T.C. Summary Opinion 2001-111
UNITED STATES TAX COURT
LARRY D. & MARIE A. LAND, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 3034-00S. Filed July 26, 2001.
Larry D. Land, pro se.
Blaine C. Holiday, for respondent.
PAJAK, Special Trial Judge: This case was heard pursuant to
the provisions of section 7463 of the Internal Revenue Code in
effect at the time the petition was filed. The decision to be
entered is not reviewable by any other court, and this opinion
should not be cited as authority. Unless otherwise indicated,
subsequent 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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Respondent determined a deficiency of $5,636 in petitioners'
1995 Federal income tax and a section 6662(a) penalty of
$1,127.20. At trial, petitioners conceded that they are not
entitled to deductions of $3,000 for contract labor and $1,156
for utilities expenses, which they claimed on their Schedule C.
Respondent conceded the section 6662(a) penalty. This Court must
decide: (1) Whether petitioners are entitled to a claimed
Schedule C deduction of $3,276 for vehicle expense; and (2)
whether petitioners are entitled to an $11,561 deduction for
expenses claimed on their Schedule F. The earned income credit
under section 32 will automatically be adjusted for any changes.
Some of the facts in this case have been stipulated and are
so found. Petitioners resided in St. Paul, Minnesota, at the
time they filed their petition.
Larry Land (petitioner) filed a Schedule C for a business
named New Tech Ideas (New Tech) which was in the business of "NEW
PRODUCTS". Petitioner is the proprietor of New Tech.
Apparently, petitioner has various products he has invented, such
as a "wrist saver" and a "dice randomizer". He claimed he had 17
games copyrighted. Petitioner claimed he had "a lot of
copyrights and a lot of patents out there". At trial he stated,
"Hopefully, one day I'll be able to market them." As part of his
"business", petitioner claimed that he drove around to various
stores to window shop, where he would look at the merchandise in
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order to find new products to make. On the New Tech Schedule C,
petitioners reported no income and no inventory. Petitioner
explained this by stating: "Most all of this stuff at that point
is give away stuff you give to people and give away hoping that
they will say, ‘Hey, we like that idea and we're going to do it
with you.’" During 1995, petitioner was also a partner in
Nashville North, LLC, a partnership, the purpose of which was to
promote Greg Shires, a country and western singer, and produce
CDs.
On the New Tech Schedule C, petitioners deducted $4,451 of
their home mortgage interest as rent and $697 of property taxes
as taxes. Petitioners did not elect to itemize their deductions.
Petitioners paid $4,451 in mortgage interest expense and $1,394
in taxes. Respondent disallowed the $4,451 of rent expense and
the $697 of taxes claimed on the Schedule C. Instead, respondent
determined that petitioners are entitled to a $2,922 deduction
for business use of their home. Petitioners agreed with the
determination that they were limited to that deduction for the
business use of their home. We sustain respondent's
determinations that disallowed the rent and tax deductions
claimed by petitioners on the New Tech Schedule C and allowed
petitioners a $2,922 deduction for the business use of their
home.
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Petitioner claimed $16,000 of deductions for prototype
manufacturing expense on New Tech's Schedule C. The money was
for the production of country and western CDs which petitioner
planned to give away. Petitioner thought that if he gave away
the CDs, people would invest in that endeavor. Respondent
contends that this $16,000 prototype expense was an expense of
the Nashville North, LLC, partnership, because the partnership
was the entity promoting Greg Shires, the singer on the CDs.
Petitioner agreed with this characterization at trial.
Accordingly, the expense belonged to the partnership. We sustain
respondent's determination as to this issue.
Respondent disallowed $3,276 of vehicle expense deducted on
petitioners' New Tech Schedule C. Deductions are strictly a
matter of legislative grace. INDOPCO, Inc. v. Commissioner, 503
U.S. 79, 84 (1992); New Colonial Ice Co. v. Helvering, 292 U.S.
435, 440 (1934). Taxpayers must substantiate claimed deductions.
Hradesky v. Commissioner, 65 T.C. 87, 89 (1975), affd. per curiam
540 F.2d 821 (5th Cir. 1976). Moreover, taxpayers must keep
sufficient records to establish the amounts of the deductions.
Meneguzzo v. Commissioner, 43 T.C. 824, 831 (1965); sec. 1.6001-
1(a), Income Tax Regs.
Section 274(d) imposes stringent substantiation requirements
for the deduction of travel expenses and automobile expenses.
