Windisch v. Commissioner

T.C. Memo. 1996-369

UNITED STATES TAX COURT

DEBORAH JOYCE WINDISCH, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 2308-94. Filed August 12, 1996.

Deborah Joyce Windisch, pro se.

Stephen R. Asmussen, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

WELLS, Judge: Respondent determined deficiencies in,

additions to, and penalties on petitioner's Federal income taxes

as follows:

Additions to Tax and Penalties
Year Deficiency Sec. 6651(a)(1) Sec. 6662(a)

1990 $2,906 $164 $581
 - 2 -

1991 4,908 1,049 982
1992 4,646 -- 929
Unless otherwise noted, all section references are to the

Internal Revenue Code (Code) as in effect for the years in issue,

and all Rule references are to the Tax Court Rules of Practice

and Procedure.

After concessions, the following issues remain for decision:

(1) Whether petitioner's photography activity constituted an

activity not engaged in for profit within the meaning of section

183 during the years in issue; (2) whether petitioner is liable

for the addition to tax for failure to file timely her 1990 and

1991 Federal income tax returns; and (3) whether petitioner is

liable for the accuracy-related penalty provided by section

6662(a) for the years in issue.

FINDINGS OF FACT

Some of the facts and certain exhibits have been stipulated

for trial pursuant to Rule 91.1 The stipulations of fact are

incorporated herein by reference and are found accordingly.

At the time the petition in the instant case was filed,

petitioner resided in Soquel, California.

During the years in issue, petitioner was employed full time

as an account clerk by the Santa Cruz Health Services Agency in

1
Respondent objected to admission of certain exhibits
pertaining to years subsequent to the years in issue on grounds
of materiality and relevance. We sustain respondent's objection.
Fed. R. Evid. 401. We note, however, that our decision in the
instant case would not be affected by admission of the exhibits
to which respondent has objected.
 - 3 -

Watsonville, California. Petitioner's previous jobs also

involved accounting work. Also during the years in issue,

petitioner held a part-time position as a telephone bill

collector with the Credit Bureau of Santa Cruz County, working as

few as 12 hours to as many as 17 hours per week. Petitioner

worked at her part-time job from 5:30 p.m. until as late as 10

p.m. Monday through Thursday and from 9:30 a.m. until as late as

4 p.m. Saturday.

Petitioner was involved in photography prior to the years in

issue. Members of her family had worked in the photography field

as well. Petitioner photographed, inter alia, weddings, family

reunions, and graduations. Petitioner also made portraits and

photographed rock bands and musicians. She did not charge for

her photography work until 1987 and, until then, did not treat

the activity as a business for tax purposes. Beginning with her

1987 Federal income tax return, she included the activity on

Schedule C of her returns, claiming losses for each of the

taxable years 1987, 1988, and 1989.

Petitioner did not maintain a dark room and sent her film to

a processing lab for developing. Petitioner did not have formal

training in photography during the years in issue. Petitioner,

however, had the quality of her photographs analyzed and

critiqued. During 1991, petitioner joined the Professional

Photographers of California and the Professional Photographers of

the Monterey Bay Area (PPMBA), which held monthly meetings at
 - 4 -

which other photographers would lecture on technical and business

matters connected with photography. Petitioner learned certain

things about pricing her work at these meetings. If, however,

petitioner was aware that a customer was suffering financial

hardship, she attempted to accommodate the customer and did not

charge her standard price. Furthermore, if a wedding couple did

not have the funds to purchase petitioner's photographs, she

allowed them to acquire the photographs up to a year after the

ceremony, after their other bills had been paid. Petitioner

could not afford to, and did not, advertise in the Yellow Pages

during the years in issue. Instead, petitioner relied on flyers

and word-of-mouth to promote her activity. Petitioner also

placed an advertisement in a softball team's program. Most of

petitioner's customers during the years in issue were her

coworkers at the Santa Cruz Health Services Agency. Petitioner

would meet with coworkers during breaks, or at lunch or dinner

time at restaurants near the agency's offices, and she claimed

tax deductions for the cost of the meals. Additionally,

petitioner met people at her home and deducted the cost of

groceries.

