-
MARK D. PRIDGEN AND KAY D. PRIDGEN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent DEWEY GASKINS AND FRANCINE P. GASKINS, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentPridgen v. CommissionerNo. 2048-97; No. 2075-97
United States Tax Court T.C. Memo 1999-188; 1999 Tax Ct. Memo LEXIS 225; 77 T.C.M. 2117; T.C.M. (RIA) 99188;June 9, 1999, Filed1999 Tax Ct. Memo LEXIS 225">*225 Decisions will be entered for respondent.
1999 Tax Ct. Memo LEXIS 225">*226Trawick H. Stubbs, Jr. andJ. Douglas McCullough , forpetitioners.J. Craig Young , for respondent.Whalen, Laurence J.WHALENMEMORANDUM FINDINGS OF FACT AND OPINION
1999 Tax Ct. Memo LEXIS 225">*227 WHALEN, JUDGE: Respondent determined the following deficiencies in, and penalties with respect to, the Federal income tax of petitioners Mark and Kay Pridgen, in the case at docket No. 2048-97:
Penalty
Year Deficiency Sec. 6662(a)
____ __________ ____________
1990 $ 129,169 $ 25,834
1991 232,416 46,483
1999 Tax Ct. Memo LEXIS 225">*228 Unless stated otherwise, all section references are to the Internal Revenue Code as in effect during the years in issue. Respondent also determined the following deficiencies in, addition to, and penalties with respect to the Federal income tax of petitioners Dewey and Francine Gaskins, in the case at docket No. 2075-97:
1999 Tax Ct. Memo LEXIS 225">*229 Addition to Tax
Penalty _______________
Year Deficiency Sec. 6662(a) Sec. 6651(a)(1)
____ __________ ____________ _______________
1990 $ 131,723 $ 26,345 --
1991 240,086 48,017 $ 12,004
References in this opinion to "petitioners" are references to Mr. Pridgen and Mr. Gaskins. Petitioners and their wives resided in the State of North Carolina at the time the subject petitions were filed.
The above-captioned cases were consolidated for trial, briefing, and opinion by an order of the Court issued pursuant to
Rule 141, Tax Court Rules of Practice and Procedure. In this opinion, all Rule references are to the Tax Court Rules of Practice and Procedure.After concessions, the issues for decision are: (1) Whether a partnership, Beaufort Leaf Tobacco Co. (hereinafter referred to as Beaufort Leaf), in which each petitioner held an interest, failed to report tobacco sales of $ 888,528 in 1990 and $ 1,054,576 in 1991; (2) whether respondent erred in disallowing alleged tobacco purchases of $ 429,421 in 1990 and $ 1,173,2031999 Tax Ct. Memo LEXIS 225">*230 in 1991 that were included in Beaufort Leaf's cost of goods sold; and (3) whether petitioners are liable for the penalties and addition to tax determined by respondent. The parties have stipulated that Mrs. Pridgen and Mrs. Gaskins are entitled to innocent spouse relief "under section 6013(e)". Thus, it appears that respondent concedes that Mrs. Pridgen and Mrs. Gaskins are eligible for relief from joint and several liability with respect to their joint returns for 1990 and 1991 under section 6015(a)(1), assuming that an appropriate election is made as required by section 6015(b)(1)(E).
The deficiencies determined in the notices of deficiency are based upon adjustments to each petitioner's distributive share of the net income of Beaufort Leaf for taxable years 1990 and 1991. Respondent adjusted Beaufort Leaf's net income without a proceeding at the partnership level. See generally section 6221 through 6233. It appears that all parties agree that Beaufort Leaf is a small partnership, as defined under section 6231(a)(1)(B), and is exempt from the partnership audit and litigation procedures.
FINDINGS OF FACT
In 1987, petitioners and another individual who is now deceased, Mr. Harry Lee1999 Tax Ct. Memo LEXIS 225">*231 Roberts, formed Beaufort Leaf, a North Carolina general partnership, to engage in the purchase and sale of tobacco. The three partners agreed that petitioners would finance the partnership's operations and, for that purpose, that petitioners would cosign a note in the principal amount of $ 300,000. The partners also agreed that Mr. Roberts would be responsible for the day-to-day management and operation of the partnership and would be paid approximately $ 20,000 per year in addition to his share of any partnership income. There was no written partnership agreement, but the partners orally agreed that each partner would have a one-third distributive share of all partnership income, gain, loss, deduction, or credit. Petitioners initially intended that Beaufort Leaf would be in business for only 1 year, but it continued to conduct business until 1992.
During the time Beaufort Leaf was in business, Mr. William H. Dawson, Jr., a licensed accountant, maintained its books and prepared its Federal income tax returns. The partnership's returns for 1988, 1989, and 1990 respond to the question "which accounting method" by indicating that the partnership is on the "cash" method of accounting. 1999 Tax Ct. Memo LEXIS 225">*232 The partnership's return for 1991 indicates that the partnership is on the "accrual" method of accounting. The final return of the partnership for 1992 does not respond to that question.
Beaufort Leaf's returns for 1988 through 1992 report the following items on Schedule K, Partner's Shares of Income, Credits, Deductions, Etc.:
1988 1989 1990 1991 1992
____ ____ ____ ____ ____
Ordinary income
from trade or
business acti-
vities $ 6,595.45 $ 15,075.65 $ 47,204.60 $ 46,952.60 $ 30.33
Interest income 2,471.80 6,734.72 -0- 3,286.00 -0-
Guaranteed
payments to
partners 30,000.00 30,000.00 30,000.00 30,000.00 17,000.00
Net long-term
capital gain 267.33 -0- -0- -0- -0-
_________ _________ _________ _________ _________
39,334.58 51,810.37 77,204.60 80,238.60 17,030.33
The above-guaranteed payments of $ 30,000 per year for 1988 through 1991 and $ 17,000 for 1992 were paid entirely to Mr. Roberts. The record does not explain why Mr. Roberts was paid $ 30,000 per year after the partners had1999 Tax Ct. Memo LEXIS 225">*233 initially agreed that he would be paid $ 20,000 per year.
According to Beaufort Leaf's returns, the share of each of the partners in the net income of the partnership is as follows:
NET INCOME OF BEAUFORT LEAF
Year Gaskins Pridgen Roberts Total
____ _______ _______ _______ _____
1988 $ 3,111.53 $ 3,111.53 $ 3,111.51 $ 9,334.57
1989 7,270.12 7,270.12 7,270.12 21,810.36
1990 15,734.87 15,734.87 15,734.86 47,204.60
1991 16,746.20 16,746.20 16,746.20 50,238.60
1991 10.11 10.11 10.11 30.33
_________ _________ _________ __________
42,872.83 42,872.83 42,872.80 128,618.46
For 1991, the second of the 2 years in issue, the above net income, $ 50,238.60, is composed of ordinary income from trade or business activity of $ 46,952.60 and interest income of $ 3,286.
