T.C. Memo. 2013-213
UNITED STATES TAX COURT
DAVID O. VIOLA AND TAMMY J. VIOLA, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 22327-10. Filed September 9, 2013.
Michael A. Fisher, for petitioners.
Mark J. Tober, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
MORRISON, Judge: The respondent (the IRS) sent the petitioners, Mr.
David O. Viola and Ms. Tammy J. Viola, a notice of deficiency for the tax years
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[*2] 2006, 2007, and 2008. In the notice the IRS determined the following
deficiencies and section-6662(a) penalties:1
Penalty
Year Deficiency sec. 6662(a)
2006 $442,344 $88,468.80
2007 11,089 2,217.80
2008 51,234 10,246.80
The deficiency determinations resulted from various adjustments to the items of
income and deductions reported on the Violas’ returns. In the stipulation of
settled issues the parties have resolved all the adjustments that the Violas
challenged except for the computational effects of the resolved adjustments. The
only issue for decision is whether the Violas are liable for the penalty for any or all
of the three years before us.
FINDINGS OF FACT
The Violas were a married couple living in Ohio at all relevant times.
David Viola owned and operated a business, Viola Contracting, LLC, that repaired
and maintained cell phone towers and related equipment. Viola Contracting, LLC,
is a disregarded entity for federal income tax purposes. The Violas reported
1
All section references are to the Internal Revenue Code in effect for the
years at issue, and all Rule references are to the Tax Court Rules of Practice and
Procedure.
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[*3] income and expenses from the business on Schedules C, Profit or Loss From
Business.
In 2006 Viola Contracting, LLC, received $797,962 in non-employee
compensation from an entity called REVOL Wireless. REVOL Wireless did not
issue Viola Contracting, LLC, a Form 1099-MISC, Miscellaneous Income.
The Violas used Mr. James Csaszar of the accounting firm of Csaszar
Snider Accounting Services to prepare all of their federal-income-tax returns for
1989 to 2005. In 2002 Mr. Csaszar lost his accounting license, but the Violas
were unaware of this. For the 2006 tax year the Violas provided Mr. Csaszar with
the necessary business records to prepare their tax return, including (1) Forms
1099-MISC (which reported $3,266,152 of payments to Viola Contracting, LLC),
and (2) documentation of the fact that Viola Contracting, LLC, had received the
$797,962 payment from REVOL Wireless. Before Mr. Csaszar could prepare
their 2006 return, he suffered a stroke. When the Violas became aware of the
stroke, Csaszar Snider Accounting Services assured them that it would still be able
to finish the Violas’ return. As the due date for the 2006 tax return approached,
Mr. Viola periodically called Csaszar Snider Accounting Services to check that the
return would be completed on time. However, he did not request any substantive
tax advice.
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[*4] Csaszar Snider Accounting Services prepared the 2006 return in time for it
to be filed timely. No one from the accounting firm discussed the $797,962
payment from REVOL Wireless with the Violas or gave any advice to the Violas
regarding the position to take on their return with respect to the REVOL Wireless
payment. The accounting firm did not give the Violas a copy of the return (a Form
1040, U.S. Individual Income Tax Return) until three weeks after it was filed. Mr.
Viola briefly reviewed the return then.
Attached to the return was a Schedule C for Viola Contracting, LLC. The
Schedule C reported $3,266,152 as the gross receipts for Viola Contracting, LLC.
Mr. Viola noticed that the amount reported as gross receipts on Schedule C was
the same as the total of the payments received on Forms 1099-MISC but that it did
not include the $797,962 payment from REVOL Wireless. Mr. Viola assumed,
without confirming, that the $797,962 payment was reported elsewhere on the
return. The $797,962 amount was not reported elsewhere on the return. The
Violas concede that the amount should have been reported as gross receipts.2
2
The IRS made an upward adjustment of $827,544 to the Violas’ Schedule
C gross receipts in the notice of deficiency. The Violas conceded that $797,962 of
the adjustment was correct. See table infra p. 7. (The IRS conceded the remainder
of the adjustment in the stipulation of settled issues.)
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[*5] For the 2007 and 2008 tax years the Violas continued to have Csaszar
Snider Accounting Services prepare their returns.
On July 13, 2010, the IRS issued the Violas a notice of deficiency
determining the deficiencies and a section-6662(a) penalty for each of the 2006,
2007, and 2008 tax years. The deficiency determinations reflected various
adjustments to the amounts reported on the returns. In their petition the Violas did
not challenge some of the adjustments. Of the adjustments challenged in the
petition, the parties have resolved all except for computational adjustments, i.e.,
adjustments that depend solely on other adjustments. In addition, the parties have
come to a special agreement in the stipulation of settled issues regarding
adjustments made in the notice of deficiency to real estate losses reported on
Schedule E, Supplemental Income and Loss, for 2007 and 2008. Even though
these adjustments were not challenged in the petition, the parties have agreed that
these adjustments will be recomputed to take into account the effect of other
adjustments. The adjustments made in the notice of deficiency thus fall into the
following three categories:
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[*6] 1. adjustments not challenged by the Violas;3
2. adjustments the Violas initially challenged that were then settled in
the stipulation of settled issues filed in this case;4 and
3. adjustments challenged by the Violas that were not settled in the
stipulation of settled issues. All of the adjustments in this third
category are computational.
