Diesel Country Truck Stop, Inc. v. Commissioner

T.C. Memo. 2000-317

UNITED STATES TAX COURT

DIESEL COUNTRY TRUCK STOP, INC., Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 5863-97. Filed October 6, 2000.

P operated a truck stop that sold diesel fuel and
engaged in several other business activities.

1. Held: P underreported its income from the sale of
diesel fuel. Amounts determined.

2. Held, further, P’s disputed deductions for
automobile and rental expenses are disallowed. Burden of
proof.

3. Held, further, P is liable for an accuracy-related
penalty under sec. 6662(a), I.R.C. 1986, negligence, etc.

Steve Khachatourian (an officer), for petitioner.

Dale A. Zusi, for respondent.
 - 2 -

MEMORANDUM FINDINGS OF FACT AND OPINION

CHABOT, Judge: Respondent determined a deficiency in

corporate income tax and an accuracy-related penalty under

section 6662(a)1 (negligence, etc., and substantial

understatement of income tax) against petitioner for the fiscal

year ending June 30, 1990, in the amounts of $337,339 and

$67,468, respectively.

After concessions2 by both sides, the issues for decision

are as follows:

1
Unless indicated otherwise, all subtitle and section
references are to subtitles and sections of the Internal Revenue
Code of 1986 as in effect for the year in issue.

2
The following table shows petitioner’s reported amounts and
respondent’s adjustments and concessions as to petitioner’s
unreported income from diesel fuel sales:

Gross Cost of Gross
Document Or Statement Receipts Goods Sold Profit

P’s tax return--totals $4,152,428 $3,463,255 $689,173

P’s P & L statement--diesel 3,340,825 2,959,767 381,058

Notice of deficiency--adjustments + 1,548,766 + 670,311 + 878,455

Respondent’s opening statement,
brief--adjustments + 877,765 + 82,692 + 795,073

The parties agree that the adjustments to gross receipts and cost
of goods sold relate solely to petitioner’s diesel fuel activity.

On its tax return, petitioner claimed a $101,517 rent
deduction. In the notice of deficiency, respondent allowed
$5,517 and disallowed $96,000. At trial, respondent conceded
$10,000 of the $96,000 disallowance, increasing to $15,517 the
allowed rent deduction. On its tax return, petitioner claimed a
$29,877 car/truck expenses deduction. In the notice of
deficiency, respondent disallowed the entire amount. On
answering brief, petitioner concedes $14,657 of the claimed
amount.
 - 3 -

(1) Whether, and if so then to what extent, petitioner

understated its gross income (gross receipts less cost of

goods sold) from the sale of diesel fuel;

(2) Whether, and if so then to what extent, petitioner

is entitled to claimed section 162 deductions for certain

expenses; and

(3) Whether, and if so then in what amount, petitioner

is liable for an accuracy-related penalty under section

6662(a).

FINDINGS OF FACT

Some of the facts have been stipulated; the stipulations and

the stipulated exhibits are incorporated herein by this

reference.

At the time the petition was filed, petitioner was a

corporation with its principal place of business in Le Grand,

California.

1. Background

During petitioner’s fiscal year ending June 30, 1990

(hereinafter sometimes referred to as petitioner’s fiscal 1990):

petitioner was a C corporation; Serop Khachatourian, also known

as Steve Khachatourian (hereinafter sometimes referred to as

Steve), and Andranik Khachatourian, also known as Andy

Khachatourian (hereinafter sometimes referred to as Andy),
 - 4 -

Steve’s brother, were petitioner’s sole shareholders;3 Steve was

petitioner’s president and was responsible for petitioner’s day-

to-day operations; and petitioner operated a truck stop that sold

diesel fuel and gasoline, and featured a minimart and a coffee

shop.

2. Petitioner’s Books and Records

A. Fuel Pump Computer Tapes

During a mid-1988 Federal excise tax audit of petitioner by

Henry Hart (hereinafter sometimes referred to as Hart), Hart

asked Steve to show Hart the fuel pump computer tapes that

underlay petitioner’s Daily Sales Records (hereinafter sometimes

referred to as DSR’s), discussed infra. Steve told Hart that the

underlying fuel pump computer tapes were destroyed after the

information on those tapes was recorded on a DSR. On June 28,

1988, Hart asked to see and was shown the fuel pump computer tape

for June 27, 1988. Hart compared this fuel pump computer tape to

the DSR and found that the June 27 fuel pump computer tape showed

about $200 more in diesel fuel sales than was shown on the DSR.

3
Although Andy apparently figured in petitioner’s activities
during petitioner’s fiscal 1990, neither side believed that he
was important as a source of information in the instant case.
Accordingly, the Court concluded, and announced at the start of
the trial, that Andy’s absence from the trial does not give rise
to any inference under Wichita Terminal Elevator Co. v.
Commissioner, 6 T.C. 1158, 1165 (1946), affd. 162 F.2d 513 (10th
Cir. 1947); see United States v. Rollins, 862 F.2d 1282, 1297-
1298 (7th Cir. 1988); Kean v. Commissioner, 469 F.2d 1183, 1187-
1188 (9th Cir. 1972), affg. on this issue and revg. on another
issue 51 T.C. 337, 343-344 (1968).
 - 5 -

In 1984 or 1985, petitioner became a client of Sahag

Bedevian (hereinafter sometimes referred to as Bedevian), who

provided income tax and bookkeeping services to petitioner.

Steve was petitioner’s primary contact with Bedevian. Bedevian

developed the DSR form for Steve to track petitioner’s income and

bank deposits. Bedevian advised Steve to keep all fuel pump

computer tapes and records relating to diesel fuel sales in a

safe place. Bedevian told Steve that if petitioner were audited

then the auditor would need fuel pump computer tapes and records.

Steve did not provide the fuel pump computer tapes to Bedevian.

Bedevian prepared the tax return for petitioner’s fiscal 1990,

which Bedevian signed as tax return preparer on September 10,

1990. This tax return was filed on September 20, 1990.

In January or February of 1991, Grey Roberts (hereinafter

sometimes referred to as Roberts), a C.P.A., replaced Bedevian as

petitioner’s accountant. Roberts was petitioner’s accountant for

about 3½ years. During his work with petitioner, Roberts dealt

primarily with Steve. When Roberts became petitioner’s

accountant, he received petitioner’s records from Bedevian. The

records Roberts received did not include any fuel pump computer

tapes. Steve did not provide fuel pump computer tapes to Roberts

until after Andy filed a lawsuit against Steve and petitioner;

that lawsuit was filed at some point after the beginning of the

income tax audit that led to the instant case. At some point
 - 6 -

during Andy’s lawsuit, petitioner changed its methodology for

reporting sales and at that time Steve began giving the fuel pump

computer tapes to Roberts. Before petitioner changed its method

for reporting sales, Roberts asked Steve for the fuel pump

computer tapes and was told by Steve that these tapes had been

destroyed.

Roberts represented petitioner in the audit of petitioner’s

fiscal 1990 income tax, hereinafter sometimes referred to as the

income tax audit. The income tax audit began around mid-1992.