Beaufort Leaf's returns report the following withdrawals and distributions:
WITHDRAWALS AND DISTRIBUTIONS
Year Gaskins 1999 Tax Ct. Memo LEXIS 225">*234 Pridgen Roberts Total
____ _______ _______ _______ _____
1988 $ 11,414.60 $ 10,000.00 $ 10,546.70 $ 31,961.30
1989 3,111.53 3,111.53 2,500.00 8,723.06
1990 7,270.12 19,270.12 22,220.15 48,760.39
1991 32,481.07 20,481.07 16,746.20 69,708.34
1992 -0- -0- -0- -0-
__________ __________ __________ __________
54,277.32 52,862.72 52,013.05 159,153.09
Set out below is a summary of the income and deductions reported on Beaufort Leaf's income tax returns for the years in issue, 1990 and 1991:
1990 1991
____ ____
Gross receipts or sales $ 1,264,701 $ 2,849,451
Cost of goods sold 1,123,852 2,661,781
Gross profit 140,849 182,670
Salaries and wages $ 6,604 $ 10,638
Guaranteed payments
to partners 30,000 1999 Tax Ct. Memo LEXIS 225">*235 30,000
Rent 2,652 6,000
Interest 18,257 16,721
Taxes 1,132 1,629
Repairs 1,619 3,692
Depreciation 1,079 1,186
Other deductions 32,302 65,851
Total deductions 93,644 135,717
______ _______
Ordinary income (loss) 47,205 46,953
Mr. Dawson, the partnership's accountant, computed the gross receipts of the partnership for Federal income tax purposes based on the aggregate deposits made to Beaufort Leaf's bank account, less certain deposits identified as repayments of loans or cash advances. Mr. Dawson computed Beaufort Leaf's cost of goods sold for 1990 and 1991 based on canceled checks and some accounting adjustments. His computation of the cost of goods for each year is as follows:
1990 1991
____ ____
Inventory at beginning of year 1999 Tax Ct. Memo LEXIS 225">*236 $ 199,602 $ 132,914
Purchases 1,057,163 2,713,562
Other costs (wholesale commissions) -0- 47,429
_________ _________
Total 1,256,765 2,893,905
Inventory at end of year 132,914 227,124
_________ _________
Cost of goods sold 1,123,851 2,666,781
Mr. Dawson kept a "journal" and "ledger" for Beaufort Leaf. He used bank statements, deposit slips, and checks from Beaufort Leaf's bank account to post entries to the journal. The record of these consolidated cases contains the journal for 1991. It does not include the journal for 1990 or the ledger for 1990 or 1991. The journal for 1991 shows that the sales and purchases reported for Federal income tax purposes on the partnership's 1991 return include the sales and purchases booked in the journal on a monthly basis, together with substantial yearend adjusting entries. Beaufort Leaf's journal for 1991 shows the following sales and purchases:
Month Sales Purchases
1999 Tax Ct. Memo LEXIS 225">*237 _____ _____ _________
1/91 $ 25,336.74 $ 64,244.28
2/91 39,716.55 1,461.20
3/91 -0- 283.00
4/91 781.78 4,242.75
5/91 -0- 4,813.52
6/91 -0- 4,563.52
7/91 116,348.66 -0-
8/91 184,228.86 77,757.50
9/91 195,899.47 133,243.66
10/91 609,273.97 82,953.54
11/91 349,861.40 214,793.94
12/91 7,215.00 501,845.96
____________ ____________
1,528,662.43 1,090,202.87
Adjusting entries 1,320,788.88 1,273,359.59
Adjusting entry -0- 350,000.00
____________ ____________
Totals per journal 2,849,451.31 2,713,562.46
Beaufort Leaf's return for 1991 reports sales1999 Tax Ct. Memo LEXIS 225">*238 and purchases in the same amounts; i.e., $ 2,849,451.31 and $ 2,713,562.46, respectively.
Neither the journal for 1991 nor anything else in the record explains the nature of the "adjusting entries" shown in the journal increasing sales in the amount of $ 1,320,788.88 and increasing purchases in the amount of $ 1,273,359.59. The adjusting entry to purchases of $ 350,000 is labeled "Accts Payable--OK Leaf" without any other explanation.
We note that Beaufort Leaf's journal for 1991 shows the following checks issued by the partnership to "HLRoberts" or "HLR":
Date Check No. Amount
____ _________ ______
1/05/91 663 $ 946.00
2/26/91 681 1,500.00
3/18/91 690 1,000.00
3/21/91 693 2,600.00
4/05/91 702 1,500.00
4/05/91 705 300.00
4/10/91 707 200.00
4/15/91 708 1,200.00
1999 Tax Ct. Memo LEXIS 225">*239 4/16/91 709 5,000.00
4/19/91 712 2,000.00
4/19/91 713 500.00
4/19/91 714 1,777.96
4/26/91 720 7,500.00
5/01/91 727 1,000.00
5/03/91 734 1,054.43
5/03/91 735 1,000.00
5/13/91 742 1,000.00
5/23/91 744 500.00
5/29/91 749 599.77
5/29/91 750 500.00
6/07/91 762 500.00
6/07/91 764 2,200.00
6/17/91 768 1,375.00
6/17/91 769 1,200.00
6/25/91 772 300.00
7/02/91 775 500.00
7/16/91 783 1,200.00
1999 Tax Ct. Memo LEXIS 225">*240 7/18/91 786 900.00
7/24/91 797 300.00
8/01/91 808 500.00
8/07/91 818 3,500.00
8/07/91 820 1,200.00
8/16/91 833 500.00
8/29/91 850 1,500.00
8/29/91 851 150.00
9/19/91 874 1,500.00
9/25/91 878 5,835.00
10/03/91 887 5,000.00
10/14/91 904 4,580.00
10/18/91 907 2,520.00
10/24/91 917 1,120.00
10/25/91 920 1,500.00
10/31/91 921 13,500.00
11/07/91 934 1,500.00
11/18/91 938 1,000.00
11/20/91 940 2,000.00
Total 87,558.16
1999 Tax Ct. Memo LEXIS 225">*241 The nature of the above payments is not described in the journal or elsewhere in the record of these cases.
As mentioned above, Beaufort Leaf was in the business of buying and selling tobacco. The marketing of tobacco is subject to Government regulation under the Agricultural Adjustment Act of 1938, ch. 30, secs. 311-314, 52 Stat. 45, current version at
7 U.S.C. secs. 1311-1316 (1994) , which includes a record-keeping mechanism that is designed to account for all tobacco sales and purchases. See generally,Cole v. USDA, 33 F.3d 1263">33 F.3d 1263 , 33 F.3d 1263">1265-1266 (11th Cir. 1994). As part of that record-keeping mechanism, dealers, like Beaufort Leaf, are required to maintain a Dealer's Record on Form MQ-79 issued by the U.S. Department of Agriculture. The Form MQ-79 is a comprehensive record of each purchase and resale of tobacco including the date, the amount of tobacco, the identity of the seller or purchaser, and a running balance of the amount of tobacco on hand after each transaction. In the case of purchases or resales at auction, the Form MQ-79 lists the warehouse at which the purchase or sale took place and requires a warehouse representative1999 Tax Ct. Memo LEXIS 225">*242 to sign the dealer's Form MQ- 79.Dealers are required to file their Dealer's Record with the Agriculture Stabilization and Conservation Service (ASCS) on a weekly basis. The amount of tobacco marketed is controlled by a quota system that establishes an allotment of tobacco for each tobacco- producing farm. See
33 F.3d 1263">Cole v. USDA, supra. The marketing of tobacco in excess of a producer's allotment, so-called excess-quota tobacco, is subject to a penalty. See id.In the notices of deficiency issued to petitioners, respondent made two principal adjustments to Beaufort Leaf's returns for 1990 and 1991. First, respondent increased the gross sales reported by the partnership. The explanation of that adjustment in the subject notices of deficiency is as follows:
It is determined that the partnership had additional income
from tobacco sales for tax years 1990 and 1991 that was not
reported on the returns. It has been determined that tobacco
sales totaled $ 2,153,228.00 in 1990 and $ 3,904,027.00 in 1991
instead of the amounts of $ 1,264,700.00 and $ 2,849,451.00 as
shown on the returns. Accordingly, the partnership net income is
1999 Tax Ct. Memo LEXIS 225">*243 increased $ 888,528.00 in 1990 and $ 1,054,576.00 in 1991. (See
attached.)