3
The adjustments in this category correspond to the following lines in the
notice of deficiency: “Self Employment Tax” (for all three years), “Addnl Child
Tax Credit” (for all three years), “Depreciation” (for all three years), “Depreciation
and Sec. 179 Expense” (for 2006 and 2007), “Itemized Deductions” (for all three
years), “Exemptions” (for 2006 and 2008), “Additional Taxes / Alternative
Minimum Tax” (for 2008), “Qualified dividends” (for 2008), and “Capital Gain or
Loss” (for 2008). Some adjustments increase income; some decrease income. The
stipulation of settled issues says that “[t]he parties agree that the remaining
adjustments for both of the years at issue [i.e., the adjustments in the notice of
deficiency other than the adjustments settled in the stipulation of settled issues] are
computational in nature, and will be determined in accordance with the
concessions described above.” This, presumably, means that the amounts of the
adjustments from the notice in the above lines in the notice--category (1)--are
subject to calculation under Rule 155 in accordance with our resolution of the
case.
4
These adjustments are listed in the table below, along with a description of
how the parties have resolved each adjustment.
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[*7] Amount of adjustment in Amount of Amount of
the notice of deficiency (all adjustment adjustment
amounts reflect increases conceded by conceded by
Year Line item on return in income) the IRS the Violas
2006 Schedule C gross receipts $827,544 $29,582 $797,962
2006 Schedule C cost of goods sold 311,943 273,658 38,285
Schedule C car and truck
2006 expenses 37,113 -0- 37,113
Schedule C rental or lease
expenses for other business
2006 property 45,943 -0- 45,943
Schedule C expenses for business
2006 use of the home 17,768 17,768 -0-
2006 Schedule E real estate loss 24,202 -0- 24,202
2007 Schedule C cost of goods sold 166,347 -0- 166,347
Schedule C expenses for business
2007 use of the home 15,410 15,410 -0-
2008 Schedule C cost of goods sold 324,653 130,367 194,286
Schedule C expenses for business
2008 use of the home 21,613 21,613 -0-
We note that the adjustments in category (3) depend only on the resolution
of the other adjustments; i.e., those in categories (1) and (2). Since none of the
amounts in category (1) or (2) requires our resolution, it appears that the parties
should already have been able to calculate the computational adjustments in
categories (1) and (3). Therefore, they should be able to calculate total mutually
agreed-upon amounts of the Violas’ deficiencies and tax liabilities. Yet nothing in
the record shows that the parties have agreed to these amounts. The calculations
will thus be made under Rule 155.
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[*8] The Violas timely filed a petition requesting that this Court redetermine the
deficiencies, which have now been settled by the parties, and the penalties,5 which
remain at issue. Trial was held in Tampa, Florida.
OPINION
Section 6662(a) and (b)(2) imposes a 20% penalty on any part of an
underpayment that is attributable to a substantial understatement of income tax.
An “understatement” is generally defined as the correct tax minus the tax shown
on the return. Sec. 6662(d)(2)(A); sec. 1.6662-4(b)(2), Income Tax Regs. An
understatement of income tax is substantial if it exceeds the greater of $5,000 or
10% of the correct tax required to be shown on the return. Sec. 6662(d)(1)(A);
sec. 1.6662-4(b)(1), Income Tax Regs. In an exception to the accuracy-related
penalty, section 6664(c)(1) provides that the amount of an underpayment is
reduced by any part of an underpayment for which the taxpayer can show both
reasonable cause and good faith. Sec. 6664(c)(1). Under section 7491(c), the IRS
must produce “sufficient evidence indicating that it is appropriate to impose the
5
The amounts of the penalties will depend on the amounts of the
underpayments the parties calculate on the basis of this opinion. See Rule 155.
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[*9] * * * penalty”. See Higbee v. Commissioner, 116 T.C. 438, 446 (2001). The
taxpayer, however, bears the burden of proving that penalties are inappropriate
because of reasonable cause. Id.
The Violas have conceded that many of the adjustments made in the notice
of deficiency are correct, and so they have admitted that their returns understated
their tax liabilities (because the adjustments they have conceded have a net effect
of increasing their tax liability). Whether the understatement of tax for each year
is substantial, i.e., whether the understatement exceeds the greater of $5,000 or
10% of the correct tax, will be determined under Rule 155.
