Court Opinion

ID: 21719
Source: CourtListenerOpinion
Date Created: 2010-04-25 07:48:29+00
Date Added: 2024-06-11T09:33:24.086949
License: Public Domain

Revised August 22, 2000

                 IN THE UNITED STATES COURT OF APPEALS

                              FOR THE FIFTH CIRCUIT

                                  No. 99-60074

JERRY S. PAYNE,

                                                           Petitioner-Appellant,

versus

COMMISSIONER OF INTERNAL REVENUE,

                                                           Respondent-Appellee.

                                  _____________

                       Appeal from the Decision of the
                            United States Tax Court
                                 _____________

                                 August 17, 2000

Before JONES, DUHÉ, and WIENER, Circuit Judges.

WIENER, Circuit Judge:

     Petitioner-Appellant          Jerry    S.   Payne     appeals   an   adverse

decision    of   the    Tax   Court,   which     awarded   Respondent-Appellee

Commissioner of Internal Revenue (“the government” or “the IRS”)

$438,722 in delinquent income taxes and penalties for tax years

1987 and 1988, plus interest.              As a general rule, the IRS must

assess taxes within three years following the date that the return

is filed.    Here, the IRS did not send Payne a notice of deficiency

(an event that tolls the statute of limitations pending assessment)
until more than three years after he had filed his return for each

of those years.       The Tax Court found, nevertheless, that the IRS’s

collection action was timely under the statutory fraud exception to

the three-year statute of limitations.1          As it had to if it were to

determine taxpayer fraud, the Tax Court found the government’s

evidence of fraud to be clear and convincing.                But in our clear

error review, we see that evidence as weak and equivocal, so that

disregarding the statute of limitations cannot be justified on

grounds of tax fraud.       The judgment of the Tax Court is therefore

reversed and judgment rendered in favor of Payne, granting his

petition      for   redetermination    of    income   taxes,   penalties,   and

interest for 1987 and 1988 and holding that the government is

barred by the statute of limitations from collecting anything from

Payne for those tax years.

                                       I.

                           FACTS AND PROCEEDINGS

       Payne is a lawyer.         During the years at issue he practiced

law, concentrating in litigation.            Payne provided extensive legal

representation to, and eventually came to own, a corporation called

2618, Inc. (“2618") which, as sole proprietor, operated Caligula

XXI, a topless dance club (the “club”) in Houston, Texas.                 Payne

also       represented   Gerard    Helmle,     one    of   2618's   two   equal

       1
      26 U.S.C. § 6501(c). Unless otherwise noted, all statutory
citations under Title 26, United States Code, are to the Internal
Revenue Code of 1986, as amended.

                                       2
shareholders and the club’s manager.     Among other things, Payne

defended Helmle against a criminal charge for possession of illegal

drugs.    Most of the operable facts of this case arise out of these

professional representations.

     At the beginning of 1987, Helmle and Leo Kalantzakis each

owned one-half of the stock of 2618. As prerequisites to operating

a topless dance club in Houston, 2618 needed both (1) a liquor

license, technically a Mixed Beverage Permit, from the Texas

Alcoholic Beverage Commission (the “TABC”), and (2) a Sexually

Oriented Business Permit (“SOB permit”) from the City of Houston

(“the City”).    The SOB permit was required by a Houston ordinance

passed in 1986 which provides, inter alia, that one topless dance

club cannot operate within 1,000 feet of another.     The ordinance

also specifies that if two such dance clubs seeking SOB permits are

located within 1000 feet of each other, a permit can be issued only

to the club that has been in operation longer.       As part of his

representation of 2618, Payne helped it apply for an SOB permit.

The club was located within 1000 feet of a competing topless dance

establishment, however, so 2618's application for an SOB permit was

denied.    The Tax Court recognized that without an SOB permit the

club’s viability was in serious doubt.

     Payne filed suit against the City to force issuance of an SOB

permit to 2618.    The primary issue in the suit was which club had

been in operation longer.

