Hall v. Commissioner

T.C. Memo. 1996-27

UNITED STATES TAX COURT

WILBURN C. HALL, JR., Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 26125-90. Filed January 25, 1996.

Petitioner (P) was involved in a number of businesses,
most of which were incorporated. P reported on his tax
returns large business losses for the years in issue, most
of which appear to arise from expenses of his corporations.
P had gross receipts, interest, and royalty income in excess
of what he reported on his tax returns.

P filed his tax returns for 1982 through 1986 late.
Respondent mailed a notice of deficiency to P less than 3
years after any of these tax returns were filed. This
notice of deficiency was returned by the U.S. Postal
Service. P wrote to respondent, stating that any notice of
deficiency should be sent to him at two addresses--(1) the
one respondent had already used and (2) another address.
Respondent then mailed a photocopy of the notice of
deficiency to P at the other address. By this time, it was
more than 3 years after P had filed his tax returns for
1982, 1983, and 1984. P filed his petition with this Court
within 90 days after the first mailing of the notice of
deficiency.

1. Held: The first mailing of the notice of
deficiency was to P's last known address, and was timely.
Secs. 6212(b)(1), 6501(a), I.R.C. 1986.
 - 2 -

2. Held, further, P had unreported Schedule C gross
receipts for 1982; amount determined.

3. Held, further, P had unreported interest income for
1984-1986; amounts determined.

4. Held, further, P had unreported royalty income for
1983, 1984, and 1986; P did not have unreported royalty
income for 1985.

5. Held, further, expenses of corporations claimed on
P's 1982-1986 tax returns are expenses of separate corporate
entities, and are not deductible by P.

6. Held, further, amounts of deductions P is entitled
to for 1982-1986 determined.

7. Held, further, P is liable for self-employment
taxes for 1983, 1985, and 1986.

8. Held, further, P is liable for additions to tax
under secs. 6651(a)(1), 6653(a), and 6661(a), I.R.C. 1954
and 1986.

Wilburn C. Hall, Jr., pro se.

Edith F. Moates, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

CHABOT, Judge: Respondent determined deficiencies in

Federal individual income tax and additions to tax under sections

6651 (a)(1)1 (failure to timely file tax returns), 6653(a)

(negligence, etc.), and 6661(a) (substantial underpayment)

against petitioner as follows:

1
Unless indicated otherwise all chapter and section
references are to chapters and sections of the Internal Revenue
Code of 1954, or the Internal Revenue Code of 1986, as in effect
for the respective years in issue; references to secs.6501 and
6212 are to these sections as in effect for notices of deficiency
mailed during 1990.
 - 3 -
Additions to Tax
Sec. Sec. Sec. Sec.
Year Deficiency1 6651(a)(1) 6653(a)(1) 6653(a)(2) 6661(a)
2
1982 $213,658 $53,415 $10,683 $53,415
3
1983 38,594 9,648 1,930 9,135
2
1984 27,901 6,975 1,395 6,975
2
1985 24,166 6,042 1,208 6,042

Sec. Sec.
6653(a)(1)(A) 6653(a)(1)(B)
2
1986 4,333 1,083 $217 --
1
Of these amounts, $102 for 1983, $1,587 for 1985, and $438 for 1986 are self-
employment taxes under ch. 2; the remainders are income taxes under ch. 1.
2
50 percent of the interest due on the entire deficiency for each year.
3
50 percent of the interest due on $36,540.

After concessions by both sides,2 the issues for decision

are as follows:

(1) Whether a notice of deficiency for 1982 through

1984 was mailed to petitioner at his last known address

within the time limitation prescribed under section 6501.

(2) Whether petitioner had unreported Schedule C gross

receipts for 1982, and, if so, in what amount.

(3) Whether petitioner had unreported interest income

for 1984 through 1986, and, if so, in what amounts.

2
Respondent conceded the additions to tax for 1982 and the
$10,329 royalty income adjustment for 1982. Respondent also
conceded $158,355 of the Schedule C gross receipts adjustment to
income for 1982. Petitioner conceded that he is entitled to
claim an exemption for only one child for 1983. Deemed
concessions are discussed infra, in connection with the issues to
which the specific concessions relate.
 - 4 -

(4) Whether petitioner had unreported royalty income for

1983 through 1986, and, if so, in what amounts.

5) Whether expenses claimed on petitioner's 1982

through 1986 tax returns are expenses of petitioner, or of

separate corporate entities, and, if the latter, then

whether petitioner is entitled to deduct any of these

expenses.

(6) Whether petitioner is entitled to claimed Schedule

C deductions for 1982 through 1986, and, if so, in what

amounts.

(7) Whether petitioner is liable for self-employment

taxes under section 1401 for 1983, 1985, and 1986, and, if

so, in what amounts.

(8) Whether petitioner is liable for additions to tax

under section 6651(a)(1) for 1983 through 1986.

(9) Whether petitioner is liable for additions to tax

under section 6653(a)(1) for 1983 through 1985, and under

section 6653(a)(1)(A) for 1986; and whether petitioner is

liable for additions to tax under section 6653(a)(2) for

1983 through 1985, and under section 6653(a)(1)(B) for 1986.

(10) Whether petitioner is liable for additions to tax

under section 6661(a) for 1983 through 1985.

FINDINGS OF FACT

Some of the facts have been stipulated; the stipulations and

the stipulated exhibits are incorporated herein by this
 - 5 -

reference.

When the petition was filed in the instant case, petitioner

resided in Norman, Oklahoma.

Background

Petitioner received a B.S. in engineering degree in 1964, an

M.B.A. degree in 1969, and a J.D. degree in 1974, all from the

University of Oklahoma. Petitioner has been a practicing

attorney since 1974. He is admitted to the bar of Oklahoma, and

is also admitted to practice before the U.S. Court of Appeals for

the Tenth Circuit and the U.S. Tax Court.

Petitioner married Pamela Hall (hereinafter sometimes

referred to as Pamela) on March 13, 1965. Petitioner and Pamela

remained married until their divorce on August 25, 1982.

Petitioner had two children of this marriage, born in 1966 and

1969. Petitioner had a third child, born in 1985. Petitioner

paid child support on behalf of all his children.

Beginning about 1981, petitioner suffered financial

setbacks. On February 11, 1987, petitioner filed for bankruptcy

in the U.S. Bankruptcy Court for the Western District of

Oklahoma, and was released from all dischargeable debts on June

18, 1987. During the years in issue, petitioner resided in small

living spaces and paid relatively little rent.

For the period 1982 through 1986, petitioner was a cash

basis taxpayer.
 - 6 -

Business Activities

During the years in issue, petitioner was involved in a

number of business activities, as follows: (1) Petitioner's law

practice, (2) Hall Farms, (3) Concordia Property, Inc.

(hereinafter sometimes referred to as Concordia), (4) Six

Drilling Co. (hereinafter sometimes referred to as Six Drilling),

(5) Stroud America Land Co., Inc. (hereinafter sometimes referred

to as Stroud Land), (6) Stroud America Builders, Inc.

(hereinafter sometimes referred to as Stroud Builders), (7)

Preferred Security Systems, Inc. (hereinafter sometimes referred

to as Preferred), (8) Brazos Drilling Co. (hereinafter sometimes

referred to as Brazos), (9) Empire Drilling Co. (hereinafter

sometimes referred to as Empire), (10) Paramount Valley Angus

Farms, Inc. (hereinafter sometimes referred to as Paramount

Farms), (11) Service Rig Co. (hereinafter sometimes referred to

as Service Rig), (12) Paramount Oil Co. (hereinafter sometimes

referred to as Paramount Oil), and (13) Petron Energy, Inc.

(hereinafter sometimes referred to as Petron).3 All of these

3
Respondent proposes a finding of fact that petitioner was
involved in activities with PVAF, Inc., during the period 1982-
1986. Petitioner testified that his tax returns for this period
may have shown, as expenses, interest of PVAF, Inc., or the cost
of items that had been bought through the use of PVAF, Inc.
However, the parties have stipulated that PVAF, Inc., was
incorporated on August 18, 1988, and this incorporation date is
corroborated by a stipulated report from the Oklahoma Secretary
of State’s office. We follow the stipulation and stipulated
exhibit rather than petitioner’s testimony and the unobjected-to
proposed finding of fact, and do not include PVAF, Inc., among
the 1982 through 1986 corporations.
 - 7 -

business activities except for petitioner's law practice and Hall

Farms were carried on in the form of Oklahoma corporations.

Concordia, Six Drilling, Stroud Land, Stroud Builders,

Preferred, Brazos, Empire, Paramount Farms, Service Rig,

Paramount Oil, and Petron are hereinafter sometimes referred to

collectively as the Corporations.

Concordia was involved in rental properties, and had a

corporate bank account. Six Drilling was involved in drilling.

Both Stroud Land and Stroud Builders were involved with the Oak

Brook Estates addition to Stroud, Oklahoma, a housing

development; each took out loans to finance this development, and

each had a bank account. Preferred was an alarm system company

operating out of Norman, Oklahoma. Brazos operated one drilling

rig, and also took out a $50,000 loan. Empire drilled for oil,

owned five drilling rigs, owned a shop building that Empire took

out a loan to finance, and also took out at least one other loan.

The record does not indicate what type of business Paramount

Farms was involved in, but it was in existence throughout the 5-

year period in issue, although its status was suspended for about

15-1/2 months in 1984-1985. See infra table 1. Service Rig was

involved in salvaging drilling rigs. Paramount Oil had a

corporate bank account; it had some expenses that were deducted

on one or more of petitioner's tax returns. Petron was formed to

engage in oil and gas and real estate businesses; it paid taxes.

Each of the Corporations had its corporate charter suspended
 - 8 -

for nonpayment of Oklahoma franchise taxes at some point during

the years in issue. Two of the Corporations also had their

charters reinstated during the years in issue. At the time of

the trial none of the Corporations was dissolved, merged, or

consolidated, and none of the Corporations had filed an "intent

to dissolve". Petitioner's bankruptcy discharge order was issued

on a "Joint Debtors" form, and shows the debtor as "Wilburn C.

Hall, Jr. aka W.C. Hall, Jr., Bill Hall, Jr. dba Empire Drilling

Company".

All of the Corporations were formed for business purposes.

However, the corporate formalities of electing directors, etc.,

were not followed. Four of the Corporations (Stroud Land, Stroud

Builders, Preferred, and Petron) may have filed tax returns

during the years in issue. None of the Corporations, other than

these four, filed tax returns.

Petitioner was an incorporator and the service agent of

Concordia, Six Drilling, Brazos, Empire, and Petron. Petitioner

was the service agent for Stroud Land, Stroud Builders, Paramount

Farms, Service Rig, and Paramount Oil.

Table 1 lists each of the Corporations and shows when it was

incorporated (I), when it was suspended for failure to meet

franchise tax requirements (S), and when it was reinstated on

meeting franchise tax requirements (R).
 - 9 -

Table 1

Date of Event
Pre-
Post- Corporation 1982 1982 1983 1984 1985 1986
1986

Concordia I 04/22/74 –- –- S 02/13 –- –- –-

Six Drilling I 12/06/77 –- –- S 02/13 –- –- –-
Stroud Land I 02/13/78 –- –- S 02/13 –- –- –-
1
Stroud Builders I 02/13/78 –- –- S 02/14 –- –- –-
Preferred I 06/08/78 –- –- S 02/13 –- –- –-
Brazos I 12/14/78 –- –- S 02/13 –- –- –-
Empire I 04/28/80 –- –- –- S 02/19 –- –-
Paramount
2
Farms I 12/01/81 –- –- S 02/13 R 05/30 –- S
02/10/87
R
09/21/88
S
02/23/90
Service Rig– –- I 01/27 –- –- S 02/13 –- --
Paramount Oil –- I 10/15 –- –- –- S 02/10 --
Petron –- –- –- I 11/08 –- S 02/10 S
02/20/87
R 03/11 R
12/11/89
1
The parties stipulated that Stroud Builders' status was suspended by the Oklahoma
Secretary of State's office on Feb. 13, 1984, but the stipulated report from that
official states that the suspension was on Feb. 14, 1984.
2
The parties stipulated that Paramount Farms' status was suspended by the Oklahoma
secretary of State's office on Feb. 12, 1984, but the stipulated report from that
official states that the suspension was on Feb. 13, 1984.

