Hughes v. Comm'r , 96 T.C.M. 314 ( 2008 )

T.C. Memo. 2008-249
UNITED STATES TAX COURT
DAVID A. HUGHES, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 4486-07. Filed November 3, 2008.
P claimed numerous deductions on his 2001 Federal
income tax return and did not include distribution
income in his taxable income. R determined a
deficiency, an addition to tax pursuant to sec.
6651(a)(1), I.R.C., and an accuracy-related penalty
pursuant to sec. 6662(a), I.R.C.
Held: P is liable for the deficiency, the
addition to tax, and the accuracy-related penalty.
David A. Hughes, pro se.
Susan S. Hu, for respondent.
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MEMORANDUM FINDINGS OF FACT AND OPINION
WHERRY, Judge: This case is before the Court on a petition
for redetermination of a Federal income tax deficiency, an
addition to tax under section 6651(a)(1), and a penalty under
section 6662(a) that respondent determined with respect to
petitioner’s 2001 tax year.1 The issues for decision are:
(1) Whether petitioner is entitled to $40,936 of deductions
for unreimbursed employee business expenses, tax preparation
fees, tax advice, job search expenses, and medical and dental
expenses claimed on Schedule A, Itemized Deductions;
(2) whether petitioner is entitled to deductions of $6,410
for expenses related to pension and profit-sharing plans and
$2,888 for depreciation and section 179 expenses, claimed on
Schedule C, Profit or Loss From Business;
(3) whether the $18,312 in distributions that petitioner
received from Wescom Credit Union is includable in his taxable
income;
(4) whether petitioner is liable for the 10-percent
additional tax under section 72(t);
(5) whether petitioner is liable under section 6651(a)(1)
for a $3,161.75 addition to tax; and
1
All section references are to the Internal Revenue Code of
1986, as amended an in effect for the tax year at issue. The
Rule references are to the Tax Court Rules of Practice and
Procedure.
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(6) whether petitioner is liable under section 6662(a) for a
$2,557.80 accuracy-related penalty.
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. At the time he filed his petition,
petitioner resided in California.
Petitioner filed his 2001 Form 1040, U.S. Individual Income
Tax Return, with respondent on March 3, 2004. On his return,
petitioner reported receiving $18,312 in distributions from
Wescom Credit Union in 2001. Petitioner also claimed deductions
on Schedule A and Schedule C.
On Schedule A petitioner deducted, inter alia, (1) $35,256
for unreimbursed employee business expenses, specifically $20,159
for vehicle expenses, $4,450 for nonovernight travel expenses,
$7,225 for overnight travel expenses, $1,654 for other business
expenses, and $1,768 for meals and entertainment expenses; (2)
$625 for tax preparation fees; (3) $1,500 for tax advice; and (4)
$2,536 for job search expenses. On Schedule C he deducted, among
other things, $6,410 for expenses related to pension and profit-
sharing plans and $2,888 for depreciation and section 179
expenses.
On November 28, 2006, respondent issued a notice of
deficiency to petitioner for his 2001 tax year. Petitioner filed
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a timely petition with this Court on February 26, 2007. Therein,
he states that (1) “the company I was employed by was purchased
by another company and has been unable to supply T & E policy for
the year in question”; (2) he “had gone through a divorse [sic]
and spouse at the time will not supply copies of important tax
info in their care”; and (3) “Several personnal [sic] address
changes as well as divorse [sic] and time passed caused some
information to be misplaced”. He also asserts that “any
penalties due for any tax that may be due should be waived since
there was no malace [sic] simply errors”. A trial was held on
May 7, 2008, in Los Angeles, California.
OPINION
I. Whether Petitioner is Entitled to Deductions Claimed on
Schedules A and C
Deductions are a matter of legislative grace, and taxpayers
bear the burden of proving entitlement to any claimed deductions.
INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 (1992). As part
of their burden, taxpayers must substantiate the amount of their
claimed deductions. A taxpayer is required to maintain records
sufficient to establish the amount of any deduction claimed.
Sec. 6001; sec. 1.6001-1(a), Income Tax Regs.
Even when a taxpayer is unable to substantiate the amount of
a deduction, the Court may still allow the deduction, or a
portion thereof, if there is an evidentiary basis for doing so.