During the income tax audit, Roberts gave petitioner’s

bookkeeping records to respondent and met with a revenue agent

two or three times. During the income tax audit, the revenue

agent gave to Roberts a form that asked, among other things, how

many gallons of diesel fuel petitioner sold each month. Roberts

gave the form to Steve. Steve responded that petitioner sold

200,000 gallons per month.

B. Monthly Inventory Reconciliation Sheets

Petitioner’s records include Monthly Inventory

Reconciliation sheets, hereinafter sometimes referred to as

MIR’s, which petitioner used to track diesel fuel inventory.

Petitioner’s records include a MIR for each month from July 1989

through June 1990, except for December 1989. Each MIR includes

columns for opening inventory, deliveries, closing inventory by

dipstick reading, metered sales, and accumulated metered sales.
 - 7 -

Each day, petitioner’s employees were supposed to measure by

dipstick the amount of diesel fuel on hand and record this number

on the month’s MIR. Steve relied on the MIR’s although he did

not supervise the actual recording of the readings. The

photocopy MIR’s submitted at trial are poor quality copies of the

original handwritten sheets. The combination of the handwriting

and poor copy quality make many of the entries on the MIR’s

ambiguous.

The monthly totals of metered sales from the MIR’s are shown

in table 1.

Table 1

Accumulated
Month Metered Sales (gallons)

July 1989 411,693
August 1989 404,322
September 1989 323,721
October 1989 393,609
November 1989 381,067
December 1989 No MIR provided
January 1990 456,197
February 1990 485,932
March 1990 526,892
April 1990 408,502
May 1990 443,863
June 1990 489,615
1
Total 4,725,413
1
The accumulated metered sales for the 11 months per the MIR’s
according to (1) the last entry on each month’s MIR is 4,722,681
gallons and (2) respondent is 4,726,984 gallons. The amounts in
this table are the Court’s addition of the daily entries in the
“metered sales” column.
 - 8 -

On February 1, 1998, Steve sent a letter to respondent

stating that petitioner’s diesel fuel purchases and sales for the

13-month period June 1989 through June 1990 totaled 5,543,367

gallons and that the average cost per gallon was $.75. On March

5, 1998, Steve sent a letter to respondent stating that

petitioner’s diesel fuel sales for the 13-month period June 1989

through June 1990 totaled 5,533,367 gallons. The March 5 letter

lists petitioner’s diesel fuel sales for each month. The diesel

fuel sales per the March 5 letter for each month in petitioner’s

fiscal 1990 are shown in table 2.

Table 2

Month Gallons

July 1989 371,346
August 1989 434,239
September 1989 346,989
October 1989 352,878
November 1989 330,060
December 1989 358,748
January 1990 555,954
February 1990 476,221
March 1990 511,870
April 1990 414,014
May 1990 443,492
June 1990 516,143

Total 5,111,954

A comparison of table 1--the MIR’s--with table 2, shows that

Steve was representing that the MIR’s were incorrect for each

month for which there is a MIR in the record of the instant case.

For petitioner’s fiscal 1990, excluding December 1989, the

MIR’s show 27,793 fewer gallons of diesel fuel sold than Steve’s

March 5 letter indicates were sold.
 - 9 -

C. Daily Sales Records

Each DSR covers 1 month of petitioner’s daily transactions.

Petitioner’s records include a DSR for each month from January

through June 1990. Each DSR includes columns for bank deposits,

diesel fuel (in gallons), diesel fuel sales, gasoline sales,

taxable retail sales, food retail sales, labor, and cash

purchases. Each DSR also includes an extension sheet with

columns, written in a different hand, for bank deposits,

receipts, and sales. The photocopy DSR’s submitted at trial are

poor quality copies of the original handwritten sheets. The

combination of the handwriting and poor copy quality make many of

the entries on the DSR’s ambiguous.

The monthly totals of diesel fuel sales in gallons and

dollars from the DSR’s, and the average retail price charged per

gallon of diesel fuel that we have calculated based on the DSR’s,

are shown in table 3.

Table 3

Month Gallons Total Sales Sales Price/Gallons

January 1990 463,371 $455,796.91 $0.984
February 1990 476,221 444,885.76 0.934
March 1990 511,870 467,379.53 0.913
April 1990 414,014 405,489.03 0.979
May 1990 443,492 414,215.13 0.934
June 1990 516,143 451,989.25 0.876
1
Total/Average 2,825,111 2,639,755.61 0.934
1
This is the average sales price per gallon determined by
dividing the total sales in the 6 months by the total gallons
sold in the 6 months.
 - 10 -

A comparison of tables 1, 2, and 3 shows that (1) Steve’s

March 5 letter matches the DSR’s for each of the 5 months

February through June 1990, and (2) the DSR for January 1990

shows 92,583 fewer gallons than Steve’s March 5 letter and 7,174

gallons more than the MIR for January 1990.

D. Purchase Logs

Petitioner’s records include handwritten logs of diesel fuel

purchases, hereinafter sometimes referred to as Purchase Logs.

The Purchase Logs were kept on a monthly basis and include

columns labeled “date”, “check date”, “check number”, “invoice

number”, “company name”, “diesel gal.”, “gas gal.”, and “amount”.

The Purchase Logs were maintained by petitioner’s employees under

Steve’s supervision. Petitioner’s records include a Purchase Log

for each month from July through November 1989. The Purchase

Logs for December 1989 through June 1990 may have been

confiscated by California authorities under a search warrant.

Petitioner did not explain what date was recorded in the

“date” column. The dates in the date and check date columns are

not chronological. Rather, the entries in the Purchase Logs are

organized sequentially by check number. Some of the entries do

not match the corresponding records. For instance, invoice 96087

is recorded in the Purchase Log as having been the purchase of

6,087 gallons of diesel fuel, while the corresponding check shows

the purchase of 7,559 gallons of diesel fuel.
 - 11 -

The photocopy Purchase Logs submitted at trial are poor

quality copies of the original handwritten sheets. The

combination of the handwriting and poor copy quality make the

Purchase Logs ambiguous in many places. The gallons of diesel

fuel purchased that we have calculated and the cost as recorded

in the Purchase Logs, and the average cost per gallon that we

have calculated are as shown in table 4.

Table 4

Month Gallons1 Cost2 Cost/Gallon

July 1989 371,346 $250,710.67 $0.675
August 1989 434,048 303,315.56 0.699
September 1989 346,989 263,080.24 0.758
October 1989 354,435 289,660.00 0.817
November 1989 333,561 276,748.80 0.830
December 1989 357,096 289,204.67 0.810
3
Total/Average 2,197,475 1,672,719.94 0.761

1
Petitioner’s total for the Purchase Logs is 2,194,260.
2
This includes Federal excise taxes.
3
This is the average cost per gallon determined by dividing
the total cost by the total gallons purchased.

