.

       In October 1999 petitioners purchased a home on Sapphire Place
in Lee’s Summit, Missouri, for $319,200. The property was purchased in
petitioners’ names individually, and they applied for a loan of $240,000
in their individual capacity to finance the purchase. On their loan
application, petitioners claimed gross monthly income of $10,716 and
total assets worth $579,374.

       Beginning in October 1999 and through the years at issue,
petitioners resided in the home on Sapphire Place and also claimed it as
the headquarters of CMI Trust, Liberty Commerce Group Trust, and the
other trusts in the Aldridge Family Trust System.
                                    10

[*10] VIII. Tax Returns

      A.     Trust Returns

       Petitioners were aware as early as 1993, when they attended the
National Trust Services seminar, that income received by their trusts
would be taxable and that the trusts were required to file income tax
returns. Ms. Aldridge was responsible for having the trusts’ tax returns
prepared and filed. With the exception of Alliance Financial Trust,
which filed a tax return for the 2000 tax year, no tax returns were filed
for any of the trusts for the 1996 through 2015 tax years. Petitioners
occasionally requested extensions for the unfiled returns, but never
made any estimated tax payments.

      On Form 1041, U.S. Income Tax Return for Estates and Trusts,
for 2000, Alliance Financial Trust reported adjusted total income of
$5,771, distributions to Liberty Commerce Group Trust totaling $6,000,
an income distribution deduction of $5,771, and total tax of zero.

        Petitioners had difficulty finding anyone willing to prepare
returns for their trusts. In 2004 Ms. Aldridge hired Chad Merica, a
certified public accountant, to prepare returns for the trusts. At the time
she hired him, Ms. Aldridge knew that Mr. Merica was under indictment
for conspiracy to defraud the United States, a charge for which he was
eventually convicted and sentenced to prison. Mr. Merica prepared
returns for CMI Trust for tax years 1999 through 2003, but petitioners
never filed those returns. For each of those years, the prepared but
unfiled returns for CMI Trust showed negative taxable income on the
ground that all revenue earned by CMI Trust was distributed to Liberty
Commerce Group Trust or the Aldridge Family Trust.

       Mr. Merica additionally prepared a tax return for Liberty
Commerce Group Trust for 1999, which petitioners never filed. The
unfiled return showed taxable income of –$100 and reflected a
distribution of all profits to its beneficiary, the Aldridge Family Trust.

      No returns were prepared for Lorbert Trust, Excalibur Trust, or
the Aldridge Family Trust, nor for any tax year other than 2000 for
Alliance Financial Trust. Nor did any of the beneficiaries file a return.

      B.     Personal Returns

      H&R Block prepared petitioners’ tax returns, Forms 1040, U.S.
Individual Income Tax Return, for each of the years at issue using
                                     11

[*11] information returns provided by Ms. Aldridge. Petitioners did not
elect to report their minor child’s income on their personal return for
any of the years. Petitioners timely filed their joint 1999 federal income
tax return. They reported wage income of $57,043, taxable interest of
$284, ordinary dividends of $337, taxable refunds of $1,270, a business
loss of $2,638, and other income, designated “Trustees Fees” of $200,
resulting in an adjusted gross income of $56,496. On Schedule C, Profit
or Loss From Business, Mr. Aldridge listed his principal business or
profession as “Advisor: Family Trust,” and reported gross receipts or
sales of $500 and car and truck expenses of $3,138. Petitioners claimed
itemized deductions totaling $18,207 and exemptions of $8,250,
resulting in taxable income of $30,039 and, after a child tax credit of
$500, a total tax of $4,004.

       On their timely filed joint 2000 federal income tax return,
petitioners reported wage income of $31,031, taxable interest of $377,
ordinary dividends of $357, taxable refunds of $927, and other income of
$2,000, resulting in an adjusted gross income of $34,692. Petitioners
reported Ms. Aldridge’s pension distribution of $97,921 on line 16a,
Total pensions and annuities, but claimed on line 16b that none of it was
taxable. Petitioners claimed the standard deduction of $7,350 and
exemptions of $8,400, resulting in taxable income of $18,942 and, after
a child tax credit of $500, a total tax of $2,339.

       Beginning with their 2001 return and through their 2004 return,
petitioners timely filed joint federal income tax returns reporting zero
wages for each of those years. In addition, each of the Aldridges began
using Schedule C–EZ, Net Profit From Business, to report their
purported business income as trustees. The returns reported their
income, deductions, exemptions, and credits to zero out their taxable
income in those years as follows:

                                              2001    2002    2003    2004

      Wages                                    –       –       –       –

      Taxable interest                        $333    $187     $67     $58

      Ordinary dividends                       366     394     191     189

      Schedule C–EZ net profit–Mr. Aldridge   1,800   1,150   2,500   3,100

      Schedule C–EZ net profit–Ms. Aldridge   1,800   1,600   2,000   5,500
                                   12

[*12] Standard deduction                  7,600   7,850   9,500   9,700

      Exemptions                          8,700   9,000   9,150   9,300

      Taxable income                        –      –       –       –

      Earned income credit                1,131    388    1,420   2,604

IX.   Examination and Criminal Investigation

      A.     Preliminary Examination and Criminal Investigation

       Respondent initially began examining petitioners’ tax returns in
April 2002 in connection with an investigation of National Trust
Services. The revenue agent assigned to petitioners’ case determined
that petitioners had received a significant number of payments yet
reported minimal income on their returns. Shortly thereafter, she
referred the matter to the IRS Criminal Division.