     While that suit was proceeding in state district court, Helmle

                                  3
and Kalantzakis, had a falling out.            Their dispute resulted in

litigation between 2618 and Kalantzakis, in which Payne represented

the corporation.     Ultimately this matter was settled by Helmle’s

agreeing to purchase Kalantzakis’s stock in 2618, which would leave

Helmle as the corporation’s sole stockholder.

      By this time, Payne had amassed substantial unpaid accounts

receivable resulting from his criminal defense of Helmle and his

representation of 2618 in several matters. Helmle did not have the

financial wherewithal either to fund his purchase of Kalantzakis’s

stock or to pay Payne’s account.             The club was Helmle’s sole

source of income, and his dispute and eventual settlement with

Kalantzakis threatened the continued existence of the club.               Payne

was aware that the club’s survival represented his only realistic

possibility of ever recovering his fees for legal services rendered

to   Helmle   and   to   2618.   As       neither   Helmle   nor   2618    was

creditworthy, Payne borrowed $275,000 from Texas Guaranty National

Bank then lent that same sum to Helmle, who used these funds to

purchase Kalantzakis’s stock in 2618.

      Payne and Helmle agreed that Helmle would cause 2618 to make

monthly payments to Payne so that he, in turn, could make periodic

payments of principal and interest on the bank loan.           In essence,

Payne acted as an intermediary, first in borrowing from the bank

and passing the loan proceeds through to his client, and then in

receiving funds from his client and immediately disbursing those

funds to the bank that had made the loan.

                                      4
     Helmle also agreed to compensate Payne for his increased

involvement in the club’s operations during this period by paying

him a management fee.         Payne reported the management fee on his

income tax returns for the years in question.            He did not, however,

report    the   sums   that   he    received   from   his   clients    and    then

immediately remitted to the lender bank.              As to these he took the

position that he was a mere accommodation borrower and conduit

through which the loan proceeds and repayments passed, not a party

in interest to an income-producing transaction.

     During the time that Kalantzakis owned one-half of the stock

of 2618, he had handled the renewals of the corporation’s mixed-

beverage    permit     from   the    TABC.     Kalantzakis    had     apparently

developed relationships with high-level personnel at the TABC,

which     helped   expedite    the    permit    renewal     process.         After

Kalantzakis’s split with Helmle and Helmle’s subsequent purchase of

Kalantzakis’s stock, however, Kalantzakis was no longer willing to

use his relationship with TABC officials for the corporation’s

benefit.    In fact, there are allegations that Kalantzakis lobbied

his contacts at the TABC to deny renewal of 2618's mixed-beverage

permit.    Payne contends that ultimately, through its relationship

with Kalantzakis, the TABC learned that criminal drug charges were

pending against Helmle.       This prompted the head of enforcement for

the TABC to determine that, because Helmle was the sole owner of

2618, its mixed-beverage permit should not be renewed.

     Payne counseled Helmle that his best solution was to sell the

                                        5
club.     Helmle   agreed   and   authorized   Payne   to   find   a   buyer.

Unfortunately for Helmle, though, all potential buyers that Payne

contacted lost interest when they discovered that the City had

denied the club’s application for an SOB license and that the TABC

was refusing to renew the club’s mixed-beverage permit.

     After trying unsuccessfully to preserve any going-concern

value that the club might have (apparently at this point, there was

little or none), Payne foreclosed on encumbrances of 2618’s assets

that he held as security for unpaid legal fees.              Specifically,

Payne foreclosed on the corporation’s (1) leasehold interest in the

building in which the club operated, (2) furniture, furnishings,

fixtures, and leasehold improvements in the building, and (3) right

to use the name Caligula XXI.       Payne concluded that the assets he

foreclosed on had a fair market value of $35,000 and reported this

amount as income on his federal income tax return.            Payne leased

the assets back to 2618 in the hope that the liquor license and SOB

permit would be issued, which should make it possible for Helmle or

2618 to pay the remaining legal fees owed to Payne.

