T.C. Memo. 1998-276
UNITED STATES TAX COURT
JOSEPH F. AND CAMILLE T. UDDO, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 16687-97. Filed July 29, 1998.
William A. Neilson and Joseph John Ecuyer III, for
petitioners.
Linda K. West and Mary Beth Calkins, for respondent.
MEMORANDUM OPINION
POWELL, Special Trial Judge: This case is before the Court
on petitioners' motion for award of reasonable litigation and
administrative costs pursuant to section 7430 and Rules 230, 231,
and 232,1 filed March 24, 1998. Neither party requested a
1
Unless otherwise indicated, section references are to the
Internal Revenue Code in effect for the year in issue, and all
Rule references are to the Tax Court Rules of Practice and
Procedure.
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hearing, and the Court concludes that a hearing is not necessary
for the proper disposition of this motion.
On their jointly filed 1994 Federal income tax return,
petitioners reported $57,285 as a taxable distribution from an
individual retirement account (IRA). For petitioners' 1994 tax
year respondent received a Form 1099-R from American Express
Trust Co. (American Express) reporting that petitioners had
received a gross distribution of $156,931.
On January 6, 1997, respondent mailed a 30-day letter (Tax
Notice CP-2000) to petitioners. A copy of the letter was sent to
William A. Neilson (Mr. Neilson) as attorney for petitioners.
The letter stated that respondent proposed to increase
petitioners' taxable income by $165,211. The proposed increase
produced an additional tax liability of $57,671. In addition,
the letter proposed an accuracy-related penalty of $11,534. The
letter stated that if petitioners did not respond within 30 days
respondent would issue a notice of deficiency. The letter
further stated that if petitioners did not agree with
respondent's proposed changes, petitioners should submit a signed
statement of explanation and include any supporting
documentation. Petitioners did not respond to the 30-day letter.
On May 9, 1997, respondent mailed the notice of deficiency
determining a deficiency in petitioners' 1994 Federal income tax
in the amount of $57,671 and an accuracy-related penalty under
section 6662(a) and (d) in the amount of $11,534. Petitioners
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filed their petition with this Court on August 8, 1997. At the
time their petition was filed, petitioners resided in New
Orleans, Louisiana.
Respondent filed an answer on September 11, 1997. Shortly
thereafter, the case file was forwarded to respondent's Appeals
Office in New Orleans, Louisiana, where the case was assigned to
Appeals Officer Gregory M. Berry (Mr. Berry). The administrative
file received by Mr. Berry bore no indication that petitioners
had provided respondent with any information or response to the
30-day letter.
On September 15, 1997, Mr. Neilson wrote to Mary Beth
Calkins at respondent's District Counsel office in New Orleans.
Mr. Neilson asserted that the disputed amount of $156,931 was a
"direct rollover" by petitioners from American Express to an IRA
with Southwest Securities, Inc. (Southwest). Attached to the
letter were copies of documents purporting to support
petitioners' position, including an application by Mr. Uddo for
an IRA with Southwest, a letter requesting a transfer of Mr.
Uddo's accounts with IDS (American Express), and "portfolio
summary" statements from Southwest.
In a letter dated September 18, 1997, Mr. Berry wrote to
acknowledge respondent's receipt of Mr. Neilson's September 15,
1997, letter and the supporting documentation. Mr. Berry stated
that from his review of the supporting documentation he was
unable to tie the information to the disputed amount and
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requested additional clarification. Receiving no response to
this letter, Mr. Berry contacted Mr. Neilson by telephone on
November 4, 1997. During this conversation, Mr. Neilson stated
that he had just received information from petitioners'
accountant tracing the liquidated funds to the Southwest account
into which they were purportedly rolled over; Mr. Neilson further
indicated that he would shortly forward this information to Mr.
Berry.
Mr. Berry did not receive the promised information from Mr.