       The criminal investigation was initially assigned to Special Agent
Amy Sanders. Special Agent Sanders interviewed petitioners at their
home and issued summonses for bank records and other documents. Mr.
Aldridge was misleading and evasive throughout the interview. He
indicated that he was retired from Liberty Commerce Group Trust and
that that trust had been dormant for six years, when in fact he was
actively providing trust seminars and generating substantial revenue,
which was regularly deposited in bank accounts titled to the trust.
Liberty Commerce Group had also received Ms. Aldridge’s
Southwestern Bell pension as recently as 2000. When asked about the
trustees of the Liberty Commerce Group Trust, Mr. Aldridge responded
that they would have to talk with the trustees (i.e., himself and Ms.
Aldridge) for permission to divulge who the trustees were.

       Petitioners did not comply with the summonses, and the special
agent overseeing petitioners’ case submitted the case to a grand jury.
Petitioners refused to cooperate with the subpoenas issued to them in
the course of the grand jury investigation, insisting that they needed the
permission of the trustees to comply. The parties reached an agreement
to include the title “trustee” on the subpoenas for petitioners’
cooperation. Even after reaching this compromise, petitioners still
refused to comply and were arrested for contempt of court. Petitioners
eventually complied with the subpoenas and provided the requested
records.
                                         13

[*13] Special Agent Jeffrey Trogden was assigned to petitioners’ case in
May 2004. In the course of his investigation, Special Agent Trogden
conducted an extensive analysis of petitioners’ business activity. He
issued more than 50 subpoenas, interviewed over 400 witnesses, and
analyzed 22 different bank accounts associated with petitioners and
their trusts.

       At the end of his comprehensive investigation, Special Agent
Trogden concluded that petitioners had filed false tax returns for tax
years 1998 through 2004 6 and recommended that the Department of
Justice pursue prosecution. As described above, petitioners were
ultimately convicted on five counts of filing false tax returns in violation
of section 7206(1) and aiding and abetting the filing of false tax returns
in violation of 18 U.S.C. § 2.

       B.      Bank Deposits Analysis

       In the course of his investigation, Special Agent Trogden
conducted a review of 22 bank accounts, titled in the name of petitioners’
trusts, over which petitioners had signature authority. Special Agent
Trogden examined the bank account records for each trust, identified all
of the deposits and subtracted out expenses, refunds, and nontaxable
transfers from other accounts or other trusts, and concluded that the
trusts received unreported business income as detailed below.

               1.      Liberty Commerce Group Trust

       During the years at issue, petitioners had signature authority
over two bank accounts titled in the name of Liberty Commerce Group
Trust. Special Agent Trogden analyzed the deposits, withdrawals, and
transfers, and he concluded that Liberty Commerce Group Trust
received business income and incurred expenses as follows:

       6 The charges in the indictment were limited to tax years 2000 through 2004

because the periods of limitations for criminal charges relating to the tax years 1998
and 1999 had expired by the time Special Agent Trogden completed his investigation.
                                                  14

[*14]                1999          2000            2001          2002              2003         2004

 Gross Income   $363,129.54    $281,369.66     $498,373.00    $479,217.00     $346,553.00    $395,371.00

 Total           225,889.09     162,366.65       320,396.38    296,422.12      226,410.78     344,676.76
 Expenses

  Net Income     137,240.45     119,003.00       177,976.62    182,794.88      120,142.22      50,694.24

      In addition, Liberty Commerce Group Trust received dividends
from Capitol Federal Financial of $30 in 1999, $46 in 2000, $62 in 2001,
$200 in 2002, $200 in 2003, and $200 in 2004, and interest payments of
$418.72 in 1999, $7,999.87 in 2000, $2,277.96 in 2001, $863.23 in 2002,
$249.06 in 2003, and $244.58 in 2004.

                2.          CMI Trust

       For tax years 1999 through 2003, Special Agent Trogden accepted
the CMI Trust profit and expense information listed on the unfiled
returns as substantially accurate. Those unfiled returns showed income
as follows:

                            1999          2000            2001              2002            2003

    Gross Income        $630,054      $862,338         $1,990,643    $3,105,883           $2,836,896

    Total Expenses          573,086       856,475       1,695,246       2,818,055          2,775,227

     Net Income              56,968          5,863        295,397           287,828          61,669

       For 2004, Special Agent Trogden examined the bank records of
four bank accounts titled in the name of CMI Trust, over which
petitioners had signature authority, and concluded that CMI Trust
received gross receipts totaling $4,362,929.33 and paid business
expenses totaling $4,251,373.32. After allowing for a depreciation
deduction of $5,470, Special Agent Trogden concluded that CMI Trust’s
net business income for 2004 was $106,086.01.

                3.          Lorbert Trust

       During the years at issue, petitioners had signature authority
over two bank accounts attributable to the Lorbert Trust. 7 Special Agent

       7 Blue Ridge Bank and Trust account ending x0743 was titled in the name of

the Lorbert Trust. UMB Bank account ending x1050 was titled in the name of Lorbert
& Company. The Lorbert Trust conducted its business using both of these accounts.
                                            15

[*15] Trogden examined the bank records and interviewed tenants in
petitioners’ rental properties. He concluded that the Lorbert Trust
received rental income and incurred rental expenses (including
depreciation) as follows:

                         1999      2000          2001     2002      2003      2004

      Rents Received    $6,058    $6,404     $6,224      $6,221    $6,022    $5,403

      Expenses           8,216     8,259         7,968    7,768     9,067     7,869

       Net Income       (2,158)   (1,855)    (1,744)     (1,547)   (3,045)   (2,466)

             4.        Alliance Financial Trust

      In December 2001 Ms. Aldridge filed Form 1041 for the Alliance
Financial Trust’s 2000 tax year, reporting ordinary income of $249.08
and interest income of $5,522.30. Special Agent Trogden reviewed the
return and accepted the income and expenses reported thereon.