E. Profit and Loss Statements

Bedevian prepared for petitioner monthly Profit and Loss

Statements, hereinafter sometimes referred to as PLS’s. Each PLS

lists petitioner’s operating expenses, income, cost of sales,

gross profit, and net profit or loss for the current month and

the year to date. Bedevian used the DSR’s to prepare the income

portions of the PLS’s.
 - 12 -

Table 5 shows diesel fuel sales net of diesel fuel excise

and sale taxes, as set forth on the PLS’s for January, February,

April, May, and June 1990--the only PLS’s introduced as evidence.

Table 5

Month Diesel Fuel Sales

January 1990 $327,035
February 1990 313,935
April 1990 290,546
May 1990 292,159
June 1990 311,840

Total 1,535,515

On petitioner’s fiscal 1990 tax return it reported gross

receipts, cost of goods sold, and gross profit in gross; i.e.,

not broken down according to the different activities carried on

at its truck stop. The amounts so reported match the “year to

date” amounts on the last PLS, which show the separate results

for each activity. Table 6 shows selected information from the

last PLS and shows the percentages for diesel fuel.

Table 6

Diesel Fuel As
Category Totals Diesel Fuel Percent of Total

(1) Income $4,152,428 $3,340,825 80.5
(Gross receipts)

(2) Cost of sales 3,463,255 2,959,767 85.5

Gross Profit 689,173 381,058 55.3
((1) minus (2))
 - 13 -

3. Claimed Business Expenses

A. Automobile Expenses

Petitioner had an American Express Corporate Card account,

in the name of “ATN S Khatchatourian” (sic). Credit cards on

this account were issued to Steve, Andy, Roubik Khachatourian

(another brother of Steve’s), Peter Soghomonia, and Carl

Ledbetter. American Express monthly summary statements issued

during 9 of the months of petitioner’s fiscal 1990 show charges

totaling about $15,220.

Petitioner owned a Mercedes 560SL automobile, hereinafter

referred to as the Mercedes. Steve used the Mercedes as his

personal car. Petitioner paid the expenses of the Mercedes.

On its fiscal 1990 tax return, petitioner claimed a $29,877

“car/truck” expenses deduction. In the notice of deficiency,

respondent disallowed this entire amount.

B. Rent Expenses

In 1987, petitioner, Steve, and Andy entered into a lease

agreement under which Steve and Andy leased to petitioner the

land on which petitioner’s truck stop was located. Under this 5-

year lease, petitioner was to pay $5,000 per month rent to Steve

and Andy.

On his 1990 income tax return, Steve reported receiving

$10,000 rent income from petitioner.
 - 14 -

On its fiscal 1990 tax return, petitioner claimed a $101,517

rent expenses deduction. In the notice of deficiency, respondent

disallowed $96,000 of this amount. At trial, respondent conceded

that petitioner is entitled to deduct rent expenses of $15,517.

All of the underpayment of tax for petitioner’s fiscal 1990

is attributable to petitioner’s negligence.

OPINION

I. Omitted Income

Petitioner argues that, although its records were

incomplete, it demonstrated through the documents provided and

through testimony that (1) petitioner sold 5,029,368 gallons of

diesel fuel during fiscal 1990 and (2) the retail price per

gallon of diesel fuel asserted by respondent is 30 cents higher

than the price actually charged by petitioner. In fact,

petitioner asserts, if appropriate adjustments were made to

respondent’s numbers, then they would show that petitioner

overstated income by “approximately $30,000.00” (opening brief)

or “23,571.00” (answering brief). Also, petitioner claims that

the reason its records were incomplete is that many of the

records were confiscated by the California Board of Equalization

and never returned to petitioner.

Respondent argues that (1) the testimony and documents

provided by petitioner are insufficient to establish that
 - 15 -

respondent was not justified in reconstructing petitioner’s gross

receipts using the Lundberg Study, described infra, (2) the

evidence and testimony provided by petitioner are inadequate to

establish the amount of petitioner’s gross income from the sale

of diesel fuel, and (3) respondent’s calculations (after

concessions noted supra note 2) are supported by the evidence.

We agree, in general, with respondent.

A. Preliminary

Both sides agree that, during petitioner’s fiscal 1990,

petitioner (1) sold diesel fuel and gasoline and (2) operated, at

its truck stop, a minimart and a coffee shop. Petitioner’s

fiscal 1990 tax return does not identify any income or deduction

items as being related to a specific one of the foregoing

activities. The parties have stipulated that the notice of

deficiency adjustments for sales and cost of goods relate “solely

to * * * diesel fuel.” They also have stipulated to a profit and

loss statement that breaks down gross receipts and cost of goods

sold among the foregoing activities. Under the circumstances, we

have interpreted petitioner’s tax return and respondent’s notice

of deficiency as dealing with the amounts shown as “sales diesel”

and “purch. diesel fuel” on the stipulated June 1990 PLS.

Respondent does not dispute the correctness of the gross receipts

and cost of goods sold of any nondiesel activity shown on the

stipulated PLS’s. See supra note 2.
 - 16 -

B. Discussion

1. Justification for Reconstruction

Respondent’s determinations as to matters of fact in the

notice of deficiency are presumed to be correct, and petitioner

has the burden of proving otherwise. See Rule 142(a);4 Welch v.

Helvering, 290 U.S. 111, 115 (1933); Anson v. Commissioner, 328

F.2d 703, 706 (10th Cir. 1964), affg. Bassett v. Commissioner,

T.C. Memo. 1963-10.

Gross income includes income derived from business. See

sec. 61(a)(2). Every person subject to income tax is required to

keep books and records that establish the amount of gross income

and deductions shown by that person on that person’s income tax

return. See sec. 6001;5 sec. 1.6001-1(a), Income Tax Regs.6 If

4
Unless indicated otherwise, all Rule references are to the
Tax Court Rules of Practice and Procedure.
5
Sec. 6001 provides, in pertinent part, as follows:

SEC. 6001. NOTICE OR REGULATIONS REQUIRING RECORDS,
STATEMENTS, AND SPECIAL RETURNS.

Every person liable for any tax imposed by this title
[title 26, the Internal Revenue Code of 1986], or for the
collection thereof, shall keep such records, render such
statements, make such returns, and comply with such rules
and regulations as the Secretary may from time to time
prescribe. * * *
6
SEC. 1.6001-1 Records.

(a) In general. Except as provided in paragraph (b) of
this section [relating to farmers and wage-earners], any
person subject to tax under subtitle A of the Code [relating
(continued...)
 - 17 -

the books and records are regularly kept in the course of the

taxpayer’s business, then they will not be disregarded absent a

showing that they are inadequate or erroneous. See Lark Sales

Co. v. Commissioner, 437 F.2d 1067, 1078 (7th Cir. 1970), affg.

in part and revg. in part Medd v. Commissioner, T.C. Memo. 1968-

244; Estate of Hill v. Commissioner, 59 T.C. 846, 857 (1973).

However, the Commissioner is not bound to accept a

taxpayer’s books and records at face value; the books and records

may be more consistent than truthful. See Holland v. United

States, 348 U.S. 121, 132 (1954). Even when the taxpayer keeps

books and records that support the tax return as filed, an

inquiry outside of the books and records may be necessary,

because the books and records may support the tax return as filed

yet omit taxable income. See Campbell v. Guetersloh, 287 F.2d

878, 880 (5th Cir. 1961).