Neilson, so he followed up with another phone call on November
26, 1997. The two agreed to meet on December 2, 1997. At the
December 2d meeting, the documentation offered by Mr. Neilson was
largely duplicative of that previously provided. Mr. Neilson
still was unable to trace the amount at issue to any combination
of deposits in the Southwest account. Mr. Neilson had not
contacted either the payor, American Express, or Southwest.
Further, Mr. Neilson presented no evidence or clarification to
establish that the $156,931 at issue had been rolled over tax-
free.
In an effort to resolve the matter, on December 3, 1997, Mr.
Berry wrote to American Express requesting that it provide
details to support the amount it had reported on the Form 1099-R,
specifically the date and amounts of the distributions, and
whether they were paid directly to Mr. Uddo or to a third party.
On January 9, 1998, Mr. Berry received a response from American
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Express providing a breakdown of the distributions from Mr.
Uddo's accounts by date, amount, and payee. Due to an obvious
date error in two of the entries, Mr. Berry called American
Express to request a correction. The corrected response was
received by Mr. Berry on January 16, 1998.
Upon review of the documentation from American Express, Mr.
Berry concluded that $144,931 of the $156,931 had been rolled
over tax-free. On January 16, 1998, Mr. Berry mailed the
American Express documentation to Mr. Neilson along with a letter
requesting any additional information that would support a
finding that the final $12,000 was also rolled over tax-free.
Mr. Berry spoke with Mr. Neilson by telephone on February
20, 1998, and Mr. Neilson stated that he needed to consult with
petitioners and their accountant. Mr. Berry followed up with a
phone call to Mr. Neilson on February 25, 1998, and was advised
that Mr. Neilson had not received his clients' approval to
concede the remaining $12,000. When Mr. Berry contacted Mr.
Neilson again on February 27, 1998, Mr. Neilson stated that he
had not received a response from petitioners' accountant. Mr.
Berry then advised Mr. Neilson that decision documents would be
prepared reflecting the $12,000 as taxable. The decision
document was prepared and faxed to Mr. Neilson on March 3, 1998.
At the call of the trial calendar on March 9, 1998, the
decision document executed by the parties was filed as a
stipulation of settlement. The stipulation of settlement
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provided: (1) Petitioners' 1994 income tax liability is $31,374;
(2) the deficiency to be paid by petitioners is $27,824; and (3)
petitioners are not liable for the accuracy-related penalty under
section 6662(a). On March 24, 1998, petitioners filed their
motion for award of reasonable litigation and administrative
costs in the amount of $2,763.
Discussion
A taxpayer who substantially prevails in an administrative
or court proceeding may be awarded a judgment for reasonable
costs incurred in such proceedings. Sec. 7430(a). A judgment
may be awarded under section 7430 if a taxpayer (1) was the
prevailing party; (2) exhausted the administrative remedies
available to the taxpayer within the Internal Revenue Service;2
and (3) did not unreasonably protract the proceedings. Sec.
7430(b). These requirements are in the conjunctive; each must be
met in order for the Court to consider awarding litigation or
administrative costs under section 7430. Minahan v.
Commissioner, 88 T.C. 492, 497 (1987); Renner v. Commissioner,
T.C. Memo. 1994-372.
To be a "prevailing party" a taxpayer must establish the
following: (1) The taxpayer substantially prevailed with respect
to either the amount in controversy or with respect to the most
significant issue presented; and (2) the taxpayer met the net
2
This requirement applies only to an award of litigation
costs. Sec. 7430(b)(1).
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worth requirements of 28 U.S.C. section 2412(d)(2)(B) at the time
the petition in the case was filed. Sec. 7430(c)(4)(A).
However, a party shall not be treated as the prevailing party if
the United States establishes that the position of the United
States in the proceeding was substantially justified. Sec.
7430(c)(4)(B).
Respondent contends that the position of the United States
was substantially justified and that petitioners have not proved
that they exhausted their administrative remedies. Respondent
concedes that petitioners have satisfied the other requirements
of section 7430.
