Stukes v. Comm'r , 2007 Tax Ct. Summary LEXIS 67 ( 2007 )

T.C. Summary Opinion 2007-65
UNITED STATES TAX COURT
JOHN C. AND JOAN F. STUKES, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 16648-05S. Filed April 26, 2007.
John C. Stukes, pro se.
David B. Mora, for respondent.
JACOBS, Judge: This case was heard pursuant to the
provisions of section 7463 of the Internal Revenue Code in effect
at the time the petition was filed. Pursuant to section 7463(b),
the decision to be entered is not reviewable by any other court,
and this opinion shall not be treated as precedent for any other
case. Unless otherwise indicated, subsequent section references
are to the Internal Revenue Code in effect for the year in issue,
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and Rule references are to the Tax Court Rules of Practice and
Procedure.
Respondent determined a $7,908 deficiency in petitioners’
2002 Federal income tax. The issues for decision are: (1) The
amount of petitioners’ loss from farming; and (2) the amount of
the excess unreimbursed employee and other miscellaneous expenses
deduction1 to which petitioners are entitled.
Background
Some of the facts have been stipulated and are so found.
The stipulation of facts and the attached exhibits are
incorporated herein by this reference. At the time they filed
the petition, petitioners resided in Katy, Texas.
Petitioners timely filed a joint Form 1040, U.S. Individual
Income Tax Return, for 2002 in which they claimed: (1) A loss
from farming, and (2) itemized deductions for excess unreimbursed
employee and other miscellaneous expenses. Respondent determined
that a portion of the amount claimed as a farm loss and the
entire amount claimed as itemized deductions for excess
unreimbursed employee and other miscellaneous expenses were not
1
The excess unreimbursed employee and other miscellaneous
expenses deduction is claimed on Schedule A, Itemized Deductions.
The amount of the deduction equals the sum of: (1) Unreimbursed
employee expenses--job travel, union dues, job education, etc.;
(2) tax preparation fees; and (3) other expenses--investment,
safe deposit box, etc., less an amount equal to 2 percent (the 2-
percent floor) of the taxpayer’s adjusted gross income. See sec.
67(a).
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allowable. On the basis of those determinations, respondent
calculated a deficiency in tax of $7,908 and on July 5, 2005,
sent petitioners a notice of deficiency. Petitioners timely
petitioned this Court for a redetermination of the disallowed
amounts.
Discussion
As a general rule, the Commissioner’s determinations in the
notice of deficiency are presumed correct, and the burden of
proving an error is on the taxpayer. Rule 142(a); Welch v.
Helvering, 290 U.S. 111, 115 (1933). However, pursuant to
section 7491(a), the burden of proof with respect to any factual
issue relating to ascertaining the liability for tax shifts to
the Commissioner if the taxpayer: (1) Maintained adequate
records; (2) satisfied the substantiation requirements; (3)
cooperated with the Commissioner’s agents; and (4) during the
Court proceeding introduced credible evidence with respect to the
factual issue involved. Except for the substantiation
requirements for some items, discussed infra, we find that
petitioners satisfied these requirements.
Issue 1. Loss From Farming
During 2002, petitioners owned a 45-acre farm in Williamson
County, Texas. In calculating their 2002 gross income,
petitioners included a loss of $20,116, which was supported by
Schedule F, Profit or Loss From Farming. The Schedule F does not
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report any farm income; the entire reported loss was due to
claimed expenses. The expenses petitioners reported on Schedule
F were: Car and truck expenses ($3,227), chemicals ($850),
custom hire ($9,500), depreciation ($3,449), fertilizers ($550),
gasoline ($350), insurance ($1,200), repairs and maintenance
($425), supplies purchased ($150), taxes ($250), and tractor
repairs ($165).
In the notice of deficiency, respondent determined that
petitioners did not substantiate any of the items reported on
Schedule F and therefore none were allowable. At trial,
respondent conceded petitioners’ entitlement to deduct $8,186 for
custom hire, $1,850 for depreciation, $126.48 for taxes, and $350
for gasoline, and petitioners conceded that $1,850 of claimed
depreciation expense was not allowable.