Cohan v. Commissioner, 39 F.2d 540, 543-544 (2d Cir. 1930);
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Vanicek v. Commissioner, 85 T.C. 731, 742-743 (1985). In those
instances, the Court may estimate the allowable expense, bearing
heavily if appropriate against the taxpayer whose inexactitude is
of his or her own making. Cohan v. Commissioner, supra at 544.
The Cohan rule does not apply, however, with respect to
deductions that are subject to the strict substantiation
requirements of section 274. Sec. 1.274-5T(a), Temporary Income
Tax Regs., 50 Fed. Reg. 46014 (Nov. 6, 1985).
Petitioner claimed a variety of deductions on his 2001
return, each of which has its own specific rules and
requirements. Although we will address each of them in turn,
petitioner is ultimately unable to establish entitlement to any
of them because he has failed to provide any substantiating
evidence.
A. Unreimbursed Employee Business Expenses
Section 162(a) authorizes a deduction for “all the ordinary
and necessary expenses paid or incurred during the taxable year
in carrying on any trade or business”. An expense is ordinary if
it is normal or customary within a particular trade, business, or
industry. Deputy v. du Pont, 308 U.S. 488, 495 (1940). An
expense is necessary if it is “appropriate and helpful” for the
development of the business. Welch v. Helvering, 290 U.S. 111,
113 (1933). Services performed as an employee generally
constitute a trade or business for purposes of section 162(a).
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O’Malley v. Commissioner, 91 T.C. 352, 363-364 (1988). However,
if an employee’s expenses are reimbursable by his or her
employer, those expenses are not necessary and cannot be
deducted. Orvis v. Commissioner, 788 F.2d 1406, 1408 (9th Cir.
1986), affg. T.C. Memo. 1984-533.
As mentioned, certain business expenses described in section
274(d) are subject to strict substantiation rules that supersede
the Cohan rule. Sanford v. Commissioner, 50 T.C. 823, 827-828
(1968), affd. 412 F.2d 201 (2d Cir. 1969); sec. 1.274-5T(a),
Temporary Income Tax Regs., supra. Section 274(d) applies to:
(1) Any traveling expense, including meals and lodging away from
home; (2) entertainment, amusement, and recreational expenses;
(3) any expense for gifts; or (4) the use of listed property, as
defined in section 280F(d)(4), including passenger automobiles.
To deduct such expenses, the taxpayer must substantiate by
adequate records or evidence sufficient to corroborate the
taxpayer’s own testimony: (1) The amount of the expenditure or
use, which includes mileage in the case of automobiles; (2) the
time and place of the travel, entertainment, or use; (3) its
business purpose; and in the case of entertainment, (4) the
business relationship to the taxpayer of each expenditure or use.
Sec. 274(d) (flush language).
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B. Tax Preparation Fees and Tax Advice
Section 212(3) provides that “there shall be allowed as a
deduction all the ordinary and necessary expenses paid or
incurred during the taxable year * * * in connection with the
determination, collection, or refund of any tax.”
C. Job Search Expenses
Section 162(a) allows a taxpayer to deduct expenses incurred
in searching for new employment within the same trade or
business. See Primuth v. Commissioner, 54 T.C. 374, 378-379
(1970); see also Murata v. Commissioner, T.C. Memo. 1996-321. A
deduction is not allowed for expenses incurred while seeking
employment in a new trade or business. See Frank v.
Commissioner, 20 T.C. 511, 513-514 (1953).
D. Employer Contributions to Pension or Profit-Sharing
Plans
An employer’s contributions to pension or profit-sharing
plans are not deductible under section 404 unless they are
deductible under section 162 as ordinary and necessary expenses.
See Edwin’s, Inc. v. United States, 501 F.2d 675, 679 (7th Cir.
1974); sec. 1.404(a)-1(b), Income Tax Regs. Section 162(a)(1)
allows as a deduction “a reasonable allowance for salaries or
other compensation for personal services actually rendered”.
E. Depreciation and Section 179 Expense
A taxpayer may elect to deduct as a current expense the
cost, within certain dollar limitations, of any section 179
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property that is used in an active trade or business and placed
in service during the taxable year. Sec. 179(a), (b), (d)(1);
see sec. 1.179-4(a), Income Tax Regs. The election must specify
the total section 179 expense deduction claimed and the portion
of that deduction allocable to each specific item. Sec.