To decide whether respondent's position was substantially
justified, the Court must first identify the point in time at
which the United States is considered to have taken a position
and then decide whether the position taken from that date forward
was substantially justified. In general, we bifurcate our
analysis and look separately at the dates that respondent took a
position in the administrative proceeding and in the proceeding
in this Court. Sec. 7430(c)(7)(A) and (B); Huffman v.
Commissioner, 978 F.2d 1139, 1144 (9th Cir. 1992), affg. in part,
revg. in part and remanding T.C. Memo. 1991-144. In the instant
case, however, we may dispense with the bifurcated analysis
because respondent's position on each of these dates was the
same. Swanson v. Commissioner, 106 T.C. 76, 87 (1996).
Respondent took a position in the administrative proceeding when
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the statutory notice of deficiency was issued to petitioners on
May 9, 1997. Sec. 7430(c)(7)((B).3 Specifically, in the notice
of deficiency respondent determined that petitioners had
unreported gross income of $156,931 from an IRA distribution
received from American Express in 1994. Respondent took a
position in the proceeding in this Court when respondent's answer
was filed on September 11, 1997. See Huffman v. Commissioner,
supra at 1148. In the answer, respondent denied petitioners'
allegation that they did not receive an unreported IRA
distribution in the amount of $156,931 in 1994.
We analyze the Government's position on the date of the
notice of deficiency in the context of what caused the Government
to take that position. Lennox v. Commissioner, 998 F.2d 244,
247-249 (5th Cir. 1993), revg. in part and remanding T.C. Memo.
1992-382.4 This analysis may include events preceding the date
3
An administrative proceeding is defined as any procedure or
other action before the Internal Revenue Service. Sec.
7430(c)(5). Sec. 7430(c)(7)(B) provides that the United States
takes a position in an administrative proceeding as of the
earlier of the date of the receipt by the taxpayer of the notice
of the decision of the Internal Revenue Service Office of
Appeals, or the date of the notice of deficiency. In the instant
case, no notice of decision of the Internal Revenue Service
Appeals Office was ever issued or received by petitioners prior
to the date of the notice of deficiency. Accordingly, the United
States took a position on the date the notice of deficiency was
issued.
4
Venue for appeal in this case lies to the Court of Appeals
for the Fifth Circuit. Accordingly, precedent from that
jurisdiction controls our analysis of the issues. Golsen v.
Commissioner, 54 T.C. 742, 757 (1970), affd. 445 F.2d 985 (10th
(continued...)
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the notice of deficiency was issued. Id.; Williford v.
Commissioner, T.C. Memo. 1994-135.
Respondent's position is substantially justified if it is
justified to a degree that could satisfy a reasonable person and
has a reasonable basis both in law and fact.5 Pierce v,
Underwood, 487 U.S. 552, 565 (1988); Nalle v. Commissioner, 55
F.3d 189, 191 (5th Cir. 1995), affg. T.C. Memo. 1994-182. The
assessment of reasonableness is based on all the facts and
circumstances surrounding the proceeding. Nalle v. Commissioner,
supra at 191. The burden of proof on this issue is upon
respondent. Sec. 7430(c)(4)(B).6
Respondent's concession of the case does not in itself
compel the conclusion that respondent's position was not
substantially justified. Hanson v. Commissioner, 975 F.2d 1150,
1155-1156 (5th Cir. 1992), revg. an unpublished order of this
Court; Swanson v. Commissioner, supra at 94. Rather, it remains
4
(...continued)
Cir. 1971).
5
The substantially justified standard is the same as the
reasonableness standard of prior law. Sher v. Commissioner, 89
T.C. 79, 84 (1987), affd. 861 F.2d 131 (5th Cir. 1988).
6
Sec. 7430 was amended by the Taxpayer Bill of Rights 2, Pub.
L. 104-168, sec. 701(a) and (b), 110 Stat. 1463 (1996), to shift
the burden of proof on this issue to respondent. The amendment
is effective with respect to proceedings commenced after July 30,
1996. Id. at secs. 701(d), 702(b), 703(b), and 704(b), 110 Stat.
1464.
