T.C. Memo. 2001-233
UNITED STATES TAX COURT
JAMES TINNELL, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 20318-97. Filed September 6, 2001.
W. Leslie Sully, Jr., for petitioner.
Paul L. Dixon, for respondent.
MEMORANDUM OPINION
MARVEL, Judge: This case is before the Court on
petitioner’s motion for award of litigation costs filed pursuant
to section 7430 and Rule 231 on June 5, 2001.1 Petitioner seeks
to recover litigation costs of $187,958.22 incurred in contesting
1
Unless otherwise indicated, all section references are to
the Internal Revenue Code for the years in issue, and all Rule
references are to the Tax Court Rules of Practice and Procedure.
- 2 -
respondent’s deficiency determination for the taxable years 1991
through 1994.
The issues for decision are whether petitioner qualifies as
a “prevailing party” for purposes of section 7430 and, if so,
whether the litigation costs petitioner seeks are adequately
documented and are reasonable, and whether petitioner has
unreasonably protracted the Court proceedings. Neither
petitioner nor respondent requested an evidentiary hearing, and
we conclude that such a hearing is not necessary for the proper
disposition of petitioner’s motion. See Rule 232(a)(2).
Background
The following facts are based upon the entire record,
including the affidavits and exhibits submitted by the parties
with respect to petitioner’s motion for costs, the parties’
pleadings and stipulations of settled issues, the stipulations of
fact, and related documents.
Petitioner, a businessman and licensed physician, resided in
Las Vegas, Nevada, when the petition in this case was filed on
October 9, 1997.
During the relevant periods, petitioner conducted a mining
activity known as Jetco Enterprises, the financial results of
which he reported on Schedules C, Profit or Loss From Business,
of his respective tax returns. For each of the years at issue,
- 3 -
petitioner reported a substantial net loss from his mining
activity.
Following an examination of petitioner’s tax returns for the
years at issue, respondent issued notices of deficiency in which
respondent proposed noncomputational adjustments2 to petitioner’s
tax returns as follows:
(a) Respondent disallowed all of petitioner’s mining expense
deductions for each of the years 1991, 1992, 1993, and 1994;
(b) respondent disallowed part of petitioner’s alimony
deductions for 1991 and 1992;
(c) respondent determined that petitioner received a capital
gain of $23,380 from the disposition of stock of Zila,
Pharmaceutical, Inc. (Zila), for 1992;
(d) respondent determined that petitioner had unreported
income of $667,856 from the sale of Zila stock options and the
disallowance of a net operating loss for 1993;
(e) respondent determined that petitioner had additional
royalty income of $3,726 from Zila for 1992; and
(f) respondent determined that petitioner was liable for
additions to tax and penalties under sections 6651(a)(1), 6654,
and 6662(a) for each of the years at issue.
Respondent disallowed petitioner’s mining expense deductions
on the grounds that petitioner had failed to show that his mining
2
Respondent also proposed several computational adjustments.
- 4 -
activity was “an active trade or business” or that it “has been
operated in a businesslike manner”. Both parties treated this
language as raising an issue under section 183(a), which provides
that “In the case of an activity engaged in by an individual or
an S corporation, if such activity is not engaged in for profit,
no deduction attributable to such activity shall be allowed” (the
section 183 issue). Alternatively, respondent determined that
“If the Schedule C activity is determined to be a legitimate
business,” the expenses were not ordinary and necessary business
expenses under section 162 (the section 162 issue).
On October 9, 1997, petitioner filed a petition to
redetermine the deficiencies, in which he alleged that each of
the proposed adjustments was erroneous. In respondent’s answer,
filed on November 24, 1997, respondent denied petitioner’s
allegations of error and also denied some of petitioner’s factual
allegations for lack of sufficient information.
The parties resolved most of the issues prior to trial,3
leaving just two issues to be tried: (1) Whether petitioner’s
3
Prior to trial, the parties entered into two stipulations
of settled issues. In the first such stipulation, petitioner
conceded three of the previously disputed adjustments. In the
second such stipulation, petitioner conceded the adjustment with
respect to the exercise of stock options in Zila, Inc., and the
parties agreed on the disposition of adjustments relating to NOL
deductions and carrybacks for 1991 and 1993. In the stipulation
of facts filed just prior to trial, the parties resolved the sec.
162 issue with respect to petitioner’s claimed mining expense
deductions.