179(c)(1); sec. 1.179-5(a), Income Tax Regs. The taxpayer must
make a separate election for each taxable year, and such election
must be made on the first income tax return for the taxable year
to which the election applies. Sec. 179(c)(1)(B); sec. 1.179-
5(a), Income Tax Regs. The taxpayer must also maintain records
reflecting how and from whom the section 179 property was
acquired and when it was placed in service. Sec. 1.179-5(a),
Income Tax Regs. A taxpayer who fails to make the election is
not entitled to section 179 treatment. See Jackson v.
Commissioner, T.C. Memo. 2008-70; Visin v. Commissioner, T.C.
Memo. 2003-246, affd. 122 Fed. Appx. 363 (9th Cir. 2005).
F. Petitioner Failed to Substantiate the Amounts of the
Deductions He Claimed on Schedules A and C
There is no evidence of record to substantiate any of
petitioner’s claimed deductions. Petitioner admits as much. At
trial, he claimed that his accountant has the necessary evidence.
In his petition, he asserts that his former spouse or the
acquirer of his former employer has the evidence or that it was
simply misplaced. Even assuming that substantiating evidence
exists and is in the possession of third parties, petitioner has
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had ample time to collect it but has failed to do so. If the
third parties were uncooperative, Rule 147 permitted petitioner
to issue subpoenas duces tecum that would have required third
parties to appear at trial and bring written records. In
addition, there is no indication that petitioner made an election
under section 179.
Petitioner sought a continuance only days before the trial
session ostensibly to permit him to locate the documents
necessary to substantiate his deductions. Because petitioner had
in respondent’s opinion not cooperated in the pretrial process,
respondent opposed the continuance. The Court then denied the
continuance but set the trial for a date 9 days later to provide
petitioner time to locate his documents. Nevertheless, no
documents were forthcoming at the trial. Accordingly, our
conclusion is inescapable: Petitioner has failed to demonstrate
entitlement to any of the deductions at issue.2
2
At trial, the parties mentioned that petitioner may have
reported his $6,410 deduction for pension and profit-sharing
plans incorrectly and that he may have intended to claim that
amount as a deduction for rental expenses for business,
machinery, vehicles, and equipment. There is no evidence to
substantiate that deduction either.
In addition, as a result of petitioner’s failure to
demonstrate entitlement to the deductions described above, a
portion of his deduction for medical and dental expenses must be
disallowed. Sec. 213(a) allows for the deduction of personal
medical and dental expenses to the extent that they exceed 7.5
percent of the taxpayer’s adjusted gross income (AGI). In light
of our conclusion above, petitioner’s AGI and 7.5-percent floor
(continued...)
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II. Whether the $18,312 in Distributions Petitioner Received
from Wescom Credit Union Should be Included in His Taxable
Income
Section 63(a) generally defines taxable income as gross
income minus deductions. Section 61(a) in turn specifies that,
“Except as otherwise provided”, gross income includes “all income
from whatever source derived”. Generally, income from annuities
and pensions is included in gross income. Sec. 61(a)(9), (11).
Section 72 further provides that distributions from qualified
retirement plans are included in gross income. See secs. 72(a),
402(a).
In addition, a taxpayer who receives a distribution from a
qualified retirement plan before attaining the age of 59-1/2 is
generally subject to an additional 10-percent tax pursuant to
section 72(t)(1) on the amount of the distribution unless the
taxpayer can prove that an exception under section 72(t)(2)
applies. See Bunney v. Commissioner, 114 T.C. 259, 265-266
(2000).
The Commissioner’s determination of a deficiency is
generally presumed correct, and the taxpayer bears the burden of
proving that the determination is improper. See Rule 142(a);
2
(...continued)
must be adjusted upward, which precludes petitioner from
deducting the entire amount of medical and dental expenses
reported on his 2001 return.
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Welch v. Helvering, 290 U.S. at 115. Although section 7491(a)
may shift the burden of proof to the Commissioner in specified
circumstances, petitioner has not satisfied the prerequisites
under section 7491(a)(1) and (2) for such a shift.