A taxpayer who is carrying on a trade or business generally
may deduct ordinary and necessary expenses paid or incurred in
connection with the operation of the business. Sec. 162(a); see
also Commissioner v. Lincoln Sav. & Loan Association, 403 U.S.
345, 352 (1971); FMR Corp. & Subs. v. Commissioner, 110 T.C. 402,
414 (1998). Respondent does not dispute that petitioners’
farming activity qualifies as a trade or business and that the
expenses from this activity, if incurred, were ordinary and
necessary. Thus, we need address only whether the claimed
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expenses were incurred, and if so, through substantiation, the
amounts paid and hence allowable as deductions.
When a taxpayer establishes that he/she has incurred
deductible expenses but is unable to establish the exact amounts,
we can estimate the deductible amounts, but only if the taxpayer
presents sufficient evidence to establish a rational basis for
making the estimates. See Cohan v. Commissioner, 39 F.2d 540,
543-544 (2d Cir. 1930); Vanicek v. Commissioner, 85 T.C. 731,
742-743 (1985). In estimating the amount allowable, we bear
heavily on the taxpayer whose inexactitude in substantiating the
amount of the expense is of his own making. See Cohan v.
Commissioner, supra at 544. However, without a rational basis
for making the estimate, any allowance we make would amount to
unguided largesse. Williams v. United States, 245 F.2d 559, 560-
561 (5th Cir. 1957).
In the case of expenses paid or incurred with respect to
certain listed property, section 274 overrides the Cohan
doctrine, and those expenses are deductible only if the taxpayer
meets the stringent substantiation requirements of section
274(d). Sanford v. Commissioner, 50 T.C. 823, 827-828 (1968),
affd. per curiam 412 F.2d 201 (2d Cir. 1969).
Section 274 contemplates that no deduction may be allowed
for specified expenses on the basis of any approximation or the
unsupported testimony of the taxpayer. Sec. 1.274-5T(a),
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Temporary Income Tax Regs., 50 Fed. Reg. 46014 (Nov. 6, 1985).
At a minimum, the taxpayer must substantiate: (1) The amount of
the expense; (2) the time and place the expense was incurred; and
(3) the business purpose for which the expense was incurred.
The strict substantiation requirements of section 274 apply
to deductions with respect to “any listed property (as defined in
section 280F(d)(4))”. Section 280F(d)(4)(A)(i), in turn,
includes “passenger automobile” in the definition of listed
property. Further, section 1.274-5T(b)(6)(i)(A), Temporary
Income Tax Regs., 50 Fed. Reg. 46016 (Nov. 6, 1985), includes the
cost of maintenance and repairs for listed property as subject to
the section 274 substantiation rules.
Petitioners claimed automobile expenses of $3,227; these
expenses related to petitioners’ pickup truck. Mr. Stukes
testified that some substantiating documents pertaining to the
automobile mileage were lost when petitioners moved. However, he
introduced a truck mileage log (the mileage log) with 24 entries.
The mileage log, which shows that petitioners drove the truck
6,684 miles for farm-related business, was not prepared
contemporaneously with the incurrence of the claimed expenses but
rather was a reconstruction by petitioners of their use of the
truck. The mileage log shows the date of each use and the
specific destination (such as Home Depot, Wal-Mart, farm
equipment vendors, gas stations, and truck supplies vendors).
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The mileage log is supplemented by bank records which show
purchases from the retail establishments or vendors on specific
dates. The date claimed for the business use of the truck in the
mileage log does not correspond in every instance to the date of
the related purchase shown on the bank records. Further, neither
the mileage log nor the bank records show the specific
merchandise purchased from each seller, and it is possible that
petitioners purchased items for their personal consumption as
well as for their farm when they made these excursions using the
truck. It is equally possible that petitioners made additional
trips to acquire farm equipment or supplies but did not actually
make a purchase, so that there might have been additional mileage
costs that do not appear in the mileage log. In any event, Mr.