- 5 -
mining activity for 1991, 1992, 1993, and 1994 constituted an
activity engaged in for profit within the meaning of section 183,
and (2) whether petitioner was liable for the accuracy-related
penalty under section 6662(a) for each of the years at issue.
Following a trial on the merits, we held in Tinnell v.
Commissioner, T.C. Memo. 2001-106 (Tinnell I), that petitioner’s
mining activity was an activity engaged in for profit within the
meaning of section 183 and that petitioner was liable for the
accuracy-related penalty with respect to the stipulated and
computational issues and the adjustment with respect to
petitioner’s exercise of his Zila stock options. We based our
holding with respect to section 183 on a review of the relevant
facts and circumstances and an analysis of nine factors,
enumerated in section 1.183-2(b), Income Tax Regs. This Court
and others, including the Court of Appeals for the Ninth Circuit
to which an appeal in this case would lie, typically apply these
factors to evaluate whether a taxpayer conducted his activity
with the intention of making a profit. See, e.g., Golanty v.
Commissioner, 72 T.C. 411, 426 (1979), affd. without published
opinion 647 F.2d 170 (9th Cir. 1981).
After we issued our opinion in Tinnell I, petitioner filed a
motion for award of litigation costs in which he alleges that he
satisfies all of the requirements of section 7430 and that he is
entitled to litigation costs of $187,958.22.
- 6 -
In his response to petitioner’s motion, respondent agrees
that (1) petitioner has substantially prevailed with respect to
the amount in controversy under section 7430(c)(4)(A)(i), (2)
petitioner meets the net worth requirements under section
7430(c)(4)(A)(ii), and (3) petitioner exhausted administrative
remedies available to him as required by section 7430(b)(1).
Respondent contends, however, that petitioner is not a prevailing
party within the meaning of section 7430(c)(4)(A) because the
position taken by respondent in this case was substantially
justified within the meaning of section 7430(c)(4)(B).
Alternatively, respondent contends that petitioner is not
entitled to the litigation costs claimed because petitioner
unreasonably protracted this litigation, the litigation costs
claimed are excessive, and the litigation costs claimed are not
adequately documented.
Discussion
In general, section 74304 provides for an award of
reasonable litigation costs to a taxpayer who: (1) Is the
prevailing party in a court proceeding brought against the United
States involving the determination of any tax, interest, or
4
Sec. 7430, as most recently amended by Congress in the IRS
Restructuring and Reform Act of 1998, Pub. L. 105-206, sec. 3101,
112 Stat. 727, applies to that portion of the claimed costs
incurred after Jan. 18, 1999. Sec. 7430, as amended by the
Taxpayer Relief Act of 1997, Pub. L. 105-34, secs. 1285, 1453,
111 Stat. 1038, 1055, applies to that portion of the claimed
costs incurred on or before Jan. 18, 1999.
- 7 -
penalty pursuant to the Internal Revenue Code; (2) has exhausted
his administrative remedies within the IRS; and (3) did not
unreasonably delay or protract the court proceedings. Respondent
concedes that petitioner exhausted his administrative remedies
but maintains that petitioner is not a prevailing party and that
he unreasonably delayed or protracted these proceedings.
To be a prevailing party, a taxpayer must satisfy the
applicable net worth requirements set forth in section
7430(c)(4)(A)(ii) and must substantially prevail with respect to
either the amount in controversy or the most significant issue or
set of issues presented. Sec. 7430(c)(4)(A). Respondent
concedes that petitioner satisfies the applicable net worth
requirements and that petitioner has substantially prevailed but
argues that respondent’s litigating position was substantially
justified.
Section 7430(c)(4)(B)(i) provides that a party shall not be
treated as a prevailing party if the Commissioner establishes
that his position was substantially justified. Whether the
Commissioner’s position was substantially justified is to be
resolved by applying a reasonableness standard. Pierce v.
Underwood, 487 U.S. 552, 564 (1988); Sher v. Commissioner, 89
T.C. 79, 84 (1987), affd. 861 F.2d 131 (5th Cir. 1988). The
litigating position of the Commissioner is substantially
justified if the position had a reasonable basis in both fact and
- 8 -
law. Norgaard v. Commissioner, 939 F.2d 874, 881 (9th cir.