During the years in issue, petitioner's law practice mainly

involved clients and matters related to his business activities,

petitioner's father's business activities, and the activities of

associates he dealt with.

Statute of Limitations

Petitioner filed each of his tax returns for 1982 through

1986 late, as shown in table 2.

Table 2

Year Date Filed

1982 Sept. 18,1987
1983 Oct. 19,1987
1984 Nov. 3,1987
 - 10 -

1985 Nov. 30,1987
1986 Jan. 19,1988

On each of these tax returns, petitioner showed his address

as "1602 Classen, NORMAN, OK 73069", hereinafter sometimes

referred to as the tax return Classen address.

The June 18, 1987, discharge order in petitioner's 1987

bankruptcy proceeding, was issued before petitioner filed any of

his tax returns for the years in issue. In this discharge order,

petitioner's address is shown as Post Office Drawer B, Norman,

Oklahoma 73070, hereinafter sometimes referred to as the P.O.

drawer address. One of the creditors listed in the discharge

order is "Internal Revenue Service, Austin, Texas 73301".

Revenue agent John Robert Burns (hereinafter sometimes,

referred to as Burns) first interviewed petitioner on June 13,

1989, more than 1 year after petitioner filed the tax returns.

Before this first interview, respondent had sent a letter to

petitioner. By this time, the address respondent was using for

petitioner was "1602 CLASSEN, NORMAN OK 73071-4616", hereinafter

sometimes referred to as the I.R.S. Classen address.

Petitioner came to a second meeting in Burns' office on

October 31, 1989. On January 25 and May 9, 1990, Burns sent to

petitioner letters enclosing Forms 872, to extend the period for

limitations; the May 9 letter was sent by certified mail.

Petitioner did not respond to these letters. In May or June 1990

petitioner's case was reassigned from Burns to another revenue
 - 11 -

agent, Pat Merideth, hereinafter sometimes referred to as

Merideth. On June 21 and July 3, 1990, Karen Spencer

(hereinafter sometimes referred to as Spencer), a supervisor,

telephoned petitioner's office but did not speak with him. On

July 9, 1990, Merideth telephoned petitioner and discussed with

him a possible extension of the limitations period. On July 30,

1990, Spencer telephoned petitioner and verified that the I.R.S.

Classen address was petitioner's mailing address.

A 30-day letter was prepared, dated August 23, 1990, using

the I.R.S. Classen address. Spencer approved the 30-day letter

on August 24, 1990. It is not clear from the record whether the

30-day letter was sent to petitioner.

On September 14, 1990, the notice of deficiency for 1982

through 1986 was sent by certified mail to petitioner at the

I.R.S. Classen address. The U.S. Postal Service noted on the

notice of deficiency envelope the following: "2nd Notice 9-20",

"Return 9-30", "RETURNED TO WRITER * * * Unclaimed X". The

notice of deficiency was returned to, and was received by,

respondent on October 5, 1990.

On October 23, 1990, petitioner sent a letter to respondent

stating as follows: (1) He was advised, on or about August 24,

1990, that respondent intended to assess additional taxes against

him for 1982 through 1986; (2) he formally demanded that all

"assessment notices" be mailed to him by ordinary and by

certified mail to two addresses--the P.O. drawer address and the
 - 12 -

tax return Classen address; (3) he had not received any notices

regarding the assessment of additional taxes; (4) he had advised

respondent previously that his mailing address should be the P.O.

drawer address; and (5) respondent was aware that "There had been

some difficulty in receiving certified mail at" the tax return

Classen address.

Petitioner's October 23, 1990, letter was received by

respondent on October 25, 1990. An "en mod" search4 was made on

November 2, 1990, at 10:09 a.m. The first page of the report on

the en mod search shows the I.R.S. Classen address; the second

page does not show any address; the third page shows the P.O.

drawer address and another address, as follows: 124 E. MAIN

NORMAN OK 73069 (hereinafter sometimes referred to as the E. Main

address). Petitioner maintained a law office at the E. Main

address from about 1982 through about 1984. (In or about 1984,

petitioner moved his law practice to Tulsa from the E. Main

address, in Norman. After about a year, he moved his law

practice back to Norman.)

On or about November 7, 1990, petitioner's October 23, 1990,

letter was referred to Janine MacKenzie, hereinafter sometimes

referred to as MacKenzie. An "amdissa", dated November 2, 1990,

10:41 a.m., was attached to petitioner's October 23, 1990,

letter, and indicates that a notice of deficiency had been sent

4
An "en mod" search is an I.R.S. search through I.R.S.
records for a taxpayer's most recently known address.
 - 13 -

to petitioner for 1982 through 1986. (The record does not

include an explanation of the function or nature of an

"amdissa".) MacKenzie examined the report on the en mod search,

and was satisfied with the information shown thereon. MacKenzie

then examined the case file for petitioner and found that the

original notice of deficiency had been returned by the U.S.

Postal Service and was in the case file. MacKenzie checked, and

did not find in respondent's case file or on respondent's

computer any written notification of a change of address for

petitioner before petitioner's October 23, 1990, letter.

MacKenzie thereupon, on November 9, 1990, sent to petitioner at

the P.O. drawer address the following letter, to which was

attached a photocopy of respondent's retained copy of the notice

of deficiency:

Mr. Hall,

The Notice of Deficiency sent to you at the most
current address available to us at the date of mailing, has
been returned by the post office as undeliverable.
Subsequently, we received notification from you stating the
mailing address should be P.O. Drawer B, Norman, Oklahoma
73070. The original date of mailing is the date which
appears on the attached letter. If you wish to petition the
Tax Court concerning the Notice of Deficiency, you have 90
days from the date on the attached Notice of Deficiency.
This letter will not suspend or extend the 90 day period for
filing a petition.

If you have any questions, please contact the person
whose name and telephone number are shown above.

Sincerely yours,

Enclosure: Janine MacKenzie
Original Notice of Deficiency Quality Review Staff
 - 14 -

On November 15, 1990, petitioner sent his petition to this

Court by certified mail. The petition was received and filed on

November 20, 1990.The 90th day after September 14, 1990, was

December 13, 1990, which was not a Saturday, or a Sunday, or a

holiday in the District of Columbia. The petition states, in

pertinent part, as follows:

The Petitioner hereby petitions for a redetermination
of the deficiency set forth by the Commissioner of Internal
Revenue in the Notice of Deficiency of "unknown date", and
as the basis for his case allege as follows:

1. The Petitioner is an individual with legal
residence now at 1602 Classen, Norman, Oklahoma 73069, and
mailing address of P.O. Drawer B, Norman, Oklahoma 73070.
* * *

2. Petitioner believes that one or more Notices of
Deficiency may have been mailed to the Petitioner on or
about September 23, 1990, and may have been issued by the
Office of the Internal Revenue Service at Oklahoma City,
Oklahoma; Petitioner has made written demand for a copy of
said Notice of Deficiency, but to date of filing Petitioner
has not received said copies.

3. The deficiencies as determined by the Commissioner
are believed to be for income taxes for the calendar years
1982, 1983, 1984, 1985, and 1986 in the amounts presently
unknown to Petitioner, of which all taxes, penalties and
interest are in dispute.

Tax Returns and Records

Petitioner did not report income from any of the

Corporations on his tax returns for the years in issue.

Petitioner did, however, report expenses of all, or almost all,

of the Corporations as deductions on his tax returns. Petitioner

filled out his 1982 through 1986 tax returns, during the last few

months of 1987 and January of 1988 (supra table 2), by using his
 - 15 -

memory, estimating figures, and looking at old check registers

and assorted receipts. At the time of filing his tax returns for

the years in issue petitioner did not keep his tax records in an

organized manner.

On his 1982 tax return, petitioner reported his rental

income on line 24 (other income) of the Form 1040, and did not

provide any information as to what the properties were, what the

gross rentals were, and what the expenses were. On his Schedule

C, he reported only the total amount of the deductions (with a

breakdown of the deductions on separated sheets attached to the

tax return) but no gross receipts from any business or

profession; six of the items on the expenses breakdown are shown

as estimates. On his Schedule D, he reported a net amount for

capital gains, without showing any of the other information

required by the form. Similarly, on his Schedule E, he reported

merely a lump sum of royalty income; he did not provide any

information as to what the properties were, what the gross

royalties were, and what the expenses were. Similarly, on his

Schedule F, he reported merely a lump sum of gross income from

farming, without any of the other information required by the

form.

On his 1983 tax return, petitioner failed to attach

Schedules D and E, even though he reported on the Form 1040 that

he had income from capital gains, rents, and royalties.

On his 1984 tax return, petitioner failed to attach
 - 16 -

Schedules B and E, even though he reported on the Form 1040 that

he had income from interest and royalties. Of the items on the

Schedule C, eight are shown as estimates.

On his 1985 tax return, petitioner's Schedules D and E

(although attached to the tax return), are uninformative, and, of

the Schedule C items, two are shown as estimates.

On his 1986 tax return, petitioner's Schedule E is similarly

uninformative, and, of the Schedule C items, two are shown as

estimates.

For about 3 years, Douglas J. Juergens (hereinafter

sometimes referred to as Juergens), an attorney, shared office

and storage space with petitioner in Norman. In or about January

1988, after petitioner had prepared his tax returns for 1982

through 1986, Juergens moved from the shared space. At that

time, Juergens had his office equipment, legal files, and

miscellaneous records removed from the shared storage space and

transported to storage space at Juergens' sister's barn. Some of

petitioner's records were inadvertently moved together with

Juergens' materials. In or about January 1990, Juergens'

sister's barn was destroyed by fire.

Petitioner had two interviews with Burns, both at Burns'

office. At the first interview, on June 13, 1989, before the

barn fire but after Juergens' move, petitioner brought three

boxes of unsorted records relating to 1981 through 1987. Burns

briefly looked at these materials, and asked petitioner, in
 - 17 -

writing, to sort the materials by year, by whether the item was

income or expense, and (as to expenses) by type.' Petitioner took

the boxes back when he left Burns' office. At the second

interview, on October 31, 1989, petitioner brought sorted but

incomplete records, but only for 1985. The 1985 records were

mostly bank records. Petitioner did not provide any other

records to respondent before the notice of deficiency was sent.

On each of his tax returns for the period 1982 through 1986,

petitioner's only stated occupation is "Attorney", except that he

also shows farm income on his 1982 tax return.

For each of these years, petitioner claims either a negative

adjusted gross income or a loss carryforward, and shows no tax

liability. Petitioner does not itemize deductions on any of

these tax returns. Petitioner does not show any liability for

self-employment taxes on any of these tax returns.

Income

On his tax returns, petitioner reports income or gross

receipts in the amounts shown in table 3.

Table 3

Category 1982 1983 1984 1985 1986

Wages, etc. $46,943 $26,400 $24,000 -0- -0-
1 2 2
Interest 4,187 –- 2,304 $100 $10
Sched. C
2 3
(gross rcpts) – 1,095 1,000 13,448 23,565

Capital gain 8,207 21,600 -0- 40,000 --
2
Royalties 14,318 33,599 37,979 21,641 12,500
 - 18 -

Other--Farm
(gross rcpts) 7,538 –- –- –- --
2
Rentals 15,026 1,000 –- –- --

Seismic Fees 700 –- –- –- --
1
Shown as $2,227.50 on Form 1040, line 8, plus $76.82 on line 22.
2
Shown as "estimated".
3
Shown as (a) "estimated--miscellaneous" $1,000, (b) witness fee $2,150, and
(c) attorney fees $10,297.50.

Schedule C Income

In the notice of deficiency, respondent determined that

petitioner failed to report $343,867 of Schedule C gross receipts

for 1982. Respondent has since conceded that this amount should

be $185,512. See supra note 2. Respondent determined this

unreported income by using the source and application of funds

method.