When a taxpayer fails to keep adequate records, the

Commissioner is authorized to determine the existence and amount

of the taxpayer’s income by any method that clearly reflects

income. See sec. 446(b); Holland v. United States, supra;

Mallette Bros. Const. Co., Inc. v. United States, 695 F.2d 145,

6
(...continued)
to income taxes] * * * shall keep such permanent books of
account or records, including inventories, as are sufficient
to establish the amount of gross income, deductions,
credits, or other matters required to be shown by such
person in any return of such tax or information.
 - 18 -

148 (5th Cir. 1983); Webb v. Commissioner, 394 F.2d 366, 371-372

(5th Cir. 1968), affg. T.C. Memo. 1966-81. The reconstruction of

income need only be reasonable in light of all surrounding facts

and circumstances. See Palmer v. Commissioner, 116 F.3d 1309,

1312 (9th Cir. 1997); Giddio v. Commissioner, 54 T.C. 1530, 1533

(1970); Schroeder v. Commissioner, 40 T.C. 30, 33 (1963). The

Commissioner has latitude in determining which method of

reconstruction to apply when taxpayers fail to maintain adequate

records. See Petzoldt v. Commissioner, 92 T.C. 661, 693 (1989).

Once the Commissioner has reconstructed a taxpayer’s income, the

burden is on the taxpayer to demonstrate that the Commissioner’s

determination is excessive. See Mallette Bros. Const. Co., Inc.

v. United States, 695 F.2d at 148; Giddio v. Commissioner, 54

T.C. at 1534.

Our examination of the materials in the record convinces us

that petitioner’s books and records as to diesel fuel sales

contain sufficient inconsistencies with each other and with

petitioner’s tax return as to warrant respondent’s efforts to

reconstruct petitioner’s income from this source. (As to

petitioner’s income from gasoline sales, the mini-mart, and the

coffee shop, see supra A. Preliminary.)

Bedevian, who prepared petitioner’s fiscal 1990 tax return,

told Steve to keep petitioner’s fuel pump computer tapes in a

safe place. Steve did not give these tapes to Bedevian.
 - 19 -

Roberts, Bedevian’s successor as petitioner’s accountant, did not

receive these tapes until Steve gave them to Roberts after Andy

sued Steve and petitioner. Before then, when Roberts asked for

these tapes, Steve responded that these tapes had been destroyed.

Thus, petitioner’s fuel pump computer tapes were not relied on in

the preparation of petitioner’s fiscal 1990 tax return, Steve

kept these tapes from petitioner’s accountants, and the one bit

of evidence we have as to these tapes’ accuracy is Hart’s mid-

1988 comparison of one tape with that day’s DSR which showed that

that tape’s total diesel sales amount was about $200 higher than

the DSR’s amount. We conclude that the evidence of record as to

petitioner’s fuel pump computer tapes supports respondent’s

determination to reconstruct petitioner’s diesel fuel sales

income.

Steve’s early 1998 letters to respondent repudiated the

MIR’s in total, and the second letter repudiated each month’s

MIR. See supra text at tables 1 and 2. We conclude that the

evidence of record as to petitioner’s MIR’s support respondent’s

determination to reconstruct petitioner’s diesel fuel sales

income.

Steve testified that petitioner’s employees copied the fuel

pump computer tapes information--gallons and dollars--onto the

DSR’s, and that the DSR’s and fuel pump computer tapes were then

sent on to Bedevian. Bedevian testified that he did not receive
 - 20 -

the fuel pump computer tapes. Hart testified that Steve told him

that he destroyed the fuel pump computer tapes after the

information was copied onto the DSR’s; the one fuel pump computer

tape Hart examined was from the day immediately before the date

that Hart asked for the fuel pump computer tape. In this clash

of testimonies, we believe Bedevian and Hart. In any event, we

do not have the fuel pump computer tapes that could have been

used in auditing petitioner’s fiscal 1990 tax return. As we have

noted, the DSR’s that we have do not match the MIR’s that we

have, as to diesel fuel gallons sold. The DSR’s figures as to

receipts from diesel fuel sales imply prices significantly less

than the Lundberg Survey shows as retail diesel fuel prices in

that part of the country at that time of year.7 We conclude that

the evidence of record as to petitioner’s DSR’s supports

respondent’s determination to reconstruct petitioner’s diesel

fuel sales income.

Respondent’s determination that petitioner omitted gross

income from its diesel fuel retail activity is the consequence of

respondent’s determination that petitioner underreported both its

receipts from, and its cost of goods sold for, this activity.

Respondent takes the position that the receipts underreporting

far exceeds the cost underrporting--this excess is the measure of

7
Compare supra table 3 with infra table 7.
 - 21 -

petitioner’s omitted income. See supra note 2. The foregoing

books and records deal with the amount of petitioner’s receipts;

as indicated supra, we believe the flaws in those books and

records justify respondent in reconstructing petitioner’s income.

The Purchase Logs deal with petitioner’s costs. Although we have

noticed flaws in these books and records as well, neither party

challenges the overall accuracy or usefulness of this cost

information. However, the Purchase Logs in the record herein

cover less than half of petitioner’s fiscal 1990.

We proceed, then, to evaluate respondent’s reconstruction,

the centerpiece of which is the report and testimony of Trilby

Lundberg.

2. Reconstruction

Respondent reconstructed petitioner’s diesel fuel gross

income by making adjustments to gross receipts and cost of goods

sold. We consider the elements of these items in the following

order: (a) number of gallons sold, (b) sale price per gallon,

and (c) number and price of gallons bought.

(a) Number of Gallons Sold. We conclude that of the

different records of diesel fuel sales that petitioner

maintained, the MIR’s have the greatest appearance of correctness

as to the number of gallons sold. Respondent chose to use the

MIR’s. Petitioner has not persuaded us that there is a better

alternative.
 - 22 -

We direct that, in the Rule 155 computation, the number of

gallons of diesel fuel that petitioner sold each month during

petitioner’s fiscal 1990 shall be the number shown on table 1,

supra. These numbers are the same as those respondent used,

except in two respects. Firstly, as indicated supra

in note 1 to table 1, our addition of the daily metered amounts

leads to totals slightly less than respondent’s totals.

Secondly, we do not have an MIR for December 1989. Respondent

averaged the totals for the other 11 months to derive a December

amount. Because of seasonal trends in fuel sales, we conclude

that it is preferable to derive a December amount by averaging

the totals for the adjoining months (Nov. 1989 and Jan. 1990) as

shown in table 1, rather than averaging all 11 months.

On opening brief, petitioner contends as follows:

Petitioner contends that it only sold 5,029,368 gallons
of diesel fuel during the tax year ending June 30, 1990.
The Respondent estimated the number of gallons of diesel
fuel sold for the tax year ending June 30, 1990 by averaging
the actual gallons sold per month for seven months and
extending it out for a period of 12 months. Respondent’s
method of determining the claimed gallons sold again was
unreliable and inaccurate as appeared from the testimony of
Steve Khachatourian who testified as to the actual gallons
sold.