     After they failed to find a buyer for the club and determined

that the reason the TABC would not issue a mixed-beverage permit to

2618 was the criminal charges pending against Helmle, Payne and

Helmle embarked on a new strategy to secure a mixed-beverage

permit:   They entered into a conditional stock-purchase agreement

under which Payne agreed to buy all issued and outstanding 2618

stock from Helmle in consideration of Payne’s $500,000 note, when

                                     6
and if 2618 secured a mixed-beverage permit.   Payne reasoned that

when the TABC realized that its issuance of a permit to the club

would terminate Helmle’s ownership, the TABC would grant the mixed-

beverage permit. Payne negotiated with the TABC for the renewal of

the club’s permit, but when these negotiations broke down he filed

suit against the TABC. The lawsuit was ultimately settled when the

TABC agreed to issue the club a mixed-beverage permit.        This

satisfied the condition precedent in the stock purchase agreement

between Helmle and Payne, causing the stock to be transferred to

Payne in exchange for his note and making him the sole shareholder

of 2618.

     Shortly after the stock was transferred to Payne, Helmle

agreed to reduce the sum due on Payne’s note from $500,000 to

$300,000.   Even so, Payne never made any payments on the note.

     The Tax Court found the credit sale of the stock from Helmle

to Payne to be a sham transaction, and reclassified the transfer of

the stock from Helmle to Payne as an in-kind payment for past legal

services.    On appeal, Payne does not contest the Tax Court’s

characterization of the transaction as a payment in-kind for legal

fees. Rather, he contends that the 2618 stock was worthless at the

time he received it from Helmle.     As such, urges Payne, he was

correct in concluding that he need not report receipt of the

valueless stock as income from his law practice.

     Payne based his conclusion of worthlessness on the specter of

the litigation that was then pending between 2618 and the City

                                 7
concerning the denial of the club’s SOB permit.            Without an SOB

permit the club could not operate; and, in Payne’s considered

professional opinion, 2618's odds of success in that suit were

abysmal.   Furthermore, the liquor license was the corporation’s

only significant asset; it had no SOB permit and no longer owned

(1) its leasehold interest in the only location where it was

licensed to sell liquor, (2) the leasehold improvements needed to

conduct the dance club operations, or (3) the trade name under

which the club operated.    Those assets had long since been lost to

Payne   through   foreclosure,   a   transaction    on   which   Payne   had

reported income.    In Payne’s estimation, these factors combined to

render the stock worthless on the date he acquired it.

     The IRS prosecuted Payne for criminal tax fraud on facts

arising from essentially the same transactions that are at issue in

this case —— and Payne was acquitted.         During the pendency of the

criminal tax prosecution, Payne filed a civil suit against the IRS

for divulging confidential tax information during its criminal

investigation.     Payne’s civil suit against the IRS resulted in a

$1.7 million judgment for Payne.          The government’s appeal of that

decision is currently pending before this court.

                                     II.

                                 ANALYSIS

A.   Jurisdiction and Standard of Review

     We have jurisdiction to review decisions of the Tax Court

                                      8
pursuant to I.R.C. § 7482.    We review such decisions “in the same

manner and to the same extent as decisions of the district courts

in civil actions tried without a jury.”2    Accordingly, findings of

fact are reviewed for clear error and conclusions of law are

reviewed de novo.3

B.   Statute of Limitations

     This appeal is governed by § 6501 of the Internal Revenue

Code.     Subsection (a) of § 6501 proclaims the general rule that

“the amount of any tax imposed by this title [Title 26, U.S.C.]

shall be assessed within 3 years after the return was filed,”

otherwise any collection effort by the government shall be time

barred.    As the three-year period set forth in § 6501(a) is tolled

by the issuance of a statutory notice of deficiency,4 that general

rule of limitation can be rephrased to read:     Unless a statutory

notice of deficiency is sent to the taxpayer within 3 years after

the return was filed, the government’s collection effort shall be

time barred.

     In this case, the government sent the statutory notices of

deficiency for both 1987 and 1988 more than three years after Payne

had filed his returns for those years.     Thus, unless an exception

     2
      I.R.C. § 7482(a).    See also Commissioner v. McCoy, 484 U.S.
3, 6 (1987).
     3
      Fed. R. Civ. P. 52(a); Sealy Power Ltd. v. Commissioner, 46
F.3d 382, 385 (5th Cir. 1995).
     4
        § 6503(a).