The attachment referred to in the above explanation states that Beaufort Leaf's tobacco sales for 1990 were recomputed as follows:
(1) Sales of flue-cured tobacco $ 1,225,535
(2) Sales of burley tobacco 853,015
(3) Sales of tobacco "not in the form" 74,678
__________
TOTAL TOBACCO SALES FOR 1990 2,153,228
Claimed on return 1,264,700
__________
Net adjustment to gross income 888,528
The parties have stipulated that the Forms MQ-79 filed on behalf of Beaufort Leaf for 1990 report aggregate sales of flue-cured tobacco of $ 1,225,535, the amount used by respondent in computing the partnership's sales. Similarly, the parties have stipulated that the Forms MQ-79, filed on behalf of Beaufort Leaf for 1990, report aggregate sales of burley tobacco of $ 853,015, the amount used by respondent in recomputing the partnership's sales. Thus, 1999 Tax Ct. Memo LEXIS 225">*244 the additional income from sales of flue-cured and burley tobacco computed by respondent for 1990 is based upon the sales reported in the Forms MQ-79 filed on behalf of Beaufort Leaf. Respondent determined the amount of unreported sales from so-called pickens tobacco on the basis of three receipts which state that Beaufort Leaf sold pickens tobacco to H.D. Pegram on June 5, 1990, in the aggregate amount of $ 74,678.
The attachment referred to in the explanation accompanying the notices of deficiency also states that the unreported tobacco sales of Beaufort Leaf for 1991 were recomputed on the basis of "checks written to Beaufort Leaf Tobacco Company from auction sales of tobacco but not deposited to the business account" in the aggregate amount of $ 1,054,576 and not included in the gross income reported by the partnership for 1991. The record of this case contains a list of the undeposited checks showing the date of each auction sale, the name and location of the warehouse in which the sale took place, the amount of the check, and other information. Beaufort Leaf is listed as the dealer for each sale and was the payee of each undeposited check. All of the undeposited checks were endorsed1999 Tax Ct. Memo LEXIS 225">*245 by Mr. Roberts on behalf of Beaufort Leaf to other persons who endorsed the checks, so-called second endorsers. The following is a summary of the list of undeposited checks grouped according to the second endorsers:
Second Endorser Total Received
_______________ ______________
A.H. Pruit $ 5,428
Albert E. Vaughan 16,442
Bobby W. Griffin 256,360
Cash N/A Flash 159,538
Classic Pawn Shop 45,444
Coastal Tobacco 19,758
Day & Nite, Inc. 235,590
Estel D. Simmons 72,232
Greenville TV 2,780
Harold Simmons 63,301
James L. Vaughan 151,134
Martin Van Lee 16,813
Pawn & Shoppe, Inc. 9,756
_________
Total unreported tobacco
sales for 1991 1,054,576
The list of undeposited checks, 1999 Tax Ct. Memo LEXIS 225">*246 described above, consists of 247 transactions. Of those transactions, 75 occurred at the Big Dixie Warehouse and 6 occurred at Bob Clark's Warehouse. These transactions are shown below:
Date Warehouse Amount Second Endorser
____ _________ ______ _______________
09/11/91 Big Dixie $ 3,533.25 Classic Pawn Shop
09/17/91 Big Dixie 5,222.93 Bobby W. Griffin
10/10/91 Big Dixie 928.97 Estel D. Simmons
10/10/91 Big Dixie 251.07 Estel D. Simmons
10/10/91 Big Dixie 4,056.35 Day & Nite, Inc.
10/10/91 Big Dixie 7,680.98 Day & Nite, Inc.
10/10/91 Big Dixie 5,657.07 Day & Nite, Inc.
10/10/91 Big Dixie 5,553.79 Day & Nite, Inc.
10/10/91 Big Dixie 5,053.79 Day & Nite, Inc.
10/10/91 Big Dixie 3,475.33 Estel D. Simmons
10/10/91 Big Dixie 3,214.88 Day & Nite, Inc.
10/10/91 Big Dixie 2,856.89 Day & Nite, Inc.
10/10/91 Big Dixie 3,310.14 Estel1999 Tax Ct. Memo LEXIS 225">*247 D. Simmons
10/10/91 Big Dixie 4,340.97 Day & Nite, Inc.
10/10/91 Big Dixie 3,679.90 Estel D. Simmons
10/10/91 Big Dixie 6,311.83 Estel D. Simmons
10/10/91 Big Dixie 1,061.84 Harold Simmons
10/10/91 Big Dixie 4,664.55 Harold Simmons
10/10/91 Big Dixie 2,209.76 Harold Simmons
10/14/91 Big Dixie 1,794.68 Cash N/A Flash
10/14/91 Big Dixie 1,671.69 Cash N/A Flash
10/14/91 Big Dixie 2,779.71 Greenville TV
10/16/91 Big Dixie 5,250.06 Cash N/A Flash
10/16/91 Big Dixie 6,109.56 Cash N/A Flash
10/16/91 Big Dixie 2,481.27 Cash N/A Flash
10/16/91 Big Dixie 6,437.98 Cash N/A Flash
10/16/91 Big Dixie 4,895.64 Cash N/A Flash
10/16/91 Big Dixie 2,606.77 Day & Nite, Inc.
10/16/91 Big Dixie 2,296.31 Cash N/A Flash
10/16/91 Big Dixie 6,400.79 Cash N/A Flash
10/17/91 Big Dixie 3,708.50 Cash N/A1999 Tax Ct. Memo LEXIS 225">*248 Flash
10/17/91 Big Dixie 5,677.61 Cash N/A Flash
10/17/91 Big Dixie 6,568.49 Cash N/A Flash
10/17/91 Big Dixie 5,947.32 Cash N/A Flash
10/17/91 Big Dixie 5,281.77 Cash N/A Flash
10/17/91 Big Dixie 5,495.07 Cash N/A Flash
10/17/91 Big Dixie 4,974.55 Cash N/A Flash
10/17/91 Big Dixie 5,062.22 Cash N/A Flash
10/17/91 Big Dixie 5,166.51 Cash N/A Flash
10/17/91 Big Dixie 5,428.28 A.H. Pruit
10/17/91 Big Dixie 7,189.61 Day & Nite, Inc.
10/17/91 Big Dixie 216.78 Day & Nite, Inc.