We reject petitioner’s contention for the following reasons.

Firstly, contrary to petitioner’s contention, respondent proposes

to use petitioner’s MIR’s for the 11 months for which those

records are available, and averaging those 11 months’ amounts to

provide an amount for the month for which we do not have an MIR--
 - 23 -

December 1989. This is what the record shows. See supra table

1. This is what respondent’s agent plainly testified to at

trial, when she painstakingly reviewed each month’s sales figures

as shown on the MIR’s. Petitioner’s contention as to

respondent’s position is contradicted by the record.8 Secondly,

petitioner’s contention that it sold “only * * * 5,029,368

gallons of diesel fuel during the tax year ending June 30, 1990”,

is contradicted by Steve’s March 5, 1998, letter to respondent

stating that petitioner sold 5,111,954 gallons of diesel fuel

during petitioner’s fiscal 1990. See supra table 2 and

associated text. Petitioner has not explained the roughly 82-

thousand-gallon discrepancy between Steve’s letter and its

contention on brief. Thirdly, petitioner has failed to direct

our attention to anything in the record supporting its position

on brief that it sold only 5,029,368 gallons. We have

unsuccessfully searched the record, giving special care to

Steve’s testimony, for evidence supporting petitioner’s

contention. We note that petitioner does not repeat this

contention in its answering brief.

In light of the record herein, including the contradictions

among petitioner’s books and records and the statements in

8
A stipulated exhibit suggests that the income
reconstruction in the notice of deficiency may have been prepared
on the basis that petitioner describes. However, respondent
abandoned that position. See supra note 2.
 - 24 -

Steve’s letter, we conclude that respondent’s reconstruction, as

we have slightly modified it, is the best that can be done to

determine how much diesel fuel petitioner sold during its

fiscal 1990.

(b) Sale Price Per Gallon. Steve testified that, each day,

petitioner’s employees copied from the fuel pump computer tapes

onto the DSR’s the totals of diesel fuel sales in gallons and in

dollar receipts. Steve testified that, each month, he sent to

Bedevian the DSR for that month, together with the fuel pump

computer tapes for that month. Bedevian testified that he told

Steve to keep the fuel pump computer tapes as a backup that would

be needed if petitioner were audited, and that Bedevian never

received any fuel pump computer tapes. Roberts testified that he

did not begin to receive fuel pump computer tapes until Andy

filed a lawsuit against petitioner and Steve some time after the

end of the year in issue. As we have noted, the DSR’s differed

substantially from the MIR’s as to the numbers of gallons sold.

See supra tables 1 and 3. In light of this conflict of evidence

and the absence of backup evidence for the amounts of receipts

listed in the DSR’s, we conclude that the record in the instant

case does not include any credible support for the diesel fuel

sales receipts amounts shown on petitioner’s PLS’s and folded

into petitioner’s fiscal 1990 tax return. See supra A.

Preliminary.
 - 25 -

In such circumstances, the Courts have found the use of

statistical information appropriate.9 See, e.g, Pollard v.

Commissioner, 786 F.2d 1063, 1066 (11th Cir. 1986)(approving the

Commissioner’s income determination based on a Bureau of Labor

Statistics report that indicated the cost of living in a

particular geographical area), affg. T.C. Memo. 1984-536; Edwards

v. Commissioner, 680 F.2d 1268, 1270-1271 (9th Cir.

1982)(approving the Commissioner’s use of the Consumer Price

Index to determine income for the years in issue based on income

reported on the taxpayer’s earlier year’s tax return), affg. an

unreported order of this Court; Giddio v. Commissioner, 54 T.C.

at 1532-1533 (approving the Commissioner’s income determination

based on a Bureau of Labor Statistics report that indicated the

cost of living in a particular geographic area); see also

Barragan v. Commissioner, T.C. Memo. 1993-92 (approving the

Commissioner’s reconstruction of the taxpayer’s gasoline station

gross receipts based on Lundberg Survey’s semimonthly listing of

9
Sec. 7491(b), relating to burden of proof with respect to
income reconstruction “solely through the use of statistical
information on unrelated taxpayers”, as enacted by sec. 3001 of
the Internal Revenue Service Restructuring and Reform Act of 1998
(1998 Act), Pub. L. 105-206, 112 Stat. 685, 726-727, does not
apply to the instant case for two reasons, as follows: (1)
Petitioner is a corporation and the provision applies only to
individual taxpayers, and (2) the examination in the instant case
began before July 22, 1998, the effective date of sec. 7491(b)
applicable to court proceedings in which there has been an
examination. See the 1998 Act, sec. 3001(c)(1), 112 Stat. at
727.
 - 26 -

average gasoline prices in a specified area of California), affd.

without published opinion 69 F.3d 543 (9th Cir. 1995).

Respondent presented the expert report and testimony of

Trilby Lundberg (hereinafter sometimes referred to as Lundberg),

of Lundberg Survey, Inc., and publisher of the Lundberg Letter.

Lundberg Survey, Inc., is an independent, market research company

specializing in the U.S. petroleum and related industries, in

business since the early 1950’s gathering and publishing fuel

price surveys, service station population studies, branded market

share reports, and other statistics. The Lundberg Letter is a

semimonthly single-subject periodical consisting mainly of

Lundberg Survey data and text descriptions of market

developments.

The results of Lundberg’s semimonthly survey of retail

diesel fuel sale prices in the Fresno/Clovis, California area for

the year in issue resulted in the average prices (cents per

gallon), including taxes, shown in table 7.

Table 7

Date Full-Service Self-Service

7/7/89 125.10 113.65
7/21/89 125.10 110.65
8/11/89 124.70 107.90
8/25/89 124.70 105.90
9/8/89 124.70 105.90
9/22/89 124.30 107.40
10/6/89 122.30 106.90
10/20/89 122.30 109.15
11/3/89 122.30 112.15
11/17/89 122.30 112.40
12/1/89 122.30 112.40
12/15/89 122.30 111.15
1/5/90 123.30 111.90
1/19/90 123.30 111.90
 - 27 -

(Continued)
Table 7
Date Full-Service Self-Service

2/9/90 123.30 110.65
2/23/90 123.30 110.90
3/9/90 123.30 111.65
3/23/90 123.90 110.15
4/6/90 123.90 110.65
4/20/90 123.90 111.65
5/4/90 123.90 112.40
5/18/90 123.90 112.40
6/8/90 123.90 112.65
6/22/90 123.90 112.65

Respondent averaged the Lundberg self-service semimonthly

amounts to determine an average sale price for each month.10 In

order to facilitate comparison with petitioner’s cost

information, which was net of Federal and California excise taxes

and California and county sales taxes, respondent’s agent

subtracted 29 cents per gallon, and arrived at the monthly net

sale prices shown in table 8.