Petitioner's parents and brother resided in Los Angeles,

California. During 1991, petitioner arranged to photograph the

wedding of certain of her friends in Los Angeles, which was 340

miles from her home in Soquel. In connection with that

engagement, petitioner made five trips to Los Angeles to: (1)
 - 5 -

Make arrangements for photographing the event, (2) do the

photography, (3) deliver prints and reprints of the wedding

photographs, and (4) review reprint orders. At least four of

those trips lasted several days each. During certain of those

trips, petitioner also photographed or delivered prints of her

brother's wedding. Petitioner purchased a gift, a card, and

ribbon for her friends' wedding. Petitioner received

approximately $843 in connection with photographing her friends'

wedding, from which petitioner paid the cost of film and

developing, which was at least $568. Petitioner also attributed

her cost of meals in restaurants, including a meal she purchased

for her friends, to that job.

During 1992, petitioner was paid $50 to assist another

photographer in taking pictures at a party. Petitioner

attributed a grocery store bill of $54.19 and the cost of meals

at restaurants to the job. Also during that year, petitioner

photographed a family reunion. Petitioner paid the cost of

developing the photographs and of renting equipment and

attributed the cost of meals in restaurants, including meals with

the person from whom she rented equipment and the persons

ordering the photographs, to the job.

On her 1990 Federal income tax return, petitioner reported

wage income of $27,569, interest income of $92, and dividend

income of $2. Petitioner claimed itemized deductions of $5,325.

On Schedule C of the return, petitioner reported gross receipts
 - 6 -

of $1,141 (rounded), consisting of: (1) $454.75 received for

accounting services, (2) $65.15 in commissions, (3) $165.74

received for miscellaneous services, (4) $76 received for

merchandise orders, and (5) $380.60 received for photography.

On the Schedule C, petitioner claimed a cost of goods sold of

$301 and business expenses of $20,122, resulting in a net loss of

$19,282. Petitioner reported a tax due for 1990 in the amount of

$47. Petitioner's 1990 Federal income tax return was filed on

May 28, 1991.

On her 1991 Federal income tax return, petitioner reported

wage income of $31,567, interest income of $47, and refunds of

State and local taxes of $393. Petitioner claimed itemized

deductions of $5,285 and an IRA deduction of $1,200. On Schedule

C of the return, petitioner claimed gross receipts and gross

income of $3,007, at least $19.50 of which was received for

accounting services, at least $50 of which was received as rent,

and at least $2,423.07 of which was received for photography. On

the Schedule C, petitioner claimed business expenses of $19,230,

resulting in a net loss of $16,223. Petitioner reported a tax

due for 1991 in the amount of $1,069. Petitioner's 1991 Federal

income tax return was filed on December 15, 1992.

On her 1992 Federal income tax return, petitioner reported

wage income of $32,345 and interest income of $29. Petitioner

also reported itemized deductions of $6,343 and an IRA deduction

of $1,200. On Schedule C of the return, petitioner reported
 - 7 -

gross receipts and gross income of $3,015, consisting of $1,304

received for the rental of space in her home and $1,711 received

for photography. On the Schedule C, petitioner reported business

expenses of $17,636, resulting in a net loss of $14,621.

Petitioner reported a tax due for 1992 in the amount of $1,189.

Petitioner's 1992 Federal income tax return was filed on April

12, 1993.

For the years in issue, petitioner deducted a variety of

expenses on the grounds that they were connected to her

photography activity. Petitioner deducted the cost of repairing

earthquake damage to her home and the cost of removing some

infested trees from her yard. Petitioner deducted as

"educational supplies" her purchases of recordings of the music

of certain of the bands she had photographed. Petitioner

deducted the full cost of her 1992 membership in the California

State Automobile Association, even though she had only one car

and did not use it exclusively for business purposes. Petitioner

deducted the cost of taking her cousin and the cousin's husband

to Disneyland. Petitioner deducted the cost of a watchband.

During the years in issue, petitioner paid $50 per month to

each of Temple Trust and United Sovereigns and deducted those

amounts. Temple Trust provided record-keeping advice to small

businesses. United Sovereigns was a marketing organization from

which members, including petitioner, received commissions for

enrolling new members. It provided members with a newsletter on
 - 8 -

money and tax matters, an income tax preparation service,

representation during audits of their returns, and estate

planning assistance. Petitioner does not know who owns United

Sovereigns.