10/21/91 Big Dixie 6,723.67 Cash N/A Flash
10/21/91 Big Dixie 3,079.56 Cash N/A Flash
10/21/91 Big Dixie 1,081.65 Cash N/A Flash
10/21/91 Big Dixie 1,943.41 Cash N/A Flash
10/21/91 Big Dixie 2,959.36 Cash N/A Flash
10/21/91 Big Dixie 4,231.81 Cash N/A Flash
10/21/91 Big Dixie 3,495.18 Cash N/A Flash
10/21/911999 Tax Ct. Memo LEXIS 225">*249 Big Dixie 5,101.46 Cash N/A Flash
10/21/91 Big Dixie 5,910.94 Cash N/A Flash
10/21/91 Big Dixie 6,367.52 Cash N/A Flash
10/21/91 Big Dixie 301.81 Cash N/A Flash
10/21/91 Big Dixie 6,549.17 Cash N/A Flash
10/21/91 Big Dixie 7,190.33 Cash N/A Flash
10/21/91 Big Dixie 6,726.40 Cash N/A Flash
10/21/91 Big Dixie 6,725.89 Cash N/A Flash
10/22/91 Big Dixie 1,119.27 Harold Simmons
10/22/91 Big Dixie 6,531.59 Estel D. Simmons
10/22/91 Big Dixie 2,651.59 Estel D. Simmons
10/22/91 Big Dixie 3,319.38 Estel D. Simmons
10/22/91 Big Dixie 4,698.06 Estel D. Simmons
10/22/91 Big Dixie 4,858.18 Estel D. Simmons
10/22/91 Big Dixie 4,258.52 Harold Simmons
10/22/91 Big Dixie 6,601.78 Estel D. Simmons
10/22/91 Big Dixie 4,113.32 Harold Simmons
10/22/91 Big Dixie 3,000.10 Pawn & Shoppe
10/22/91 1999 Tax Ct. Memo LEXIS 225">*250 Big Dixie 5,605.59 Harold Simmons
10/22/91 Big Dixie 4,561.06 Harold Simmons
10/22/91 Big Dixie 4,530.43 Harold Simmons
10/22/91 Big Dixie 998.80 Harold Simmons
10/23/91 Big Dixie 927.19 Pawn & Shoppe
10/23/91 Big Dixie 4,132.13 Harold Simmons
10/23/91 Big Dixie 802.81 Estel D. Simmons
10/23/91 Big Dixie 5,828.91 Pawn & Shoppe
___________
$ 313,432.33
10/07/91 Bob Clark's $ 7,155.92 Harold Simmons
10/07/91 Bob Clark's 3,673.92 Estel D. Simmons
10/21/91 Bob Clark's 6,926.55 Estel D. Simmons
10/07/91 Bob Clark's 7,286.44 Estel D. Simmons
10/07/91 Bob Clark's 6,980.13 Harold Simmons
10/21/91 Bob Clark's 2,439.72 Cash N/A Flash
___________
$ 34,462.07
Mr. Gaskins purchased the Big Dixie Warehouse in 1990. Set out below is a summary of the transactions reported1999 Tax Ct. Memo LEXIS 225">*251 on the Forms MQ- 79 filed on behalf of Beaufort Leaf for 1990 and 1991 that took place at the Big Dixie Warehouse:
Purchases Resales
__________________ ____________________
Date Pounds Dollars Pounds Dollars Executed By
____ ______ _______ ______ _______ ___________
9/12/90 -- -0- 4,017 $ 7,017 Linda Mercer
9/18/90 -- -0- 3,772 6,619 Linda Mercer
9/24/90 -- -0- 11,145 17,063 Mary D. Lancaster
9/25/90 -- -0- 7,866 13,841 Mary D. Lancaster
9/26/90 -- -0- 10,465 18,105 Mary D. Lancaster
9/27/90 -- -0- 2,811 5,005 Mary D. Lancaster
10/01/90 -- -0- 9,721 17,374 Mary D. Lancaster
10/02/90 -- -0- 11,033 19,509 Mary D. Lancaster
10/03/90 -- -0- 5,881 10,138 Mary D. Lancaster
10/04/90 -- -0- 7,723 13,284 Mary D. Lancaster
10/09/90 -- -0- 11,006 19,368 Mary D. Lancaster
10/09/90 -- -0- 18,037 22,210 Dewey Gaskins
10/10/90 -- -0- 5,287 8,9611999 Tax Ct. Memo LEXIS 225">*252 Mary D. Lancaster
10/15/90 -- -0- 15,412 26,632 Mary D. Lancaster
10/16/90 -- -0- 16,730 28,080 Mary D. Lancaster
10/17/90 -- -0- 1,529 2,373 Mary D. Lancaster
10/18/90 -- -0- 6,167 9,606 Mary D. Lancaster
10/22/90 -- -0- 7,149 12,137 Mary D. Lancaster
10/23/90 -- -0- 19,525 29,897 Mary D. Lancaster
10/24/90 -- -0- 7,896 12,532 Mary D. Lancaster
10/25/90 -- -0- 8,294 12,804 Mary D. Lancaster
10/29/90 -- -0- 19,184 28,528 (No Signature)
10/30/90 -- -0- 11,500 17,730 (No Signature)
10/31/90 6,784 $ 6,784 -- -0- Dewey Gaskins
8/01/91 -- -0- 6,784 6,784 Dewey Gaskins
8/01/91 -- -0- 27,421 31,534 Dewey Gaskins
9/11/91 -- -0- 3,447 6,157 Dewey Gaskins
9/17/91 -- -0- 4,588 8,402 Dewey Gaskins
9/19/91 -- -0- 4,517 8,176 Dewey Gaskins
10/10/91 -- -0- 40,477 72,727 Dewey Gaskins
10/15/91 -- -0- 39,632 1999 Tax Ct. Memo LEXIS 225">*253 69,381 Mary D. Lancaster
10/16/91 -- -0- 38,125 66,787 Mary D. Lancaster
10/17/91 -- -0- 39,421 69,278 Mary D. Lancaster
10/21/91 -- -0- 40,135 70,572 Dewey Gaskins
10/22/91 -- -0- 39,694 67,379 Dewey Gaskins
10/23/91 -- -0- 28,387 47,586 Dewey Gaskins
______ ______ _______ _______
6,784 6,784 534,778 883,576
As shown above, in 1990 and 1991, Mr. Dewey Gaskins, acting on behalf of Big Dixie Warehouse, executed 11 of the Forms MQ-79 filed on behalf of Beaufort Leaf to document transactions at the Big Dixie Warehouse.
Mr. Gaskins also had a relationship with the Big Burley Warehouse, but the record does not state the precise nature of that relationship. The Forms MQ-79 filed on behalf of Beaufort Leaf report the following transactions at the Big Burley Warehouse:
Resales
___________________
Date Pounds Dollars Executed By
____ ______ _______ ___________
1/08/90 5,922 $ 9,890 Jennie E. Tingle
1/09/901999 Tax Ct. Memo LEXIS 225">*254 14,910 24,900 Jennie E. Tingle
1/10/90 11,168 18,710 Dewey Gaskins
1/11/90 6,504 10,907 Dewey Gaskins
1/16/90 20,211 33,788 Jennie E. Tingle
1/17/90 290 484 Jennie E. Tingle
1/22/90 3,702 6,193 Dewey Gaskins
1/23/90 4,218 7,044 Dewey Gaskins
1/24/90 602 1,014 Dewey Gaskins
1/25/90 4,550 7,652 Dewey Gaskins
1/29/90 7,306 12,263 Dewey Gaskins
1/30/90 6,212 10,418 Dewey Gaskins
12/06/90 40,136 70,490 Dewey Gaskins
12/12/90 40,265 70,308 Jennie E. Tingle
12/13/90 440 770 (No Signature)
1/30/91 12,030 21,293 Dewey Gaskins
_______ _______
178,466 306,124
As shown above, Mr. Gaskins, acting on behalf of Big Burley Warehouse, executed 10 of the Forms MQ-79 filed by Beaufort Leaf during 1990 and 1991 to document transactions1999 Tax Ct. Memo LEXIS 225">*255 at the Big Burley Warehouse.
It appears that during 1990 and 1991, Mr. Mark Pridgen had a relationship with Bob Clark's Warehouse, but the record does not describe the precise nature of that relationship. The Forms MQ-79 filed on behalf of Beaufort Leaf for 1990 and 1991 report the following transactions at Bob Clark's Warehouse:
Purchases Resales
__________________ ____________________
Date Pounds Dollars Pounds Dollars Executed By
____ ______ _______ ______ _______ ___________
7/30/90 42,362 $ 61,425 -- -0- Mark Pridgen
7/31/90 -- -0- 4,474 $ 6,899 Mark Pridgen
8/02/90 -- -0- 14,515 22,217 Mark Pridgen
8/03/90 12,325 17,748 -- -0- Mark Pridgen
8/22/90 -- -0- 7,713 11,630 Louise W. Broome
8/27/90 -- -0- 2,649 4,550 Louise W. Broome
8/28/90 -- -0- 5,608 9,594 Louise W. Broome
8/29/90 -- -0- 1,998 3,304 Louise W. Broome
8/30/90 -- -0- 3,314 5,704 Louise W. Broome
9/06/90 -- -0- 7,679 13,100 1999 Tax Ct. Memo LEXIS 225">*256 Louise W. Broome
9/10/90 -- -0- 2,042 3,257 Louise W. Broome
9/18/90 -- -0- 6,279 11,009 Louise W. Broome
9/25/90 -- -0- 6,271 10,945 Louise W. Broome
10/04/90 -- -0- 25,297 37,440 Mark Pridgen
10/24/90 -- -0- 2,836 3,511 Mark D. Pridgen
10/29/90 -- -0- 5,717 6,509 Mark D. Pridgen
7/15/91 -- -0- 63,025 75,630 Louise W. Broome
9/02/91 63,182 91,614 -- -0- Louise W. Broome
9/24/91 -- -0- 63,498 88,262 Mark Pridgen
10/07/91 -- -0- 18,146 33,034 Louise W. Broome
10/09/91 -- -0- 2,973 4,402 Louise W. Broome
10/21/91 -- -0- 1,650 2,521 Louise W. Broome
_______ _______ _______ _______
117,869 170,787 245,684 353,519
As shown above, during 1990 and 1991, Mr. Mark Pridgen, acting on behalf of Bob Clark's Warehouse, executed eight of the Forms MQ-79 filed on behalf of Beaufort Leaf to document transactions at Bob Clark's Warehouse.
