Cynthia L. Hailstone & John Linford ( 2023 )

United States Tax Court
T.C. Summary Opinion 2023-17CYNTHIA L. HAILSTONE AND JOHN LINFORD,
Petitioners
v.
COMMISSIONER OF INTERNAL REVENUE,
Respondent
—————
Docket No. 8540-20S. Filed April 24, 2023.
—————
Cynthia L. Hailstone and John Linford, pro sese.
Michelle A. Monroy and Michael S. Hensley, for respondent.
SUMMARY OPINION
LEYDEN, Special Trial Judge: This case was submitted
pursuant to the provisions of section 7463 of the Internal Revenue Code
in effect when the Petition was filed. 1 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.
In the notice of deficiency dated January 20, 2020, upon which
this case is based, respondent determined a deficiency in petitioners’
federal income tax for 2017 of $21,910 and an accuracy-related penalty
under section 6662(a) of $4,382.
1 Unless otherwise indicated, all statutory references are to the Internal
Revenue Code, Title 26 U.S.C., in effect at all relevant times, all regulation references
are to the Code of Federal Regulations, Title 26 (Treas. Reg.), in effect at all relevant
times, and all Rule references are to the Tax Court Rules of Practice and Procedure.
Served 04/24/23
2
After concessions, 2 the issues for decision are whether for 2017
(1) disability payments petitioner husband received are excludable from
petitioners’ income under section 105 and (2) petitioners are liable for
the accuracy-related penalty. The Court concludes that for 2017, after
the application of section 6015(c) with respect to petitioner wife,
petitioner husband’s disability payments are not excludable from his
gross income under section 105 and that petitioner husband is liable for
the accuracy-related penalty under section 6662(a). 3
Background
Some of the facts have been stipulated and are so found. The
Stipulation of Facts and accompanying Exhibits are incorporated herein
by this reference. Petitioners resided in California when the Petition
was filed.
I. Petitioner Husband’s Disability Payments
On September 8, 2014, petitioner husband was hired to work for
an insurance agency and brokerage company. Petitioner husband sold
Medicare supplement plans and Medicare Advantage plans for the
company and did not sell disability insurance.
The company provided disability insurance for its employees,
including petitioner husband. On June 1, 2011, the company purchased
a group disability policy from Principal Life Insurance Co. The policy
was amended effective December 1, 2013. Under that policy, as
amended, the company’s employees were not required to contribute to
the policy premiums. Rather, the company was required to pay 100% of
2 Respondent concedes that petitioner wife qualifies for relief from joint and
several liability under section 6015(c) because respondent did not meet his burden of
proving that petitioner wife had actual knowledge of the unreported income. Petitioner
husband did not challenge that respondent did not meet his burden of proof under
section 6015(c). Respondent further concedes that petitioner husband did not receive
unreported nonemployee income of $4,515 and that he is not liable for a 20% additional
tax on a distribution of $2,891 from a health savings account.
3 Because the disability payments and accuracy-related penalty at issue in this
case are attributable solely to petitioner husband and the parties conceded that
petitioner wife is entitled to innocent spouse relief under section 6015(c), petitioner
wife is not liable for either the deficiency due to the unreported disability payments or
the section 6662(a) accuracy-related penalty. See Treas. Reg. § 1.6015-3(d)(4)(i)(B)(1),
(iv)(B).
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the premiums. The policy allowed the company to have a covered
employee pay 25% of the premiums if there were three or more insured
employees. However, the company did not choose this option.
Petitioner husband incurred an unidentified disability in
December 2014, and he filed a workers’ compensation claim on
December 11, 2014. Petitioner husband was terminated by the company
on November 17, 2015.
On May 30, 2017, Principal Life Insurance Co. approved
petitioner husband’s disability claim under the policy for the period of
December 18, 2014, through November 17, 2015. During 2017, and with
respect to his disability claim, petitioner husband received $105,000 of
disability payments from Principal Life Insurance Co. and a 2017 Form
W–2, Wage and Tax Statement, reporting those payments.
II. Petitioners’ 2017 Joint Federal Income Tax Return
Petitioners timely filed a joint federal income tax return for 2017.
They did not report the disability payments of $105,000 petitioner
husband received in 2017.
III. IRS Examination of Petitioners’ 2017 Tax Return
The Internal Revenue Service (IRS) 4 examined petitioners’ 2017
tax return through its Automatic Underreporter (AUR) program. The
IRS issued a CP2000 Notice dated October 21, 2019, and proposed a
deficiency of $21,910 and an accuracy-related penalty of $4,382.
Petitioners did not respond to the CP2000 Notice.
Discussion
I. Burden of Proof
In general, determinations set forth in a notice of deficiency are
presumed correct, and the taxpayer bears the burden of proving that the
4 The Court uses the term “IRS” to refer to administrative actions taken outside
of these proceedings. The Court uses the term “respondent” to refer to the
Commissioner of Internal Revenue, who is the head of the IRS and is respondent in
this case, and to refer to actions taken in connection with this case.
4
determinations are in error. Rule 142(a); Welch v. Helvering, 290 U.S.
111, 115 (1933).
Under section 7491(a), the burden of production may shift to the
Commissioner if the taxpayer produces credible evidence with respect to
any relevant factual issue and meet other requirements. Petitioners
have not argued that section 7491(a) applies, and therefore, the burden
of proof remains with them. See Higbee v. Commissioner, 116 T.C. 438,
442–43 (2001).