Petitioner concedes that he “[received] distributions from
pensions and annuities in the amount of $18,312.00 in the 2001
taxable year from Wescom Credit Union.” On his Federal income
tax return, he reported receiving that amount as “Total IRA
distributions”, but he did not include it in his gross income.
At trial, he stated that he invested the money into his business
and that his accountant had told him that he would have losses to
offset the distribution income. These are not reasons to exclude
the distributions from petitioner’s gross income, and petitioner
has not otherwise met his burden of proving that respondent’s
determination of a deficiency is improper. Accordingly, we will
sustain the deficiency determined by respondent with respect to
the $18,312 in distributions received from Wescom Credit Union in
2001.
We will also sustain respondent’s imposition of a 10-percent
additional tax under section 72(t) for petitioner’s early
distributions from a qualified retirement plan. Petitioner does
not dispute that he was under the age of 59-1/2 when he received
the distributions and has not otherwise disputed the additional
tax or shown that an exception under section 72(t)(2) applies.
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III. Section 6651(a)(1) Addition to Tax
Respondent determined that petitioner was liable for an
addition to tax under section 6651(a)(1). Section 6651(a)(1)
imposes an addition to tax for failure to file a timely return
unless the taxpayer proves that such failure is due to reasonable
cause and not willful neglect. See United States v. Boyle, 469
U.S. 241, 245 (1985). Pursuant to section 7491(c), respondent
has the burden of production with respect to this addition to tax
and is therefore required to “come forward with sufficient
evidence indicating that it is appropriate to impose the relevant
penalty.” See Higbee v. Commissioner, 116 T.C. 438, 446 (2001).
Petitioner concedes that he filed his 2001 Federal income
tax return on March 3, 2004--well beyond the April 15, 2002,
due date. Moreover, he has not disputed the addition to tax or
presented any evidence to suggest that his failure to file timely
was due to reasonable cause. Accordingly, we shall sustain
respondent’s imposition of the addition to tax under section
6651(a)(1).
IV. Section 6662 Penalty
Respondent determined that petitioner was liable for a
penalty under section 6662(a). Respondent bears the burden of
production with respect to petitioner’s liability for that
penalty. See sec. 7491(c). This means that respondent “must
come forward with sufficient evidence indicating that it is
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appropriate to impose the relevant penalty.” Higbee v.
Commissioner, supra at 446.
Section 6662(a) imposes an accuracy-related penalty of 20
percent of any underpayment that is attributable to one of the
causes listed in subsection (b). One such cause is negligence or
disregard of rules or regulations, with negligence including “any
failure by the taxpayer to keep adequate books and records or to
substantiate items properly.” Sec. 6662(b)(1); sec. 1.6662-
3(b)(1), Income Tax Regs. Another cause is any substantial
understatement of income tax, defined for individuals as an
understatement that exceeds the greater of (1) 10 percent of the
tax required to be shown on the return for the taxable year or
(2) $5,000. Sec. 6662(b)(2), (d)(1)(A).
There is an exception to the section 6662(a) penalty when a
taxpayer can demonstrate (1) reasonable cause for the
underpayment and (2) that the taxpayer acted in good faith with
respect to the underpayment. Sec. 6664(c)(1). Regulations
promulgated under section 6664(c) provide further that the
determination of reasonable cause and good faith “is made on a
case-by-case basis, taking into account all pertinent facts and
circumstances.” Sec. 1.6664-4(b)(1), Income Tax Regs.
Respondent asserts that petitioner is liable for the section
6662 penalty “because there has been a substantial understatement
of income tax” and “because he acted with negligence and
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disregard of the rules.” Respondent explains that petitioner
“has failed to provide respondent with evidence that he
maintained books or records”.
On his 2001 return, petitioner indicated that the total tax
due was $2,133. Respondent determined a deficiency of $12,789.
Petitioner’s understatement of tax is substantial under section
6662(d)(1)(A) because it exceeds $5,000 and is greater than 10
percent of the amount required to be shown on the return.
Although petitioner argues in his petition that the penalties
should be waived because he did not act with malice, he has not
shown that he acted with reasonable cause or in good faith, which
is the proper statutory test. Accordingly, we sustain
respondent’s determination that petitioner is liable for the
section 6662(a) penalty for the 2001 tax year.
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.
To reflect the foregoing,
Decision will be entered
for respondent.