Table 4 shows, as to the components of the source and

application of funds method, (1) what petitioner reported on his

1982 tax return, (2) what respondent determined in the notice of

deficiency, (3) what respondent contends for on brief, and (4)

what the Court redetermined.
 - 19 -

Table 4

Source and Application of Funds--1982
Petitioner Respondent Respondent Court's
Sources Reported Def. Notice Brief Findings

Wages $46,943 $46,943 $46,943 $46,943
Interest income 4,187 4,187 4,187 4,187
Seismic fees 700 700 700 700
Capital gains1 8,207 8,207 20,517 20,517
Rental income 15,026 14,318 15,026 15,026
Farm income 7,538 7,538 7,538 7,538
Royalty income2 14,318 10,329 24,647 24,647
Loans –- 32,452 26,500 32,452

Total sources of

funds 96,919 124,674 146,058 152,010

Applications

Expenditures
reflected on
Schedule C 318,112 318,112 318,112 318,062
Reduced by:
depreciation 6,250 6,250 6,250 6,250
write-offs 137,000 –- 137,000 137,000
Net Expenditure
needing funds –- 311,862 174,862 174,812
Purchase of assets –- 132,979 133,008 48,211
Petitioner's draw –- 23,700 23,700 23,700

Total application
of funds –- 489,541 331,570 246,723

Understatement of
income
(applications
minus sources) –- 343,867 185,512 94,713
1
On his 1982 tax return, petitioner reported $8,207 of capital gain on line 13 of
Form 1040. Although he attached a Schedule D to the Form 1040, petitioner did not
provide any underlying amounts on the Schedule D. Sec. 1202(a) as in effect for 1982
allowed a deduction from gross income of 60 percent of the amount of an individual's
net capital gain, but not short-term capital gain. Sec. 1222. By the time of the
trial, and on brief, respondent evidently assumed that all of the reported $8,207
was net capital gain, after the 60-percent deduction, notwithstanding that
petitioner showed the $8,207 on the Schedule D as short-term capital gain. Burns
testified that "I divided the $8,207 by 40 percent to back into the $20,517 figure
to give Mr. Hall the benefit of that source of income as a capital gain item which-
would be the full amount." Implicit in respondent's determination in the notice of
deficiency is the determination that petitioner had no tax bases in what he sold;
i.e., that his gains amounted to his total receipts from the sales of capital
assets.
2
See infra, text following note 9 reference, for a discussion of respondent's
concession as to this component of the source and application of funds method.
 - 20 -

Interest Income

Table 5 shows the amounts of interest income that petitioner

reported on his tax returns (supra table 3), that respondent

determined in the notice of deficiency, that petitioner actually

received, and that petitioner omitted to report.

Table 5

Interest Income
Year Reported Respondent Actual Omitted
1
1982 $4,187 $4,187 -0-
1
1983 –- –- -0-
1984 2,304 4,419 4,419 2,115
1985 100 2,372 2,356 2,256
1986 10 2,297 2,297 2,287
1
Respondent did not adjust petitioner's interest income for these years.

Royalties Income

Table 6 shows the amounts of royalty income that petitioner

reported on his tax returns (supra table 3), that respondent

determined in the notice of deficiency, that petitioner actually

received, and that petitioner omitted to report.
 - 21 -

Table 6

Royalty Income
Year Reported Respondent Actual Omitted
1
1982 $14,318 $24,647 $14,318 -0-
2
1983 33,599 64,469 64,469 $30,870
3
1984 37,979 67,575 67,575 29,596

1985 21,641 23,954 21,641 -0-

1986 12,500 25,730 25,730 13,230
1
As to 1982, see infra note 11 and text following note 9 reference.
2
Respondent determined petitioner's royalty income for 1983 by taking the
1984 royalty income amount that respondent had determined, and adjusting that
figure downward according to the change in the Consumer Price Index.
3
One of the 1984 royalty items was from Phillips Petroleum Co., in the
amount of $32,213, from which $6,408 was withheld. Petitioner did not claim
credit for this withholding on his 1984 income tax return.

Deductions

On his 1982 tax return, petitioner claimed Schedule C

depreciation deductions as shown in table 7.

Table 7

Asset Depreciation Claimed

1981 Chevrolet pickup truck $1,774
House trailer 1,776
1979 Cessna 180 1,900
Tractor and implements 800

Total 6,250

Petitioner used the 1981 Chevrolet pickup truck to some

extent in his law practice and Hall Farms. He also used the

pickup truck to drive to and from work, and to look at drilling

rigs. In 1982 petitioner paid $1,087 interest to GMAC on a loan

to finance his buying of this pickup truck. Petitioner, rather
 - 22 -

than one of the Corporations, owned the pickup truck. In 1982

petitioner had a depreciable basis in this pickup truck. For

1982, $200 of petitioner's depreciation on this pickup truck is

attributable to petitioner's law practice and his farming

activities

Petitioner used the house trailer in connection with his

drilling activities. In 1982 petitioner paid $1,776 interest to

G.E. Credit on a loan to finance the buying of this trailer.

Petitioner used the 1979 Cessna 180 airplane in his drilling

activities--to haul fittings to drilling rigs, to go look at

drilling rigs, and to go look at property. In 1982 petitioner

paid (1) $1,542 interest to Cessna Finance on a loan to finance

the buying of this airplane, (2) $789 maintenance costs, and (3)

$1.080 hangar rent.

Petitioner used the tractor and implements on the Atoka

Ranch. In 1982 petitioner paid (1) $1,789 interest to John Deer

Co. on a loan to finance the buying of this tractor, (2) $10,000

interest to Federal Land Bank of Durant to finance the buying of

1,000 acres of the Atoka Ranch, and (3) $413 interest to First

Bank in Atoka to finance the buying of a 20-acre tract next to

the 1,000-acre tract.

In 1982 petitioner paid interest in the amounts shown in

table 8.
 - 23 -

Table 8

Payee Amount Paid

Citizens National Bank, E1 Reno $30,804
Security Nat'l. Bank, Norman 5,383
GMAC 1,087
Am. Exchange Bank, Norman 1,164
Federal Land Bank of Durant 10,000
Friendly National Bank 6,314
First Bank in Atoka 413
G.E. Credit 1,776
John Deere 1,789
City National Bank, Norman 539
American Mortgage & Investment 534
Wells Fargo Credit 5,783
First State Bank, Stroud 22,500
Cessna Finance 1,542
First National Bank, Oklahoma City 4,068
Local Fed. S&L 5,382
Sooner Fed. S&L 3,856

Total 102,994

Petitioner claimed Schedule C interest expense deductions on

his tax returns for 1982 ($102,994), 1983 ($33,599), 1984

($36,058), and 1985 ($24,293). He did not claim such a deduction

on his tax return for 1986.

Petitioner's $30,804 interest payments in 1982 to Citizens

National Bank, E1 Reno, was on loans aggregating about $350,000.

About $125,000 of these loans was to finance a shop building that

was used for Empire. About $100,000 of these loans was to

finance speculative houses in the Oak Brook Estates addition, a

housing development involving Stroud Builders and Stroud Land.

Petitioner's $5,383 interest payments in 1982 to Security

National Bank, Norman, were on loans aggregating about $50,000 to

finance activities of Brazos. Petitioner paid these amounts on
 - 24 -

behalf of Brazos.

Petitioner's $1,087 interest payments in 1982 to GMAC were

on a loan to finance his pickup truck, described supra. For

1982, $125 of petitioner's interest on the loan to finance this

pickup truck is attributable to petitioner's law practice and his

farming activities.

Petitioner's $1,164 interest payments in 1982 to American

Exchange Bank, Norman, were on a loan to finance a "rent house"

that petitioner owned. On his 1982 tax return petitioner

reported an estimated $15,026 rental income. Supra table 3. The

record does not permit us to determine whether there was any

relationship between the "rent house" and the reported rental

income.

Petitioner's $10,000 interest payments in 1982 to Federal

Land Bank of Durant on a loan of about $120,000 were to finance a

1,000-acre ranch in Atoka. On his 1982 tax return petitioner

reported $7,538 farm income. Supra table 3. The notation

"Wheat" appears on this tax return on the same line as the income

amount. The record does not permit us to determine whether there

was any relationship between the Atoka ranch and the reported

farm income.

Petitioner's $6,374 interest payments in 1982 to Friendly

National Bank were on a loan to finance wire-form equipment that

was used for a business petitioner had an interest in. The

record does not permit us to determine the nature of petitioner's
 - 25 -

interest in the business.

Petitioner's $413 interest payments in 1982 to First Bank in

Atoka were on a loan to finance the 20-acre tract next to the

Atoka ranch, discussed supra.

Petitioner's $1,776 interest payments in 1982 to G.E. Credit

were on a loan to finance the house trailer, discussed supra.

Petitioner's $1,789 interest payments in 1982 to John Deere

were on a loan to finance the tractor used on the Atoka ranch.

The tractor and the ranch are described supra.

The record does not permit us to determine the purpose of

petitioner's $539 interest payments in 1982 to City National

Bank, Norman.

Petitioner's $534 interest payments in 1982 to American

Mortgage & Investment were on a loan to finance a "small rent

house" that petitioner owned in part of 1982. See supra

discussion of petitioner's payments to American Exchange Bank,

Norman.

Petitioner's $5,783 interest payments in 1982 to Wells Fargo

Credit were on a loan to finance the Interurban Building in

Norman. The record does not permit us to determine the nature of

petitioner's interest in the Interurban Building, nor whether

this was connected with the reported rental income. Supra table

3.

Petitioner's $22,500 interest payments in 1982 to First

State Bank, Stroud, were on a loan to finance housing in the Oak
 - 26 -

Brook Estates addition. See supra discussion of petitioner's

payments to Citizens National Bank, E1 Reno.

Petitioner's $1,542 interest payments in 1982 to Cessna

Finance were on a loan to finance the airplane, described supra.

Petitioner's $4,068 interest payments in 1982 to First

National Bank, Oklahoma City, were on a loan to finance his and

his father's buying of bank stock.

Petitioner's $5,382 interest payments in 1982 to Local

Federal S & L were on a loan to finance a "rent house".

Petitioner's $3,856 interest payments in 1982 to Sooner Federal S

& L were on a loan to finance a "rent house/office property".

See supra discussion of petitioner's payments to American

Exchange Bank, Norman.

Petitioner spent the following amounts on Oklahoma Bar

Association dues: 1982--$100; 1983--$100; 1984--$200; and 1985--

$200. Petitioner spent $150 on charitable contributions in 1982.

Petitioner spent $789 on maintenance and $1,080 on hangar rent in

1982 for the airplane described supra: Petitioner spent $1,062

on farm expenses in 1982. Petitioner spent $3,500 on office rent

in 1982; he claimed $10,972 and $3,000 for this purpose on his

tax returns for 1984 and 1985, respectively. Petitioner spent

$1,644 on law books in 1982. Petitioner spent $1,050 on rental

property expenses in 1982. Petitioner spent $3,623 on travel and

entertainment in 1982; he claimed $8,922, $2,440, and $5,782

($169 on travel plus $5,613 on entertainment) on his tax returns
 - 27 -

for 1983, 1985, and 1986, respectively. Petitioner claimed

deductions of $137,000 for "write-offs" on his tax return for

1982, $6,300 and $19,229 for bad debts on his tax returns for

1983 and 1984, respectively, and $36,451 for loan or investment

loss on his tax return for 1985. On other items listed on the

Schedules C of his tax returns, petitioner spent $58,874 for

1982; he claimed deductions of $18,872 for 1983, $14,137 for

1984, $14,799 for 1985, and $5,426 for 1986. Large portions of

these other items may fairly be described as office expenses.

_________________________________

Respondent exercised due care and diligence in ascertaining

petitioner's correct mailing address before mailing the notice of

deficiency to petitioner on September 14, 1990. The notice of

deficiency was mailed to petitioner's last known address.

Respondent's use of the Consumer Price Index method of

royalty income reconstruction for 1983 was reasonable.

The Corporations were corporations and remained corporations

throughout the years in issue. The expenses of the Corporations

are not expenses of petitioner's trade or business.