      For the remaining tax years at issue, Special Agent Trogden
examined the records of two bank accounts titled to Alliance Financial
Trust, over which petitioners held signature authority, and a third
account titled to Shirley Aldridge DBA Alliance Financial Trust, and he
concluded that Alliance Financial Trust received business income of
$1,029.01 in 2001 and $22.05 in 2002.

       In addition, Alliance Financial Trust received interest payments
of $98.29 in 2001, $53.20 in 2002, $26.65 in 2003, and $39.37 in 2004.

      C.     Subsequent Examination

       Following the criminal investigation, petitioners’ civil
examination was assigned to Revenue Agent Cindy Marshall. Revenue
Agent Marshall reviewed the forensic accounting prepared by Special
Agent Trogden and used those figures as a basis for the notice of
deficiency. Determining that the income of the trusts was attributable
to petitioners, Revenue Agent Marshall made the following
adjustments, giving rise to the deficiencies set forth in the notice:
                                        16

[*16]                  1999      2000         2001       2002       2003       2004

Dividends                $30        $46          $62       $200       –          –

Interest Income          465     13,610        2,479      1,055       $757        988

Sch C1–Net Business   185,430      –            –          –          –          –
Income

SE AGI Adjustment     (6,949)    (8,563)     (15,922)   (17,098)   (13,132)   (10,851)

Itemized Deductions     9,092   (18,205)      (9,895)   (11,281)   (18,675)   (13,108)

Exemptions              3,135     4,536        8,700      9,000       –          –

Pensions and            –        97,921         –          –          –          –
Annuities

Sch C2–Net Business     –        60,603      229,949    250,981     97,425     75,596
Income–Shirley

Sch C1–Net Business     –        60,604      229,949    251,431     96,926     77,997
Income–James

Standard Deduction      –         7,350        7,600      7,850      9,500      9,700

Qualified Dividends     –          –            –          –           200        200

 Total Adjustments    191,203   217,902      452,922    492,138    173,001    140,522

       In addition, respondent determined civil fraud penalties under
section 6663 of $54,672 for 1999, $69,668.25 for 2000, $132,989.25 for
2001, $142,854 for 2002, $46,707.75 for 2003, and $37,910.25 for 2004.
Revenue Agent Marshall prepared a Civil Penalty Approval Form on
May 21, 2009, and submitted the form to her immediate supervisor for
signature. On May 22, 2009, Larry Akins, the immediate supervisor of
Revenue Agent Marshall, signed the Civil Penalty Approval Form.

       Respondent issued the notice of deficiency on March 31, 2010, and
petitioners timely petitioned this Court for redetermination.
                                           17

[*17]                                  OPINION

I.      Burden of Proof

       In general, the Commissioner’s determinations set forth in a
notice of deficiency are presumed correct, and the taxpayers bear the
burden of proving that the determinations are in error. Rule 142(a);
Welch v. Helvering, 290 U.S. 111, 115 (1933). When a case involves
unreported income, the Commissioner must produce some evidence
linking the taxpayer to an income-producing activity or establish some
foundation or evidence supporting the assessment. See Walquist v.
Commissioner, 152 T.C. 61, 67 (2019). Once the Commissioner
introduces substantive evidence linking the taxpayer to the income, the
presumption of correctness applies and the burden shifts to the taxpayer
to produce evidence overcoming it. Id. at 67–68.

       In the notice of deficiency, respondent determined that
petitioners received unreported business income from Liberty
Commerce Group Trust, the CMI Trust, Lorbert Trust, and the Aldridge
Family Trust. Respondent primarily argues that the trusts’ income
should be attributed to petitioners because the trusts were shams
without economic substance. 8 Respondent has introduced bank
statements of the various trusts and evidence of petitioners’ business
activities, as well as testimony and other evidence, linking petitioners
to the unreported income determined in the notice. Accordingly, the
burden is on petitioners to establish by a preponderance of the evidence
that the determination is in error.

II.     Unreported Income

        A.      Overview of Subchapter J

       Ordinarily, the income tax treatment of trusts and their
beneficiaries is governed by sections 641 through 668. Generally, trusts
are taxed as separate entities. § 641(b). Trusts may deduct amounts
distributed or required to be distributed to a beneficiary. §§ 651, 661.

        8 On brief respondent raises three alternative arguments as to why the income

from the trusts is attributable to petitioners: (1) the trusts’ income is taxable under the
grantor trust provisions of sections 671 through 677; (2) the assignment of individual
income to the trusts is not recognized for federal income tax purposes; or (3) petitioners’
income should be increased pursuant to sections 652(a) and 662(a). Because the Court
finds that the trusts were shams without economic substance, the Court does not
address those alternative positions.
                                     18

[*18] The beneficiary is taxed on amounts received from a trust during
a year to the extent of the trust’s distributable net income for that year.
§§ 652, 662. Subject to certain qualifications not relevant here,
distributable net income means a trust’s taxable income. § 643(a).
Therefore, a trust will have no tax liability, and it will exist solely as a
conduit, if it distributes or is required to distribute all of its income. A
trust is taxed at its own rates on accumulated income. § 641(a). Under
the basic approach of subchapter J, the following tax consequences occur
when a trust makes a distribution which includes some accumulated
income: The beneficiary is taxed at his own rates up to the trust’s
distributable net income for the year of distribution, and the beneficiary
is not taxed on amounts in excess of the trust’s distributable net income.
See, e.g., Edward L. Stephenson Tr. v. Commissioner, 81 T.C. 283, 289
(1983).