It is not evident from the record of this case whether any of 1999 Tax Ct. Memo LEXIS 225">*257 the 247 transactions set out on the list of undeposited checks, including the 81 transactions at the Big Dixie Warehouse and Bob Clark's Warehouse, were reported in any of the Forms MQ-79 filed on behalf of Beaufort Leaf.
The second adjustment to Beaufort Leaf's 1990 and 1991 returns that was made by respondent in the subject notices of deficiency is the disallowance of certain purchases included as cost of goods. The explanation of that adjustment in the notices of deficiency is as follows:
The amount of $ 1,057,163.00 and $ 2,173,562.00 [sic] shown
on your respective 1990 and 1991 tax returns as tobacco
purchases is reduced by $ 429,421.00 and $ 1,173,203.00 because it
has not been established that any amount more than $ 627,742.00
and $ 1,000,359.00 was for an ordinary and necessary business
expense, or was expended for the purpose designated. Therefore,
the partnership income is increased $ 429,421.00 in 1990 and
$ 1,173,203.00 in 1991.
We note that Beaufort Leaf's 1991 return includes purchases of $ 2,713,562.46 in computing cost of goods sold, rather than "$ 2,173,562.00", as stated in the notices of deficiency. Set out below is a1999 Tax Ct. Memo LEXIS 225">*258 list of the date, check number, payee, and amount of each check disallowed by respondent:
1990 DISALLOWED PURCHASES
Date Check No. Payee Amount
____ _________ _____ ______
1/17/90 2777 Blue Ridge Tobacco $ 9,500.00
1/17/90 2778 Blue Ridge Tobacco 9,500.00
1/21/90 2782 Blue Ridge Tobacco 9,500.00
1/21/90 2783 Blue Ridge Tobacco 9,500.00
1/21/90 2785 Blue Ridge Tobacco 9,500.00
1/21/90 2786 Blue Ridge Tobacco 9,500.00
1/21/90 2787 Blue Ridge Tobacco 9,500.00
1/21/90 2788 Blue Ridge Tobacco 7,717.70
1/31/90 2797 Blue Ridge Tobacco 7,000.00
1/31/90 2798 Blue Ridge Tobacco 7,012.14
1/31/90 2799 Blue Ridge Tobacco 5,100.00
1/31/90 2800 Blue Ridge Tobacco 4,710.92
2/28/90 2810 James V. Wells 8,000.00
2/28/90 2811 Blue Ridge Tobacco 8,000.00
2/28/90 28121999 Tax Ct. Memo LEXIS 225">*259 Blue Ridge Tobacco 8,000.00
2/28/90 2813 Blue Ridge Tobacco 7,908.00
6/29/90 2844 Blue Ridge Tobacco 93,000.00
9/24/90 545 Blue Ridge Tobacco 1,700.00
11/22/90 586 Blue Ridge Tobacco 8,000.00
11/22/90 587 Blue Ridge Tobacco 2,021.25
12/19/90 643 James Vaughn 9,000.00
12/19/90 644 Albert Vaughn 9,000.00
10/03/90 553 Coastal Tobacco 7,000.00
10/04/90 554 Coastal Tobacco 8,000.00
10/05/90 555 Coastal Tobacco 9,500.00
10/05/90 558 Coastal Tobacco 8,746.72
10/09/90 566 Coastal Tobacco 9,000.00
10/10/90 567 Coastal Tobacco 8,000.00
10/17/90 577 Coastal Tobacco 9,000.00
10/17/90 578 Coastal Tobacco 9,000.00
10/17/90 579 Coastal Tobacco 9,000.00
10/25/90 591 Coastal Tobacco 9,500.00
12/04/90 635 Graham Day 1999 Tax Ct. Memo LEXIS 225">*260 54,004.08
12/14/90 640 Tammy Short 9,000.00
12/14/90 639 Dennis Hawley 9,000.00
12/21/90 646 Dennis Hawley 9,000.00
12/26/90 652 Dennis Hawley 9,000.00
__________
429,420.81
1991 DISALLOWED PURCHASES
Date Check No. Payee Amount
____ _________ _____ ______
8/22/92 836 Coastal Tobacco $ 9,800
8/22/91 837 Coastal Tobacco 9,800
8/23/91 838 Coastal Tobacco 3,700
8/28/91 847 Coastal Tobacco 9,800
8/03/91 854 Cash 9,000
8/03/91 855 Cash 9,000
9/03/91 856 Coastal Tobacco 571
9/30/91 881 Martin Lee 9,500
10/01/91 882 Martin Lee 9,500
10/01/91 883 1999 Tax Ct. Memo LEXIS 225">*261 Martin Lee 4,991
10/09/91 897 Martin Lee 9,800
10/09/91 898 Martin Lee 9,800
10/10/91 899 Martin Lee 8,000
10/18/91 910 Martin Lee 9,800
10/18/91 911 Martin Lee 9,800
10/18/91 912 Martin Lee 9,800
10/18/91 913 Martin Lee 5,541
11/20/91 939 Okay Leaf 200,000
12/19/91 953 Okay Leaf 200,000
12/31/91 963 Okay Leaf 150,000
12/12/91 954 Coastal Tobacco 35,000
12/31/91 962 C.L. Gurganus Whse 100,000
_______
823,203
Accounts payable -- "OK Leaf" 350,000
_________
1,173,203
On his income tax returns for 1990 and 1991, each petitioner1999 Tax Ct. Memo LEXIS 225">*262 included one-third of the net income reported by Beaufort Leaf. Mr. Pridgen's returns were prepared by the certified public accounting firm of Anthony & Tabb or its predecessor. Mr. Gaskins' returns were prepared by a certified public accountant, Mr. Frank Harper.
The two adjustments that respondent made to Beaufort Leaf's 1990 and 1991 returns, described above, increased the partnership's income and increased each partner's one-third distributive share of the partnership's income by the following amounts:
1990 1991
____ ____
Amount reported $ 47,205 $ 46,953
Unreported gross receipts 888,528 1,054,576
Disallowed purchases 429,421 1,173,203
__________ __________
Adjusted income 1,364,154 2,274,732
One-third share 455,051 758,244
Less: amounts reported 15,735 15,651
__________ __________
Increase in partner's share 439,316 742,593
Based on1999 Tax Ct. Memo LEXIS 225">*263 the adjustments to the partnership's income, respondent issued a notice of deficiency to each petitioner adjusting his individual income as follows:
Mr. Pridgen 1990 1991
___________ ____ ____
Share of partnership income $ 439,316 $ 741,498
Self-employment tax deduction (461) (1,027)
Deduction for exemptions 4,300
__________ __________
Total adjustments 438,855 744,771
Reported income 56,863 64,890
__________ __________
Adjusted income 495,718 809,661
Mr. Gaskins 1990 1991
___________ ____ ____
Share of partnership income $ 439,316 $ 742,593
Self-employment tax deduction (1,635) (4,971)
Deduction for exemptions 8,600
__________ __________
Total adjustments 437,681 746,222
1999 Tax Ct. Memo LEXIS 225">*264 Reported income 27,753 42,626
__________ __________
Adjusted income 465,434 788,848
OPINION
UNREPORTED SALES
The first issue for decision is whether unreported income in the amount of $ 888,528 in 1990 and $ 1,054,576 in 1991 should be included in Beaufort Leaf's gross receipts, as determined by respondent. If Beaufort Leaf's gross receipts are increased as determined by respondent, then a one-third distributive share of the additional partnership income attributable to this adjustment is includable in the income of each petitioner. See sec. 702(a);
United States v. Basye, 410 U.S. 441">410 U.S. 441 , 410 U.S. 441">453-454, 35 L. Ed. 2d 412">35 L. Ed. 2d 412, 93 S. Ct. 1080">93 S. Ct. 1080 (1973).Petitioners advance two arguments in support of their position that respondent erred by increasing Beaufort Leaf's gross receipts. First, they argue that the sales that are the source of the unreported income were outside the scope of the business of Beaufort Leaf. Accordingly, petitioners argue that the unreported income is the income of Mr. Roberts, not the income of Beaufort Leaf, and there is no basis to assess tax on the unreported income against petitioners1999 Tax Ct. Memo LEXIS 225">*265 as partners of Beaufort Leaf. In support of this argument, petitioners assert that the unreported income was derived from "illegal sales of nonexistent or over-quota tobacco * * * contrary to Federal law" and were made by Mr. Roberts without the knowledge, consent, or ratification of petitioners.