During relevant years, United Sovereigns provided petitioner

with a workbook that she filled out and returned to the

organization and which United Sovereigns in turn forwarded to a

return preparer to be used in filling out petitioner's income tax

returns. Other than filling out the workbook, petitioner did not

perform any of the computations required to complete her returns.

United Sovereigns sent petitioner's workbooks to Bill Webber, who

prepared petitioner's Federal income tax returns for the years in

issue. Mr. Webber also represented petitioner during the audit

of her returns. Mr. Webber does not contact the taxpayers whose

workbooks are sent to him prior to preparing their returns, and

he accepts the information set forth in those workbooks.

Petitioner did not investigate the qualifications of any of

the persons owning and operating United Sovereigns prior to

enlisting them to prepare her tax returns, nor was she aware of

Bill Webber's credentials, although she had met him.

OPINION

Petitioner's Photography Activity

We first consider whether petitioner's photography activity

was engaged in for profit within the meaning of section 183. The

general rule of section 183(a) disallows deductions attributable
 - 9 -

to an activity not engaged in for profit. Section 183(b)

provides two exceptions to the general rule. The first, provided

by section 183(b)(1), permits deductions that otherwise would be

allowable without regard to whether the activity is engaged in

for profit; the second, provided by section 183(b)(2), permits

deductions that would be allowable if the activity were engaged

in for profit to the extent that the gross income from the

activity exceeds the deductions allowable pursuant to section

183(b)(1). Section 183(c) defines an "activity not engaged in

for profit" as "any activity other than one with respect to which

deductions are allowable for the taxable year under section 162

or under paragraph (1) or (2) of section 212." Petitioner bears

the burden of establishing that her photography activity was

engaged in for profit. Rule 142(a).

In order to carry that burden, a taxpayer must show that he

or she had an actual and honest objective of making a profit from

the activity. Dreicer v. Commissioner, 78 T.C. 642, 645 (1982),

affd. without opinion 702 F.2d 1205 (D.C. Cir. 1983). The

taxpayer's expectation, however, need not be a reasonable one.

Id. at 644-645; Golanty v. Commissioner, 72 T.C. 411, 425 (1979),

affd. without published opinion 647 F.2d 170 (9th Cir. 1981);

sec. 1.183-2(a), Income Tax Regs. The question whether the

requisite intention is present is one of fact and is to be

resolved based on consideration of all relevant circumstances,

with greater weight being given to objective factors than to mere
 - 10 -

statements of intent. Dreicer v. Commissioner, supra at 645;

Golanty v. Commissioner, supra at 426; sec. 1.183-2(a) and (b),

Income Tax Regs. Section 1.183-2(b), Income Tax Regs., sets

forth the following nonexclusive list of relevant factors to be

considered: (1) The manner in which the taxpayer carries on the

activity; (2) the expertise of the taxpayer or his or her

advisors; (3) the time and effort expended by the taxpayer in

carrying on the activity; (4) the expectation that the assets

used in the activity may appreciate in value; (5) the success of

the taxpayer in carrying on similar or dissimilar activities; (6)

the taxpayer's history of income or loss with respect to the

activity; (7) the amount of occasional profits, if any, which are

earned; (8) the financial status of the taxpayer; and (9) whether

elements of personal pleasure or recreation are involved. No

single factor is conclusive. Golanty v. Commissioner, supra at

426; sec. 1.183-2(b), Income Tax Regs.

Based on our consideration of the record in the instant

case, we conclude that petitioner has not demonstrated that her

photography activity was carried on with the actual and honest

objective of making a profit. Although the activity had some of

the trappings of a business, those "trappings" are insufficient

to demonstrate that the activity was carried on for profit.

Although petitioner maintained meticulous records, and respondent

has conceded that all of the items of expense noted in her

summaries have been substantiated, such records may represent
 - 11 -

nothing more than a conscious attention to detail. Golanty v.