The Violas contend that they are not liable for the accuracy-related penalties
with respect to the items they challenged in their petition because they qualify for
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[*10] the reasonable-cause-and-good-faith exception.6 The pertinent regulation
provides:
The determination of whether a taxpayer acted with reasonable cause
and in good faith is made on a case-by-case basis, taking into account
all pertinent facts and circumstances. * * * Generally, the most
important factor is the extent of the taxpayer’s effort to assess the
taxpayer’s proper tax liability. Circumstances that may indicate
reasonable cause and good faith include an honest misunderstanding
of fact or law that is reasonable in light of all of the facts and
circumstances, including the experience, knowledge, and education of
the taxpayer. An isolated computational or transcriptional error
generally is not inconsistent with reasonable cause and good faith.
* * * Reliance on * * * professional advice * * * constitutes
6
There are other exceptions to the penalty that the Violas do not invoke
here; i.e., sec. 6662(d)(2)(B) provides that an understatement is reduced, first,
where the taxpayers had substantial authority for their treatment of an item giving
rise to the understatement or, second, where the relevant facts affecting the
treatment of an item giving rise to an understatement are adequately disclosed and
the taxpayers had a reasonable basis for their treatment of that item.
In their answering brief the Violas claimed that Csaszar Snider Accounting
Services submitted their 2006 and 2008 returns without their signatures or
permission, that these returns were therefore not filed, and that therefore sec. 6662
penalties cannot be imposed for these two years. See sec. 6664(b). But the Violas
raised the issue of whether they filed returns only in a brief filed after trial. This is
too late. See Robertson v. Commissioner, 55 T.C. 862, 865 (1971). (The Violas
did not even raise the issue in their opening brief, which asserted only that they
“could argue” that their 2006 and 2008 returns were never actually filed.) In any
case, we find unpersuasive the Violas’ claim that the returns for 2006 and 2008
were filed without their permission. Mr. Viola testified only that he could not
recall whether he had given permission to anyone at Csaszar Snider Accounting
Services to file the returns. Furthermore, the Violas used Csaszar Snider
Accounting Services for their 2007 and 2008 returns even though, they now say,
the firm filed their 2006 return without their permission. We find that the 2006
and 2008 returns were filed with their permission.
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[*11] reasonable cause and good faith if, under all the circumstances, such
reliance was reasonable and the taxpayer acted in good faith. * * *
Sec. 1.6664-4(b)(1), Income Tax Regs. Whether the taxpayer acted with
reasonable cause and in good faith thus depends on the pertinent facts and
circumstances, including the taxpayer’s efforts to assess the proper tax liability,
the taxpayer’s knowledge and experience, and the extent to which the taxpayer
relied on the advice of a tax professional.
1. The portion of the 2006 underpayment attributable to the omitted payment
from REVOL Wireless
The Violas contend that their 2006 return did not report the $797,962
payment from REVOL Wireless because Csaszar Snider Accounting Services
either (1) decided that the $797,962 payment was not includable in their income or
(2) made a clerical error in failing to include the payment on their return. A
similar argument was made by the taxpayers in Woodsum v. Commissioner, 136
T.C. 585, 593 (2011). In Woodsum we held that the taxpayers could not claim to
have relied on the advice of their tax return preparer because there was no
evidence that the tax return preparer made a judgment or that the taxpayers relied
on it. Id. at 592-593. Likewise, there is no evidence that Csaszar Snider
Accounting Services made a judgment that the REVOL Wireless payment was not
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[*12] includable in the Violas’ income. And there is no evidence that the Violas
relied on any such judgment of Csaszar Snider Accounting Services.
In Woodsum the Court further held that even if the error by the tax return
preparer was an “innocent oversight” (such as an innocent computational or
transcriptional error), the taxpayers did not have reasonable cause for signing the
erroneous return. Id. at 594. For them to qualify for the reasonable-cause
exception, they would have to show that they made a reasonable review of the
completed return, and the Court held that they did not do so. Id. at 596. At
minimum, the Court held, taxpayers should check returns prepared by others to
make sure that each item of income is reported. See id.; see also Magill v.
Commissioner, 70 T.C. 465, 479-480 (1978), aff’d, 651 F.2d 1233 (6th Cir. 1981).
When Mr. Viola examined the Schedule C he noticed the REVOL Wireless
payment was not reported there; he merely assumed instead of confirming that it
was reported elsewhere on the return. The Violas failed to make a reasonable
effort to be sure they ascertained their proper tax liability.7 Therefore, they did not
7
The Violas rely on Thrane v. Commissioner, T.C. Memo. 2006-269.
Thrane held that the taxpayer had reasonable cause for failure to report income in
part because a reasonable inspection of the return, whether or not the taxpayer
actually conducted one, would not have uncovered the error. See id., slip op. at
11-12. By contrast, a reasonable inspection of the Violas’ return would have
uncovered the failure to report the REVOL Wireless payment.