According to petitioners, under North Carolina partnership law, activities are outside the scope of the partnership unless expressly authorized by the partnership agreement or the other partners. See, e.g.,
Shelton v. Fairley, 86 N.C. App. 147">86 N.C. App. 147 , 356 S.E.2d 917">356 S.E.2d 917 (N.C. Ct. App. 1987);Investors Title Ins. Co. v. Herzig, 83 N.C. App. 392">83 N.C. App. 392 , 350 S.E.2d 160">350 S.E.2d 160 (N.C. Ct. App. 1986), revd. on other grounds320 N.C. 770">320 N.C. 770 , 360 S.E.2d 786">360 S.E.2d 786 (N.C. 1987); see alsoReed Coal Co. v. Fain, 171 N.C. 646">171 N.C. 646 , 89 S.E. 29">89 S.E. 29 (N.C. 1916). Petitioners assert that Beaufort Leaf's oral partnership agreement did not authorize Mr. Roberts to engage in such illegal activities. Thus, petitioners argue that the income realized is not includable in Beaufort Leaf's gross receipts.In further support of this argument, petitioners assert that neither Beaufort Leaf nor petitioners knew of or received1999 Tax Ct. Memo LEXIS 225">*266 any economic benefit from Mr. Roberts' illegal sales of tobacco, and, therefore, only Mr. Roberts is subject to tax on the income from such sales. Petitioners rely on
Commissioner v. Smith, 285 F.2d 91">285 F.2d 91 (5th Cir. 1960), affg.Griffin v. Commissioner, T.C. Memo 1958-210 . The taxpayer in that case had received "over-ceiling payments" from the purchasers of bottled whiskies. See285 F.2d 91">id. at 92 . The whiskies were owned by partnerships of which the taxpayer was a partner. See id. The Court of Appeals affirmed the finding of this Court that the "overceiling payments" were income to the taxpayer and not to the partnerships. See285 F.2d 91">id. at 98 . Petitioners argue that the Court of Appeals "ruled that there was no evidence suggesting that the partnership agreement in question 'comprehended' illegal transactions or 'entitled' the other partners 'to part of the illegal payments * * *'". (Petitioners' brief quoting fromCommissioner v. Smith, supra 285 F.2d 91">285 F.2d at 97 .)Second, petitioners argue that, even if the Court finds that the unreported income was partnership income, it was derived by Mr. Roberts from illegal activities, involving the "sale of excess1999 Tax Ct. Memo LEXIS 225">*267 or non-existent quota tobacco", and respondent has failed "to establish any foundation linking petitioners with the underlying illegal activity." Petitioners cite
Williams v. Commissioner, 999 F.2d 760">999 F.2d 760 , 999 F.2d 760">764 (4th Cir. 1993), affg.T.C. Memo 1992-153 ;Portillo v. Commissioner, 932 F.2d 1128">932 F.2d 1128 (5th Cir. 1991), affg. in part and revg. in partT.C. Memo 1990-68 ;Petzoldt v. Commissioner, 92 T.C. 661">92 T.C. 661 (1989); andTokarski v. Commissioner, 87 T.C. 74">87 T.C. 74 (1986). Petitioners acknowledge that there is evidence linking the unreported income to Beaufort Leaf, such as the fact that each of the undeposited checks for 1991 was made payable to Beaufort Leaf. Nevertheless, petitioners argue that such evidence is not sufficient to satisfy respondent's burden of proof under the cases cited above. According to petitioners, respondent must introduce "significantly more compelling evidence, such as proof that the Petitioners received the proceeds of Robert's [sic] over-quota transactions."At the outset, we note that there is evidence that, during1999 Tax Ct. Memo LEXIS 225">*268 the years in issue, Mr. Roberts joined a group of persons headed by Mr. James V. Wells to engage in a fraudulent scheme to acquire and sell excess-quota tobacco. In paragraph 5(d) of both petitions, petitioners describe the scheme as a widespread scheme, involving Mr. Roberts and "numerous other bogus dealers and/or legitimate dealers". Paragraph 5(d) of the subject petitions states as follows:
In 1990 and1991 , the managing partner entered into anillegal scheme to fraudulently use Dealer Books, MQ-79, of the
Company for his own personal gain. Roberts became involved with
numerous other bogus dealers and/or legitimate dealers to
defraud the U.S. Department of Agriculture by selling excess
quota or nonexistent quota. The bogus dealers and/or legitimate
dealers conspired to create nonexistent quota by entering false
purchases on the bogus dealer's MQ-79 dealer books. The
participants then secured tobacco inventory directly from
farmers who had produced excess farm quota. These were cash
transactions. With the actual receipt of new tobacco and a MQ-79
dealer book reflecting legitimate purchases the various bogus
1999 Tax Ct. Memo LEXIS 225">*269 and legitimate dealers were able to sell excess quota and profit
there from [sic].
Respondent admitted that Mr. Roberts engaged in the above "illegal scheme" but denied that he did so "for his own personal gain."
In order to describe the scheme further, petitioner introduced into evidence the report of an agent of the Internal Revenue Service who audited Mr. Wells' returns for 1988 through 1991. That report describes the scheme as follows:
Wells is believed to be a key figure in a fraudulent scheme
within the tobacco industry. The source of the omitted income is
excess tobacco which is sold via a tobacco dealer card. Because
tobacco is a highly regulated commodity, the sales of excess
tobacco (without imposition of penalty on the farmer's
subsequent year quota) are illegal. Wells uses individuals and
corporate entities as nominees and/or alter egos. No one in the
conspiracy reports the receipts. Essentially, the fraud is
perpetrated by fictitious purchases on the tobacco dealer's
weekly report to the Agricultural Stabilization and Conservation
Service (ASCS). Against these purchases the dealer is allowed
sales at auction1999 Tax Ct. Memo LEXIS 225">*270 of an equal number of pounds. In actuality, it
is the excess tobacco purchased from farmers that is sold on the
dealer's card.
Wells used individuals by recruiting people to register with
ASCS as a dealer in tobacco, which allowed them to purchase and
resell tobacco. Primarily, purchases were from individuals and
resales were primarily at warehouses, but a few exceptions were
entered. When the tobacco is sold at the warehouses, the checks
are written to the dealer who is the owner of record. The
dealers endorse the checks and turn them over to Wells or one of
his nominees/alter egos who handled his money. Often they would
cash the checks and turn the cash over to Wells or one of his
moneymen. Alternatively, the check will be deposited into a
nominee/alter ego corporate account, or the warehouse check may
be endorsed over to a co-conspirator, or used directly to
purchase an asset.
The dealers are required to file with ASCS weekly reports of all
their purchases and sales of tobacco, form MQ-79. Wells and his
inner circle of associates actually prepared and submitted to
ASCS the false MQ-79's. 1999 Tax Ct. Memo LEXIS 225">*271 A few of the individuals in the
conspiracy were Bud Howard, Albert Earl Vaughan, James Brake,
Rodney Howard, Graham Lee Day, Milton J. Elder, Ronald Bowen,
Harvey Moore and Harry Lee Roberts.
* * * * * * *
In addition, other individuals and their controlled corporations
were used to launder money and/or hold assets. These include:
Harry Lee Roberts and Beaufort Leaf Tobacco Dennis Hawley
and Coastal Tobacco Co. C. L. Gurganus and Gurganus Tobacco
Warehouse H. D. Pegram and Pegram Tobacco Co.
