Wanchek v. Comm'r , 94 T.C.M. 564 ( 2007 )

T.C. Memo. 2007-366
UNITED STATES TAX COURT
JAMES G. AND ELAINE A. WANCHEK, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 17614-05. Filed December 11, 2007.
On their amended 2001 Federal income tax return, P’s
claimed a theft loss deduction of $172,904 on the basis that
their contractor had committed fraud against them. R
disallowed the entire theft loss deduction and determined a
deficiency.
Held: Ps are not entitled to any theft loss deduction
for the 2001 taxable year.
Paul A. Bleicher, for petitioners.
Vicki L. Miller, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
WHERRY, Judge: This case is before the Court on a petition
for redetermination of a deficiency of $10,255 that respondent
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determined for petitioners’ 2001 taxable year. The sole issue
before the Court is whether petitioners are entitled to a theft
loss deduction for the 2001 taxable year.
FINDINGS OF FACT
Some of the facts have been stipulated, and the stipulated
facts and accompanying exhibits are hereby incorporated by
reference into our findings. Petitioners, husband and wife,
resided in Tijeras, New Mexico, when they filed their petition.
In September 1994, petitioners and James Green (Mr. Green)
entered into a preconstruction agreement for the construction of
a new house. Mr. Green hired Max Cabber (Mr. Cabber) to draw
plans and assist in the design of petitioners’ house. On
February 3, 1995, petitioners contracted with Mr. Green for the
construction of a $190,900 house.1 Construction of petitioners’
house was completed on August 4, 1995, and petitioners moved in
that same day.
Sometime thereafter, petitioners began noticing problems
with their new house. Those problems escalated and became a
living nightmare, despite various repair efforts by Mr. Green and
the subcontractors. On May 12, 1999, petitioners filed a civil
lawsuit in the Second Judicial District Court of Bernalillo
County, New Mexico (State court) against Mr. Green and several
1
That contract was later revised as the result of change
orders. The total amount ultimately paid to Mr. Green was
$196,183.
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other parties2 involved in the construction and design of
petitioners’ house. In their complaint, petitioners alleged
negligence, negligent misrepresentation, fraud, unfair trade
practices, breach of warranty, breach of duty of good faith and
fair dealing, breach of contract, prima facie tort, and emotional
distress.3
In October 2001, before trial, petitioners and the parties
whom they had sued agreed to settle the lawsuit for $130,000,
$40,500 of which was to be paid by Mr. Green. The settlement
agreement provided, among other things, that no party was to
admit “any responsibility or wrongdoing whatsoever.” On February
4, 2002, the State court granted a joint motion to dismiss the
lawsuit filed by petitioners and dismissed that lawsuit with
prejudice. No criminal charges were ever filed against Mr.
Green, or any of the other parties involved in the design and
construction of petitioners’ house, for any matter relating to
the design and construction of petitioners’ house.
In January 2003, petitioners filed a Form 1040X, Amended
U.S. Individual Income Tax Return, for the 2001 taxable year in
which they claimed a net theft loss deduction of $172,904 for
2
Those parties included Mr. Cabber and, ultimately, eight
subcontractors.
3
Petitioners also filed three amended complaints. Those
amended complaints, other than adding as defendants two of the
eight subcontractors, do not differ materially from the original
complaint so as to warrant discussion.
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that taxable year.4 This claimed loss eliminated their taxable
income for 2001 and resulted in a refund of the claimed $10,225
overpayment plus any statutory interest. Respondent then audited
the amended 2001 Federal income tax return and, on June 15, 2005,
issued the aforementioned notice of deficiency denying the
claimed theft loss deduction. Petitioners filed a timely
petition with this Court, and a trial was held on November 28,
2006, in Albuquerque, New Mexico.
OPINION
I. Parties’ Contentions
Citing section 165(c)(3),5 petitioners assert entitlement to
a theft loss deduction on the basis that Mr. Green committed
“fraud” within the meaning of New Mexico law. In essence, they
contend that Mr. Green took money from them intending not to
conform with the plans that he had agreed to follow in
constructing their house. Acknowledging that they must rely on
circumstantial evidence to prove Mr. Green’s intent to defraud
them, petitioners assert that the magnitude of Mr. Green’s
noncompliance with the construction plans “is not accidental.”
4
The manner in which petitioners arrived at that amount is
subject to dispute. In light of our ultimate disposition,
however, we need not delve into that issue.
5
Unless otherwise noted, all section references are to the
Internal Revenue Code of 1986, as amended and in effect for the
taxable year at issue. The Rule reference is to the Tax Court
Rules of Practice and Procedure.
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Petitioners go on to point out that (1) “landfill was added to
the sides of the house to hide the fact that foundations were
improperly set”; (2) “the location of the sewer” and “the
thickness of the stucco” did not conform to the housing plan,
without notice to petitioners; and (3) Mr. Green misrepresented
that the land was “engineered,” when “there was no engineering of
the soil besides grading.” Petitioners assert that Mr. Green
misrepresented the quality of his houses and his role in their
construction in promotional materials and misrepresented that Mr.