Taxpayers must substantiate by adequate records certain items in
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order to claim deductions, such as the amount and place of each
separate expenditure, the property's business and total usage,
the date of the expenditure or use, and the business purpose for
an expenditure or use. Sec. 274(d); sec. 1.274-5T(b), Temporary
Income Tax Regs., 50 Fed. Reg. 46014 (Nov. 6, 1985). To
substantiate a deduction by means of adequate records, a taxpayer
must maintain an account book, diary, log, statement of expense,
trip sheets, and/or other documentary evidence, which, in
combination, are sufficient to establish each element of
expenditure or use. Sec. 1.274-5T(c)(2)(i), Temporary Income Tax
Regs., 50 Fed. Reg. 46017 (Nov. 6, 1985).
Petitioner provided a calendar with circled numbers that
allegedly represent the total number of miles driven each day for
business purposes. Petitioner also had a hand-written sheet with
the total business and nonbusiness miles traveled during the year
in his car and truck. There was no mention in any document of
where petitioner traveled, who he visited, or the business
purpose of each trip. Many notations appear to be personal in
nature. Even assuming petitioner had a trade or business, these
records are not adequate to satisfy the requirements of section
274. We sustain respondent's determination as to this issue.
Petitioners reported a $12,000 annual installment payment
from the sale of their home and farm as income on their Schedule
F, Profit or Loss From Farming, under "Sales of livestock,
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produce, grains, and other products you raised". Respondent
determined that the $12,000 installment payment should not have
been reported on Schedule F, but it should have been reported on
Schedule D as capital gain income of $6,619. Petitioner appeared
to agree to this adjustment. We sustain respondent’s
determination.
Respondent also disallowed $11,561 of the deductions on
petitioners' Schedule F. The deductions consist of $10,600 of
legal fees, $100 of accounting fees, $3 for office expense, $434
of telephone expense, $224 of miscellaneous expense, and $200 of
other interest expense. Respondent contends that the expenses
are not farm expenses and that the majority of the expenses are
personal expenses. Aside from the legal fees, petitioners did
not substantiate the remaining $961 of claimed expenses.
Petitioner has been engaged in a law suit against the United
States for damage done to his cattle and family when the U.S.
Army allegedly disposed of nerve agents into the water supply of
the farm.
Respondent concedes that petitioners paid $10,600 of legal
expenses in 1995 in connection with the lawsuits. Respondent
contends that the lawsuits were principally for personal injuries
suffered by petitioner and his family, and that the legal fees
would not be deductible because any recovery from the lawsuits
would be nontaxable under section 104.
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Litigation expenses may be deductible under either section
162 or section 212. Guill v. Commissioner, 112 T.C. 325, 328
(1999); Noons v. Commissioner, T.C. Memo. 2000-106. Section
162(a) allows a deduction for all ordinary and necessary expenses
paid or incurred during the taxable year in carrying on any trade
or business. Under section 212, a taxpayer may deduct all the
ordinary and necessary expenses paid or incurred during the
taxable year for the production or collection of income, if such
income will be taxable when received. Andrews v. Commissioner,
T.C. Memo. 1992-668; Orr v. Commissioner, T.C. Memo. 1992-566;
sec. 1.212-1(a), Income Tax Regs. Section 265(a)(1) provides
that no deduction is allowable for expenses allocable to income
which is wholly exempt from income tax.
In the lawsuit, petitioners "claim that they suffered
personal injuries and property damage". Land v. United States,
35 Fed. Cl. 345, 346 (1996), affd. 37 Fed. Cl. 231 (1997). Under
section 104(a)(2), gross income does not include "the amount of
any damages received (whether by suit or agreement * * *) on
account of personal injuries or sickness". Any damages that
petitioners potentially could have received on account of their
personal injuries would not be taxable under section 104.
Therefore, the expenses associated with the personal injury
portion of their suit are not deductible. Sec. 265.
Petitioners provided no allocation of the fees they paid.
Nevertheless, we recognize that some part of the legal fees was
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business expenses. Where the Court is satisfied that the
taxpayer is entitled to some deduction but where the records are
inadequate to establish the amount of the deduction, the Court
may make an approximation of the amount of the deduction. Cohan
v. Commissioner, 39 F.2d 540 (2d Cir. 1930). In such cases we
are cautioned to bear heavily against the taxpayer “whose
inexactitude is of his own making.” Cohan v. Commissioner, supra
at 544. We find that $2,000 of the legal fees are deductible
under section 162.
To the extent that we have not addressed any of the parties'
arguments, we have considered them and conclude they are without
merit.
Reviewed and adopted as the report of the Small Tax Case
Division.
Decision will be entered
under Rule 155.