Petitioner's office expenses that are deductible expenses of

his trade or business are in the following amounts: For 1982--

$27,000, for 1983--$8,000, for 1984--$5,000, for

1985--$3,000, and for 1986 $1,000.

Petitioner was negligent in preparing his tax returns for

1983 through 1986.
 - 28 -

OPINION

A few preliminary comments: Petitioner created a number of

corporations. Petitioner tells us that he largely ignored their

separate existences. However, on this and many other matters

petitioner presented us with little more than his general

conclusory testimony, and his claim that his tax returns (filed

about 1 to 5 years late) were accurate.

We have done what we could with a relatively confusing

record which, we believe, generally reflects the underlying

confusion in the factual situation.

I. Statute of Limitations

In general section 6501(a)5 bars assessment of an income tax

deficiency more than 3 years after the later of (1) the date the

tax return was filed or (2) the due date of the tax return. If

the taxpayer proves that the notice of deficiency was mailed more

than 3 years after the later of the filing or the due date, then

respondent has the burden of pleading and proving the existence

of an exception to the general period of limitations. Stratton

v. Commissioner, 54 T.C. 255, 289, modified on another issue 54

T.C. 1351 (1970); Farmers Feed Co. v.-Commissioner, 10 B.T.A.

5
SEC. 6501. LIMITATIONS ON ASSESSMENT AND COLLECTION.

(a) General Rule.--Except as otherwise provided in this
section, the amount of any tax imposed by this title [title 26,
the Internal Revenue Code] shall be assessed within 3 years after
the return was filed (whether or not such return was filed on or
after the date prescribed) * * * and no proceeding in court
without assessment for the collection of such tax shall be begun
after the expiration of such period.
 - 29 -

1069, 1075-1076 (1928); see Miami Purchasing Service Corp. v.

Commissioner, 76 T.C. 818, 823 (1981); see also Minahan v.

Commissioner, 88 T.C. 492, 506 (1987).

Petitioner argues that the notice of deficiency was not

mailed to him until November 9, 1990, which is more than 3 years

after he filed his tax returns for 1982, 1983, and 1984 (see

supra table 2), and that assessment for those years is thus

barred by the statute of limitations. He contends that the

notice of deficiency mailed to the I.R.S. Classen address on

September 14, 1990, was invalid because it was not mailed to his

last known address and he did not receive it. He contends that

he notified respondent to use the P.O. drawer address and not the

Classen address.

Respondent contends, firstly, that the September 14, 1990,

notice of deficiency was mailed to petitioner's last known

address within 3 years after petitioner filed his tax returns for

1982 through 1986. Secondly, respondent contends that, even if

the Court concludes that the September 14, 1990, notice of

deficiency was not mailed to petitioner's last known address,

then this notice of deficiency is nevertheless valid because

petitioner received it and timely filed a petition with this

Court. Thirdly, respondent contends that, even if the September

14, 1990, notice of deficiency is not valid, then the November 9,

1990, notice of deficiency is timely, because petitioner omitted

more than 25 percent of his gross income for 1982 through 1984,
 - 30 -

and thus that pursuant to section 6501(e) the applicable period

of limitations for assessment of tax for 1982 through 1984 is any

time within 6 years after the tax returns for these years were

filed.

We agree with respondent's first argument.6

It is well settled that a notice of deficiency mailed to the
taxpayer's last known address is valid for all purposes from
the date. of its mailing whether or not the taxpayer
actually receives it.

Frieling v. Commissioner, 81 T.C. 42, 48 (1983); sec.

6212(b)(1).7

As we stated in Monge v. Commissioner, 93 T.C. 22, 27-28

(1989)--

The phrase "last known address" is not defined by the Code
or regulations. In construing it, this and other courts
have focused on the Commissioner's knowledge, rather than on
what in fact may have been the taxpayer's actual address.

6
Because of our conclusion as to respondent's first argument,
it is not necessary to decide respondent's second and third
arguments.
7
Sec. 6112(b)(1) provides, in pertinent part, as follows:

SEC. 6212. NOTICE OF DEFICIENCY.

* * * * * *

(b) Address for Notice of Deficiency.--

(1) Income and gift taxes and certain excise
taxes.--In the absence of notice to the Secretary under
section 6903 of the existence of a fiduciary
relationship, notice of a deficiency in respect of a
tax imposed by subtitle A, * * * if mailed to the
taxpayer at his last known address, shall be sufficient
for purposes of subtitle A, * * * and this chapter even
if such taxpayer is deceased, or is under a legal
disability, or in the case of a corporation, has
terminated its existence.
 - 31 -

Generally, a taxpayer's "last known address" is the address
to which, in light of all surrounding facts and
circumstances, respondent reasonably believed the taxpayer
wished the notice of deficiency to be sent. [Citations
omitted.]

The record does not indicate that before September 14, 1990,

petitioner filed any tax returns after he filed his 1986 tax

return, on January 19, 1988. See supra table 2. Thus, when the

notice of deficiency was sent, the most recently filed tax return

was the 1986 tax return. The address shown on the 1986 tax

return is the tax return Classen address. (The bankruptcy

discharge order, which shows the P.O. drawer address, preceded

petitioner's filing of his tax returns for 1982 through 1986.)

The address to which the September 14, 1990, notice of deficiency

was sent (the I.R.S. Classen address) is the same as the tax

return Classen address, except for the ZIP code. The tax return

Classen address includes the ZIP code 73069; the I.R.S. Classen

address includes the ZIP code 73071-4616. Each U.S. Postal

Service's annual National Five-Digit ZIP Code and Post Office

Directory for 1987 through 1993 shows that (1) Classen Blvd. for

Norman, Oklahoma, is in ZIP code 73071, (2) Classen Cir. for

Norman, Oklahoma, is in ZIP code 73072, and (3) ZIP code 73069 is

in Norman, Oklahoma, but does not include any street named

"Classen". We conclude (a) that petitioner erred on his tax

returns, as well as other documents referred to in our findings,

when he used the ZIP code 73069, and (b) that respondent's use of

the I.R.S. Classen address on the September 14, 1990, notice of
 - 32 -

deficiency was in effect the use of the address shown on

petitioner's most recently filed tax return. See Armstrong v.

Commissioner, 15 F.3d 970, 972, 974 (10th Cir. 1994), affg. T.C.

Memo. 1992-328.

In Abeles v. Commissioner, 91 T.C. 1019, 1035 (1988), we

stated as follows:

a taxpayer's last known address is that address which
appears on the taxpayer's most recently filed return, unless
respondent has been given clear and concise notification of
a different address. * * *

Whether such a "clear and concise notification of a

different address" has been given is a question of fact and the

burden of proving such a notification is on petitioner. Cyclone

Drilling Inc. v. Kelley, 769 F.2d 662, 664 (10th Cir. 1985);

Monge v. Commissioner, 93 T.C. at 31. On the facts thus far

discussed, we must rule that respondent sent the notice of

deficiency on September 14, 1990, to petitioner's last known

address, unless we conclude that petitioner met his burden of

proving that he gave to respondent a "clear and concise

notification of a different address".

We have found that Spencer telephoned petitioner on July 30,

1990, and verified that the I.R.S. Classen address was

petitioner's mailing address. We have found that Mackenzie

checked on or about November 7, 1990, and did not find in

respondent's case file or on respondent's computer any written

notification of a change of address for petitioner before

petitioner's October 23, 1990, letter.
 - 33 -

Petitioner testified after receipt of the evidence on which

the foregoing findings are based, but his testimony did not deal

with these matters. Petitioner also testified earlier in the

trial, and stated that he had advised Burns' successor that the

P.O. drawer address should be used as his last known address.

Petitioner has not told us when he notified Burns

successor, nor whether the notification was oral or written, nor

what words he used. As a result, we have no way of knowing (1)

whether the notification was before July 30, 1990, and so was

superseded by Spencer's July 30 telephone conversation with

petitioner, or was after September 14, 1990, and so was too late,

because the notice of deficiency had already been mailed (see,

e.g., Armstrong v. Commissioner, 15 F.3d at 975); (2) why

MacKenzie's early-November examination of the case file or the

computer records did not reveal any such notification; and (3)

whether we would conclude that petitioner's words constitute a

"clear and concise notification of a different address".

We conclude, and we have found, that respondent exercised

due care and diligence in ascertaining petitioner's correct

mailing address and mailing the notice of deficiency to

petitioner at the correct address on September 14, 1990. Monge

v. Commissioner, 93 T.C. at 33. We conclude, and we have found,

that respondent mailed the notice of deficiency to petitioner at

his last known address on September 14, 1990. Accordingly, the

September 14, 1990, notice of deficiency is valid; it was mailed
 - 34 -

within 3 years after the tax returns for 1982, 1983, and 1984

were filed. The notice of deficiency is timely and assessment

of deficiencies for these years is not barred by the statute of

limitations.

We hold for respondent on this issue.

II. Income

Under section 61(a)8 petitioner is required to include in

gross income for 1982 through 1986 the business income, interest,

and royalties he received in these years. Also--

Section 6001 requires all taxpayers to maintain
sufficient records to determine their correct tax
liabilities. Where a taxpayer fails to keep the required
books and records, or if the records he or she maintains do
not clearly reflect income, then respondent is authorized by
section 446 to reconstruct income in accordance with a
method which clearly reflects the full amount of income
received. The reconstruction need only be reasonable in
light of all surrounding facts and circumstances.
[Citations omitted.]

Petzoldt v. Commissioner, 92 T.C. 661, 686-687 (1989), and cases

8
Sec. 61(a) provides, in pertinent part, as follows:

SEC. 61. GROSS INCOME DEFINED.

(a) General Definition.--Except as otherwise provided
in this subtitle (subtitle A, income taxes], gross income
means all income from whatever source derived, including
(but not limited to) the following items:

* * * * * * *
(2) Gross income derived from business;

* * * * * * *
(4) Interest;

* * * * * * *
(6) Royalties;
 - 35 -

cited therein; see also Erickson v. Commissioner, 937 F.2d 1548,

1552-1553 (10th Cir. 1991), affg. T.C. Memo. 1989-552.

A. Schedule C Income--1982

Petitioner contends that he reported all income that was

known to him, and that any difference between expenses and

revenue came from loans or from disinvestment, e.g., sales of

assets. Petitioner also claims that on December 31, 1981, he had

a net worth of more than $1 million, and points out that by 1987

he was bankrupt.

Respondent contends that petitioner received and omitted

Schedule C income for 1982 in the amount of $185,512. See supra

table 4, for a comparison of respondent's determinations in the

notice of deficiency and respondent's position on brief.

We agree in part with respondent and in part with

petitioner.

(1) Background

When petitioner filled out his tax returns for the years in

issue (supra table 2), he did so by using his memory, estimating

figures, and looking at old check registers and assorted

receipts. Petitioner did not keep his records in an organized

manner. About 4 months after petitioner filed his 1982 tax

return, and just after he filed his 1986 tax return, in January

1988, some of petitioner's records were inadvertently shipped

away. In June 1989, petitioner brought three boxes of unsorted

records to Burns' office, but was told to take them back and sort
 - 36 -

them properly. In October 1989, petitioner brought sorted but

incomplete records for 1985 to Burns' office. In or about

January 1990, a barn fire apparently destroyed the records that

had been inadvertently shipped away 2 years earlier.

The instant case's record does not indicate the nature or

extent of petitioner's records destroyed in the January 1990

fire. The instant case's record does not indicate the nature or

extent of petitioner's 1982 records included in the three boxes

that petitioner brought to--and took back from--Burns' office in

June 1989, except that the boxes appeared to include records from

1981 through 1987.

In any event, petitioner did not provide to respondent the

records for 1982 sufficient for respondent to determine

petitioner's 1982 tax liability. Consequently, respondent

determined petitioner's taxable income for 1982 by using the

source and application of funds method of reconstructing income.

In general, the source and application of funds method of

reconstruction assumes, absent some explanation by-the taxpayer,

that the amount by which a taxpayer's expenditures during a tax

year exceed that taxpayer's reported income has taxable origins.