Cabber was an architect. Petitioners further assert that “Mr.
Green had no intention to cure or even acknowledge any defects
and he made himself absent from the state by moving to Las
Vegas.”
Respondent contends that petitioners have failed to prove
that Mr. Green’s conduct constituted a theft under New Mexico
law. Respondent notes that Mr. Green obtained the requisite
building permit, hired subcontractors whom he had worked with
before, was present at the construction site on a daily basis,
oversaw the subcontractors’ work, and, once construction of
petitioners’ house was completed, received a certificate of
occupancy from the county. With respect to Mr. Cabber’s
credentials, respondent notes that neither the preconstruction
agreement nor the contract provided that an architect would
design petitioners’ house and that petitioners never asked Mr.
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Cabber or Mr. Green whether Mr. Cabber was an architect.
Regarding Mr. Green’s representations as to the “fine quality” of
his houses, respondent asserts that even petitioners have
conceded such a term is subjective and that Mr. Green believes
that he provided the highest quality work. When petitioners
discovered defects in their house, respondent observes that,
until Mr. Green moved to Las Vegas in 1998, and even after the 1-
year warranty period had expired, he sent repairmen to fix those
defects. Respondent’s ultimate contention is that this is a
contractual dispute, not a criminal matter. In that regard,
respondent notes that this dispute was the subject of a civil
suit, that the civil suit settled with no admission of fault, and
that no criminal complaint was ever filed in this matter.
Finally, respondent addresses this Court’s decisions dealing with
similar situations and asserts that this case is like those in
which this Court has disallowed theft loss deductions.
II. Theft Loss
Deductions are a matter of legislative grace, and the
taxpayer must maintain adequate records to substantiate the
amounts of any deductions or credits claimed. Sec. 6001; INDOPCO
Inc. v. Commissioner, 503 U.S. 79, 84 (1992); sec. 1.6001-1(a),
Income Tax Regs. As a general rule, the Commissioner’s
determination of a taxpayer’s liability in the notice of
deficiency is presumed correct, and the taxpayer bears the burden
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of proving that the determination is improper. See Rule 142(a);
Welch v. Helvering, 290 U.S. 111, 115 (1933). But see sec.
7491(a).
Section 165(a) allows a taxpayer to deduct any loss
sustained during the taxable year that is not compensated for by
insurance or otherwise. Section 165(c)(3), which limits losses
for individuals, allows an individual taxpayer to deduct losses
of property arising from, among other things, theft. The
existence of a theft must be determined by reference to the law
of the jurisdiction in which the loss occurred; however, a
criminal conviction is not necessary in order for a taxpayer to
demonstrate a theft loss. See Monteleone v. Commissioner, 34
T.C. 688, 692-694 (1960).
The New Mexico Criminal Code does not list “theft” as a
crime. See McCullough v. Commissioner, T.C. Memo. 1990-653 (“The
New Mexico Criminal Code does not specifically make ‘theft’ a
crime.”). Under New Mexico law, fraud, the crime Mr. Green
allegedly committed against petitioners, is “the intentional
misappropriation or taking of anything of value that belongs to
another by means of fraudulent conduct, practices or
representations.” N.M. Stat. Ann. sec. 30-16-6 (LexisNexis Supp.
2006). The elements of criminal fraud include “a specific intent
to cheat or deceive someone.” State v. Higgins, 762 P.2d 904,
908 (N.M. Ct. App. 1988). “Intent is seldom provable by direct
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testimony” and usually “must be proved by the reasonable
inferences shown by the evidence and the surrounding
circumstances.” State v. Ortiz, 563 P.2d 113, 116 (N.M. Ct. App.
1977). Finally, petitioners must prove a theft under applicable
State law only by a preponderance of the evidence, not beyond a
reasonable doubt. See Allen v. Commissioner, 16 T.C. 163, 166
(1951) (“If the reasonable inferences from the evidence point to
theft, the proponent is entitled to prevail. If the contrary be
true and reasonable inferences point to another conclusion, the
proponent must fail.”).
Petitioners have fallen short of proving that Mr. Green
possessed the specific intent to cheat or deceive them when he
took their money in exchange for building their house. To begin
with, Mr. Green’s general representations in his promotional
materials regarding the quality of his work amounted to no more
than sales talk, or puffing.6 For instance, Mr. Green’s
statements in his promotional materials that his houses are
“built with unyielding allegiance to quality and craftsmanship”
and that “As a builder, James Green is unequalled” merely
represented Mr. Green’s opinion of his own work. Such
statements, in this context, do not constitute fraud.
6
“‘“Puffing” means an exaggerated commendation of wares or
worth in communications addressed to the public or to a class or
group.’” West v. Commissioner, 88 T.C. 152, 163 (1987) (quoting
Utah Code Ann. sec. 76-6-405 (1978)).