       Petitioners argue, primarily, that the normal rules of
subchapter J apply in this case and, accordingly, the deficiencies at issue
are attributable to the respective trusts, and not to petitioners
individually. Respondent disagrees. According to respondent, the trusts
are shams that lack economic substance and should be disregarded for
federal income tax purposes. Any income received by the trusts,
respondent argues, is attributable to petitioners. As discussed below, the
Court agrees with respondent.

      B.     Economic Substance

      Respondent argues that the six trusts making up the Aldridge
Family Trust System were sham entities with no economic substance
and should be disregarded for federal income tax purposes.

       Taxpayers are generally free to structure their affairs to minimize
taxes. Gregory v. Helvering, 293 U.S. 465 (1935). As a general rule, an
arrangement will be treated as a trust under the Code where “the
purpose of the arrangement is to vest in trustees responsibility for the
protection and conservation of property for beneficiaries who cannot
share in the discharge of this responsibility and, therefore, are not
associates in a joint enterprise for the conduct of business of profit.”
Treas. Reg. § 301.7701-4; see also Textron, Inc. & Sub. Cos. v.
Commissioner, 117 T.C. 67, 76 (2001). An arrangement, therefore, will
be classified as a trust for federal income tax purposes if it is a bona fide
transaction that involves a trustee, a beneficiary, and trust property.
See Bibby v. Commissioner, 44 T.C. 638 (1965).
                                         19

[*19] A trust is disregarded for tax purposes, however, if in substance
it lacks any valid purpose but is simply a tax-avoidance device. Zmuda
v. Commissioner, 79 T.C. 714, 719–20 (1982), aff’d, 731 F.2d 1417 (9th
Cir. 1984); Markosian v. Commissioner, 73 T.C. 1235, 1244–45 (1980);
Saccato v. Commissioner, T.C. Memo. 2023-96, at *8. Whether a trust
lacks economic substance is a question of fact. 9 Paulson v.
Commissioner, T.C. Memo. 1991-508, aff’d per curiam, 992 F.2d 789 (8th
Cir. 1993).

       In deciding whether to disregard a trust for federal income tax
purposes, the Court considers four factors relating to the trust to
determine whether a trust lacks economic substance: (1) whether the
taxpayer’s relationship to the property transferred to the trust
materially changed after the trust’s creation; (2) whether the trust has
an independent trustee; (3) whether an economic interest passed to
other trust beneficiaries; and (4) whether the taxpayer feels bound by
the restrictions imposed by the trust agreement or the law of trusts.
Markosian, 73 T.C. at 1243–44; Wegbreit v. Commissioner, T.C. Memo.
2019-82, at *52, aff’d, 21 F.4th 959 (7th Cir. 2021). If a trust lacks
economic substance apart from tax considerations, the trust is a sham
and is not recognized for federal tax purposes. See Zmuda, 79 T.C.
at 720–22; Markosian, 73 T.C. at 1241; Wegbreit, T.C. Memo. 2019-82,
at *52. Consideration of each of these four factors supports a conclusion
that the trusts constituting the Aldridge Family Trust System lack
economic substance and are shams.

       First, the relationship between petitioners and their property did
not differ in any material respect following the creation of the trusts.
Petitioners continued to reside in the same home, drive the same
vehicles, wear the same clothing, and retain full unfettered access to all
of their personal property. Petitioners paid their personal expenses out
of the bank accounts titled to Liberty Commerce Group Trust, CMI
Trust, the Aldridge Family Trust, and Lorbert Trust.

      Petitioners’ business activities did not change in any material
sense following the creation of the trusts, either. When petitioners
created CMI Trust, they and Mr. Rogers continued to operate the

        9 On brief petitioners argue that the trust system did indeed have economic

substance because, petitioners allege, the arrangement had a substantial nontax
purpose, as required under section 7701(o). Section 7701(o), which codified the
economic substance doctrine, applies only to transactions entered into after March 30,
2010, and is therefore inapplicable to the present case. See Health Care and Education
Reconciliation Act of 2010, Pub. L. No. 111-152, § 1409(e)(1), 124 Stat. 1029, 1070.
                                    20

[*20] business in the same manner as when it was organized as a
corporation. They used the same business strategy, retained the same
staff, and operated with the same bank account. Similarly, Lorbert
Trust continued to operate in the same way before and after the creation
of the trust.

       Second, none of the trusts had an independent trustee.
Petitioners, or entities they controlled, served as cotrustees of CMI
Trust, the Liberty Commerce Group Trust, Excalibur Trust, Lorbert
Trust, the Aldridge Family Trust, and Alliance Financial Trust during
the years at issue. The trusts were operated in concert with one another,
under the same administrative and management entity and with funds
routinely transferred from one entity to another. There was no
independent party who exercised any meaningful role in the operation
of any of the trusts. Rather, petitioners controlled all aspects of the
trusts during the years at issue.