Stukes testified that the trips shown on the mileage log were
made for the purpose of acquiring farm equipment or supplies, and
we found that testimony credible. Therefore, we find that
petitioners have met the substantiation requirements of section
274 with respect to trips on dates for which there is a
corresponding purchase from a vendor of farm equipment or
supplies. Consequently, we hold that petitioners are entitled to
deduct the cost of using their truck on those occasions.
Of the 44 occasions on which petitioners claim to have used
their truck for the purpose of acquiring farm supplies or
equipment, there are records which confirm farm-related purchases
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on 22 of those occasions (or within a day or two of the claimed
date for those occasions).2 The total number of miles
petitioners drove the truck for the purpose of acquiring farm
equipment or supplies on those 22 occasions was 2,368.
Petitioners did not present receipts for the actual cost of this
use, but we may apply the standard mileage rate to determine the
allowable deduction.3 The standard mileage rate for 2002 was
36.5 cents per mile. Accordingly, the total allowable expense
for farm-related use of the truck amounted to $864.32.
Petitioners’ mileage log contains three entries pertaining
to automobile maintenance and repair that are corroborated by
bank records, showing purchases of $224.99.4 In addition,
petitioners submitted a credit card receipt for $100 of repairs
to the truck.
2
The dates of use that are matched by substantiating
purchases are: Feb. 2 and 18; Mar. 3, 13, 16, and 18; May 6, 7,
and 24; July 5 and 17; Aug. 5, 14 (two purchases on Aug. 14), and
31; Sept. 1, 2, 3 (two purchases on Sept. 3), 16, and 21; Oct. 1
and 10; and Nov. 29.
3
The standard mileage rate is a matter of administrative
convenience by which a taxpayer may compute the amount of
deductible automobile expenses using a standard rate rather than
separately establishing the amount of an expenditure for travel
or transportation. Sec. 1.274-5(j), Income Tax Regs., in part,
grants the Commissioner the authority to establish a method under
which a taxpayer may use mileage rates to substantiate, for
purposes of sec. 274(d), the expense of using a vehicle for
business purposes. See Rev. Proc. 2001-54, 2001-2 C.B. 530.
4
These dates are: Mar. 13, Mar. 16, and Nov. 29. The
corresponding claimed expenses are $141.79, $69.20, and $14.
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Thus, petitioners have substantiated that they spent $324.99 for
maintenance and repair of the truck.
The deduction for automobile expenses based on the standard
rate may be used only in lieu of all operating and fixed costs of
the automobile allocable to business purposes such as
depreciation, maintenance and repairs, tires, gasoline (including
all taxes thereon), oil, insurance, and license and registration
fees. See sec. 1.274-5(j)(2), Income Tax Regs.; Rev. Proc. 2001-
54, 2001-2 C.B. 530. As stated previously, petitioners are
entitled to a deduction based on the standard rate. This amount
($864.32) exceeds the amount of the deduction to which
petitioners would be entitled for the corroborated maintenance
and repair of the truck ($324.99).
On Schedule F of their 2002 return, petitioners claimed $850
of expenses for purchase of chemicals for use on their farm.
Petitioners’ mileage log, described supra, indicates that
petitioners purchased chemicals from Home Depot on various
occasions in 2002. Petitioners’ bank records establish that
payment was made to Home Depot at or near the date indicated by
petitioners on nine occasions. The total amount of these
purchases was $491. Consequently, we hold that petitioners are
entitled to a deduction of $491 for farm chemicals.
Other amounts petitioners claimed as deductible farm
expenses and disallowed by respondent include custom hire
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($1,314), depreciation ($1,599), fertilizers ($550), insurance
($1,200), supplies purchased ($150), and taxes ($123.52). Of
these amounts, we find substantiation for $39.87 for supplies.5
In addition, we accept Mr. Stukes’s testimony that petitioners
paid $1,200 for farm insurance for 2002. We therefore hold that
these amounts are allowable deductions.