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[*13] show that they had reasonable cause and acted in good faith with respect to
the unreported payment from REVOL Wireless.
2. The portions of the 2006, 2007, and 2008 underpayments attributable to
other adjustments
The Violas assert that they had reasonable cause for, and acted in good faith
with respect to, the full amounts of the underpayments for all three years. The
IRS, on the other hand, continues to assert the same amounts of penalties
originally determined in the notice of deficiency. Neither side differentiates
between the types of adjustments for the purposes of the reasonable-cause-and-
good-faith exception--the IRS claims that the Violas have not proven reasonable
cause and good faith for any parts of the underpayments, while the Violas assert
that the entire process they used to generate their income-tax returns demonstrates
their good faith and that they had reasonable cause for the entire underpayments.
We must therefore discuss the applicability of the reasonable-cause-and-good-
faith exception to adjustments in all three of the categories that we have used to
classify the adjustments in the notice of deficiency. (We have already discussed
the REVOL Wireless payment supra part 1.8)
8
Some of the underpayments attributable to any overreporting of Schedule E
real estate losses for 2007 and 2008 may be reduced as a consequence of the
special agreement described supra pp. 5-6.
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[*14] We begin with the aspects of the return that gave rise to the adjustments we
have placed in category (3). These adjustments are all computational, i.e., they
depend on other adjustments. Therefore, whether the underpayments related to the
category (3) adjustments are excepted from the penalty depends on whether the
exception applies to the other adjustments.
We now consider the aspects of the return that gave rise to the adjustments
we have placed in category (2). All of the facts and circumstances must be taken
into account in determining whether the Violas had reasonable cause for the
underpayments and acted in good faith. Again, the most important factor for us to
consider is the extent of the Violas’ efforts to report their tax liabilities correctly.
Woodsum v. Commissioner, 136 T.C. at 591; sec. 1.6664-4(b)(1), Income Tax
Regs.
The Violas submitted a considerable amount of documentation and business
records to Csaszar Snider Accounting Services. In doing so, they were following
the same routine that they had in prior years. The Violas were not themselves well
versed in tax matters: Mr. Viola credibly testified that he did not know what
Schedule E is, for example. He began working in construction immediately after
high school and started his business after gaining on-the-job experience.
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[*15] Unlike the omission of the REVOL Wireless payment, the errors that
resulted in the category (2) adjustments were not ones that a reasonable inspection
by a taxpayer with the Violas’ limited tax knowledge and experience would have
been likely to uncover. Thus, taking into account all pertinent facts and
circumstances, we hold that the Violas had reasonable cause for claiming the
category (2) deductions. They are thus not liable for section-6662 penalties for the
portions of the underpayments attributable to the category (2) adjustments.9
We now consider the aspects of the return that gave rise to the adjustments
we have placed in category (1). The Violas argue that they are entitled to full
relief from the penalties on account of the process they used to generate their tax
returns: i.e., giving information to their return preparer and conducting a brief
review of the resulting tax return. But they introduced no evidence about the
9
The Violas argue that they relied on the professional advice of Csaszar
Snider Accounting Services with respect to the deductions and cost of goods sold
amounts that they concede were incorrectly reported on their return (i.e., with
respect to the aspects of their return that, other than the REVOL Wireless
payment, make up our category (2)). The regulation allows us to take reliance on
a tax professional into consideration when determining whether the taxpayer acted
with reasonable cause and good faith. See sec. 1-6664(4)(b)(1), Income Tax Regs.
But because we find that the Violas are not liable for the penalty on the basis of all
the facts and circumstances, we need not analyze their argument that they relied on
the advice of a tax professional under the tests set out in Neonatology Assocs.,
P.A. v. Commissioner, 115 T.C. 43, 98 (2000), aff’d, 299 F.3d 221 (3d Cir. 2002),
with respect to these adjustments.
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[*16] income and expenses, which, as reported on the returns, gave rise to these
adjustments.10 We have no way of knowing whether a reasonable review of the
tax returns would have uncovered that the income and expenses were incorrectly
reported. See Woodsum v. Commissioner, 136 T.C. at 596. The Violas bear the
burden of proving that they had reasonable cause for, and acted in good faith with
respect, to, these aspects of the returns. Their general argument that their tax-
return-preparation process was reasonable is not sufficient to meet the burden.11
We have considered all arguments that the parties have made, and we find
any contentions not addressed above to be meritless, irrelevant, or moot.
To reflect the foregoing,
Decision will be entered
under Rule 155.
10
The Violas never challenged these adjustments.
11
The Rule 155 calculation must thus apply the penalty to the portion of
each underpayment attributable to the category (1) adjustments and the REVOL
Wireless payment.