       Third, no economic interest passed to other beneficiaries. During
the years at issue, the beneficiary of the Aldridge Family Trust was
petitioners’ minor child, while the beneficiary of the other trusts was the
Aldridge Family Trust. In reality, however, little to no economic benefit
passed to the beneficiaries. No return was filed by petitioners’ minor
child reporting income received from the trust, and the Aldridge Family
Trust reported no income paid to him. Rather, the trusts were operated
for the economic benefit of petitioners. Petitioners used the trusts’ funds
to pay the mortgage on their home, purchase motorcycles and other
vehicles, and pay their personal expenses, including food, clothing, and
vacations.

       Finally, petitioners have not shown that they acted as though
they were bound by the restrictions imposed by the trust agreement or
the law of trusts. Although petitioners purported to observe certain trust
formalities, such as by maintaining separate bank accounts,
maintaining minutes of trust decisions, and insisting on signing trust-
related documents with “T” next to their names, they disregarded their
obligations as trustees in other, more substantive ways.

       Although ostensibly trustees, petitioners did not take efforts to
make the trust property productive. Rather than lease the trust
property to generate income, petitioners maintained unrestricted access
to trust property and complete control over how funds in the trust bank
accounts were spent. The trusts allowed petitioners to continue to reside
at the home purportedly owned by the Aldridge Family Trust, drive
                                            21

[*21] vehicles purportedly owned by the Excalibur Trust and rented to
the Aldridge Family Trust, and use personal property owned by the
Aldridge Family Trust, all without compensation. Petitioners
introduced lease agreements between Excalibur Trust and the Aldridge
Family Trust for the use of certain cars, a motorcycle, a boat, and
trailers, and between Excalibur Trust and Liberty Commerce Group
Trust for the use of the same vehicles. In both instances, however, the
agreements do not specify any rent payments, and there is no evidence
that any rent was ever paid.

       Similarly, petitioners were not paid reasonable compensation for
operating the trusts. Petitioners operated Liberty Commerce Group and
CMI as their full-time jobs, yet they reported income from their work in
trust administration ranging between $500 to $5,500 for the years at
issue.

      The Court therefore concludes that the trusts were shams,
lacking in economic substance, and were mere alter egos of petitioners.
Accordingly, the Court will disregard the trusts for federal tax
purposes. 10 Petitioners are liable for federal income tax on the trusts’
income for each of the years at issue. See Zmuda, 79 T.C. at 722 (“In
substance, [the taxpayers] remained the owners of the property
purportedly transferred . . . and accordingly are taxable on the income
derived therefrom.”).

        C.      Business Income

       Gross income means all income from whatever source derived,
including income derived from business. See § 61(a)(2). Gross income is
construed broadly to include all “accessions to wealth, clearly realized,
and over which the taxpayers have complete dominion.” Commissioner
v. Glenshaw Glass Co., 348 U.S. 426, 431 (1955). Every person subject
to income tax is required to maintain books and records sufficient to
establish the amount of gross income and deductions shown by that

         10 Petitioners’ argument that the Contract Clause of the U.S. Constitution

requires respondent and this Court to give effect to their scheme is frivolous. See U.S.
Const. art. I, § 10, cl. 1 (“No State shall . . . pass any . . . Law impairing the Obligation
of Contracts . . . .”). The Contract Clause, by its terms, applies only to the states and
not to the federal government. New York v. United States, 257 U.S. 591, 601 (1922); see
also Benningfield v. Commissioner, 81 T.C. 408, 420 (1983). In any event, the holding
in this case does not impair the obligation of petitioners’ contractual arrangements.
The Contract Clause does not prohibit the United States from taxing a party or parties
to a private contract. Benningfield, 81 T.C. at 420.
                                          22

[*22] person on his or her income tax return. See § 6001; Treas. Reg.
§ 1.6001-1(a).

       Bank deposits are prima facie evidence of income. Tokarski v.
Commissioner, 87 T.C. 74, 77 (1986); Bolles v. Commissioner, T.C.
Memo. 2019-42, at *14. The bank deposits method of proof assumes that
all deposits into a taxpayer’s bank account during a given period
constitute taxable income unless the taxpayer can show that the
deposits are nontaxable. Clayton v. Commissioner, 102 T.C. 632, 645
(1994). The Government must take into account any nontaxable source
or deductible expense of which it has knowledge. DiLeo v. Commissioner,
96 T.C. 858, 868 (1991), aff’d, 959 F.2d 16 (2d Cir. 1992).

       With the exception of Alliance Financial Trust, which filed a
return for 2000, none of the trusts in the Aldridge Family Trust System
filed tax returns for any of the years at issue. Petitioners prepared, but
did not file, tax returns for CMI Trust for 1999 through 2003. Special
Agent Trogden accepted the Alliance Financial Trust tax return for 2000
and unfiled CMI Trust returns as substantially accurate. For the
remaining trusts and tax years, Special Agent Trogden conducted bank
deposits analyses of the bank accounts titled in the names of each of the
trusts and concluded that, after taking into account transfers, funds
from nontaxable sources, and deductible expenses, the trusts’ combined
net income was $185,930.14 in 1999, $121,206.68 in 2000, $463,497.94
in 2001, $505,162.27 in 2002, $198,851.22 in 2003, and $162,193 in
2004. 11

       Petitioners do not argue that respondent’s use of the bank
deposits analyses is erroneous or that any specific deposits included in
respondent’s determinations were from nontaxable sources. Rather,
petitioners maintain only that the bank accounts at issue do not belong
to them, as they are titled in the names of the various trusts within the
Aldridge Family Trust System. As discussed supra, the Court has found
that the trusts should be disregarded for federal income tax purposes

         11 Special Agent Trogden’s calculations are set forth in schedules 1.1 through

1.3 in the notice of deficiency. On Form 4549–A, Income Tax Discrepancy Adjustments,
included with the notice, respondent determined the net income of the trusts to be
$185,430 in 1999, $121,207 in 2000, $459,898 in 2001, $502,412 in 2002, $194,351 in
2003, and $153,593 in 2004. Respondent offers no explanations as to the discrepancies
in the notice. Because the discrepancies favor petitioners, the Court concludes that
respondent concedes the difference.
                                    23

[*23] and that the income of the trusts is properly attributable to
petitioners. Accordingly, respondent’s adjustments are sustained.