                                  9
to the three-year limitations period is applicable, notices of

deficiency were issued too late, and the government is barred from

collecting the tax deficiencies, penalties, and interest it now

asserts.

     The only exception to the general three-year limitations rule

of § 6501(a) that is implicated in this appeal is § 6501(c)’s

statutory tax fraud exception, which provides: “In the case of a

false or fraudulent return with the intent to evade tax, the tax

may be assessed, or a proceeding in court for collection of such

tax may be begun without assessment, at any time.”   The burden of

proving fraud is on the government.5    To satisfy its burden, the

government must prove, by clear and convincing evidence, that at

least some portion of the asserted underpayment of tax is the

result of fraud.6   If the government carries this high burden with

respect to any part of the underpayment, “the entire underpayment

shall be treated as attributable to fraud, except with respect to

any portion that the taxpayer establishes (by a preponderance of

the evidence) is not attributable to fraud.”7      We have defined

fraud in the following terms: “Fraud implies bad faith, intentional

     5
      § 7453(a) (“In any proceeding involving the issue whether the
petitioner has been guilty of fraud with the intent to evade tax,
the burden of proof in respect of such issue shall be upon the
Secretary”).
     6
      See, e.g., Webb v. Commissioner, 394 F.2d 366, 377 (5th Cir.
1968).
     7
      § 6653(b)(2) (1988).   In 1989, this provision was recodified
as § 6663(b).

                                 10
wrongdoing and a sinister motive.          It is never imputed or presumed

and   the    court    should   not   sustain    findings   of   fraud    upon

circumstances which at most create only suspicion.”8                Fraud is

usually inferred from “conduct, the likely effect of which would be

to mislead or conceal.”9

      As a general rule, the government’s determination of a tax

deficiency    is     presumptively   correct.     A   consequence   of   this

presumption is that the taxpayer bears the burden of proving that

the government’s determination is incorrect or arbitrary.10             We and

other courts have held, however, that when the government relies on

an exception to the three-year statute of limitations, it bears the

burden of proving its entitlement to rely on that exception.11 This

means that alone the general presumption of the correctness of the

government’s deficiency determination cannot serve to establish

fraud on the part of the taxpayer; proof of fraud remains the

burden of the government.       Indeed, to hold otherwise would be to

ignore the statute and the related case law that impose on the

government the burden of proving fraud by clear and convincing

      8
       Webb, 394 F.2d at 377.
      9
       Spies v. United States, 317 U.S. 492, 499 (1943).
      10
      United States v. Janis, 428 U.S. 433, 440-41 (1976); Tax Ct.
R. 142(a); 14 Mertens, Law of Federal Income Taxation § 50:437,
p.50-399 (April 2000 rev. ed.).
      11
      Armes, 448 F.2d at 974 (government must prove substantial
omission from gross income by a preponderance of the evidence);
Drieborg v. Commissioner, 225 F.2d 216, 218 (6th Cir. 1955)
(government must prove fraud by clear and convincing evidence).

                                      11
evidence.12        There must be additional evidence, independent of the

general presumption of correctness, from which fraudulent intent on

the part of the taxpayer can be properly inferred.13

     The government asserts that its most compelling evidence of

fraud —— and therefore the evidence most likely to surmount the

clear and convincing evidence threshold —— lies in the 2618 stock

transfer     from     Helmle      to    Payne.    Before    the    Tax   Court,    the

government introduced an expert report that appraised the stock at

$1.14 million as of the date of the transaction.                   This conclusion

was expressly predicated on the expert’s assumption that 2618 would

continue      to     operate   a       topless   club     “indefinitely.”         That

assumption, however, was directly contrary to the facts as they

existed on the date Payne acquired the stock, the only date

relevant to the appraisal.              At that time, the City was steadfastly

refusing to grant 2618 an SOB permit, which all concede was an

absolute necessity if the club was to continue operating.