As explanation, the taxpayer may show that the difference between

the total application of funds and the total reported sources of

funds is attributable to such nontaxable items as loans, gifts,

inheritances, or assets on hand at the beginning of the taxable

period. The method has been equated with the cash-expenditures
 - 37 -

method and sometimes characterized as the sources-and-

expenditures method, the excess-cash-expenditures method, or the

expenditures test. It differs from the "classic" cash

expenditures test in that the latter test ordinarily (but not

always) involves determinations of the taxpayer's changes in net

worth, while the source and application of funds method assumes

that net worth remains the same at the beginning and end of the

taxable period unless the taxpayer shows otherwise. See, e.g.,

Erickson v. Commissioner, 937 F.2d at 1553, affg. T.C. Memo.

1989-552; Petzoldt v. Commissioner, 92 T.C. at 694; DeVennev v.

Commissioner, 85 T.C. 927, 930-931 (1985); Wilcox v.

Commissioner, T.C. Memo. 1992-434, affd. without published

opinion 17 F.3d 1437 (10th Cir. 1994); Jones v. Commissioner,

T.C. Memo. 1983-110; Cox v. Commissioner, T.C. Memo. 1980-244;

Roundtree v. Commissioner, T.C. Memo. 1980-117.

(2) Sources of Funds

As table 4, supra, shows, most of the 1982 sources of funds

are not disputed. The derivation of the capital gains amount is

described in note 1 to table 4. Petitioner should be given

credit for the entire proceeds of his capital transactions, not

merely his capital gains. However, petitioner has not provided

any information from which we could conclude that his basis in

any of the sold items was greater than zero. As a result,

petitioner has failed to show that he should be treated as having
 - 38 -

more than $20,5179 in funds from his capital transactions.

In the notice of deficiency, respondent determined that

petitioner had $24,647 royalty income for 1982, instead of the

$14,318 that petitioner reported on his tax return, for an

adjustment of $10,329. However, in calculating petitioner's

omitted Schedule C income in the notice of deficiency, respondent

treated petitioner as having only $10,329 royalty income. These

two determinations clearly are inconsistent. On brief,

respondent changed both of these determinations in petitioner's

favor. In particular, respondent (1) concedes on brief that

petitioner should be treated as having $24,647 of 1982 royalty

income for purposes of determining petitioner's omitted Schedule

C income, and also (2) concedes the entire 1982 royalty income

adjustment. One might argue that respondent clearly was

obligated to change either one of these determinations, but not

both. However, respondent chose to make both changes, and so our

findings embody both of respondent's concessions.

In the notice of deficiency, respondent determined that

$32,452 of petitioner's sources of funds for 1982 came from

loans. On brief, respondent chooses to give petitioner credit

for only $26,500 of loans. The only evidence or explanation

provided for this assertion of a $5,952 increase in petitioner's

unreported Schedule C income is Burns' testimony at trial that

9
On brief, at one point (proposed finding 37) respondent
shows this amount as $20,217. However, it is evident that
$20,517 is intended.
 - 39 -

"The last line in the sources of funds, loans, are [sic] taken

from three deposit slips which Mr. Hall provided that were

annotated as such, as loans from other sources." Against this is

petitioner's unedifying assertion that he received substantial

amounts of loans. The record does not enable us to determine how

much petitioner received as loans. Our finding in table 4,

supra, merely reflects each side's failure to persuade us that

the notice of deficiency was wrong on this point.

Petitioner contends that his 1982 expenditures can be

accounted for in some indeterminate amount by disinvestment. As

we noted, supra, petitioner did not provide any evidence that he

had any basis in the assets he sold that produced his claimed

capital gain. Accordingly, there is no foundation for finding

that more than $20,517 of funds came from petitioner's

disinvestment. In addition, we note that petitioner claimed on

his tax return $137,000 of "Write-off of Expenses or

Investments". Evidently, petitioner did not dispose of the

$137,000 in 1982 or earlier in any way that produced funds that

petitioner could use in 1982. Petitioner has not presented any

evidence from which we could conclude that his disinvestments--

whatever form they took--produced more than $20,517 of funds for

petitioner's 1982 use.

Finally, nothing in the record would justify a finding that

petitioner had a cash hoard on December 31, 1981, that he
 - 40 -

consumed to any extent during 1982.

Based on the foregoing, we conclude, and we have found, that

petitioner has accounted for the sources of $152,010 that was

expended by him in 1982. See supra table 4.

(3) Applications of Funds

The first item on the Applications portion of table 4,

supra, Expenditures Reflected on Schedule C in the amount of

$318,112, merely copies the amount that petitioner claims as

deductions on Schedule C of his 1982 tax return. However,

addition of the items listed on the business expenses schedule

attached to petitioner's tax return shows the correct total of

his claimed business expenses to be $318,062. Because the source

and application of funds method requires a determination of

petitioner's actual expenditures, we use as our starting point

the correct total of petitioner's claimed business expenses--

$318,062.

We agree with respondent's determinations to subtract

petitioner's claimed depreciation ($6,250) and "write-off"

($137,000) deductions, because these items do not appear to

involve 1982 expenditures of funds. As shown in table 4, supra,

this leaves net expenditures needing funds in the amount of

$174,812.

We also agree with respondent's determination in applying

the source and application of funds method to determine

petitioner's omitted Schedule C income, to take into account as

categories of expenditures (1) petitioner's purchase of assets
 - 41 -

and (2) amounts shown in Exhibit G (discussed infra) in columns

under certain headings ("Bill Hall", "Draw", "Bill Hall Draw",

"Hall Draw", and "Bill Draw"), because these items do appear to

involve 1982 expenditures of funds, and we agree with

respondent's determination not to take into account certain other

expenses, because they might represent duplications of expenses

shown on petitioner's 1982 tax return.

In the notice of deficiency, respondent determined that

petitioner spent $132,979 on purchase of assets in 1982. At

trial and on brief, respondent contends the correct amount is

slightly greater, $133,008. Respondent has consistently taken

the position that petitioner drew $23,700 from a bank account for

his personal use.

At trial, Burns,explained (1) that he determined the amount

of assets that petitioner bought in 1982 by looking at some of

petitioner's account ledgers, specifically those items identified

in the ledgers as assets being purchased, (2) that he determined

the amount of petitioner's drawing account by looking at these

ledgers, and (3) that he did not take into account other expenses

reflected on these ledgers because they might have represented

duplications of other expenses shown on petitioner's 1982 tax

return. Burns identified Exhibit G as the material he examined

in making his determinations, as follows:

Q [MOATES] Mr. Burns, is this the account ledgers that
you are referring to?

A [BURNS] Yes.
 - 42 -

Q And from these account ledgers you ascertained that
there was a purchase of assets?

A Yes, $133,008. Those were for items which were
actually assets being purchased that were identified in the
descriptions.

We have carefully examined Exhibit G and agree with Burns as

to the $23,700 of petitioner's draw. However, when we followed

Burns' description of how he arrived at $133,008 for purchases of

assets, we arrived at only $48,211. Doing the best we could with

an inadequate record, we conclude, and we have found (supra table

4), that in 1982 petitioner spent $48,211 (and not more than

that) on purchase of assets and that petitioner's 1982 draw

amounted to $23,700.

As table 4, supra, shows, petitioner's total application of

funds in 1982 was $246,723. We subtract from this the accounted-

for funds in the amount of $152,010. The difference of $94,713,

we conclude and we have found, is an understatement of Schedule C

income.

We hold for respondent on this issue to the extent of

$94,713; we hold for petitioner as to the remainder.

B. Interest Income--1984 Through 1986

Petitioner contends that he reported all income that was

known to him, and that he had no income other than what he

reported on his tax returns for the years in issue.

Respondent contends that petitioner received and failed to

report interest income in the amounts of $2,115 for 1984, $2,272

for 1985, and $2,287 for 1986.
 - 43 -

We agree almost entirely with respondent.

Forms 1099 reporting interest paid to petitioner were issued

to petitioner for 1984 through 1986 by five payors. Petitioner

has not challenged the accuracy of these forms; thus we do not

reach the issue involved in Portillo v. Commissioner, 932 F.2d

1128 (5th Cir. 1991), affg. in part and revg. in part T.C. Memo.

1990-68.

The Form 1099 information matches respondent's interest

determinations in the notice of deficiency, except for $16 as to

1985. See supra table 5. Respondent determined that First

Oklahoma Savings Bank paid $89 to petitioner in 1985. However,

the Form 1099 information that the parties stipulated shows only

$73. Although petitioner has made general denials about

receiving income in excess of what he reported, they are not

directed to any specific interest item. Thus, apart from the one

$16 discrepancy, the little evidence that is in the record

supports respondent's determination. In any event, petitioner has

otherwise failed to carry his burden of proving respondent's

determination to be in error. Rule 142(a);10 Welch v. Helvering,

290 U.S..111, 115 (1933).

From the foregoing we conclude, and we have found (supra

table 5), that petitioner received and failed to report interest

income in the amounts of $2,115 for 1984, $2,256 for 1985, and

$2,287 for 1986.

10
Unless indicated otherwise, all Rule references are to the Tax
Court Rules of Practice and Procedure.
 - 44 -

We hold for respondent on this issue, except that we hold

for petitioner as to $16 for 1985.

C. Royalty Income--198311 Through 1986

Petitioner contends that he reported all income that was

known to him, and that he had no income other than what he

reported on his tax returns for the years in issue.

Respondent contends that petitioner received and failed to

report royalty income in the amounts of $30,870 for 1983, $29,596

for 1984, $2,313 for 1985, and $13,230 for 1986.

We agree with respondent as to 1983, 1984, and 1986; we

agree with petitioner as to 1985.

(1) 1984 and 1986

Forms 1099 reporting royalty income distributed to

petitioner were issued to petitioner for 1984 by seven payors and

for 1986 by five payors. Petitioner has not challenged the

accuracy of these forms.

The Form 1099 information matches respondent's royalty

determinations in the notice of deficiency for 1984 and 1986,

except for $6,408 withholding as to 1984. See note 1 to table 6,

supra. Respondent determined that Phillips Petroleum Co. paid

$32,213 royalty income to petitioner in 1984. This matches the

11
On brief, respondent conceded the $10,329 royalty income
adjustment for 1982 ($24,647 royalty income determined, less
$14,318 royalty income reported) because "Any underreported
royalty income for 1982 would have been included in the
adjustment * * * based on the source and application of funds
calculation." See our discussion of this matter supra in the
text following note 9 reference.
 - 45 -

Form 1099 information. That same Form 1099 information also

shows that $6,408 was withheld from the Phillips Petroleum Co.

royalty income. Respondent did not give credit to petitioner for

this withholding, in calculating the 1984 additions to tax under

sections 6651(a)(1), 6653(a)(2), and 6661(a). The effect of this

credit will be determined in the computations under Rule 155.

Thus, apart from the 1984 withholding (which in any event

does not affect the amount of the deficiency), the little

evidence that is in the record supports respondent's

determination for 1984 and 1986. In any event, petitioner has

failed to carry his burden of proving respondent's determinations

to be in error for these years. Rule 142(a); Welch v. Helvering,

supra.

From the foregoing we conclude, and we have found (supra

table 6), that petitioner received and failed to report royalty

income in the amounts of $29,596 for 1984 and $13,230 for 1986.

We hold for respondent on this issue.

(2) 1985

Petitioner reported $21,641 royalty income on his 1985 tax

return; respondent determined that the correct amount was

$23,954. Supra table 6.

The parties stipulated to Exhibit J as "A summary of Forms

1099 and Forms W-2 for the taxable year 1985". Exhibit J is what

the Internal Revenue Service refers to as an IRP document.

Exhibit J shows five Forms 1099, from four payors, reporting 1985
 - 46 -

royalty income to petitioner in the aggregate amount of $7,137.

At first, Burns testified that the notice of deficiency

determinations as to royalty income for 1984, 1985, and 1986 came

from the IRP documents for those years. The Form 1099

information on the IRP documents for 1984 and 1986 matches, in

both detail and aggregate, respondent's determinations in the

notice of deficiency. Later, Burns testified as follows:

[THE COURT:] Now, Mr. Burns, with regard to Exhibit J
there seems to similarly be a summary at the end of that
exhibit.