      D.     Dividend Income

       Gross income includes dividends. § 61(a)(7). During the years at
issue, Liberty Commerce Group Trust received dividend income from
Capitol Federal Bank of $30, $46, $62, and $200 in 1999, 2000, 2001,
and 2002, respectively.

       Petitioners do not dispute that Liberty Commerce Group Trust
received the dividends. The Court has found supra Part II.B that the
trust lacks economic substance and that its income is attributable to
petitioners. Accordingly, respondent’s adjustments to petitioners’
dividend income are sustained for all years.

      E.     Interest Income

       Gross income includes interest. § 61(a)(4). On the basis of bank
statements and admissions on the Alliance Financial Group Trust 2000
tax return and the Liberty Commerce Group Trust unfiled tax returns
for 1999 through 2003, respondent determined that petitioners received
unreported interest income totaling $465 for 1999, $13,610 for 2000,
$2,479 for 2001, $1,055 for 2002, $757 for 2003, and $988 for 2004.

       Petitioners do not dispute that the trusts received the interest as
set forth in the notice or allege that it was otherwise from a nontaxable
source. Rather, they rely only on their argument that the trusts are
separate entities and that they are not personally liable for the federal
income tax on the trusts’ income. The Court has found supra Part II.B
that the Liberty Commerce Group Trust and Alliance Financial Trust
lack economic substance and that their income is attributable to
petitioners. Accordingly, respondent’s adjustments to petitioners’
interest income are sustained for all years.

      F.     Pension and Annuity Income

       Gross income includes pensions and distributions from a qualified
retirement plan account, such as an individual retirement account (with
exceptions not applicable here). See §§ 61(a)(9), (11), 72(a)(1), 408(d)(1).
An exception exists if the distribution proceeds are rolled over into an
eligible retirement plan or an IRA within 60 days of the distribution. See
§§ 402(a), (c), 408(d)(1), (3). An eligible retirement plan means an
individual retirement account described in section 408(a); an individual
                                    24

[*24] retirement annuity described in section 408(b) (other than an
endowment contract); a qualified trust; and an annuity plan described
in section 403(a). See § 402(c)(8)(B).

       Section 408(a) defines “individual retirement account” as a trust
created or organized in the United States for the exclusive benefit of an
individual or his beneficiaries, but only if the written governing
instrument creating the trust meets the following requirements:

             (1) Except in the case of a rollover contribution
      described in subsection (d)(3), in section 402(c), 403(a)(4) or
      403(b)(8), no contribution will be accepted unless it is in
      cash, and contributions will not be accepted for the taxable
      year in excess of $2,000 on behalf of any individual.
             (2) The trustee is a bank (as defined in subsection
      (n)) or such other person who demonstrates to the
      satisfaction of the Secretary that the manner in which such
      other person will administer the trust will be consistent
      with the requirements of this section.
             (3) No part of the trust funds will be invested in life
      insurance contracts.
             (4) The interest of an individual in the balance in his
      account is nonforfeitable.
             (5) The assets of the trust will not be commingled
      with other property except in a common trust fund or
      common investment fund.
             (6) Under regulations prescribed by the Secretary,
      rules similar to the rules of section 401(a)(9) and the
      incidental death benefit requirements of section 401(a)
      shall apply to the distribution of the entire interest of an
      individual for whose benefit the trust is maintained.

       In 2000 petitioners received a retirement distribution of $97,921
from Ms. Aldridge’s Southwestern Bell Corporation Pension Plan and
deposited those funds into a bank account titled in the name of Liberty
Commerce Group Trust. Petitioners do not dispute that they received
the distribution. Rather, they argue that the distribution is not included
in gross income because Ms. Aldridge deposited the distributed funds
into Liberty Commerce Group Trust’s bank account, which, they
contend, is an eligible retirement plan.

      Petitioners have not offered any evidence to support their position
that the Liberty Commerce Group Trust bank account into which the
                                     25

[*25] distributed funds were deposited meets the requirements of
section 402(c)(8)(B) or 408(a). Indeed, the evidence shows that
petitioners comingled the distributed funds with Liberty Commerce
Group Trust sales revenue, in contravention of section 408(a)(5).
Accordingly, respondent’s adjustment is sustained.

III.   Disallowed Deductions

       On Schedule A of their 1999 return, petitioners claimed a
deduction of $5,326 for taxes paid and a deduction of $9,862 for mortgage
interest paid. With respect to the deduction for taxes paid, respondent
disallowed $1,027 but moved a portion of that amount, $758, to
petitioners’ Schedule C income calculations as a home office expense.

       Respondent disallowed $4,799 of the claimed mortgage interest
deduction. The disallowed amount included $2,132 paid for one of
petitioners’ rental properties, which respondent allowed as an expense
in calculating Lorbert Trust’s net rental income. Respondent also
allowed an additional home office expense of $2,937 attributable to
mortgage interest in calculating petitioners’ home office expense on
Schedules C.