     Aware of this flaw in the expert’s analysis, the Tax Court

“conclude[d]        that   [the    government’s]        expert’s   [$1.14   million]

valuation for the stock of [2618] should be reduced by a discount

of 50 percent to reflect the risks associated with the litigation

over the [SOB license].”               In essence, the court began by agreeing

with the government expert that, with the SOB license, the stock

     12
          § 7454; Goldberg v. Commissioner, 239 F.2d 316, 320 (5th Cir.
1956).
     13
          Drieborg, 225 F.2d at 218.

                                            12
was worth $1.14 million and concluding that, without that license,

the stock was worthless.           Then simplistically —— without any

analysis or expert evidence of the odds of success in the license

litigation     ——   the   Court    arbitrarily    split       the     difference.

Consequently, the Tax Court found the stock’s value, at the time

Payne received it, to be $570,000, exactly half-way between zero

and $1.14 million.        The Tax Court then jumped directly to its

ultimate conclusion that Payne’s “failure to report any amount as

income in connection with his receipt of the stock was part of

[his] fraudulent conduct.”

     For the following reasons we find clearly erroneous the Tax

Court’s   conclusion      that   Payne’s    failure    to    report    the   stock

transfer from Helmle is clear and convincing proof of fraudulent

intent.   First, we are skeptical of the Tax Court’s conclusional

finding that, at the time the stock was transferred to Payne, there

was a 50 percent chance that 2618 would win the litigation and get

the SOB permit.       Payne assigned a far smaller chance that this

would be the outcome of the suit; and it seems to us that, as the

attorney representing 2618 in that ongoing litigation, Payne was in

the best position to assess 2618's chances.            But even if we were to

disregard Payne’s opinion as incredible, we cannot disregard the

government’s failure to adduce evidence, expert or otherwise, on

this question.      Our review of the record reveals no evidence that

we see as probative on this point.

     Second,    the    Tax   Court’s   analysis       is    predicated    on   the

                                       13
conclusions of the government’s expert as announced in his report.

We have examined this report and find that it contains internal

flaws not discussed by the Tax Court.             For example, the report

included   the   following      qualification:      “The   subject      assets,

properties or business interests are appraised free and clear of

any or all liens or encumbrances . . . .”            Based in part on this

statement and in part on other indicia in the report, we are

convinced that the expert was appraising not only the going concern

value of 2618's business with licenses in place, but was also

assigning value to the corporation with its lease, leasehold

improvements, and trade name in place, specifically, the leasehold

interest in the building where the club operated, the furniture,

fixtures, equipment, and the leasehold improvements used in nightly

operations, and the Caligula XXI name.            As we previously noted,

though, Payne had already foreclosed on those assets in a separate

transaction months earlier, one on which he reported income and to

which neither    the    Tax   Court   nor   the   government    has   ascribed

fraudulent intent.       It is fallacious, therefore, to treat the

assets lost by 2618 through foreclosure as contributing to the

value of the stock on the date, months later, that it was acquired

by Payne in an entirely separate transaction.              Even with an SOB

permit, how could 2618 operate the club without its trade name, the

only location from which it was authorized to conduct its dance and

liquor   business,     and    its   furniture,    fixtures     and    leasehold

                                      14
improvements?14

     Third, the Tax Court’s analysis fails to take into account the

delay and expense associated with litigating the licensure issue

with the City.    The government’s expert’s report qualified its

conclusion that if the club were to operate indefinitely its value

was $1.14 million; the expert opined that the club’s value was

$1.14 million “net of any costs associated with removing any

impediments preventing operation as a topless club.     Such costs

would be expected to include legal fees and associated costs.”   The

report went on to explain that two “key parameters need to be

assessed with respect” to its projection of value:

     [1] the legal avenues available to contest closure under
     the [SOB] ordinance and [2] the cost of pursuing such
     remedies. At this time, we believe the estimate of these
     parameters would necessarily have been speculative as of
     the valuation date. We have not reviewed information or
     conducted discussions with individuals who could provide
     reliable analyses of the relevant legal issues and
     corresponding costs. As a result, we have not drawn a
     conclusion with respect to these specific circumstances.