THE WITNESS: Yes, sir.

THE COURT: There I see rents/royalties 7,137, but in
Exhibit 0 I see 1985 rents/royalties 23,954; and indeed, the
amount shown on the tax return was far in excess of the
7,137. Do you have any explanation of how that might be?

THE WITNESS: I believe we have copies in the files of
the 1099s for that period of time. I don't know if they are
in the exhibits. I am not that familiar with the exhibits
but I believe that we identified all of the 1099s which Mr.
Hall had on his return but we had, in addition, the $2,313
from this IRP document. Well, the additional items were
from that.

THE COURT: I don't understand. I thought that Exhibit
J, the IRP document, was showing all of the 1099s and
appropriate other forms.

THE WITNESS: Your Honor, I believe I said that in
error. I am positive that we have copies of 1099s in our
documentation that verify what Mr. Hall had shown on his
return, but in addition, we had the IRP items which are
shown on this. I did mis-speak.

THE COURT: Well, why would the IRP be missing so many
1099s?

THE WITNESS: I can't answer that, sir; I don't know.

Respondent's counsel did not (1) produce the other Forms

1099, (2) try to explain why respondent's 1985 IRP (in contrast
 - 47 -

to the 1984 and 1986 IRP's) omitted so large a portion of

petitioner's royalty income, (3) ask any further questions of

Burns, or (4) in any other way attempt to clarify this matter.

On brief, respondent relies only on the notice of deficiency and

presumption of correctness. Respondent ignores the discrepancy

between Exhibit J and the notice of deficiency. Respondent also

ignores Burns' testimony.

Burns testified that he was "positive" that respondent had

copies of the relevant Forms 1099. Under these circumstances, we

may consider that the Forms 1099 would not support respondent's

determination. See Wichita Terminal Elevator Co. v.

Commissioner, 6 T.C. 1158, 1165 (1946), affd. 162 F.2d 513, 515-

516 (10th Cir. 1947).

From the foregoing we conclude, and we have found (supra

table 6), that petitioner reported all his royalty income for

1985.

We hold for petitioner on this issue.

(3) 1983

If petitioner's records are not sufficient to determine his

correct tax liability, then respondent is authorized to

reconstruct income utilizing a method which is reasonable in

light of all surrounding facts and circumstances. Petzoldt v.

Commissioner, 92 T.C. at 687.

Petitioner did not provide respondent with records for 1983

sufficient for respondent to determine petitioner's 1983 royalty

income. Consequently, respondent determined petitioner's 1983
 - 48 -

royalty income by using an indirect method of income

reconstruction.

Respondent determined petitioner's royalty income for 1983

by taking petitioner's 1984 royalty income, as shown in table 6,

supra, and adjusting that figure downward according to the

Consumer Price Index. Respondent thereby concluded that

petitioner's 1983 royalty income was $64,469.

Firstly, we note that petitioner has not suggested that

respondent's use of the Consumer Price Index method of royalty

income reconstruction for 1983 was unreasonable. Secondly,

petitioner acknowledged having a substantial amount of royalty

income in 1983--he reported $33,599 of royalty income on his tax

return for that year--and so cases such as Llorente v.

Commissioner, 649 F.2d 152 (2d Cir. 1981), affg. in part and

revg. in part 74 T.C. 260 (1980), do not lead to any burden of

proof being imposed on respondent on this point in the instant

case. See, e.g., Williams v. Commissioner, 999 F.2d 760, 764

(4th Cir. 1993), affg. T.C. Memo. 1992-153; Tokarski v.

Commissioner, 87 T.C. 74, 76 (1986). Thirdly, although one might

fairly dispute whether a cost-of-living adjustment based on 1984

is the best way to estimate petitioner's 1983 royalty income, we

note that (a) the royalty income adjustment for 1983 is very

close in amount to the royalty income adjustment for 1984, which

was derived from a review of specific Form 1099 information (see

supra table 6), and (b) mathematical exactitude is not required

of respondent. Petzoldt v. Commissioner, 92 T.C. at 693-694.
 - 49 -

Apart from petitioner's general denial, we have not found

any evidence in the record that would contradict respondent's

determination on this point. Petitioner has failed to carry his

burden of proving error in respondent's determination.

We hold for respondent on this issue.

D. Summary

Taking into account our determinations, petitioner's income

or gross receipts were in the amounts shown in table 9. See

supra tables 3, 4, 5, and 6.

Table 9

Category 1982 1983 1984 1985 1986

Wages, etc. $46,943 $26,400 $24,000 -0- -0-
Interest 4,187 –- 4,419 $2,356 $2,297
Sched.C(gross rcpts.)94,713 1,095 1,000 13,448 3,565
Capital gain 8,207 21,600 -0- 40,000 --
Royalties 14,318 64,469 67,575 21,641 25,730
Other--
Farm (gross rcpts) 7,538 –- –- –- --
Rentals 15,026 1,000 –- –- --
Seismic fees 700 –- –- –- –-

Table 9 shows a general deterioration of petitioner's

economic condition during the period 1982 through 1986. This led

to petitioner's 1987 bankruptcy. Table 9 points up some

anomalies, such as an absence of interest income in 1983, but

that does not appreciably affect the general picture. We are

satisfied that table 9 is as good a representation of

petitioner's income or gross receipts as we can get, given the

limitations of the record and the parties' contentions in the

instant case.
 - 50 -

III. Deductions

A. In General

Section 16112 allows deductions in computing taxable income,

for the items specified in sections 162 (trade or business

expenses), 163 (interest), 165 (losses), 166 (bad debts), and 167

(depreciation), among others.

Deductions are a matter of legislative grace, and a taxpayer

seeking a deduction has the burden of overcoming the presumption

of correctness that attaches to respondent's factual

determinations in the notice of deficiency. Rule 142(a); New

Colonial Co. v. Helvering, 292 U.S. 435, 440 (1934); Welch v.

Helvering, 290 U.S. at 115. However, if the record provides

sufficient evidence that a cash basis taxpayer has paid and

incurred a deductible expense in an amount greater than what

respondent allows, but the taxpayer is unable to adequately

substantiate the amount of the deduction, then the Court is to

estimate the amount of the expense and allow the deduction to

that extent. Cohan v. Commissioner, 39 F.2d 540, 543-544 (2d

Cir. 1930).

In Cohan, the taxpayer claimed large travel and

12
SEC. 161. ALLOWANCE OF DEDUCTIONS.

In computing taxable income under section 63, there shall be
allowed as deductions the items specified in this part [part VI,
relating to itemized deductions for individuals and
corporations], subject to the exceptions provided in part IX
(sec. 261 and following, relating to items not deductible).
 - 51 -

entertainment expense deductions for the period before the Board

of Tax Appeals. We concluded that he had spent much for these

purposes and that expenditures of that sort were deductible.

Nevertheless we did not allow any deduction, because the taxpayer

could not give specific information as to any particular

expenditure. The Circuit Court of Appeals for the Second Circuit

directed as follows:

the Board should make as close an approximation as it can, bearing
heavily if it chooses upon the taxpayer whose inexactitude is of
his own making. But to allow nothing at all appears to us
inconsistent with saying that something was spent. True, we do not
know how many trips Cohan made, nor how large his entertainments
were; yet there was obviously some basis for computation, if
necessary by drawing upon the Board's personal estimates of the
minimum of such expenses. * * * [Cohan v. Commissioner, 39 F.2d at
544.]

Section 162(a)13 allows a deduction for "all the ordinary

and necessary expenses paid or incurred during the taxable year

in carrying on any trade or business". Section 1.162-1(a),

Income Tax Regs., provides the general rule that deductible

business expenses "include the ordinary and necessary

expenditures directly connected with or pertaining to the

taxpayer's trade or business". Thus, to satisfy the requirements

of section 162(a), an expense must be ordinary and necessary and

13
Sec. 162(a) provides, in pertinent part, as follows:

SEC. 162. TRADE OR BUSINESS EXPENSES.

(a) In General.--There shall be allowed as a deduction
all the ordinary and necessary expenses paid or incurred
during the taxable year in carrying on any trade or
business, * * *
 - 52 -

have the requisite relationship to the taxpayer's business.

George R. Halswade, M.D., P.C. v. Commissioner, 82 T.C. 686, 698

(1984). Also, "the trade or business of the corporation must be

considered separately from the trade or business of the

shareholders." Markwardt v. Commissioner, 64 T.C. 989, 995

(1975).

Section 163(a)14 allows a deduction for interest paid within

the taxable year on indebtedness; the indebtedness, however, must

be that of the taxpayer taking the deduction. Southern Pacific

Transportation Co. v. Commissioner, 75 T.C. 497, 565 (1980), and

cases cited therein. Even if the taxpayer is ultimately liable

to pay the interest, the taxpayer is not entitled to an interest

deduction unless the liability arises under the indebtedness

agreement. Smith v. Commissioner, 84 T.C. 889, 899-901 (1985),

affd. without published opinion 805 F.2d 1073 (D.C. Cir. 1986).

Section 165(a) allows a deduction for any uncompensated loss

sustained during the tax year. "Losses are deductible only by

the taxpayer sustaining them; they are personal to the taxpayer

and cannot be transferred to another. New Colonial Co. v.

Helvering, 292 U.S. 435 (1934)." Markwardt v. Commissioner, 64

T.C. at 995.

Section 166(a) allows a deduction for any debt which becomes

14
SEC. 163. INTEREST.

(a) General Rule.--There shall be allowed as a
deduction all interest paid or accrued within the taxable
year on indebtedness.
 - 53 -

worthless within the taxable year. The deduction is allowable

only in respect of a bad debt owed to the taxpayer, sec. 1.166-

1(a), Income Tax Regs., and then only to the extent that the

taxpayer has a basis in the debt. Perry v. Commissioner, 92 T.C.

470, 477-478 (1989), affd. without published opinion 912 F.2d

1466 (5th Cir. 1990).

Section 167(a)15 allows a depreciation deduction for a

reasonable allowance for the exhaustion, wear, and tear of

property used in a trade or business or of property held for the

production of income. The right to deduct depreciation is based

on (1) investment in the property, and (2) the use of the

property to produce income for the taxpayer. Currier v.

Commissioner, 51 T.C. 488, 492 (1968); Gladding Dry Goods Co. v.

Commissioner, 2 B.T.A. 336, 339 (1925).

Respondent contends that petitioner is not entitled to

deductions for any of the Schedule C expenses that petitioner

claimed on his tax returns for 1982, 1983, 1985, and 1986, and

for the net loss petitioner claimed on his Schedule C for

15
Sec. 167(a) provides, in pertinent part, as follows:

SEC. 167. DEPRECIATION.

(a) General Rule.--There shall be allowed as a
depreciation deduction a reasonable allowance for the
exhaustion, wear and tear (including a reasonable allowance
for obsolescence)--

(1) of property used in the trade or business, or

(2) of property held for the production of income.
 - 54 -

1984,16 because (1) these expenses are corporate expenses, and (2)

petitioner has not substantiated that these expenses were ever

incurred. or paid.

Petitioner contends (1) that he is entitled to deductions for

these business losses in the amounts he claimed; (2) that any

expenses of petitioner's business activities are deductible by

petitioner, because (a) although most of these entities were

formed as corporations, they were not "perpetuated" in that

manner, (b) these business entities had their charters suspended

for nonpayment of franchise taxes, and (c) petitioner was a

"guarantor on everything"; and (3) that his failure to produce

adequate records to substantiate payment of these expenses is due

to the loss of his records by fire in 1990, and that this loss was

beyond his control. Petitioner maintains that regardless of the

fact that these business entities were formed as corporations, and

that they carried on business activities in their corporate names,

their corporate forms should be ignored. Petitioner suggests that

because certain corporate formalities were not followed, these

business entities were not corporations, and alternatively because

their corporate charters were suspended they ceased being

corporations.

16
For 1984, petitioner claimed $1,000 Schedule C income and
$79,595 Schedule C expenses. Respondent disallowed only $78,595
of the 1984 Schedule C expenses. Respondent has not enlightened
us as to which $1,000 of the claimed Schedule C expenses are not
disallowed.
 - 55 -

We agree in part with respondent17 and in part with

petitioner.