      Deductions are a matter of legislative grace, and taxpayers bear
the burden of proving that they are entitled to any deduction claimed.
See Rule 142(a); New Colonial Ice Co. v. Helvering, 292 U.S. 435, 440
(1934). Petitioners have not offered any evidence or argument to
demonstrate that respondent’s adjustments to their deductions are
incorrect. Indeed, the majority of these adjustments were not disallowed
but simply reallocated to other parts of petitioners’ tax returns. See, e.g.,
Hairston v. Commissioner, T.C. Memo. 1995-566, 1995 WL 699240,
at *5–6 (reallocating taxpayer’s claimed mortgage expense deduction
between Schedule A and office in the home deduction on the basis of
percentage of business use). Respondent’s adjustments are sustained.

IV.    Fraud

       A.      Section 6663(a) Penalties

               1.    Burden of Proof and Production

       Respondent determined that petitioners are liable for a fraud
penalty pursuant to section 6663(a) for each of the years at issue. The
Commissioner bears the burden of production with respect to any
individual taxpayer’s liability for any penalty imposed by the Code.
                                          26

[*26] § 7491(c); Higbee v. Commissioner, 116 T.C. 438, 446–47 (2001).
For section 6663 fraud penalties, the Commissioner must prove fraud by
clear and convincing evidence. § 7454(a); Rule 142(b). Once such a
showing is made, the burden shifts to the taxpayers to come forward
with persuasive evidence that the determination is incorrect or that they
acted with reasonable cause. See Higbee, 116 T.C. at 447.

       One part of the Commissioner’s burden of production is to show
compliance with section 6751(b), which provides that “[n]o penalty . . .
shall be assessed unless the initial determination of such assessment is
personally approved (in writing) by the immediate supervisor of the
individual making such determination.” See also Graev v.
Commissioner, 149 T.C. 485, 493 (2017), supplementing and overruling
in part 147 T.C. 460 (2016). An “initial determination” occurs the earlier
of when the Commissioner issues a notice of deficiency or formally
communicates a decision to determine penalties. Belair Woods, LLC v.
Commissioner, 154 T.C. 1, 14–15 (2020); Clay v. Commissioner, 152 T.C.
223, 248–49 (2019), aff’d, 990 F.3d 1296 (11th Cir. 2021).

       Respondent produced a copy of the Civil Penalty Approval Form
signed on May 22, 2009, by the immediate supervisor of Revenue Agent
Marshall, who completed the civil examination of petitioners’ returns
after their criminal conviction, and approving the imposition of the
fraud penalties. Respondent formally communicated his determination
to assert the fraud penalties in the notice of deficiency, issued March 31,
2010. Petitioners do not claim, and the record does not support a
conclusion, that respondent communicated his initial determination to
petitioners before the date the examining agent’s manager signed the
Civil Penalty Approval Form. Accordingly, respondent has satisfied his
burden with respect to section 6751(b). 12

       12   Several circuits apply a different test for determining whether the
Commissioner satisfies section 6751(b). See Minemyer v. Commissioner, No. 21-9006,
2023 WL 314832, at *5 (10th Cir. Jan. 19, 2023) (“[T]he requirements of [section]
6751(b)(1) are met so long as written supervisory approval of an initial determination
of an assessment is obtained on or before the date the IRS issues a notice of
deficiency.”), aff’g in part, rev’g in part and remanding T.C. Memo. 2020-99; Kroner v.
Commissioner, 48 F.4th 1272, 1276–81 (11th Cir. 2022), rev’g in part T.C. Memo. 2020-
73; Laidlaw’s Harley Davidson Sales, Inc. v. Commissioner, 29 F.4th 1066, 1071–74
(9th Cir. 2022), rev’g and remanding 154 T.C. 68 (2020). The Eight Circuit, to which
an appeal in this case would presumably lie, see supra note 3, has not squarely
addressed the test for determining compliance with section 6751(b). The Court will,
therefore, apply its own precedent on this issue. The Court notes, however, that under
either test, respondent’s burden is satisfied.
                                    27

[*27]        2.     Fraud Penalties

       Section 6663(a) imposes a penalty equal to 75% of the taxpayer’s
underpayment of federal income tax that is due to fraud. Fraud is an
intentional wrongdoing on the part of the taxpayer with the specific
purpose of evading a tax believed to be owing. Petzoldt v. Commissioner,
92 T.C. 661, 698 (1989); Hacker v. Commissioner, T.C. Memo. 2022-16,
at *32. If any portion of the underpayment is attributable to fraud, the
entire underpayment will be treated as attributable to fraud unless the
taxpayer establishes by a preponderance of the evidence that part of the
underpayment is not due to fraud. § 6663(b); see also Minchem Int’l, Inc.
v. Commissioner, T.C. Memo. 2015-56, at *43–44, aff’d sub nom. Sun v.
Commissioner, 880 F.3d 173 (5th Cir. 2018).

        Respondent has the burden of proving fraud by clear and
convincing evidence. See § 7454(a); Rule 142(b). To carry that burden of
proof, respondent must show, for each year, that (1) an underpayment
of tax exists and (2) some portion is attributable to the Aldridges’ fraud.
See Hebrank v. Commissioner, 81 T.C. 640, 642 (1983); Hacker, T.C.
Memo. 2022-16, at *32. Fraud is a question of fact to be resolved upon
consideration of the entire record. DiLeo, 96 T.C. at 874. Fraud is never
presumed and must be established by independent evidence. Minchem
Int’l, Inc., T.C. Memo. 2015-56, at *45.