Table 8

Adjusted
Month Lundberg Price Per Gallon

July 1989 $0.83
August 1989 0.78
September 1989 0.78
October 1989 0.79
November 1989 0.83
December 1989 0.83
January 1990 0.83
February 1990 0.82
March 1990 0.82
April 1990 0.82
May 1990 0.83
June 1990 0.84

10
Both respondent’s counsel and respondent’s agent who
testified as to how respondent calculated the amount of the
omitted income referred to the Lundberg amounts as “biweekly”.
It is evident from Lundberg’s report, supra table 7, and the
agent’s description that the Lundberg amounts were “semimonthly”.
 - 28 -

We approve of respondent’s use of the Lundberg report in

reconstructing petitioner’s diesel fuel gross receipts, with the

following two modifications: Firstly, the parties stipulated

that the combined California and county sales taxes rate was 6

percent during the period July 1 through November 30, 1989, and

was 6¼ percent during the period December 1, 1989, through June

30, 1990. Respondent’s determination to subtract 29 cents per

gallon to reflect the total excise and sales taxes is upheld for

the first 5 months of petitioner’s fiscal 1990. However, for the

remaining 7 months of petitioner’s fiscal 1990, when the 6¼

percent sales taxes total was in effect, the shrinking out of the

excise and sales taxes shall be accomplished by subtracting 30

cents per gallon. Secondly, respondent rounded the Lundberg

report numbers to the nearest whole cent per gallon. This seems

to have resulted in a slight upward bias that appears to

accumulate to several thousand dollars. We direct that the

calculations shall be accomplished by rounding the Lundberg

report numbers to the nearest tenth of a cent per gallon.

At trial, Steve testified that petitioner marked up the

diesel fuel by an average of three cents per gallon. However, it

is clear from the last PLS and petitioner’s fiscal 1990 tax

return that petitioner reported a markup of more than seven cents

per gallon. See supra table 6. Once again, Steve’s testimony

contradicts petitioner’s books and records.
 - 29 -

On opening brief, petitioner charges that “the Respondent

utilized the full service price average [from Lundberg’s report]

as opposed to the self-service price.” Petitioner states that

“From the unrebutted testimony of Steve Khachatourian, all sales

of diesel fuel from Petitioner’s place of business was by self-

service.” However, at trial respondent’s agent made it plain

that she used the self-service prices from Lundberg’s report, and

not the full service prices, to reconstruct petitioner’s diesel

fuel gross receipts. The numbers in Lundberg’s report and in the

reconstruction of petitioner’s income match respondent’s agent’s

testimony. Our understanding of what was done in respondent’s

reconstruction of petitioner’s income on this point matches

respondent’s agent’s testimony. Petitioner apparently has

completely misunderstood the record on this point, much as it

misunderstood the record regarding the reconstruction of the

number of gallons of diesel fuel that it sold, discussed supra.

On opening brief, petitioner contends as follows:

The testimony of Petitioner through Steve Khachatourian
demonstrated that the diesel sales price attributed to
Petitioner and utilized by Respondent in assessing the
deficiencies and penalties was inaccurate and unreliable and
were approximately 30 cents per gallon in excess of that
actually charged by Petitioner during the 1990 tax year.
Specific examples of sales in the month of June, as
remembered by Steve Khachatourian through actual sales
receipts produced at time of trial demonstrated that
Petitioner sold diesel fuel in the month of June at a price
of 90 cents per gallon which was 30 cents less per gallon
than the $1.20 being ascribed to Petitioner for the same
period of time. There is no valid reason stated by
Respondent as to why prices in the Fresno/Clovis area
 - 30 -

(Fresno County) were utilized for estimates of prices in Le
Grand, California (Merced County) and why the Respondent
utilized the full service price average as opposed to the
self-service price.

We reject petitioner’s contentions for the following

reasons: Firstly, we have carefully reexamined Steve’s testimony

and do not find any testimony by him about (a) a 30-cents-per-

gallon differential or (b) sales in June; as usual, petitioner

has not directed our attention to any specific part of the record

in connection with these contentions. Secondly, the DSR’s

described supra table 3 differ from the Lundberg study amounts

(supra table 7) by 13 to 25 cents per gallon, averaging a

difference of 18 cents per gallon, substantially less than

petitioner’s claim of a difference of 30 cents per gallon.

Thirdly, at trial, petitioner produced what purported to be

several charge card sales receipts and two fuel pump computer

tapes, which Steve first presented to respondent’s counsel that

morning. The parties had stipulated that petitioner did not have

any “records regarding fuel sales for the tax year ended June 30,

1990”, apart from the records already stipulated. The Court

sustained respondent’s motion to strike the documents and related

testimony because (1) the documents had not been timely provided

to respondent under the Court’s standing pretrial order, (2) the

documents were provided to respondent for the first time late in

the morning of the first day of the trial--too late for

respondent to check the documents’ accuracy, or even
 - 31 -

authenticity, or otherwise to explore the significance of what

was written on the documents, and (3) the documents were so

fragmentary (charge card sales receipts for certain days in

January, February, and March 1990, and partial fuel pump computer

tapes for 2 days in June 1990) that they may not have been

typical of the usual run of petitioner’s diesel fuel operations.

There is not any part of Steve’s testimony, whether or not

stricken under the Court’s ruling, that relates to the fuel pump

computer tapes or anything else occurring in June 1990.

Fourthly, Lundberg testified that her organization did not survey

prices in Merced County during petitioner’s fiscal 1990, but that

typically prices in more rural areas are higher than they are in

more concentrated metro areas. Based on Steve’s comments about

the areas where Lundberg’s surveys were conducted and where

petitioner conducted its diesel fuel sales business, we conclude

that, if Merced County diesel fuel prices were different from the

surveyed diesel fuel prices in the Fresno County area, then it is

more likely than not that the Merced County diesel fuel prices

would be higher than the Fresno County diesel fuel prices that

showed up in the Lundberg survey. Thus, it is more likely than

not that petitioner was helped rather than hurt by the use of a

Fresno County survey rather than a Merced County survey.

Fifthly, at trial respondent’s agent made it plain that she used

the self-service prices from Lundberg’s report, and not the full
 - 32 -

service prices, to reconstruct petitioner’s diesel fuel gross

receipts. The numbers in Lundberg’s report and in the

reconstruction of petitioner’s income match respondent’s agent’s

testimony. Our understanding of what was done in respondent’s

reconstruction of petitioner’s income on this point matches

respondent’s agent’s testimony. Petitioner apparently has

completely misunderstood the record on this point, much as it

misunderstood the record regarding the reconstruction of the

number of gallons of diesel fuel that it sold, discussed supra.

Thus, every part of petitioner’s expressed concern is either

flatly contradicted by the record or (contrary to petitioner’s

assertion) not addressed in the record; the record does not

support any part of petitioner’s expressed concern.

In light of the record herein we conclude that respondent’s

reconstruction, as we have slightly modified it, is the best that

can be done to determine the prices at which petitioner sold

diesel fuel during petitioner’s fiscal 1990.

(c) Cost of Goods Sold. Respondent has explained the

reconstruction of petitioner’s cost of goods sold with regard to

diesel fuel as the product of (1) the number of gallons

petitioner bought in petitioner’s fiscal 1990--an amount equal to

the number of gallons petitioner sold that year, and (2) the

average price per gallon that petitioner paid--an amount equal to

the average cost shown on petitioner’s incomplete purchase
 - 33 -

records. As noted supra note 2, respondent’s approach results in

petitioner’s cost of goods sold being $82,691 more than the

amount claimed on petitioner’s tax return.