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Petitioners also argue that because Mr. Green himself had no
qualifications in any trade, Mr. Green’s promotional materials
fraudulently reflected that he would personally supervise the
construction of their house. We disagree. Even though Mr. Green
has admitted that he lacked the technical ability to perform many
of the tasks performed by the subcontractors, there is a
fundamental flaw in petitioners’ argument. The fact that Mr.
Green, a homebuilder, could not do the job himself does not
render fraudulent his statement that he would supervise the work
to ensure quality control. Petitioners have not alleged, and the
record does not reflect, that Mr. Green ever made a false
statement of fact regarding his technical skills.7 We will not
find fraud by conjecture.8
Petitioners’ contention that Mr. Green defrauded them by
misrepresenting that Mr. Cabber was an architect is equally
unavailing. Aside from petitioners’ testimony, there is no
evidence that Mr. Green ever represented that Mr. Cabber was an
7
For example, Mr. Green never represented that he was a
licensed electrician, plumber, or carpenter, etc. The fact that
petitioners might have incorrectly assumed that Mr. Green
possessed certain technical skills does not render fraudulent any
of Mr. Green’s representations.
8
In the end, it is telling that petitioners would have us
infer fraud from Mr. Green’s promotional materials when those
promotional materials contain clear factual statements regarding
Mr. Green that petitioners fail to challenge and that, if proven
false, might lend significant support to an argument that Mr.
Green committed fraud. For example, Mr. Green represented that
he had “won five major awards over the years,” including State
Achievement in Building Excellence awards in two categories.
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architect. Neither the preconstruction agreement nor the
contract contains such a representation. Moreover, even assuming
arguendo that Mr. Green at one time misrepresented Mr. Cabber as
an architect, we would have no basis to conclude that such a
misrepresentation was coupled with an intent to cheat or deceive
petitioners.9
Nor does the fact that specifications in the construction
plans might not have been met shed light on Mr. Green’s intent;
it is certainly not determinative evidence of fraud on Mr.
Green’s part. At most, Mr. Green’s failure to carry out the
construction plans constitutes a breach of contract or negligence
on his part. Petitioners’ position ignores the fact that, in
addition to Mr. Green, there were at least nine other parties
involved in the design and construction of petitioners’ house.10
Because so many parties were involved in designing and building
petitioners’ house, any fraud perpetrated by Mr. Green would
likely have involved some or all of those other parties. If Mr.
Green had intended to deceive petitioners through a scheme of
such proportions, we would expect that petitioners would present
9
In their reply brief, petitioners assert that Mr. Cabber
was providing architectural services in violation of the New
Mexico Architectural Act. In our view, the veracity of that
allegation has no bearing on whether Mr. Green defrauded
petitioners.
10
Petitioners’ civil suit was against Mr. Green and those
nine other parties.
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more than weak circumstantial evidence buttressed by scant
allegations.
Petitioners’ case is not novel. This Court has addressed
similar issues in a number of cases. For the most part, as in
this case, the Court has found against taxpayers on the basis
that they had not proven that the contractors acted with the
requisite intent to constitute a theft crime. See Friedman v.
Commissioner, T.C. Memo. 1992-588, affd. without published
opinion 48 F.3d 535 (11th Cir. 1995); Schneider v. Commissioner,
T.C. Memo 1981-603; Godine v. Commissioner, T.C. Memo. 1977-393;
Price v. Commissioner, T.C. Memo. 1971-323.
The few cases in which this Court has allowed theft loss
deductions involved contractors who took money from taxpayers
under false pretenses and then either absconded or ceased
construction and used the money for purposes not related to the
construction agreement. See Norton v. Commissioner, 40 T.C. 500
(1963), affd. 333 F.2d 1005 (9th Cir. 1964); Miller v.
Commissioner, 19 T.C. 1046 (1953); see also Hartley v.
Commissioner, T.C. Memo. 1977-317. Mr. Green did not take
petitioners’ money and run. To the contrary, although the
quality of the construction was not what petitioners had
bargained for, Mr. Green completed the job and made some repairs.
The circumstantial evidence does not demonstrate that Mr. Green
ever intended to defraud petitioners. Nor is our conclusion
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altered by the fact that, years after constructing petitioners’
house, Mr. Green left the homebuilding business and moved out of
New Mexico. Petitioners were the victims of poor workmanship,
which, without more, is not a crime.
The Court has considered all of petitioner’s contentions,
arguments, requests, and statements. To the extent not discussed
herein, we conclude that they are meritless, moot, or
irrelevant.11
To reflect the foregoing,
An appropriate order and
decision will be entered.
11
Because petitioners have not sustained a theft loss, we
need not discuss issues relating to the amount of the claimed
loss. Also, respondent filed a motion in limine to prevent the
testimony of two experts. Because we hold for respondent without
considering that evidence, the question of whether that evidence
should be admitted is also moot, and respondent’s motion will
therefore be denied.