Despite this significant and substantial qualification in the

expert’s report, the government did not offer evidence regarding

these “key parameters” and the Tax Court did not reduce the $1.14

     14
      The government urged both before the Tax Court and on appeal
that Payne’s representations to third parties that the club had a
value in the millions constituted evidence that he perpetrated tax
fraud when he did not report receipt of the stock as income. We
note, however, that all of Payne’s representations cited by the
government were premised on the assumption that the SOB permit
would be issued, which had not occurred at the time of the stock
transfer, and that these other business assets were still owned by
the corporation.     These representations do not, therefore,
constitute evidence of fraud.

                                15
million estimate to reflect the negative effect these factors might

have on the price a willing buyer would pay for the stock.

      Taken together, the foregoing shortcomings in the Tax Court’s

analysis and the expert report on which it relied compel us to

conclude that the Tax Court’s finding on valuation is not supported

by the record.      Essentially, the Tax Court began with a value that

was too high because it ignored the costs of litigating the SOB

licensure, and because it included the assets on which Payne had

already foreclosed. The court then discounted this inflated figure

by 50 percent “to reflect the risks associated with litigation”

over the SOB permit.       We find no evidence in the record supporting

the Tax Court’s conclusion that 50 percent was an appropriate

discount.    The product of the inflated value and the arbitrary ——

and likely excessive —— odds that the Tax Court assigned to a

favorable outcome, i.e., to the issuance of an SOB permit, yield a

conclusion as to the value of 2618's stock that we find untenable.

      The Tax Court noted that its $570,000 valuation conclusion

approximated the amount of Payne’s outstanding legal bills with

2618 and Helmle at the time of the stock transfer, and suggested

that this “further supported or corroborated” the determination

that the stock was worth $570,000 when Payne acquired it.                   The

record indicates, however, that Helmle was not creditworthy at the

time of the stock transfer, and had proved himself unable to remit

payment for legal services to Payne in a timely fashion, if at all.

We   agree   with    the   Tax   Court    that   if   an   attorney   and   his

                                         16
creditworthy client had arranged an arms-length in-kind payment,

the value of the property transferred in payment should approximate

the value of the legal services for which payment is being made.

But this logic breaks down when, as here, the client is not

creditworthy and, indeed, has no other assets:     An attorney with a

substantial account receivable owed by an insolvent client may well

have an account receivable with a value of zero.    Any such creditor

is likely to accept even valueless assets when essentially “writing

off” a receivable from an insolvent debtor.   We cannot agree with

the Tax Court that the amount Helmle owed Payne supports the

court’s valuation of the 2618 stock.

     Perhaps the Tax Court concluded that, because the $500,000

note that Payne gave to Helmle in exchange for the stock was a

sham, it constituted evidence of fraudulent intent.      And, if the

court did so conclude, it may well have been correct.        But any

fraud associated with that element of the transaction was just as

likely if not more likely directed at some other party —— e.g., the

City or the TABC15 —— as at the IRS.     Consequently, even if we

assume arguendo that the sham credit sale might constitute clear

and convincing evidence of fraud, it is not clear and convincing

     15
      There is no dispute that Helmle’s ownership of 2618 impeded
its ability to secure licenses and permits from these agencies;
however, it is likely that if Helmle merely transferred nominal
title to Payne, his attorney, for no consideration, the transfer
would have been viewed as a nullity by these agencies and would not
have achieved its stated purpose —— facilitating licensure of the
club.

                                17
evidence of tax fraud.

       There is no direct evidence in the record of any deceptive or

evasive conduct by Payne.               The government argues, nevertheless,

that Payne’s fraudulent intent could be inferred from his failure

to report income stemming from the stock transfer.                      To infer fraud

from    this     transaction,      though,        one    first    has   to    accept    the

conclusion that the stock had value when Payne received it, a

conclusion about which we are dubious.

       Even if we assume for purposes of argument that the Tax Court

did    not     clearly     err   when   it    determined         that   the    stock    had

substantial        value    at    the    time      Payne    received         it,   we   are

nevertheless left with the firm conviction that the court clearly

erred when it concluded that this transaction and Payne’s omission

of its value from his tax return constitute clear and convincing

evidence of        fraud.        “The   fraud     meant    is    actual,      intentional

wrongdoing, and the intent required is the specific purpose to

evade a tax believed to be owing.”16                    Payne’s explanation is that

he believed the stock to be worthless, and we find his explanation

to be plausible —— at least as plausible as the government’s

competing explanation that (1) the stock had substantial value when

Payne received it, and (2) that Payne knew this and thus believed

he owed tax but did not report it.