On brief, petitioner claims at one point that only 5,029,368

gallons of diesel fuel were sold during petitioner’s fiscal 1990,

but elsewhere petitioner appears to accept respondent’s approach

to determining the number of gallons of diesel fuel it bought and

how much petitioner paid for that diesel fuel. We note that

petitioner does not ask us to hold that the cost of goods sold as

to diesel fuel is different from that claimed by respondent.

Petitioner does not claim to have bought more diesel fuel

than it sold (e.g., because of evaporation or theft). Petitioner

does not suggest any way in which we should or could arrive at

monthly cost averages to be applied to varying purchase amounts--

in contrast to what we have done with regard to gallons of diesel

fuel sales and sale prices. Neither side suggests that opening

and closing inventory (ordinarily an essential element in

calculating cost of goods sold) should be accounted for in the

instant case.

Under the circumstances, we uphold respondent’s approach as

to petitioner’s diesel fuel sales cost of goods sold.

(d) Conclusions.

Based on the foregoing, we hold for respondent on this

issue, except as to the slight modifications described supra.
 - 34 -

II. Business Expenses

A. Preliminary

On its fiscal 1990 tax return, petitioner claimed business

expense deductions of $689,658. In the notice of deficiency

respondent disallowed only the following business expense

deduction items: Rents--$96,000 out of $101,517 claimed, and

Car/Truck--all of the $29,877 claimed. Respondent did not

disturb the remaining $563,781 of claimed deductions. At trial,

respondent conceded an additional $10,000 of the claimed rent

expenses, leaving $86,000 in disputed rent expenses.

The parties stipulated monthly summaries of a credit card

account in Steve’s name, a copy of a “purported lease between

petitioner and its officers, Steve * * * and Andy * * * ”, and a

deposition Steve gave in a suit by Andy against petitioner and

Steve. Also, Steve provided some testimony on the subject.

At the end of the trial, the Court directed the parties to

file simultaneous briefs and took the trouble to explain to Steve

the purpose of posttrial briefs, in particular the purpose and

detailed format of requests for findings of fact and statements

as to where in the record is the support for each proposed

finding of fact. See Rule 151.11

11
Rule 151 provides, in pertinent part, as follows:

RULE 151. BRIEFS

(continued...)
 - 35 -

On opening brief petitioner did not propose any findings of

fact or present any argument regarding the business expense

deductions. Petitioner evidently concluded that the business

expense deduction disputes were not worth the necessary effort.

In violation of the Court’s specific directions and explanation,

neither of petitioner’s briefs includes proposed findings of

fact, or objections to respondent’s proposed findings of fact, as

to the business expense deduction disputes. However, on

answering brief petitioner did include a short contention that it

is entitled to a rent expense deduction “at a minimum * * * of

11
(...continued)
* * * * * * *

(e) Form and Content: All briefs shall conform to the
requirements of Rule 23 and shall contain the following in
the order indicated:

* * * * * * *

(3) Proposed findings of fact (in the opening
brief or briefs), based on the evidence, in the form of
numbered statements, each of which shall be complete
and shall consist of a concise statement of essential
fact and not a recital of testimony nor a discussion or
argument relating to the evidence or the law. In each
such numbered statement, there shall be inserted
references to the pages of the transcript or the
exhibits or other sources relied upon to support the
statement. In an answering or reply brief, the party
shall set forth any objections, together with the
reasons therefor, to any proposed findings of any other
party, showing the numbers of the statements to which
the objections are directed; in addition, the party may
set forth alternative proposed findings of fact.
[Emphasis added.]
 - 36 -

$60,000”, and an automobile expense deduction of $15,220,

conceding the remaining $14,657 of that issue.

We have the power to treat as a default petitioner’s failure

to comply with the Court’s rules and our specific oral directive.

See Stringer v. Commissioner, 84 T.C. 693, 704-708 (1985), affd.

without published opinion 789 F.2d 917 (4th Cir. 1986). However,

petitioner’s actions have not been as egregious as those of the

taxpayers and their counsel in Stringer. Also, we must recognize

petitioner’s pro se status; Steve was not a lawyer. Accordingly

we shall not default petitioner on these deductions.

However, petitioner’s complete omission of this matter from

its opening brief has had the effect of preventing respondent

from replying to petitioner’s contentions.

We conclude that, in the circumstances of the instant case,

we shall not dismiss petitioner on the issue of business expense

deductions--rather, we shall treat petitioner as having

conclusively admitted the correctness of respondent’s proposed

findings of fact bearing on the business expense deductions,

except to the extent that petitioner’s statements in its

answering brief are clearly inconsistent therewith, in which

event we have resolved the inconsistencies based on our

understanding of the record as a whole. See Estate of Jung v.

Commissioner, 101 T.C. 412, 413 n.2 (1993).
 - 37 -

B. Automobile Expenses

Respondent contends that, under section 162(a), petitioner

is not entitled to the disputed automobile business expense

deduction because petitioner (a) failed to substantiate that the

expenses (1) were incurred and (2) were ordinary and necessary

expenses of petitioner’s trade or business, and (b) failed to

meet the strict record-keeping requirements of section 274(d).

Petitioner maintains that the requirements of section 162(a)

are satisfied, at least to the extent of $15,220, the total of

the charges on the nine American Express monthly statements in

the record.

We agree with respondent.

A taxpayer seeking a deduction has the burden of overcoming

the presumption of correctness that attaches to the

Commissioner’s factual determinations in the notice of

deficiency. See Rule 142(a); New Colonial Ice Co. v. Helvering,

292 U.S. 435, 440 (1934); Welch v. Helvering, 290 U.S. 111, 115

(1933).

Section 162(a) allows a deduction for “all the ordinary and

necessary expenses paid or incurred during the taxable year in

carrying on any trade or business”. E.g., Lucas v. Commissioner,

79 T.C. 1, 6 (1982). Under section 6001 and section 1.6001-(a)

and (e), Income Tax Regs., a taxpayer must keep such permanent

books of account or records as are sufficient to establish the
 - 38 -

amount of gross income, deductions, credits, or other matters

required to be shown on the tax return. If the books and records

are not adequate to establish the amounts of deductions or

credits, but we are persuaded that the taxpayer is entitled to

deduct more than the Commissioner allowed, then we are required

to make some estimate of how much more should be allowed,

“bearing heavily if * * * [we choose] upon the taxpayer whose

inexactitude is of his own making.” Cohan v. Commissioner, 39

F.2d 540, 543-544 (2d Cir. 1930). However, sections 274(d) and

280F(d)(4) provide that no deduction shall be allowed with

respect to passenger automobiles or any other property used as a

means of transportation unless the taxpayer substantiates certain

matters by adequate records or by sufficient records

corroborating the taxpayer’s own statement. There is no leeway

for Cohan type approximations under section 274(d). See Sanford

v. Commissioner, 50 T.C. 823, 827-828 (1968), affd. 412 F.2d 201

(2d Cir. 1969).