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a factor to be considered in assessing respondent's
justification. Hanson v. Commissioner, supra at 1156.
Petitioners contend that in the notice of deficiency
respondent "merely alleged" unreported income based on a Form
1099-R issued by a third party. Essentially, petitioners argue
that there was an inadequate factual basis for the determination
and that, consequently, respondent's position was not
substantially justified. This argument is premised upon Portillo
v. Commissioner, 932 F.2d 1128 (5th Cir. 1991) (Portillo I),
affg. in part, revg. in part and remanding T.C. Memo. 1990-68,
and its companion case Portillo v. Commissioner, 988 F.2d 27 (5th
Cir. 1993) (Portillo II), revg. and remanding T.C. Memo. 1992-99.
For the reasons that follow, petitioners' reliance on these cases
is misplaced.
In Portillo I, there was a $24,505 discrepancy between the
amount reported on the taxpayer's return ($10,800) and the amount
reported by a third party payor (Navarro) on a Form 1099
($35,305). During the audit, the taxpayer conceded his failure
to report $3,125 in income received from Navarro, but denied
receiving more than $13,925 from him. Respondent's agent then
contacted Navarro, who was able to produce copies of checks paid
to the taxpayer in the amount of $13,925, but did not have copies
of checks for the remaining $21,380 reported on the Form 1099.
Thereafter, respondent issued a notice of deficiency. The Court
of Appeals for the Fifth Circuit found that respondent had
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"arbitrarily decided to attribute veracity" to the "naked
assertion" of the third party payor. Without evidence to support
the notice of deficiency, the determination was held to be
arbitrary and erroneous, resulting in a decision in favor of the
taxpayer. Portillo v. Commissioner, 932 F.2d at 1133-1134.
In Portillo II, the taxpayer appealed this Court's denial of
administrative and litigation costs incurred from Portillo I.
The Court of Appeals for the Fifth Circuit relied upon the
conclusion in Portillo I that "the deficiency notice 'lacked any
ligaments of fact' and was 'clearly erroneous' as a matter of
law", and held this to be a clear indication that respondent's
reliance upon such an unsupported notice of deficiency was not
substantially justified. Portillo v. Commissioner, 988 F.2d at
29.
In Portillo I and Portillo II respondent was aware before
sending the notice of deficiency that the payor could not fully
substantiate the amounts reported on the Form 1099. We, however,
do not read Portillo II as holding that the Government may never
be substantially justified in relying upon a third party payment
report (Form 1099) in issuing a notice of deficiency that
determines unreported income. Portillo II does not address the
question presented herein; viz, whether respondent may be
substantially justified in relying upon a third party payment
report when the taxpayer fails to respond to respondent's
inquiries.
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In Sher v. Commissioner, 861 F.2d 131, 134-135 (5th Cir.
1988), affg. 89 T.C. 79 (1987), the Court of Appeals for the
Fifth Circuit held that respondent's position was substantially
justified where respondent relied upon apparently credible third
party payment information that had not been refuted by the
taxpayers.7 Even in the wake of its decisions in Portillo I and
Portillo II, the Court of Appeals for the Fifth Circuit continues
to cite Sher v. Commissioner, supra, for this proposition. See,
e.g., Nalle v. Commissioner, supra at 192.8 Furthermore, other
Court of Appeals for the Fifth Circuit cases suggest that
respondent's duty to investigate information provided by a third
party payor is not absolute. See, e.g., Parker v. Commissioner,
117 F.3d 785, 787 (5th Cir. 1997) (in context of a motion to
dismiss for failure to state a claim, the court noted that
respondent has no duty to investigate a third-party payment
report that is not disputed by the taxpayer).
7
We recognize that Sher v. Commissioner, 861 F.2d 131 (5th
Cir. 1988), affg. 89 T.C. 79 (1987), arose in the context of a
motion for litigation costs; hence the focal point of the
analysis was respondent's position in the answer. Moreover, we
note that in dicta, the Court of Appeals for the Fifth Circuit
stated that respondent's reliance upon the information from the
third party payor "would not have been sufficient if the petition
and the documents in the file demonstrated the need for further
investigation." Id. at 135.