B. Corporate Expenses

As a general rule, a corporation is to be treated as an

entity separate from the individuals who own it, and this is true

in respect of tax problems. New Colonial Co. v. Helvering, 292

U.S. at 442. An individual who pays the expenses of the

corporation generally is not entitled to deduct those payments,

unless those expenses are shown to be ordinary and necessary

expenses of that individual. Deputy v. du Pont, 308 U.S. 488, 493-

495 (1940); Betson v. Commissioner, 802 F.2d 365 (9th Cir. 1986),

affg. on this issue and revg. on another issue T.C. Memo. 1984-

17
As we discussed in connection with A. Schedule C
Income-1982, supra (also see supra table 4), the source and
application of funds method, as applied for 1982 in the instant
case, involves. a conclusion that petitioner indeed spent in 1982
all the money for which he sought a deduction on his 1982
Schedule C, except for his claimed $6,250 depreciation deduction
and his claimed $137,000 write-offs deduction. On the instant
issue, respondent contends that petitioner must substantiate his
claimed deductions, and contends, among other things, that the
substantiation requirement means that petitioner must show he
paid the amounts he seeks to deduct. We shall not allow
respondent to succeed both (1) in the 1982 Schedule C income
issue on the assumption that petitioner spent the money in 1982
and (2) in the 1982 deductions issues on the assumption that
petitioner did not spend the money in 1982. Respondent cannot
have it both ways. See, e.g., Huddleston v. Commissioner, 100
T.C. 17 (1993).
Accordingly, in light of our holding on the 1982 Schedule C
income issue, supra, we treat petitioner as having established
that he paid in 1982 the full amount of each of the 1982 items
for which he claimed a Schedule C deduction for 1982, except for
the claimed depreciation and write-off items.
 - 56 -

264; Crouch v. United States, 692 F.2d 97, 99 (10th Cir.

1982). While unusual cases may require disregard of corporate

form, Burnet v. Commonwealth Imp. Co., 287 U.S. 415, 419 (1932),

we think the record in the instant case fails to disclose any

circumstances sufficient to support such a disregard. Also,

petitioner has failed to persuade us that his expenditures for the

benefit of any of the Corporations are ordinary and necessary

expenses of any trade or business of petitioner's. See Lohrke v.

Commissioner, 48 T.C. 679 (1967).

As to the legal status of the Corporations under Oklahoma law

and the effect of this status on Federal tax law, see United

States v. Young, 604 F. Supp. 164 (N.D. Okla. 1984). In addition,

as can be seen from table 1, supra, at any given moment during the

5 years in issue, at least 1, and sometimes as many as 10, of the

Corporations not only was in existence but also was in good

standing.

From the foregoing we conclude, and we have found, that the

expenses of the Corporations are not expenses of petitioner, or of

his trade or business, and thus are not deductible by petitioner.
18
We hold for respondent on this issue.

18
At trial, petitioner suggested that he, rather than the
Corporations, was engaged in trades or businesses in addition to
petitioner's law practice and Hall Farms, and that he reported
his "cash revenue" from those activities on line 7 of the Forms
1040, the line for wages, etc. We pointed out that this was
inappropriate for various reasons and, more to the point, our
(continued...)
 - 57 -

C. Other Expenses

As tables 3 and 4, supra, show, (1) petitioner reported

Schedule C gross receipts of $1,095 for 1983, $1,000 for 1984,

$13,488 for 1985, and $3,565 for 1986, and (2) at respondent's

urging we have concluded that petitioner had $94,713 Schedule C

gross receipts for 1982. Thus, setting aside 1984 (see supra note

16), respondent takes the position that petitioner managed to earn

a total of $112,793 in his Schedule C activities without even $1

of deductible expenses. We recognize that some expenditures of a

trade or business are not currently deductible for one or more of

several reasons; e.g., they are to be capitalized, or they are not

ordinarily incurred in such a trade or business, or some provision

of law forbids the deduction. Respondent has not suggested that

any such bar to deduction of otherwise-substantiated expenditures

applies in the instant case. We conclude that petitioner incurred

and paid something in each of the years in issue in order to earn

the law practice Schedule C income with which we charge him. See

18
(...continued)
views of whether he was in any trade or business and therefore
whether he could deduct any expenses of a trade or business might
well be affected by his identification of his specific activities
in any claimed trade or business and how much income he reported
from that trade or business. Petitioner responded that "I would
submit that we can deal with this in the briefing matter."
Petitioner failed to so deal with this, and so we deem him to
have conceded the question of whether he was in any trade or
business other than his law practice and Hall Farms. See
Sundstrand Corp. v. Commissioner, 96 T.C. 226, 344 (1991); Money
v. Commissioner, 89 T.C. 46, 48 (1987).
 - 58 -

Cohan v. Commissioner, supra; see also Finley v. Commissioner, 255

F.2d 128, 133 (10th Cir. 1958), affg. 27 T.C. 413, 425 (1956).

(1 ) Depreciation

As shown in table 7, supra, petitioner claims depreciation

deductions for a pickup truck, a house trailer, an airplane, and a

tractor and implements.

Petitioner used the 1981 Chevrolet pickup truck in his law

practice and Hall Farms. As we have pointed out, petitioner is not

permitted to deduct expenses of his corporations, but he is

permitted to deduct his expenses of the trades or businesses he

conducted directly--his law practice and Hall Farms. Petitioner

has not shown us what was the amount of his depreciable basis in

the pickup truck, nor how much of the use of the pickup truck was

for deductible business purposes, as distinguished from use for

the businesses of the Corporations and from use for petitioner's

personal purposes.

Yet, in 1982 the pickup truck was relatively new and

petitioner paid $1,087 interest on a loan to finance this truck.

From this we conclude, and we have found, that petitioner had a

depreciable basis in the pickup truck in 1982. Also, we have found

that petitioner used this pickup truck to some extent in his law

practice and Hall Farms activities.

Once we are convinced that there was some trade or business

use and that there was some depreciable basis, we are not free to

disallow all depreciation deductions merely because we cannot tell
 - 59 -

how much is to be allowed. Doing the best we can-with the

record in the instant case and applying the principle of Cohan v.

Commissioner, 39 F.2d at 543-544, we hold (and we have found) that

petitioner is entitled to deduct for 1982 on Schedule C $200 of

the claimed $1,774 depreciation on his pickup truck. Gerling

International Insur. Co. v. Commissioner, 98 T.C. 640, 659 (1992),

and cases cited therein.

Petitioner used the house trailer and the 1979 Cessna 180

airplane in his drilling activities. We do not allow any

depreciation deduction for these items because we do not have any

information in the instant case's record from which we could

conclude (1) that petitioner used these items at all in his trades

or businesses, rather than in the trade or business of one of the

Corporations, or (2) that petitioner, rather than one of the

Corporations, owned the house trailer or the airplane.

Petitioner used the tractor and implements on the Akota

Ranch. We do not allow any depreciation deduction for these items

because we do not have any information in the instant case's

record from which we could conclude (1) that petitioner used these

items at all in his trades or businesses, or (2) that petitioner,

rather than one of the Corporations, owned the tractor and

implements. Nothing in the record connects the tractor and

implements, or Akota Ranch, with Hall Farms.

Petitioner has not claimed depreciation deductions, as such,
 - 60 -

for any year before us other than for 1982.

We hold for respondent on this issue, except that we hold for

petitioner as to $200 for 1982.

(2) Interest Expense

Petitioner paid $102,994 in interest in 1982, and deducted

the entire amount on his 1982 tax return as a Schedule C

deduction, supra table 8. He also claimed Schedule C interest

expense deductions for 1983 ($33,599), 1984 ($36,058), and 1985

($24,293). He did not claim such a deduction for 1986.

Petitioner paid $1,087 interest on a loan to finance a pickup

truck, which he owned, and used for personal, law practice, Hall

Farms, and corporate business purposes. Under section 162(a)

petitioner is entitled to a Schedule C deduction for this expense

to the extent that it was an ordinary and necessary expense of his

law practice and Hall Farms. Consistent with our discussion as to

depreciation on the pickup truck we hold (and we have found) that

petitioner is entitled to deduct for 1982 on Schedule C $125 of

the claimed $1,087 interest on the debt to finance his pickup

truck. Cohan v. Commissioner, supra; Gerling International Insur.

Co. v. Commissioner, supra. The remaining $962 is deductible as an

itemized deduction on Schedule A. See secs. 1.163-1(a) and 1.266-

1(a)(1), Income Tax Regs.

Petitioner paid $4,068 interest on a loan to finance bank

stock, which was owned by petitioner and his father. There is no
 - 61 -

indication in the record that this was an expense of any trade or

business of petitioner's. Accordingly petitioner is not entitled

to a Schedule C deduction for this interest; however, the $4,068

is deductible as an itemized deduction on Schedule A. See Smith v.

Commissioner, 84 T.C. at 898.

As to the remaining interest expenses, the record does not

show whether petitioner or some other entity took out the loans.

From the foregoing we cannot conclude that these claimed interest

expenses were petitioner's expenses; thus they are not deductible

by petitioner under section 163. These interest expenses are also

not deductible as business expense deductions under section 162,

or as bad debt deductions under section 166, even though we treat

petitioner as having paid these claimed interest expenses, and we

accept that petitioner may have been a guarantor on some or all of

the loans from which these interest expenses arose. The record in

this case simply does not provide the Court with evidence

sufficient to determine whether these interest expenses were

ordinary or necessary expenses of petitioner's trade or business,

nor does the record provide evidence sufficient to determine

whether these interest expenses were bad debts becoming worthless

during any of the years in issue. From the foregoing we conclude

that these claimed interest expenses are not deductible by

petitioner.

We hold mostly for respondent on this issue to the extent set

forth above.
 - 62 -

(3) "Write-offs", Bad Debts, Loan or Investment Loss

Petitioner claimed deductions of $137,000 for "write-offs" on

his tax return for 1982, $6,300 and $19,229 for bad debts on his

tax returns for 1983 and 1984, respectively, and $36,451 for loan

or investment loss on his tax return for 1985.

At trial, we cautioned petitioner that he would have to show

basis, year of worthlessness, and kind of transaction, in order

for us to determine (1) whether he was entitled to a deduction,

(2) what was the year and amount of any such deduction, and (3)

whether the deduction was ordinary (secs. 165(c)(1) and

166(a)(1)), short-term capital loss (secs. 165(g) and

166(d)(1)(B)), or long-term capital loss (sec. 165(g)). Petitioner

assured us that he would clarify these matters later. He failed to

do so. We assume he has abandoned these claims. See Sundstrand

Corp. v. Commissioner, 96 T.C. 266, 344 (1991); Money v.

Commissioner, 89 T.C. at 48. In any event, our inspection of the

record in the instant case fails to convince us that petitioner

suffered any deductible losses or bad debts during the years in

issue. Accordingly, petitioner has failed to meet even the minimal

requirements of Cohan and Gerling International on this issue.

We hold for respondent on this issue.

(4) Other Claimed Deductions

Petitioner spent $1,062 on 1982 Schedule C business expenses

for farming. Petitioner's Hall Farms business activity is not

incorporated, thus these expenses are not corporate expenses.
 - 63 -

Petitioner reported $7,538 gross receipts from this activity on

his 1982 tax return. Supra table 3. We conclude from the foregoing

that petitioner is entitled to deduct these $1,062 1982 farm

expenses on Schedule F.

Petitioner spent $3,623 on 1982 travel and entertainment; he

claimed travel and entertainment deductions of $8,922, $2,440, and

$5,782 on his tax returns for 1983, 1985, and 1986, respectively.

Petitioner has failed to meet the substantiation requirements

of section 274, even taking into account the provisions of section

1.274-5(c)(5), Income Tax Regs., and so no deduction is allowable

for these expenditures. Sec. 274(d); Sanford v. Commissioner, 50

T.C. 823, 827-828 (1968), affd. 412 F.2d 201 (2d Cir. 1969).