We are satisfied that petitioner paid about $15,220 for 9

months’ worth of American Express credit card charges. We may

fairly assume that petitioner paid additional amounts for the

other 3 months’ charges. But we do not have information that

persuades us that it is more likely than not that any of these

paid amounts satisfy the requirements of section 162(a) as

automobile expenses, and, as far as we can tell, the record is
 - 39 -

devoid of any evidence that any of these expenses satisfy the

heightened substantiation requirements of section 274(d).

We hold for respondent on this issue.

C. Rent Expenses

Respondent contends that, under section 162(a), petitioner

is not entitled to the disputed rent business expenses deduction

because petitioner has failed to substantiate that the expenses

(1) were incurred and (2) were ordinary and necessary expenses of

petitioner’s trade or business.

Petitioner maintains that the requirements of section 162(a)

are satisfied.

We agree with respondent.

A taxpayer seeking a deduction has the burden of overcoming

the presumption of correctness that attaches to the

Commissioner’s factual determinations in the notice of

deficiency. See Rule 142(a); New Colonial Ice Co. v. Helvering,

supra; Welch v. Helvering, supra.

Section 162(a) allows a deduction for “all the ordinary and

necessary expenses paid or incurred during the taxable year in

carrying on any trade or business”. See, e.g., Lucas v.

Commissioner, supra. Under section 6001 and section 1.6001-1(a)

and (e), Income Tax Regs., a taxpayer must keep such permanent

books of account or records as are sufficient to establish the

amount of gross income, deductions, credit, or other matters
 - 40 -

required to be shown on the tax return. If the books and records

are not adequate to establish the amounts of deductions or

credits, but we are persuaded that petitioner is entitled to

deduct more than respondent allowed, then we are required to make

some estimate of how much more should be allowed, “bearing

heavily if * * * [we choose] upon the taxpayer whose inexactitude

is of his own making.” Cohan v. Commissioner, 39 F.2d at 543-

544.

Respondent allows or concedes $15,517 ($5,517 allowed in the

notice of deficiency; $10,000 conceded at trial) of the claimed

$101,517 rent expenses deduction. The only evidence suggesting a

greater deduction is the lease, which required petitioner to pay

a total of $60,000 to Steve and Andy during petitioner’s fiscal

1990. Weighing against petitioner are the following: (1)

Petitioner has not directed us to, and we have not found, any

evidence in the record that petitioner actually made the payments

that the lease required. Also, the lessors, Steve and Andy, were

petitioner’s sole shareholders, and transactions between related

parties are subject to close scrutiny. See Maxwell v.

Commissioner, 95 T.C. 107, 116 (1990), and cases cited therein.

(2) Steve stated that he and Andy received the same amount of

rent income from petitioner. Steve reported only $10,000 of rent

income from petitioner on his 1990 tax return. (3) Steve said

that the rent arrangement he and Andy had with petitioner was
 - 41 -

often used interchangeably with compensation. Respondent did not

disallow any part of petitioner’s compensation expense deduction.

(4) Neither Steve, who had signed, nor Bedevian, who had prepared

petitioner’s fiscal 1990 tax return, both of whom testified,

provided us with evidence as to what were the intended components

of petitioner’s claimed $101,517 rent expenses deduction.

Based on the foregoing we conclude that petitioner has

failed to persuade us that it is more likely than not that

petitioner’s deductible rent expenses exceed $15,517.

We hold for respondent on this issue.

III. Section 6662

Respondent determined that petitioner is liable for an

accuracy-related penalty for negligence in the amount of 20

percent of the entire underpayment. Respondent contends that

“petitioner failed to exercise due care or do what a reasonable

and ordinarily prudent person would do under the circumstances.”

Alternatively, respondent contends that petitioner is liable for

an accuracy-related penalty in the amount of 20 percent of the

entire underpayment for substantial understatement of tax.

Petitioner maintains that it has no deficiency and therefore

is not liable for an accuracy-related penalty under section 6662.

We agree with respondent.
 - 42 -

Section 666212 imposes an accuracy-related penalty if any

part of an underpayment of tax is due to negligence or

intentional disregard of the rules. See subsecs. (a) and (b)(1)

of sec. 6662. Negligence is lack of due care or failure to do

what a reasonable and ordinarily prudent person would do under

the circumstances. See sec. 6662(c); Neely v. Commissioner, 85

T.C. 934, 947 (1985). Negligence also includes any failure by

the taxpayer to keep adequate books and records or to

substantiate items properly. See sec. 1.6662-3(b)(1), Income Tax

Regs.

12
Sec. 6662 provides, in pertinent part, as follows:

SEC. 6662. IMPOSITION OF ACCURACY-RELATED PENALTY.

(a) Imposition of Penalty.--If this section applies to
any portion of an underpayment of tax required to be shown
on a return, there shall be added to the tax an amount equal
to 20 percent of the portion of the underpayment to which
this section applies.

(b) Portion of Underpayment to Which Section Applies.--
This section shall apply to the portion of any underpayment
which is attributable to 1 or more of the following:

(1) Negligence or disregard of rules or
regulations.

* * * * * * *

(c) Negligence.--For purposes of this section, the term
“negligence” includes any failure to make a reasonable
attempt to comply with the provisions of this title [title
26, the Internal Revenue Code], and the term “disregard”
includes any careless, reckless, or intentional disregard.
 - 43 -

Section 6001 and section 1.6001-1(a) and (e), Income Tax

Regs., require taxpayers to keep such permanent books of account

or records as are sufficient to establish the amount of gross

income, deductions, credits or other matters required to be shown

on their tax returns. The books and records that petitioner

maintained for its fiscal 1990 were so inconsistent with each

other as to be inadequate to establish petitioner’s diesel fuel

gross receipts and cost of goods sold, which are required to be

reported on petitioner’s income tax return. There is no evidence

in the record that petitioner kept any meaningful books and

records as to automobile expenses and rent expenses.

Petitioner’s failure to keep adequate records under these

circumstances constitutes negligence. See Stovall v.

Commissioner, 762 F.2d 891, 895 (11th Cir. 1985), affg. T.C.

Memo. 1983-450; Zivnuska v. Commissioner, 33 T.C. 226, 239-241

(1959). This negligence resulted in the entire deficiency for

petitioner’s fiscal 1990. In the instant case, petitioner’s

underpayment, for purposes of section 6662, is the same as

petitioner’s deficiency. Accordingly, we conclude and we have

found that petitioner has an underpayment for its fiscal 1990 and

that all of this underpayment is due to negligence.

We hold for respondent on this issue.13

13
Because of our determination as to the negligence, etc.,
penalty, it is not necessary for us to rule on respondent’s
(continued...)
 - 44 -

To take account of the foregoing, and respondent’s

concessions, see supra note 2.

Decision will be entered

under Rule 155.

13
(...continued)
determination in the notice of deficiency as to substantial
understatement of income tax. See sec. 1.6662-2(c), Income Tax
Regs.