According to the audit report involving Mr. Wells, various checks made payable to Beaufort Leaf were deposited into accounts controlled by Mr. James V. Wells. Set out below are the dates, amounts, and payors of these checks:
CENTURA (PLANTERS) BANK ACCOUNT:
Date Amount Payor Payee
____ ______ _____ _____
9/26/91 $ 7,265.90 Farmers Whse Beaufort Leaf
9/26/91 5,424.50 Farmers Whse Beaufort Leaf
9/24/91 6,685.14 New Independent Whse Beaufort Leaf
9/24/91 4,553.33 New Independent1999 Tax Ct. Memo LEXIS 225">*272 Whse Beaufort Leaf
9/23/91 5,043.50 New Independent Whse Beaufort Leaf
9/23/91 6,957.42 New Independent Whse Beaufort Leaf
9/23/91 4,982.96 New Independent Whse Beaufort Leaf
9/23/91 4,892.93 New Independent Whse Beaufort Leaf
9/25/91 6,391.56 New Independent Whse Beaufort Leaf
9/25/91 5,820.56 New Independent Whse Beaufort Leaf
9/26/91 2,785.54 New Independent Whse Beaufort Leaf
9/25/91 6,623.22 Farmers Whse Beaufort Leaf
9/23/91 6,648.22 Farmers Whse Beaufort Leaf
9/23/91 5,686.96 Farmers Whse Beaufort Leaf
9/24/91 6,422.40 Farmers Whse Beaufort Leaf
_________
86,184.14
BB & T ACCOUNT:
Date Amount Payor Payee
____ ______ _____ _____
10/23/91 $ 5,567.10 Big Dixie Whse Beaufort Leaf
10/23/91 2,514.26 Big Dixie Whse Beaufort Leaf
10/23/91 6,549.91 Big Dixie Whse Beaufort Leaf
10/23/91 6,682.55 Big Dixie Whse Beaufort Leaf
10/23/91 1999 Tax Ct. Memo LEXIS 225">*273 2,828.85 Big Dixie Whse Beaufort Leaf
10/23/91 3,609.56 Big Dixie Whse Beaufort Leaf
10/23/91 5,404.87 Big Dixie Whse Beaufort Leaf
10/23/91 5,333.97 Big Dixie Whse Beaufort Leaf
10/23/91 4,347.10 Big Dixie Whse Beaufort Leaf
__________
42,838.17
FIRST CITIZENS BANK ACCOUNT:
Date Amount Payor Payee
____ ______ _____ _____
11/06/91 $ 4,974.55 Big Dixie Whse Beaufort Leaf
11/06/91 6,568.49 Big Dixie Whse Beaufort Leaf
11/06/91 3,079.56 Big Dixie Whse Beaufort Leaf
11/06/91 6,726.40 Big Dixie Whse Beaufort Leaf
11/06/91 5,101.46 Big Dixie Whse Beaufort Leaf
11/06/91 1,081.65 Big Dixie Whse Beaufort Leaf
11/06/91 301.81 Big Dixie Whse Beaufort Leaf
11/06/91 6,723.67 Big Dixie Whse Beaufort Leaf
11/06/91 3,495.18 Big Dixie Whse Beaufort Leaf
11/06/91 4,231.81 Big Dixie Whse Beaufort Leaf
11/06/91 5,910.94 Big Dixie1999 Tax Ct. Memo LEXIS 225">*274 Whse Beaufort Leaf
11/06/91 6,367.52 Big Dixie Whse Beaufort Leaf
11/06/91 2,959.36 Big Dixie Whse Beaufort Leaf
11/06/91 7,190.33 Big Dixie Whse Beaufort Leaf
11/06/91 6,725.89 Big Dixie Whse Beaufort Leaf
11/06/91 1,943.41 Big Dixie Whse Beaufort Leaf
11/06/91 6,549.17 Big Dixie Whse Beaufort Leaf
11/06/91 3,708.50 Big Dixie Whse Beaufort Leaf
11/06/91 1,671.69 Big Dixie Whse Beaufort Leaf
11/06/91 1,794.68 Big Dixie Whse Beaufort Leaf
11/06/91 5,166.51 Big Dixie Whse Beaufort Leaf
11/06/91 2,296.31 Big Dixie Whse Beaufort Leaf
11/06/91 5,062.22 Big Dixie Whse Beaufort Leaf
11/06/91 5,495.07 Big Dixie Whse Beaufort Leaf
11/06/91 4,895.64 Big Dixie Whse Beaufort Leaf
11/06/91 6,437.98 Big Dixie Whse Beaufort Leaf
11/06/91 5,250.06 Big Dixie Whse Beaufort Leaf
11/06/91 2,481.27 Big Dixie Whse Beaufort Leaf
11/06/91 6,109.56 Big Dixie Whse Beaufort Leaf
11/06/911999 Tax Ct. Memo LEXIS 225">*275 2,439.72 Bob Clark's Whse Beaufort Leaf
11/07/91 3,490.26 New Greenville Beaufort Leaf
11/07/91 5,947.32 Big Dixie Whse Beaufort Leaf
11/07/91 6,400.79 Big Dixie Whse Beaufort Leaf
11/07/91 5,281.77 Big Dixie Whse Beaufort Leaf
11/07/91 5,677.61 Big Dixie Whse Beaufort Leaf
__________
159,538.16
Respondent concedes that the above checks, totaling $ 288,560.47, were included in Beaufort Leaf's unreported income for 1991, as determined by respondent. There is no evidence that any other unreported income was related in any way to the scheme to sell excess-quota tobacco.
As a preliminary matter, several comments about the facts of these cases are in order. First, we disagree with petitioners' assertion that the source of all of the unreported income at issue was the "illegal scheme engineered by Harry Lee Roberts whereby Roberts was engaged in numerous sales of over-quota tobacco, in violation of federal law and Department of Agriculture regulations." Petitioners assert that respondent's answer acknowledged that the unreported sales of tobacco were "the direct1999 Tax Ct. Memo LEXIS 225">*276 result" of the illegal scheme. Contrary to petitioners' assertion, respondent's answer admitted only that Mr. Roberts engaged in such a scheme, but it did not admit that the scheme was the source of all or any of the unreported income determined in these cases. As discussed above, there is no evidence that any of the unreported income in 1990 or 1991 was related in any way to the scheme, except for $ 288,560 in 1991 that was deposited into accounts controlled by Mr. Wells. Even as to this amount, there is nothing in the audit report involving Mr. Wells which suggests that such amount is not includable in Beaufort Leaf's gross income in 1991. In passing, we note that petitioners do not claim that such amount is a deductible expense in 1991.
Second, we do not credit the testimony of each petitioner suggesting that he did not know of or approve Beaufort Leaf's participation in the scheme. Both petitioners owned or had a financial interest in tobacco warehouses and were actively engaged in the tobacco business. They are knowledgeable and sophisticated members of the relatively small community of persons who engage in that business. We do not believe that Mr. Roberts' activities in furtherance1999 Tax Ct. Memo LEXIS 225">*277 of the scheme that petitioners describe as widespread, could have escaped the attention of both petitioners. Indeed, we note that some of the unreported sales were made at the warehouses in which petitioners had an interest. Furthermore, we do not accept the testimony of each petitioner that he agreed to finance the operation of Beaufort Leaf by cosigning a note for $ 300,000 and he took no action to supervise those operations by reviewing the partnership's Forms MQ-79 or taking any other action.
Third, we do not accept petitioners' assertion that Beaufort Leaf or petitioners realized no proceeds of, or economic benefit from, Beaufort Leaf's participation in the scheme. The testimony of both petitioners focuses on the list of unreported checks for 1991. Each petitioner testified that he never received the proceeds or economic benefit from those specific checks. Each petitioner also testified that he did not receive moneys or economic benefit from Beaufort Leaf other than what is shown on his income tax returns. However, the testimony of both petitioners leaves open the possibility that moneys or economic benefit was received by other persons or entities related to them. It also leaves1999 Tax Ct. Memo LEXIS 225">*278 open the possibility that moneys or economic benefit was received from someone other than Beaufort Leaf.