The amounts for custom hire and depreciation were
unsubstantiated. The amounts claimed as deductions for
fertilizers and taxes were also unsubstantiated. As there is no
rational basis upon which we can estimate the amounts of these
expenses, we hold that they are not deductible.
Issue 2. Schedule A Deductions
We now turn to the amount of the excess unreimbursed
employee and other miscellaneous expenses deduction to which
petitioners are entitled. On Schedule A of their 2002 return,
petitioners reported itemized deductions of $72,921. Respondent
disallowed $39,048 of this amount, which consisted of claimed
unreimbursed employee business expenses of $7,930, attorney’s and
accountant’s fees of $32,610, and tax preparation fees of $20,
reduced by 2 percent of petitioners’ adjusted gross income.6
5
Petitioners’ mileage records and corresponding bank records
show purchases of supplies on Sept. 3 and Oct. 1.
6
See supra note 1.
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The unreimbursed employee business expenses consisted of job
search expenses incurred by Mr. Stukes. Mr. Stukes worked in the
computer industry, and during part of 2002 had been employed in
Austin, Texas, as a software development manager for a company
that produced energy software. In 2002, he was involuntarily
terminated from that job, which led him to file a complaint with
the Equal Employment Opportunity Commission (EEOC), alleging that
his termination was the result of age discrimination. While that
matter was pending, Mr. Stukes commenced an intensive search for
a new job and succeeded in finding employment in January of 2003.
During his search for employment, Mr. Stukes provided his
attorney with documentation to assist with the preparation of the
EEOC proceeding. He testified that this documentation had
subsequently been destroyed.
Job search expenses are deductible under section 162(a) to
the extent they are incurred in searching for new employment in
the employee’s same trade or business. See Primuth v.
Commissioner, 54 T.C. 374, 377-378 (1970). However, if the
employee is seeking a job in a new trade or business, the
expenses are not deductible under section 162(a). See Frank v.
Commissioner, 20 T.C. 511, 513-514 (1953). Job search expenses
include preparation expenses, postage, and travel and
transportation expenses. See Murata v. Commissioner, T.C. Memo.
1996-321.
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Petitioners’ claimed deduction for job search expenses of
$7,930 consisted of: The cost of transportation to job
interviews, the cost of retaining a search firm to assist with
the search, and the cost of preparing and printing Mr. Stukes’s
calling cards, résumé, and envelopes. Respondent does not
dispute that petitioners would be entitled to deduct these
expenses if they substantiated them adequately, but respondent
maintains that they failed to do so.
As discussed supra, section 274, which imposes strict
substantiation requirements, applies to transportation expenses
involving a “passenger automobile”. In order to establish the
number of miles Mr. Stukes drove pursuant to his job search,
petitioners submitted a log captioned “Job Search Mileage
Expenses/Deductions” (petitioners’ job search mileage log) which
was not prepared contemporaneously with the interviews but rather
was prepared on the basis of contemporaneous calendar records and
bank statements that show costs incurred on specific dates.
It appears from the record that Mr. Stukes was terminated
from his employment in June 2002. We find that petitioners’ job
search mileage log, taken together with the calendar, bank
records, and Mr. Stukes’s credible testimony, substantiates the
transportation expense in search of a job between June and
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December 2002, to the extent of 1,137 miles.7 The standard
mileage rate for 2002 was 36.5 cents per mile.8 Consequently, the
total allowable mileage expense is $415.
Petitioners incurred expenses in retaining a search firm to
help Mr. Stukes with his job search. We find that petitioners’
records and Mr. Stukes’s testimony substantiate these expenses to
the extent of $1,300.
Petitioners also incurred expenses in preparing and printing
Mr. Stukes’s calling cards, résumé, and envelopes. We find that
petitioners’ records and Mr. Stukes’s testimony substantiate
these expenses to the extent of $1,100.