Commissioner, supra at 430. Petitioner had extensive experience

with accounting work, and it is natural to expect that she would

apply that experience to her photography activity. Moreover, it

does not seem that the records were kept for the purpose of

cutting expenses, realizing profits, or evaluating the overall

performance of the operation.

Rather, it appears that the principal purpose of

petitioner's records was to substantiate claimed deductions from

income for tax purposes. Analysis of petitioner's records

reveals that her activity was operated with little or no regard

for the level of expense incurred in relation to the small amount

of income yielded by the activity. Petitioner frequently

incurred costs for restaurant meals and groceries in connection

with her photography activity, explaining that she and the people

she met had to eat anyway, and so would meet over a meal to

discuss photography. We note that many of petitioner's clients

during the years in issue were coworkers, friends, and family,

and petitioner has not convinced us that many of the meals did

not have significant personal or social aspects for her. Indeed,

the meetings and other contacts with persons in connection with

her photography activity recorded by petitioner largely appear

consistent with ordinary social activities.

Petitioner has not established that she did not use her

photography activity as a means of deducting personal expenses
 - 12 -

and the cost of social activities. For instance, in 1991

petitioner photographed the wedding of certain friends in Los

Angeles, making five trips from her home in Soquel, 340 miles

away. On at least four of the trips, petitioner stayed in Los

Angeles several days, apparently with her parents, who resided in

Los Angeles. One of the trips was made so that petitioner could

personally deliver, as opposed to mailing, developed photographs

of the wedding.2 Petitioner also admits that she deducted the

cost of the gift, card, and ribbon purchased for the wedding

couple, and deducted her cost of a meal attended by the couple,

her father, mother, brother, and brother's fiancee. Petitioner

has not suggested that she would not have attended the wedding if

she had not been engaged to photograph it.

On another occasion, petitioner also received $50 for

photographic work, yet admits that she deducted a $54.19 grocery

bill that she claimed related to the work. Petitioner also

admits that she deducted the cost of: (1) Groceries, (2) a

watchband, (3) removing infested trees from her yard, (4)

recordings of bands that she photographed, and (5) an automobile

club membership. Petitioner also admits she deducted the cost of

a trip to Disneyland with her cousin and cousin's husband, and

the cost of tickets to a concert she attended with her cousin and

persons described as "clients". Although petitioner claims that

2
Petitioner testified that she had agreed to personally
deliver the photographs, instead of mailing them.
 - 13 -

there was a business purpose for the foregoing expenditures, she

has not shown that they did not have significant personal aspects

as well.

Other circumstances also suggest that petitioner's

photography activity was not operated in a businesslike manner.

It does not appear that petitioner made any significant changes

in the manner in which she operated her activity, such as

reducing expenses, in an effort to achieve profitability during

the years in issue. Those circumstances, as well as others in

the record, such as the fact that petitioner generally did

photography for coworkers, friends, and relatives, indicate to us

that personal, rather than business, considerations influenced

the manner in which petitioner conducted her photography

activity.

Although petitioner claims that she learned about pricing

her services as a photographer from attending lectures given at

meetings of the PPMBA, and changed her practices as a result, it

does not appear that the change caused any significant

improvement in the financial results of the activity. Moreover,

although petitioner claimed to have a mentor, that person's

advice appeared to concern the technical quality of her

photography rather than the business aspects of the activity. We

are not persuaded that petitioner made any concerted effort to

obtain advice as to how to make her photography activity

profitable.
 - 14 -

Petitioner also had limited time to devote to her

photography activity, inasmuch as she was employed full time as

an account clerk and worked as few as 12 hours to as many as 17

hours per week, from Monday through Thursday during the evening

and during the day on Saturday, as a telephone bill collector.

Although petitioner claimed to devote to photography much of the

time that was not occupied by her jobs, we are not convinced that

petitioner's motivation was not primarily social and recreational

in taking meals with coworkers, friends, and relatives, and in

associating with the rock bands and musicians she photographed

during the time she pursued her photography activity. Petitioner

also has not shown that any of the assets used in her photography

activity, or the photographs that she took, would appreciate in

value, or that she was successful in carrying on similar or

dissimilar activities.