In sum, petitioners have not established the facts underlying their argument that the unreported sales determined by respondent were outside the scope of the business of Beaufort Leaf or that petitioners did not know of or receive any economic benefit from the unreported sales of tobacco.
We also disagree with petitioners' argument that respondent failed to meet the Government's burden of establishing a link between petitioners and the underlying illegal activity. While it is by no means clear that respondent bears such a burden in this case, there is ample evidence that Beaufort Leaf received the unreported income determined by respondent for 1990 and 1991. Respondent determined the unreported income for 1990 on the basis of the Forms MQ-79 filed by the partnership for that year. Respondent determined the unreported income for 1991 on the basis of checks made payable to Beaufort Leaf and given to the partnership's managing partner. Petitioners admit that they were partners in Beaufort Leaf and as partners received withdrawals of moneys from the partnership. In light of those facts, 1999 Tax Ct. Memo LEXIS 225">*279 which are not disputed, there is no basis to conclude that there is an inadequate evidentiary foundation for respondent's determination of unreported income in the subject notices of deficiency or that the notices of deficiency are arbitrary or without rational foundation. Cf.
Williams v. Commissioner, 999 F.2d 760">999 F.2d 760 (4th Cir. 1993);Portillo v. Commissioner, 932 F.2d 1128">932 F.2d 1128 (5th Cir. 1991).SUBSTANTIATION OF PURCHASES
We turn to the second issue. Petitioners take the position that respondent erred in reducing Beaufort Leaf's cost of goods sold by disallowing purchases in the amount of $ 429,421 in 1990 and $ 1,173,203 in 1991. Petitioners acknowledge that "they bear the burden of proof as to substantiation", but they claim in their posttrial brief to have substantiated the subject purchases based upon the following grounds:
(1) All of the disallowed checks "were issued to individuals or entities that were known tobacco vendors."
(2) The Forms MQ-79 filed on behalf of Beaufort Leaf "list tobacco pounds for the transactions challenged by Respondent that correspond to the pounds of tobacco represented by the disallowed purchases."
(3) 1999 Tax Ct. Memo LEXIS 225">*280 The subject checks were honored by the banks at which they were presented.
(4) Beaufort Leaf's accountant, Mr. Dawson, testified that the account payable from Okay Leaf of $ 350,000 was for tobacco purchases and that testimony is corroborated by the Forms MQ-79 which show tobacco purchases from Okay Leaf in 1991 in excess of $ 700,000.
(5) All available books and records of Beaufort Leaf properly record the disputed transactions as purchases of tobacco.
We do not agree that petitioners have substantiated the amounts disallowed by respondent as purchases of tobacco. None of the points that they advance prove that any of the disallowed checks or the accounts payable to Okay Leaf was used to purchase tobacco. Petitioners' evidence in the form of the audit report covering Mr. Wells' returns for 1988 through 1991 suggests that Beaufort Leaf sold excess-quota tobacco after having filed fraudulent Forms MQ-79 and paid some of the proceeds of the sales to Mr. Wells or members of his organization. The checks disallowed by respondent are payable to persons identified in the audit report as persons associated with Mr. Wells. The same is true of the account payable to Okay Leaf, a company identified1999 Tax Ct. Memo LEXIS 225">*281 in the audit report as controlled by Mr. Wells. Therefore, petitioners' own evidence suggests that the Forms MQ-79 filed by Beaufort Leaf were falsified to document purchases of tobacco when, in fact, purchases of tobacco were not made by Beaufort Leaf. The audit report suggests that the checks were issued to persons related to Mr. Wells in order to transmit proceeds of the scheme to Mr. Wells. Furthermore, we note that petitioners did not seek testimony from any of the check payees or Okay Leaf to show the nature of the payments made. See
Wichita Terminal Elevator Co. v. Commissioner, 6 T.C. 1158">6 T.C. 1158 (1946), affd.162 F.2d 513">162 F.2d 513 (10th Cir. 1947). We also note that petitioners do not claim that the checks were paid for any purpose other than to purchase tobacco or that they are deductible in connection with an activity other than Beaufort Leaf's business of purchasing and selling tobacco. Cf.Brizell v. Commissioner, 93 T.C. 151">93 T.C. 151 (1989).PENALTIES AND ADDITIONS TO TAX
The third issue for decision is whether petitioners are liable for the penalties and addition to tax determined in the notices of deficiency. 1999 Tax Ct. Memo LEXIS 225">*282 Respondent determined an accuracy-related penalty under
section 6662(a) with respect to each petitioner's returns for 1990 and 1991.Section 6662 imposes a penalty of 20 percent of the portion of an underpayment of tax related to, inter alia, "Negligence or disregard of rules or regulations" or "Any substantial understatement of income tax". For this purpose, the term "negligence" includes any failure to make a reasonable attempt to comply with the provisions of the income tax, and the term "disregard" includes any careless, reckless, or intentional disregard.Sec. 6662(c) . In substance, an understatement of income tax is the excess of the amount of tax required to be shown on the taxpayer's return over the amount that is shown on the return. Seesec. 6662(d)(2)(A) . A substantial understatement is defined bysection 6662(d)(1)(A) as an understatement exceeding the greater of "10 percent of the tax required to be shown on the return for the taxable year, or * * * $ 5,000."Petitioners' answering brief addresses the penalties under
section 6662(a) determined by respondent in the following sentence:Finally, if the Court rules in favor of the Respondent, the
Petitioners request1999 Tax Ct. Memo LEXIS 225">*283 that the Court waive penalties and interest
associated with the understatement of income as the Petitioners
filed their tax forms in good faith, reasonably relying on the
managing partner and the partnership bookkeeper's expertise to
file a complete and accurate tax return for the partnership.
This Court has jurisdiction over interest determinations to the limited extent provided by section 7481(c), which is not applicable here. Nor does section 6404(i) apply in the absence of a determination by respondent not to abate interest. See
Melin v. Commissioner, 54 F.3d 432">54 F.3d 432 (7th Cir. 1995). Therefore, we shall not consider petitioners' request that this Court "waive" the "interest associated with the understatement."We interpret petitioners' request that this Court "waive penalties * * * associated with the understatement" as an assertion that they qualify to be relieved of liability for the subject penalties under the reasonable cause exception set forth in
section 6664(c) .Section 6664(c)(1) provides as follows:(1) In General. -- No penalty shall be imposed under this part
with respect to any portion of an underpayment if it 1999 Tax Ct. Memo LEXIS 225">*284 is shown
that there was a reasonable cause for such portion and that the
taxpayer acted in good faith with respect to such portion.
Petitioners have not shown that there was reasonable cause for the underpayment in this case or that they acted in good faith. In this regard, we point to the earlier discussion in this opinion in which we did not accept petitioners' testimony that they did not know of or approve Beaufort Leaf's participation in the scheme.
Respondent also determined that Mr. Gaskins is liable for an addition to tax under
section 6651(a)(1) for failing to timely file his 1991 tax return on the ground that the return was filed after October 15, 1992, the due date of the return. Respondent's determination is based upon the postmark on the envelope in which Mr. Gaskins' return was mailed to the Internal Revenue Service. Petitioners did not address this issue at trial or mention it in their posttrial briefs. Accordingly, we hereby sustain respondent's determination and find Mr. Gaskins liable for the addition to tax undersection 6651(a)(1) .In light of the foregoing,
Decisions will be entered for respondent.
Document Info
Docket Number： No. 2048-97; No. 2075-97
Citation Numbers： 1999 T.C. Memo. 188, 77 T.C.M. 2117, 1999 Tax Ct. Memo LEXIS 225
Judges： \"Whalen, Laurence J.\"
Filed Date： 6/9/1999
Precedential Status： Non-Precedential
Modified Date： 4/17/2021