       Respondent has clearly and convincingly demonstrated for each
year at issue that petitioners failed to report substantial income from
various sources. The first element of the fraud penalty has been
established.

       The Court now turns to the second element of the fraud penalty
and must determine whether petitioners had the requisite fraudulent
intent. Because direct evidence of fraudulent intent is seldom available,
fraud may be proven by circumstantial evidence and reasonable
inferences drawn from the facts. Niedringhaus v. Commissioner, 99 T.C.
202, 210 (1992); Benavides & Co., P.C. v. Commissioner, T.C. Memo.
2019-115, at *34. The taxpayers’ entire course of conduct may be
indicative of fraudulent intent. Niedringhaus, 99 T.C. at 210.

       Circumstances that may indicate fraudulent intent, commonly
referred to as “badges of fraud,” include but are not limited to
(1) understating income; (2) maintaining inadequate records; (3) giving
implausible or inconsistent explanations; (4) concealing income or
assets; (5) failing to cooperate with authorities; (6) engaging in illegal
                                     28

[*28] activities; (7) providing incomplete or misleading information to
one’s tax return preparer; (8) lack of credibility of the taxpayer’s
testimony; (9) filing false documents, including false income tax returns;
(10) failing to file tax returns; and (11) dealing in cash. Minchem, Int’l,
Inc., T.C. Memo. 2015-56, at *46. No single factor is dispositive;
however, the existence of several factors “is persuasive circumstantial
evidence of fraud.” Vanover v. Commissioner, T.C. Memo. 2012-79, 2012
WL 952871, at *4.

       Respondent argues that petitioners’ fraudulent intent is
demonstrated by the presence of a number of badges of fraud, including
their long pattern of understating income; implausible and inconsistent
explanations for their conduct; failure to cooperate with tax authorities;
awareness of the federal tax laws during the years at issue; engagement
in and conviction for illegal activities; criminal prosecution and
conviction for federal tax crimes; concealment of income and assets;
their knowledge and education level; and the maintenance of a lavish
lifestyle.

       The Court agrees. Petitioners’ criminal convictions under section
7206(1) conclusively establish that they willfully understated their
income for tax years 2000 through 2004, and there is clear and
convincing evidence of an underpayment for each of the years at issue.
Petitioners’ pattern of understating their income during all six of the
years at issue, as detailed supra, is strong evidence of fraud. Similarly,
petitioners’ failure to file returns for any of the trusts, with the exception
of a single return for Alliance Financial Trust, for the years at issue,
while receiving large sums of income, is further evidence of fraudulent
intent. See Petzoldt, 92 T.C. at 701.

       In addition, petitioners were uncooperative with tax authorities
throughout the examination and criminal investigation. Mr. Aldridge
consistently refused to answer questions or provide documents to
respondent’s revenue agents and special agents, claiming that he
needed to receive permission from the board of trustees (i.e., himself and
his wife). He misled authorities by claiming that Liberty Commerce
Group Trust had been dormant for over six years at the time of the
investigation and that he was living on his wife’s income. Both
petitioners refused to comply with subpoenas for trust records and were
held in contempt for their refusal.

       Petitioners are college educated. Both were fully aware of their
obligations under the tax law and possessed the financial knowledge and
                                   29

[*29] business background to understand and comply with their
obligations. Mr. Aldridge was successful in the real estate industry, as
well as in sales and multilevel marketing, and held himself out as an
expert in trusts and the taxation thereof. Ms. Aldridge previously held
management positions at Southwestern Bell Corp. and handled
bookkeeping for petitioners’ businesses. Rather than comply with their
tax obligations, however, they established a bogus trust arrangement in
an effort to shield their substantial income and hide their assets, while
filing false income tax returns, even going as far as claiming the earned
income credit, a tax credit implemented to assist low-income taxpayers.

      The evidence clearly and convincingly shows that petitioners
possessed fraudulent intent with respect to their underpayment of tax
for each of the years at issue. Respondent’s determination of fraud
penalties for the years at issue is sustained.

      B.     Section 6501(c)(1) Period of Limitations

       Section 6501(a) generally requires the Commissioner to assess a
tax within three years after the return was filed. If a taxpayer files a
false or fraudulent return with the intent to evade tax, however, the tax
may be assessed at any time. § 6501(c)(1). Respondent bears the burden
of proving an exception to the general limitations period. See Gould v.
Commissioner, 139 T.C. 418, 431 (2012), aff’d, 552 F. App’x 250 (4th Cir.
2014); Harlan v. Commissioner, 116 T.C. 31, 39 (2001). Respondent’s
burden of proof under section 6501(c)(1) is the same as his burden to
prove applicability of the section 6663 civil fraud penalty. Gould, 139
T.C. at 431; Browning v. Commissioner, T.C. Memo. 2011-261, 2011 WL
5289636, at *10. Because the Court sustained the application of the
fraud penalties for all years at issue, the tax years remain open for the
assessment of tax.

V.    Conclusion

       For the foregoing reasons, the Court sustains respondent’s
determination of deficiencies and fraud penalties for the years at issue.
The Court has considered all arguments made in reaching its decision
and, to the extent not mentioned herein, concludes that they are moot,
irrelevant, or without merit.

      To reflect the foregoing,

      Decision will be entered for respondent.