Petitioner has consistently incurred losses in her

photography activity from 1987, the first year she treated it as

a business for tax purposes, through 1992, the last year in

issue, and has never reported a profit from the activity. For

each year in issue, petitioner reported a substantial loss that

was apparently attributable to her photography activity.3 For

1990, petitioner received approximately $380 from her photography

3
Petitioner has not attempted to show whether any of the
expenses claimed on the Schedules C related to the income
reported on those schedules that was realized from her activities
besides photography.
 - 15 -

activity, but claimed expenses of $20,122. For 1991, the parties

agree that petitioner received approximately $2,864 from her

photography activity, but claimed expenses of $19,230. For 1992,

petitioner received approximately $1,711 from her photography

activity, but claimed expenses of $17,636.

While losses incurred during the early stage of an activity

might not necessarily indicate that the activity is not engaged

in for profit, continued losses after the period customarily

required to bring an operation to profitability, if not

explainable by ordinary business reverses, may indicate that the

activity is not engaged in for profit. Sec. 1.183-2(b)(6),

Income Tax Regs. Petitioner has not attempted to establish the

period customarily required to bring a photography business to

profitability, nor has she offered adequate reasons for the

substantial continuing losses experienced by her photography

activity. Given the circumstances of the instant case,

petitioner's claimed losses indicate that the photography

activity was not engaged in for profit. Considering petitioner's

financial status, it appears to us that the income derived from

petitioner's other employment enabled her to continue to engage

in her photography activity in the manner in which she conducted

it, indicating that the photography activity was not engaged in

for profit. Engdahl v. Commissioner, 72 T.C. 659, 670 (1979).

Petitioner's losses offset in large part the income she derived

from other sources.
 - 16 -

We are not persuaded that substantial elements of personal

pleasure and recreation were not present in petitioner's

photography activity. Petitioner had been involved in

photography prior to claiming the activity was a business. She

stated in her opening statement at trial that "photography is as

much a part of me as my eyes, my hands, and my heart". She

further testified that almost everything she does is related to

photography. At trial, petitioner indicated that she had

photographed musicians and their performances most of her life,

that she had had contact with persons in the music industry for a

long period of time, and that she had purchased recordings by the

bands that she photographed. Petitioner appears to have derived

personal pleasure from the contact with the music industry

afforded by her photography activity. We also think it

reasonable to infer that petitioner derived personal satisfaction

from photographing her coworkers, friends, and family at their

weddings, graduations, and other events and that the activity

facilitated petitioner's social activities. While there is no

requirement that profit-oriented work be onerous and unpleasant,

Elliott v. Commissioner, 90 T.C. 960, 973 (1988), affd. without

published opinion 899 F.2d 18 (9th Cir. 1990), an activity

carried on because of the personal satisfaction it affords,

regardless of whether it is profitable, constitutes a hobby and

is treated as such for tax purposes, Bowles v. Commissioner, T.C.

Memo. 1993-222.
 - 17 -

Based on the record in the instant case, we hold that,

during the years in issue, petitioner has not met her burden of

proving that her photography activity was not an activity not

engaged in for profit within the meaning of section 183(c).

Consequently, the deductions claimed with respect to it are

allowable only as provided by section 183(b). Based on the

record, we are satisfied that petitioner has established that she

incurred expenses deductible pursuant to section 183(b) in

amounts at least equal to the amounts of gross income realized

from her photography activity.4

Section 6651(a) Addition to Tax

Respondent determined that petitioner was liable for the

addition to tax provided by section 6651(a) for 1990 and 1991.

Where a taxpayer fails to file an income tax return on the date

prescribed for filing, section 6651(a)(1) imposes an addition to

tax equal to 5 percent of the amount required to be shown on the

return, with an additional 5 percent to be added for each

additional month or partial month during which the failure

continues, not exceeding 25 percent in the aggregate. The

addition to tax does not apply where the taxpayer demonstrates

4
We note that petitioner has not established the amount of
any cost of goods sold or deductible expenses attributable to the
other activities the income from which is reported on her
Schedules C for the years in issue.
 - 18 -

that the failure to file timely was due to reasonable cause and

not willful neglect. Sec. 6651(a)(1). Reasonable cause exists

where the taxpayer was unable to file timely despite the exercise

of ordinary business care and prudence. Sec. 301.6651-1(c)(1),

Proced. & Admin. Regs. "Willful neglect" has been defined as a

"conscious, intentional failure or reckless indifference."