II. Disability Payments
The term “income” as used in the Internal Revenue Code means
income from any source, including any accretion to the taxpayer’s
wealth. See I.R.C. § 61(a); Commissioner v. Glenshaw Glass Co., 348
U.S. 426, 429–30 (1955). The disability payments are includable in
income unless an exclusion applies.
Certain accretions to a taxpayer’s wealth are by statute
excludable from a taxpayer’s income, but those statutory exclusions are
narrowly construed. See, e.g., O’Gilvie v. United States, 519 U.S. 79(1996); Commissioner v. Schleier, 515 U.S. 323, 328 (1995). Petitioner
husband asserts that the disability payments are excludable from gross
income under section 105 because although the company paid the
premiums for the disability insurance, the company could have allowed
him to do so.
Section 105 governs amounts received under accident and health
plans. See Dzioba v. Commissioner, T.C. Memo. 1989-203. While the
statutory framework is admittedly confusing, section 105 works as
follows. First, section 105(a) provides a more specific rule than the
general income inclusion rule under section 61 for when amounts
received by an employee through accident or health insurance for
personal injuries or sickness are excludable from income. 5 If a disability
payment under a disability insurance policy is not attributable to
contributions by an employer or paid by the employer and the payment
5 The Court assumes, without deciding, that the disability payments constitute
an amount received by an employee through accident or health insurance for purposes
of section 105(a).
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meets the requirement of section 105(c), then it is excludable from gross
income.
Specifically, section 105(a), “Amounts Attributable to Employer
Contributions,” provides as follows:
Except as otherwise provided in this section, amounts
received by an employee through accident or health
insurance for personal injuries or sickness shall be
included in gross income to the extent such amounts (1) are
attributable to contributions by the employer which were
not includible in the gross income of the employee, or
(2) are paid by the employer.
While petitioner argues that the policy allowed the company to
choose an option to permit an employee to pay part of the premiums, the
record is clear that the company did not choose that option and did not
allow employees to pay any amount of the premiums. Rather, the record
shows that the policy premiums were paid by the company. Therefore,
under section 105(a) the amounts of the disability payments were paid
under a policy for which the contributions (premiums) were paid by the
company, and the exclusion under section 105(c) does not apply. Rather,
under section 61 the disability payments petitioner husband received in
2017 are includible in his gross income.
III. Accuracy-Related Penalty
Section 6662(a) and (b)(2) imposes an accuracy-related penalty
equal to 20% of the amount of any underpayment of tax required to be
shown on a return that is attributable to any substantial
understatement of income tax. An understatement is “substantial” if it
exceeds the greater of $5,000 or 10% of the tax required to be shown on
the return. I.R.C. § 6662(d)(1)(A). Respondent has determined an
accuracy-related penalty on the basis of a substantial understatement
of income tax.
A. Burden of Production
The Commissioner bears the burden of production with respect to
an individual taxpayer’s liability for any penalty. I.R.C. § 7491(c);
Higbee, 116 T.C. at 446–47. Once the Commissioner meets his burden
of production, the taxpayer must come forward with persuasive evidence
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that the Commissioner’s determination is incorrect. See Rule 142(a);
Welch v. Helvering, 290 U.S. at 115.
The Court has held that substantial understatement penalties
determined by an IRS AUR computer program without human review
are “automatically calculated through electronic means” and thus are
exempt from the written supervisory approval requirement that
generally applies to such penalties. See Walquist v. Commissioner, 152
T.C. 61, 73 (2019). This exception includes returns processed through
the AUR program when the IRS issues a CP2000 notice to a taxpayer
and the taxpayer fails to respond to the notice. See Walton v.
Commissioner, T.C. Memo. 2021-40, at *9–10; Ball v. Commissioner,
T.C. Memo. 2020-152, at *12–13.
Respondent has asserted, and the record supports him, that the
accuracy-related penalty at issue was automatically calculated through
electronic means and, therefore, falls within the section 6751(b)(2)(B)
exception to the written supervisory approval requirement. Further, the
record shows an understatement of tax which meets the definition of a
substantial understatement of income tax. See I.R.C. § 6662(d). Thus,
respondent has met his burden of production with respect to the
accuracy-related penalty.
B. Reasonable Cause and Good Faith
A taxpayer may avoid a section 6662(a) penalty by showing that
there was reasonable cause for the underpayment and that the taxpayer
acted in good faith. I.R.C. § 6664(c)(1). This determination is made on
a case-by-case basis, taking into account all pertinent facts and
circumstances. Treas. Reg. § 1.6664-4(b)(1). In making that
determination, “the most important factor” is usually “the extent of the
taxpayer’s effort to assess the taxpayer’s proper tax liability.” Id.Petitioner husband asserts that he should not be liable for the
penalty because he “did not feel that taxes were due on that disability
amount.” However, petitioner husband does not dispute that he
received the disability payments nor that he received the Form W–2 that
reported them. Petitioner husband did not rely upon a tax adviser or
accountant to prepare petitioners’ tax return. Rather, he used a
commercial tax return preparation software program. He testified that
he did not see a prompt for reporting the disability payments, and thus,
he did not report them.
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Based on the record the Court concludes that petitioner husband
did not have reasonable cause and did not act in good faith in not
reporting the disability payments. Accordingly, the Court finds that if
the computations under Rule 155 establish that there is a substantial
understatement of income tax for 2017 as a result of the Court’s holdings
and respondent’s concessions, then petitioner husband has substantially
understated the income tax and the imposition of the accuracy-related
penalty with respect to petitioner husband is sustained.
To reflect the foregoing,
Decision will be entered under Rule 155.