On Schedule A of their 2002 return, petitioners reported
attorney’s fees and accountant’s fees of $32,610, all of which
was disallowed by respondent. The attorney’s fees stem from a
controversy involving the sale of real property in May of 2001.
Petitioners had acquired the property (the Lakeshore property) in
2000. At the time of acquisition, petitioners intended to
renovate the Lakeshore property and resell it at a profit.
Petitioners were successful, and they reported $7,633 of capital
7
In reaching this amount, we excluded miles driven before
Mr. Stukes was terminated from his job, miles driven in pursuit
of the Equal Employment Opportunity Commission (EEOC) claim, and
miles for which there is no corresponding bank record or calendar
entry.
8
See supra note 3.
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gain from the sale of the Lakeshore property on their 2001
Federal income tax return.
Difficulty arose at the time of closing the sale of the
Lakeshore property in 2001. Petitioners believed that the real
estate agent who had organized the sale had damaged the Lakeshore
property and the contents of the house, consisting of
furnishings, appliances, and other personal property.9
Petitioners therefore refused to pay the realtor’s commission and
instead placed an amount equal to the realtor’s commission in an
escrow account. When negotiation and mediation attempts failed,
the realtor brought suit against petitioners in the District
Court of Llano County, Texas, seeking payment of the commission
as well as recovery of attorney’s fees. Petitioners
counterclaimed, alleging negligence, conversion, breach of
contract, and violation of the Texas Deceptive Trade Practices-
Consumer Protection Act set forth in Tex. Bus. & Com. Code Ann.
secs. 17.41-17.63 (Vernon, 2002). Specifically, petitioners
alleged that they had been deprived of personal property
consisting of household furnishings and appliances that had been
in the Lakeshore property. The realtor prevailed in the district
court proceeding, and the amount of the realtor’s commission was
released from the escrow account. The realtor was also awarded
9
At the trial of this case, Mr. Stukes testified that the
personal property was already in the house when petitioners
bought it.
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his attorney’s fees of $12,750, which petitioners paid in
September of 2002. During 2002, petitioners paid their attorney10
for services in connection with the lawsuit brought by the
realtor and paid $250 for mediation services. We are unable to
determine the exact amount that petitioners paid their attorney
because although petitioners submitted bank records which show
that such payments were made, they redacted the amounts.
Respondent contends that petitioners have not shown that the
Lakeshore property was other than their second home, for which
Schedule A itemized deductions are not available. Further,
respondent contends that even if Schedule A itemized deductions
were appropriate in connection with the lawsuit involving the
Lakeshore property, petitioners have not shown the extent to
which the litigation costs were related to the realtor’s demand
for the commission on the sale of the property as opposed to
petitioners’ counterclaims with respect to damage to their
personal property.
Payment of litigation costs may result in a tax benefit in
one of three ways. Section 162(a) governs the deductibility of
litigation costs as a business expense. Section 162(a) allows an
individual to deduct all of the ordinary and necessary expenses
of carrying on his trade or business. Closely related to this
10
At trial, petitioners conceded that they had erroneously
included in the Schedule A amount some payments to their attorney
that had been made in 2001.
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provision is section 212, which allows an individual to deduct
all of the ordinary and necessary expenses paid or incurred in:
(1) Producing income, (2) managing, conserving, or maintaining
property held for the production of income, or (3) determining,
collecting, or refunding a tax. Sections 162(a) and 212 are
considered in pari materia, except the income-producing activity
of section 162(a) is a trade or business whereas the income-
producing activity of section 212 is a pursuit of investing or
other profit-making that lacks the regularity and continuity of a
business. Guill v. Commissioner, 112 T.C. 325, 328 (1999). A
deduction under 162(a) reduces gross income to arrive at adjusted
gross income, while a deduction under section 212 reduces
adjusted gross income to arrive at taxable income.11 Id. Neither
party contends that the Lakeshore property was property used in a
trade or business under section 162.