8
The opinion in Sher v. Commissioner, supra, was superseded
by statute on other grounds. See Hanson v. Commissioner, 975
F.2d 1150, 1152 n.2 (5th Cir. 1992), revg. an unpublished order
of this Court.
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Petitioners concede that they received the 30-day letter.
The 30-day letter served upon petitioners specifically stated the
basis for respondent's adjustment and clearly requested a
response from petitioners and supporting documentation.
Petitioners did not respond to the 30-day letter. Indeed,
petitioners' first contact with respondent concerning this matter
came through their counsel after the petition in this case was
filed.9 Approximately 1 year after respondent first requested
information from petitioners, respondent received information
from American Express establishing that petitioners had not
underreported their income in the amount originally indicated.
Significantly, respondent received this information only after
respondent directly contacted the third party payor. Over a 5-
month period, respondent's Appeals Officer contacted petitioners'
counsel in repeated attempts to resolve this matter. Respondent
notified petitioners' counsel on January 16, 1998, that
respondent was conceding all but $12,000 of the disputed amount,
and stated that respondent was prepared to concede the remainder
if petitioners proffered the necessary documentation. Despite
repeated statements, petitioners' counsel failed to follow up
with the Appeals Officer.
9
In their motion, petitioners argue that their accountant
responded to the 30-day letter by sending documentation to the
Internal Revenue Service Center in Chamblee, Georgia, to support
their position that the amount reported on the Form 1099-R by
American Express was a nontaxable rollover from an IRA. This
assertion is unsupported by the record.
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This conduct places petitioners squarely in the position of
the taxpayer in McDaniel v. Commissioner, T.C. Memo. 1993-148.
In McDaniel, respondent sent a letter to the taxpayer (Tax Notice
CP-2501) requesting an explanation as to why information reported
on the taxpayer's return did not match information provided by
third party payors. After the taxpayer failed to respond to the
letter, respondent issued a notice of deficiency. Six months
after the petition was filed, the taxpayer provided information
that enabled respondent to concede that there was no deficiency.
In denying the taxpayer's motion for administrative and
litigation costs this Court stated
Although respondent ultimately conceded each of the
issues raised in the notice of deficiency, she was not able
to do so without the information from petitioner. A request
for such information was made before the statutory notice of
deficiency was issued. Any delay in this case was caused by
petitioner and petitioner's counsel. Had petitioner acted
promptly, this matter could have been resolved shortly after
petitioner received the Tax Notice CP-2501 * * *. We find
that respondent's position was not unreasonable * * *
[McDaniel v. Commissioner, supra; emphasis added.]
In short, just as in McDaniel v. Commissioner, supra, any delay
in resolution of this case was caused by petitioners and their
counsel. If petitioners had responded to the 30-day letter, this
matter could have been resolved prior to the issuance of the
notice of deficiency.
We conclude that respondent had a reasonable basis in fact
and in law for the issuance of the notice of deficiency.
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Accordingly, we hold that respondent's position was substantially
justified.
For similar reasons to those already discussed, we also
conclude that respondent's position respecting the accuracy-
related penalty was substantially justified. The original
indicated omission of income was substantial, and petitioners
offered no explanation for that omission.
The requirements of section 7430 are in the conjunctive,
Minahan v. Commissioner, 88 T.C. at 497, and our holding that
respondent's position was substantially justified disposes of
petitioners' motion. Accordingly, we need not address whether
petitioners' had exhausted all the administrative remedies.10
To reflect the foregoing,
An appropriate order will be
issued.
10
Petitioners bore the burden of proof to establish that they
exhausted the administrative remedies available to them within
the Internal Revenue Service. See Rule 142(a). Without ruling
on this issue, we note that petitioners have not alleged that
they requested and were denied an Appeals Office conference as
required by sec. 301.7430-1(b)(1), Proced. & Admin. Regs.