United States v. Boyle, 469 U.S. 241, 245 (1985). The question

whether a failure to file timely is due to reasonable cause and

not willful neglect is one of fact, on which petitioner bears the

burden of proof. Rule 142(a); Lee v. Commissioner, 227 F.2d 181,

184 (5th Cir. 1955), affg. a Memorandum Opinion of this Court

dated July 31, 1953.

The parties stipulated that petitioner's 1990 Federal income

tax return was filed on May 28, 1991. Petitioner alleges on

brief that she filed a Form 4868 requesting an extension of time

to file that return. Statements in briefs, however, are not

evidence, Rule 143(b), and there is no such request attached to

the copy of petitioner's return that is in the record, nor is

such a request otherwise in evidence. We conclude that

petitioner's 1990 Federal income tax return was due on April 15,

1991. Sec. 6072(a). The parties have stipulated that

petitioner's 1991 Federal income tax return was filed on December

15, 1992. That return was due on April 15, 1992. Sec. 6072(a).

Petitioner concedes that her 1991 return was not filed timely.
 - 19 -

Except as noted above, petitioner does not attempt to

explain the reason for the failures to file timely. Petitioner

on brief states that she was not asked to give an explanation;

however, petitioner bears the burden of proving reasonable cause

for her failure to file timely, and it is her responsibility to

present any explanation she may have for her conduct. We

accordingly sustain respondent's determinations pursuant to

section 6651(a) for 1990 and 1991.

Section 6662(a) Penalty

Respondent determined that petitioner was liable for the

accuracy-related penalty provided by section 6662(a) for each

year in issue. Section 6662(a) imposes a 20-percent penalty on

the portion of an underpayment of tax that is attributable to,

inter alia, negligence or disregard of rules or regulations. The

term "negligence" includes any failure to make a reasonable

attempt to comply with the provisions of the Code, including

failure to exercise due care or failure to do what a reasonable

person would do in the circumstances. Sec. 6662(c); sec. 1.6662-

3(b)(2), Income Tax Regs. The term "disregard" includes any

careless, reckless, or intentional disregard of the Code or the

temporary or final regulations issued pursuant to the Code. Sec.

6662(c); sec. 1.6662-3(b)(2), Income Tax Regs.

The accuracy-related penalty does not apply to any portion

of an underpayment with respect to which it is shown that there

was a reasonable cause and that the taxpayer acted in good faith.
 - 20 -

Sec. 6664(c)(1). The decision as to whether the taxpayer acted

with reasonable cause and in good faith depends upon all

pertinent facts and circumstances. Sec. 1.6664-4(b)(1), Income

Tax Regs. Generally, the most important factor is the extent of

the taxpayer's efforts to assess the proper tax liability. Id.

A taxpayer must establish error in the determination that he or

she is liable for the penalty provided by section 6662(a). Rule

142(a); Estate of Monroe v. Commissioner, 104 T.C. 352, 366

(1995).

On brief, petitioner contends that she believed in good

faith that the expenses that she claimed were allowable. Good

faith on the part of a taxpayer, however, does not always negate

negligence. Taxpayers are required to take reasonable steps to

determine the law and to comply with it. Niedringhaus v.

Commissioner, 99 T.C. 202, 222 (1992). In the instant case,

petitioner has not shown that her claimed deductions for expenses

were made with any significant regard to whether they were

personal in nature, and the record supports the inference that

petitioner's photography activity was used to deduct personal

expenses. We do not consider petitioner to have acted reasonably

with respect to the deduction of those expenses claimed for her

photography activity. Moreover, petitioner failed to investigate

the qualifications of any of the persons owning or operating

United Sovereigns or of Mr. Webber before enlisting them to

prepare her tax returns for the years in issue. Based on our
 - 21 -

consideration of the entire record, we sustain respondent's

determinations with respect to the accuracy-related penalty for

negligence for the years in issue.

To reflect the foregoing and concessions,

Decision will be entered

under Rule 155.