A third possible treatment of litigation costs that may
confer a tax benefit is as a capital expenditure. See sec. 1221;
Woodward v. Commissioner, 397 U.S. 572, 575 (1970). Litigating
costs that are incurred in connection with the sale of a capital
asset are capital expenditures. Sec. 1211(b)(1). A capital
asset is property held by the taxpayer and not specifically
excluded from capital asset status by section 1221. Sec.
11
The sec. 212 deduction is reported on Schedule A and is
subject to the 2-percent floor. See supra note 1.
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1221(a). The regulations under section 1221 provide that
“Property held for the production of income, but not used in a
trade or business of the taxpayer, is not excluded from the term
‘capital assets’”. Sec. 1.1221-1(b), Income Tax Regs.
The Lakeshore property was a capital asset in petitioners’
hands, and petitioners properly reported the gain on the sale of
the Lakeshore property as capital gain in 2001. Petitioners’
expenditures for the legal fees and expenses arose in connection
with the disposition of the Lakeshore property, rather than with
its conservation or maintenance, and are therefore capital
expenditures.
Respondent contends that the legal costs borne by
petitioners did not relate to the sale of the Lakeshore property
but rather, at least in part, to petitioners’ counterclaim
against the realtor for damages with respect to petitioners’
personal property. Consequently, according to respondent, the
legal costs are personal items which under section 262 are not
deductible.
The proper characterization of legal fees and expenses is
governed by the “origin of the claim” test. Woodward v.
Commissioner, supra at 577-578. The object of the “origin of the
claim” test is to find the transaction or activity from which the
taxable event proximately resulted. United States v. Gilmore,
372 U.S. 39, 47 (1963). The origin is determined by analyzing
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the facts and determining the nature of the transaction. Keller
St. Dev. Co. v. Commissioner, 688 F.2d 675, 681 (9th Cir. 1982),
affg. T.C. Memo. 1978-350.
Petitioners do not dispute that commissions are generally
payable to a realtor in connection with the sale of property.
Petitioners believed that the commission they owed the realtor
should have been reduced or entirely offset by damages due to
them from the realtor. Petitioners withheld the realtor’s
commission in an attempt to ensure that they would be compensated
for the loss allegedly caused by the realtor. A lawsuit ensued,
and petitioners incurred legal fees in defending their actions.
But for the sale of the Lakeshore property, petitioners
would not have incurred realtor’s commission. Had they not
disputed the realtor’s commission, petitioners would not have
incurred the legal fees at issue. Thus, the origin of the
realtor’s claim and the proximate cause of all of petitioners’
legal fees was the sale of the Lakeshore property, a capital
asset in the hands of petitioners. Therefore, we hold that
petitioners’ payment of legal fees in 2002 constituted a capital
expenditure.12
12
Petitioners showed that they paid $21.64 for the purchase
of tax preparation software. This expense might be deductible
but for the fact that it appears to have been incurred and paid
in 2003. Therefore, respondent properly disallowed this amount
for 2002.
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Petitioners may offset any capital gains they had in 2002
with their capital losses, and they are allowed an additional
capital loss deduction of up to $3,000 per year for the excess
losses that cannot be offset by capital gains. Sec. 1211(b).
Petitioners’ excess capital losses may be carried over to
subsequent years. Sec. 1212(b).
On their 2002 return, petitioners reported a capital loss
carryover of $38,427 from 2001 as well as a short-term capital
loss from 2002. The expenses petitioners incurred in 2002
relating to the sale of the Lakeshore property in 2001 should be
aggregated with (and increase) the capital loss carryover
petitioners already reported for 2002.
Petitioners realized no tax benefit in 2002 from the payment
of attorney’s fees relating to the disposition of their capital
asset in 2001. However, those expenditures may be beneficial in
future periods. Only the year 2002 is before us; we do not
address the treatment of petitioners’ capital losses in
subsequent years.
To reflect the foregoing and concessions by the parties,
Decision will be entered
under Rule 155.