Petitioner, whose listed Schedule C trade or business during

each of the years in issue is "attorney", is entitled to deduct on

Schedule C his Oklahoma Bar Association dues, the $1,644 he spent

on law books in 1982, and his law practice office expenses. As to

petitioner's overall office expenses, we are once again faced with

an inadequate record. We have examined the incomplete records in

evidence as to 1982. and 1983, and we are satisfied that

petitioner spent at least $27,000 in 1982 and at least $8,000 in

1983 for law practice office expenses, that he is entitled to

deduct on Schedule C. At trial, petitioner estimated that only

about $10,000 of his $78,595 claimed 1984 Schedule C deductions

related to his law practice. Doing the best we can, bearing

heavily against petitioner, we conclude (and we have found) that
 - 64 -

he is entitled to Schedule C deductions for law practice office

expenses in the amounts of $27,000 for 1982, $8,000 for 1983,

$5,000 for 1984, $3,000 for 1985, and $1,000 for 1986.

Petitioner made $150 charitable contributions in 1982. He

deducted this amount on Schedule C. Petitioner has not shown that

this was an expense of his trade or business, and so his deduction

is allowable only as an itemized deduction on Schedule A, and not

on Schedule C. See Marquis v. Commissioner, 49 T.C. 695 (1968).

As to all of petitioner's other claimed Schedule C deductions

disallowed by respondent, petitioner has failed to carry his

burden of proving his entitlement to deductions, whether on

Schedule C, A, F, or E.

We hold in part for respondent and in part for petitioner on

this issue.

IV. Section 1401

Section 1401 provides that a tax-shall be imposed on the

self-employment income of every individual.

Respondent contends that to the extent petitioner has self-

employment income for 1983, 1985, and 1986, petitioner is liable

for the self-employment tax imposed by section 1401. Petitioner

disputes the imposition of all taxes determined by respondent in

the notice of deficiency.

We agree with respondent.

Petitioner has the burden of proof on this matter. Rule

142(a); Welch v. Helvering, 290 U.S. at 115. Petitioner has failed
 - 65 -

to carry this burden.

From the foregoing, we conclude that petitioner is liable for

the self-employment tax imposed by section 1401 for 1983, 1985,

and 1986 to the extent that petitioner has self-employment income,

as determined by our holdings on the Schedule C income and

deductions issues.

We hold for respondent on this issue.

V. Additions to Tax

A. Section 6651(a)(1)

Section 6651(a)(1)19 imposes an addition to tax of 5 percent

per month (with a maximum of 25 percent) in case of failure to

file a timely income tax return, unless it is shown that this

failure is due to reasonable cause and not due to willful neglect.

Petitioner has the burden of proving error in respondent's

19
Sec. 6651(a)(1) provides, in pertinent part, as follows:

SEC.6651. FAILURE TO FILE TAX RETURN OR TO PAY TAX.

(a) Addition to the Tax.--In case of failure--

(1) to file any return required under authority
of subchapter A of chapter 61 * * * on the date
prescribed therefor (determined with regard to any
extension of time for filing), unless it is shown that
such failure is due to reasonable cause and not due to
willful neglect, there shall be added to the amount
required to be shown as tax on such return 5 percent of
the amount of such tax if the failure is for not more
than 1 month, with an additional 5 percent for each
additional month or fraction thereof during which such
failure continues, not exceeding 25 percent in the
aggregate;
 - 66 -

determinations that this addition to tax should be imposed against

him. Funk v. Commissioner, 687 F.2d 264, 266

(8th Cir. 1982), affg. T.C. Memo. 1981-506; Ehrlich v.

Commissioner, 31 T.C. 536, 540 (1958).

Petitioner filed his 1983 through 1986 tax returns late.

See supra, note 2 and table 2. Petitioner has not shown that his

failure to timely file these returns was due to reasonable cause.

Petitioner has failed to carry his burden of proof.

We hold for respondent on this issue.

B. Section 6653(a)

Section 6653(a)(1)20 (sec. 6653(a)(1)(A), as to 1986)

20
Sec. 6653(a), as in effect for 1983 through 1985,
provides,
in pertinent part, as follows:

SEC. 6653. FAILURE TO PAY TAX.

(a) Negligence or Intentional Disregard of Rules and
Regulations with Respect to Income, Gift, or Windfall
Profit Taxes.--

(1) In general.--If any part of any underpayment
(as defined in subsection (c)(1)) of any tax imposed
by subtitle A * * * is due to negligence or
intentional disregard of rules or regulations (but
without intent to defraud), there shall be added to
the tax an amount equal to 5 percent of the
underpayment.

(2) Additional amount for portion attributable to
negligence, etc.--There shall be added to the tax (in
addition to the amount determined under paragraph (1))
an amount equal to 50 percent of the interest payable
under section 6601--

(continued...)
 - 67 -

imposes an addition to tax of 5 percent of the underpayment if

any part of the underpayment is due to negligence or

intentional disregard of rules or regulations. Section 6653(a)(2)

20
(...continued)
(A) with respect to the portion of the
underpayment described in paragraph (1) which is
attributable to the negligence or intentional
disregard referred to in paragraph (1),* * *

Sec. 6653(a), as in effect for 1986,
provides in pertinent part, as follows:

SEC. 6653. ADDITIONS TO TAX FOR NEGLIGENCE
AND FRAUD.
(a) Negligence.---

(1) In general.--If any part of any underpayment
(as, defined in subsection (c)) is due to negligence
or disregard of rules or regulations, there shall be
added to the tax an amount equal to the sum of--

(A) 5 percent of the underpayment, and

(B) an amount equal to 50 percent of the
interest payable under section 6601 with respect
to the portion of such underpayment which is
attributable to negligence for the period
beginning on the last date prescribed by law for
payment of such underpayment (determined without
regard to any extension) and ending on the date
of the assessment of the tax (or, if earlier,
the date of the payment of the tax).

The later amendment of this provision by sec.
1015(b)(2)(A) of the Technical and Miscellaneous Revenue
Act of 1988, Pub. L. 100-647, 102 Stat. 3342, 3569, does
not affect the instant case.

As a result of secs. 7721(a) and 7721(c)(1) of the
omnibus Budget Reconciliation Act of 1989 (OBRA 89), Pub.
L. 101-239, 103 Stat. 2106, 2395, 2399, the revised
negligence, etc., addition to tax now appears in subsecs.
(b)(1) and (c) of sec. 6662, I.R.C. 1986.
 - 68 -

(sec. 6653(a)(1)(B), as to 1986) imposes an additional addition to

tax equal to 50 percent of the interest payable under section 6601

with respect to the portion of the underpayment attributable to

the negligence, etc. Petitioner has the burden of proving error

in respondent’s determination that these additions to tax should

be imposed against him. Holman v. United States, 728 F.2d 462 465

(10th Cir. 1984); Bixby v. Commissioner, 58 T.C. 757, 791-792

(1972).

Broadly speaking, for purposes of this provision, negligence

is lack of due care or failure to do what a reasonable and

ordinarily prudent person would do under the circumstances. Neely

v. Commissioner, 85 T.C. 934, 947-948 (1985).

Petitioner is a lawyer. He testified as follows:

I have been a practicing attorney continuously since
1974 and am personally and professionally familiar with
financial operations and reports, accounting practices
and the Internal Revenue Code.

Nevertheless, he neglected to separate his activities from

the activities of the Corporations. He did not keep his records in

an organized manner. He still had his records when he filed his

tax returns for the years in issue (they had not yet been

transported to Juergens' sister's barn), and still he estimated

many of the entries on the tax returns. He overlooked substantial

amount of royalty and interest income for which Forms 1099 had

been sent. The tax returns he filed for 1983 through 1986 showed

lump sums for Schedule C expenses and various categories of
 - 69 -

income, without any of the breakdowns required by the tax forms.

See sec. 6011; see Emmons v. Commissioner, 92 T.C. 342, 348-351

(1989), affd. 898 F.2d 50 (5th Cir. 1990), as to the effect of the

late filing of petitioner's tax returns.

Petitioner did not use due care to deal with his income tax

obligations, and he failed to do what a reasonable and ordinarily

prudent person would do under the circumstances.

On brief, respondent contends that for 1983 section

6653(a)(2) should be applied to the entire underpayment.

Respondent in the notice of deficiency determined that $2,054 of

the underpayment for 1983 was not due to negligence for purposes

of the addition to tax under section 6653(a)(2). Our examination

suggests that the $2,054 amount is attributable to (1) a change in

filing status from head of household to single, and (2) self-

employment taxes.

Respondent has not sought to amend the pleading to assert

this increase formally. Ordinarily, this Court will not entertain

an issue that has not been pleaded properly and,--absent a clear

and timely claim by respondent for an increased deficiency, will

not enter a decision in an amount greater than was determined in

the notice of deficiency. Estate of Petschek v. Commissioner, 81

T.C. 260, 271-272 (1983), affd. 738 F.2d 67, 72 (2d Cir. 1984).

Section 6214(a), however, grants this Court jurisdiction to

determine a deficiency or addition to tax larger than that stated

in the notice of deficiency, if respondent claims the increased
 - 70 -

amount "at or before the hearing or rehearing."

In the instant case respondent has not specifically addressed

the issue, and by the time of trial had not requested an increase

in the additions to tax under section 6653(a)(2). In these

circumstances we cannot conclude that respondent has asserted a

claim for the increased amount as required by section

6214(a), nor that the issue has been tried by consent of the

parties within the meaning of Rule 41(b)(1).

We conclude that so much of the underpayment for 1983 as is

attributable to changes in filing status and the self-employment

taxes is not subject to the addition to tax under section

6653(a)(2).

We hold for respondent on this issue, but limited as

described in the notice of deficiency.

C. Section 6661(a)

Section 6661(a)21 imposes an addition to tax of 25 percent of

21
SEC. 6661. SUBSTANTIAL UNDERSTATEMENT OF LIABILITY.

(a) Addition to Tax.--If there is a substantial
understatement of income tax for any taxable year, there
shall be added to the tax an amount equal to 25 percent of
the amount of any underpayment attributable to such
understatement.

Although the years before us on this issue are 1983 through
1985, we apply the statute as amended in 1986, because sec. 8002
(continued...)
 - 71 -

the amount of any underpayment attributable to a substantial

understatement of tax. Pallottini v. Commissioner, 90 T.C. 498

(1988). An understatement is substantial if it exceeds the greater

of 10 percent of the correct tax or $5,000. Sec. 6661(b)(1)(A).

(Our holdings make it clear that petitioner has substantial

understatements for 1983, 1984, and 1985.)

If an item is not attributable to a tax shelter, then the

understatement shall be reduced on account of the item, and the

addition to tax accordingly reduced, if (1) the taxpayer's

treatment of the item was based on substantial authority, or (2)

the taxpayer adequately disclosed on the tax return or in a

statement attached to the tax return the relevant facts affecting

the item's tax treatment. Sec. 6661(b)(2)(B).

Respondent has authority to waive this addition to tax, if

the taxpayer shows there was reasonable cause for the

understatement and the taxpayer acted in good faith. Sec.

6661(c).

Petitioner has the burden of proving error in respondent's

determination that such an addition to tax should be imposed

against him. Rule 142(a); Welch v. Helvering, 290 U.S. at 115.

21
(...continued)
of the Omnibus Reconciliation Act of 1986, Pub. L. 99-509, 100
Stat. 1874, 1951, amended sec. 6661(a) to apply to additions
assessed after the date of the enactment of this Act.

As a result of sec. 7721(c)(2) of OBRA 89, 100 Stat. 2399,
the substance of former sec. 6661 now appears as subsecs. (b)(2)
and (d) of sec. 6662.
 - 72 -

Petitioner has not shown (1) that he had substantial

authority for the position taken on his 1983, 1984, and 1985 tax

returns, or (2) that he adequately disclosed his position in a

statement attached to these tax returns or on these tax returns.

Petitioner also has not shown that he had reasonable cause for the

understatement, and that he acted in good faith.

Petitioner has failed to carry his burden of proof.

We hold for respondent on this issue.

To reflect the foregoing,

Decision will be entered

under Rule 155.