T.C. Memo. 1999-38
UNITED STATES TAX COURT
JAMES H. PUGH, JR., AND ALEXIS C. PUGH, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 27237-96. Filed February 8, 1999.
Charles H. Egerton and Jane D. Callahan, for petitioners.
Judith C. Winkler, for respondent.
MEMORANDUM OPINION
COHEN, Chief Judge: Respondent determined deficiencies in
petitioners' Federal income tax of $83,181 and $76,723 and
penalties under section 6662(c) of $16,636 and $15,432 for the
taxable years 1990 and 1991, respectively. After concessions,
the issues for decision are:
(1) Whether petitioner James H. Pugh, Jr. (petitioner), may
increase his basis in stock of an S corporation by the amount of
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discharge of indebtedness income (also referred to as
cancellation of debt (COD) income) excluded from gross income
under section 108(a), and (2) whether petitioners are liable for
the accuracy-related penalties for negligence or disregard of
rules or regulations for 1990 and 1991. Respondent has conceded
that portion of the penalty for each year that relates to the
first issue to be decided in this case. Unless otherwise
indicated, all section references are to the Internal Revenue
Code as in effect for the years in issue, and all Rule references
are to the Tax Court Rules of Practice and Procedure.
This case was submitted fully stipulated pursuant to Rule
122. The stipulated facts are incorporated herein by this
reference. Petitioners resided in Orlando, Florida, at the time
they filed the petition.
Background
The first issue in this case concerns petitioner's interest
in Epoch Capital Corporation (ECC). ECC was incorporated in the
State of Florida on December 10, 1987. ECC had properly elected
to be treated as an S corporation pursuant to section 1362 prior
to 1990, and such election was effective for ECC's taxable year
ended December 31, 1990.
ECC realized COD income during 1990 in the amount of
$661,357. ECC was liquidated in 1990. Articles of Dissolution
were filed with the State of Florida on December 18, 1990.
Petitioner did not receive any distributions from ECC upon
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liquidation. Petitioner's ECC common stock became worthless
during 1990.
In completing its 1990 Form 1120S, U.S. Income Tax Return
for an S Corporation, ECC properly excluded the COD income from
its income pursuant to section 108. On petitioner's Schedule K-1
(Form 1120S), Shareholder's Share of Income, Credits, Deductions,
Etc., ECC separately stated the COD income and reported
petitioner's pro rata share in the amount of $612,245.
Petitioner increased his basis in his ECC stock in 1990 by the
$612,245. Petitioner's basis in his ECC stock on December 31,
1990, taking into account all adjustments other than that for
ECC's COD income, was $394,802. On petitioners' 1990 Federal
income tax return, they reported a capital loss with respect to
the ECC stock commensurate with petitioner's reported basis in
the stock. On their 1991 return, petitioners carried forward and
reported capital losses from 1990. Coopers & Lybrand, a
certified public accounting firm, prepared petitioners' tax
returns for 1990 and 1991 and ECC's return for 1990.
Respondent disallowed the inclusion of the COD income in
petitioner's basis in his ECC stock and reduced Mr. Pugh's loss
accordingly. Respondent also determined increases in
petitioners' income in the amounts of $60,077 and $5,763 for 1990
and 1991, respectively, for gain on the sale of stock in Epoch
Management, Inc., which sale petitioners failed to report on
their returns. Petitioners have conceded the latter adjustments.
Respondent determined accuracy-related penalties for 1990 and
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1991, having determined that the underpayments of tax were "due
to negligence or intentional disregard of rules and regulations."
Discussion
Inclusion of COD Income in Basis
Petitioners argue that petitioner was correct in increasing
the basis in his ECC stock by his share of the COD income. In
Nelson v. Commissioner, 110 T.C. 114 (1998), we held that COD
income realized and excluded from gross income under section
108(a) does not pass through to shareholders of an S corporation
as an item of income in accordance with section 1366(a)(1) so as
to enable an S corporation shareholder to increase the basis of
his stock under section 1367(a)(1). Petitioners do not
distinguish this case from Nelson v. Commissioner, supra. They
ask us to overrule a recent Court-reviewed opinion, as being
decided incorrectly. We decline to do so. Accordingly, we hold
that petitioner may not increase the basis in his ECC stock by
his share of the COD income.
Accuracy-related Penalties
Section 6662(a) imposes an accuracy-related penalty of 20
percent on any portion of an underpayment of tax that is
attributable to items set forth in section 6662(b). Included in
those items is negligence or disregard of rules or regulations.
Sec. 6662(b)(1). Section 6662(c) provides that for purposes of
section 6662, "the term 'negligence' includes any failure to make
a reasonable attempt to comply with the provisions of this title,
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and the term 'disregard' includes any careless, reckless, or
intentional disregard."
The accuracy-related penalty will not be imposed with
respect to any portion of an underpayment if it is shown that
there was a reasonable cause for such portion and that the
taxpayer acted in good faith with respect to such portion. Sec.
6664(c)(1). The determination of whether a taxpayer acted with
reasonable cause and in good faith depends upon the facts and
circumstances. Sec. 1.6664-4(b)(1), Income Tax Regs. The most
important factor is the extent of the taxpayer's effort to
determine the taxpayer's proper tax liability. Id.
Respondent determined that petitioners' underpayments of tax
were due to negligence or intentional disregard of rules or
regulations. Respondent since has conceded the portions of the
penalties related to the COD issue. The remaining portions of
the penalties relate to the income conceded by petitioners; i.e.,
the gain on the sale of stock in Epoch Management, Inc.
Petitioners argue that they were not negligent, but merely
mistaken, in their reporting position with respect to the Epoch
Management, Inc. stock. They state in their brief that they
concluded they could recover all of their basis before reporting
any gain. They also allege that their failure to include the
gain was inadvertent, in view of the amounts of the adjustment
resulting from this omission ($60,077 and $5,763 for 1990 and
1991, respectively) as compared to the total income reported
($778,781 and $1,215,732, respectively).
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Petitioners have supplied us with no evidence with respect
to the Epoch Management, Inc., stock transaction or with respect
to their decision that the gain on the sale of the stock was not
includable in income. Petitioners have the burden of proof on
this issue. Rule 142(a); Welch v. Helvering, 290 U.S. 111
(1933). The fact that this case was submitted fully stipulated
does not alter the burden of proof. Rule 122(b); Alumax Inc. v.
Commissioner, 109 T.C. 133, 160 (1997), affd. __ F.3d __ (11th
Cir., Jan. 21, 1999). Petitioners have failed to establish that
they were not negligent with respect to the underpayments
stemming from the omission of the gain from the sale of the Epoch
Management, Inc., stock. Therefore, we hold that they are liable
for the portions of the accuracy-related penalties related to
that gain.
In keeping with the parties' concessions and our holdings as
set forth above,
Decision will be entered
under Rule 155.