       The question before us is whether the Tax Court committed

       16
            Mitchell v. Commissioner, 118 F.2d 308, 310 (5th Cir. 1941).

                                             18
clear error when it found that the government proved the fact of

fraud by clear and convincing evidence.                “A finding is ‘clearly

erroneous’ when although there is evidence to support it, the

reviewing court on the entire evidence is left with the definite

and firm conviction that a mistake has been committed.”17                 Judged

against this standard, we find clearly erroneous the Tax Court’s

determination     that   the   government     proved     fraud    by   clear   and

convincing evidence.

     As we observed, the government asserts that Payne’s return

position on the stock transfer presents its strongest case for tax

fraud.     Consequently, if the evidence about that transaction fails

to surmount the clear and convincing evidentiary hurdle, then a

fortiori the evidence about other transactions in which Payne was

involved, proffered by the government to support its contention of

fraudulent intent, must also fail. As the possibility nevertheless

remains that the cumulative effect of all of the government’s

evidence could constitute clear and convincing evidence of tax

fraud, we have closely scrutinized the entire record in search of

evidence of fraud that might enhance the evidence that we have

discussed.     Our review of the record only serves to reinforce our

conclusion that the Tax Court clearly erred in finding that the

government     proved    fraud   by   clear      and    convincing     evidence.

Accordingly,     we   are   constrained     to   reverse    the    Tax   Court’s

     17
          Commissioner v. Duberstein, 363 U.S. 278, 291 (1960).

                                      19
determination that Payne filed his tax returns with fraudulent

intent.   Consequently, the statutory fraud exception to the three-

year statute of limitations is not available to the government.   As

the government’s deficiency notices for 1987 and 1988 were not duly

furnished within the applicable three-year period under the statute

of limitations provided in § 6501(a), collection of additional

taxes, penalties, and interest for those years is time barred. The

Tax Court therefore erred reversibly in applying the statutory

fraud exception of § 6501(c) and denying Payne’s petition for

redetermination of taxes, penalties, and interest assessed pursuant

to those tardy notices of deficiency.

                                III.

                            CONCLUSION

     The expansive record in this case certainly demonstrates that

Payne has no acumen for keeping orderly records of his financial

dealings; and we sympathize with the government and the Tax Court

for the difficulty they faced in reconstructing Payne’s financial

affairs and then attempting to determine their tax consequences.

In addition, we are aware that, in some cases, poor record keeping

has been deemed indicative of fraud.    But, as there is little else

in this record to suggest that Payne had direct fraudulent intent,

his deficiency in record keeping is not sufficient to sustain the

government’s burden of proving fraud to the required degree.

     At bottom, the competing contentions of the parties are

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obvious.    Payne insists that, for the years in question, his

allowable deductions exceeded his taxable income and, believing

that he would not owe any taxes, he paid little attention to the

preparation of his returns. In contrast, the government urges that

when Payne prepared and filed his returns, he did so with the

intention of understating his income tax liability.          Despite our

painstaking review of the record, we are unable to determine which

of these competing positions more closely comports with reality.

We are able to determine from our record review, however, that the

government has failed to support its version with evidence any more

convincing than the evidence that Payne has adduced in support of

his version. This evidentiary equipoise results in a draw, leaving

us with the firm conviction that the government has failed to carry

its burden of proving fraud by the heightened clear and convincing

standard.   We hold, therefore, that the Tax Court erred reversibly

in allowing the statutory fraud exception to prevail over the

three-year statute of limitations.

       The judgment of the Tax Court is reversed for the foregoing

reasons and judgment rendered in favor of Payne, granting his

petition for redetermination and holding that the government is

time   barred   from   collecting   additional   taxes,   penalties,   and

interest from Payne for his tax years of 1987 and 1988.

REVERSED and RENDERED.

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