1991), affg. in part and revg. in part T.C. Memo. 1989-390;
Maggie Mgmt. Co. v. Commissioner, 108 T.C. 440, 443 (1997).
Although the Commissioner’s litigating position may have been
incorrect in hindsight,5 it is substantially justified “if a
reasonable person could think it correct”. Pierce v. Underwood,
supra at 566 n.2. “Thus, whether respondent acted reasonably in
the instant case ultimately turns upon those available facts
which formed the basis for the position taken in the notice of
deficiency and during the litigation, as well as upon any legal
precedents related to the case.” Maggie Mgmt. Co. v.
Commissioner, supra at 443.
When a taxpayer seeks an award of litigation costs under
section 7430, we look at the Commissioner’s answer to ascertain
his initial litigating position, and we must decide whether the
Commissioner’s position was reasonable by examining the facts
reasonably available to the Commissioner at the time he asserted
his position in his answer. Maggie Mgmt. Co. v. Commissioner,
supra at 443; DeVenney v. Commissioner, 85 T.C. 927, 930 (1985).
In Tinnell I, respondent’s litigating position with respect to
5
The fact that the Commissioner eventually loses a case does
not by itself establish that the Commissioner’s position was
unreasonable, but the litigating result is a factor that may be
considered. See Anthony v. United States, 987 F.2d 670, 674
(10th Cir. 1993); Estate of Perry v. Commissioner, 931 F.2d 1044,
1046 (5th Cir. 1991); Sokol v. Commissioner, 92 T.C. 760, 767
(1989).
- 9 -
petitioner’s mining activity expenses as set forth in his answer
was the same position asserted in the notices of deficiency;
i.e., the expenses must be disallowed because of section 183 or,
alternatively, because petitioner failed to establish they were
deductible under section 162.
Petitioner’s motion focuses on respondent’s litigating
position under section 183 with respect to respondent’s
disallowance of petitioner’s mining expense deductions.6 In his
response to petitioner’s motion, respondent asserts that he had a
reasonable basis in fact and law to disallow the deductions under
section 183. Although respondent also alleges that petitioner
fails to satisfy certain requirements of section 7430, we shall
confine our analysis to the section 183 issue because it disposes
of petitioner’s entire claim, making it unnecessary to address
other issues raised by respondent.
In Tinnell I, respondent determined that petitioner had not
engaged in his mining activity with the profit objective required
by section 183. Whether the requisite profit objective exists is
a question of fact that must be determined after considering all
the relevant facts and circumstances. Golanty v. Commissioner,
72 T.C. at 426.
6
The sec. 162 issue was resolved by the parties prior to
trial.
- 10 -
Section 1.183-2(b), Income Tax Regs., sets forth a
nonexhaustive list of factors that courts often consider in
deciding whether a profit objective exists. No single factor and
not even a majority of the factors is controlling. Id. Rather,
the factors are evaluated in order to arrive at an informed
conclusion based on all the evidence regarding whether the
requisite profit objective existed. Golanty v. Commissioner,
supra.
We considered the factors set forth in section 1.183-2(b),
Income Tax Regs., and concluded that some factors favored
respondent and some factors favored petitioner. One of the
factors that favored respondent was petitioner’s history of
income or loss. Petitioner had engaged in his mining activity
since at least 1980 and had claimed substantial net operating
losses with respect to his mining activity in every year from
1989 through and including the years at issue. A record of
substantial losses over many years is an important factor bearing
on a taxpayer’s true intent. Golanty v. Commissioner, supra at
426. We also found that petitioner failed to prove that he
maintained accurate and businesslike records, a fact that is
relevant in determining whether the manner in which petitioner
conducted his activity is consistent with an intent to make a
profit.
- 11 -
Although we ultimately held in favor of petitioner on the
section 183 issue, our conclusion regarding petitioner’s profit
objective was not easy. Respondent presented facts in support of
his position that petitioner’s primary objective in conducting
his mining activity was not to make a profit, and respondent’s
arguments with respect to this highly fact-intensive issue were
reasonable and not frivolous. Although we did not agree with
respondent’s arguments in the final analysis, respondent has
persuaded us that his position had a reasonable basis in fact and
law. We hold, therefore, that respondent’s litigating position
regarding the section 183 issue was substantially justified and
that petitioner is not entitled to an award of litigation costs
under section 7430.
To reflect the foregoing,
An appropriate order and
decision will be entered under
Rule 155.