T.C. Memo. 2002-21
UNITED STATES TAX COURT
GARRY D. ACUNCIUS AND DANALENE L. ACUNCIUS,
Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 3752-00. Filed January 22, 2002.
Lawrence R. Jones, Jr., and Henry J. Lischer, Jr., for
petitioners.1
James F. Prothro, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
VASQUEZ, Judge: Respondent determined a $9,290 deficiency
and a $1,858 accuracy-related penalty pursuant to section 6662(a)
1
Petitioners were pro se during the trial and for the
opening brief.
- 2 -
with respect to petitioners’ Federal income tax for 1997.2
The issues for decision are: (1) Whether petitioners had
income from discharge of indebtedness of $32,000 in 1997;3 and
(2) whether petitioners are liable for an accuracy-related
penalty pursuant to section 6662(a) and (d)(1).
FINDINGS OF FACT
Some of the facts have been stipulated and are so found.
The stipulation of facts and the attached exhibits are
incorporated herein by this reference. At the time they filed
their petition, petitioners resided in Cresson, Texas.
On October 22, 1992, petitioners signed a promissory note
with BankTEXAS, N.A. (BankTEXAS), for a loan in the amount of
$32,000. With regard to this loan, on March 26, 1992,
petitioners had signed a commercial security agreement with
BankTEXAS. This agreement gave BankTEXAS a security interest in
the listed collateral, which included boats and horses.4
Petitioners took out the loan in order to start a business,
Southwest Concepts, which consisted of an art gallery and a horse
training facility. In 1992, because of problems with the
2
Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the year in issue.
3
Respondent conceded on brief the portion of the
adjustment attributable to the canceled commercial loan interest
in the amount of $14,395, pursuant to sec. 108(e)(2).
4
In 1993, petitioners sold the boats in violation of the
security agreement.
- 3 -
facility, a bank officer advised petitioners to move.
Petitioners moved and closed the business in 1992. As a result,
petitioners lost their investment in the venture.
When the business closed, petitioners returned the items
that artists had brought to the gallery on consignment and sold
other business assets at wholesale prices to pay off expenses.
In addition, petitioners sold their livestock at cost. Mrs.
Acuncius took a job as office help in a furniture company at a
lower income than her income from Southwest Concepts, and Mr.
Acuncius was unable to find steady work.
As a result, petitioners were unable to make payments on
their house. Their house was foreclosed on in 1993 or 1994.
After the house was foreclosed on, petitioners moved in with
their daughter, then to an apartment in Granbury, Texas, and then
to a ranch in Oklahoma, where they worked as caretakers. By
1997, petitioners were renting a modular home near Cresson,
Texas. Petitioners did not have their mail forwarded each time
they moved.
On April 15, 1993, BankTEXAS sent petitioners a notice that
the note of $32,000 would be due on April 20, 1993. Petitioners
did not receive this notice because they were no longer residing
at the address on the notice. BankTEXAS continued to mail
notices to petitioners at its address of record--the address on
the loan application.
- 4 -
Prior to 1997, BankTEXAS made efforts to collect the loan
from petitioners by renewing the note several times, making the
repayment structure easier, collecting interest only, and
unsuccessfully attempting to collect the collateral. On April
20, 1997, BankTEXAS deemed the loan to be uncollectible and
discharged the loan in the amount of $32,000 and $14,395 in
accrued interest. Thereafter, BankTEXAS reported the debt
forgiven to the Internal Revenue Service on a Form 1099-C for
1997.
During 1997, Mrs. Acuncius was an art teacher in a public
school and Mr. Acuncius was a horse trainer. In addition, Mrs.
Acuncius pursued a Master’s degree in education, and Mr. Acuncius
pursued a Master’s degree in agricultural development in the hope
of increasing their earning potential and obtaining better jobs.
In 1997, petitioners owned the following assets:
Asset Value
Livestock Less than $5,000
1979 Jeep 500
1986 Ford truck 500
Household goods 1,000 to 1,500
Jewelry Less than 1,000
In 1997, petitioners owed the following liabilities:
Liability Amount
BankTEXAS loan $32,000
Accrued interest on loan 14,396
Teaching certification 4,000
Master’s degree student loan: Mrs. Acuncius 8,751
Master’s degree student loan: Mr. Acuncius 17,269
1991 Income taxes 700
- 5 -
1992 Income taxes 2,000
1994 Income taxes 5,000
Respondent determined that petitioners were liable for
income from discharge of indebtedness of $32,000 in 1997 and an
accuracy-related penalty of $1,858 due to a substantial
understatement of tax. When petitioners received the notice of
deficiency, this was the first time that they were aware that the
loan had been discharged in 1997 because they had not received
any of the notices from BankTEXAS.
OPINION
I. Income from the Discharge of Indebtedness
A. Burden of Proof
Section 7491 applies to this case because the examination in
this case began after July 22, 1998. Internal Revenue Service
Restructuring & Reform Act of 1998, Pub. L. 105-206, sec.
3001(c), 112 Stat. 685, 727. We do not find, however, that the
resolution of this case depends on which party has the burden of
proof. We resolve the issue on the basis of a preponderance of
evidence in the record. Assuming arguendo that petitioners do
have the burden of proof under section 7491, we still conclude,
on the basis of evidence in the record, that petitioners
recognized no discharge of indebtedness income with regard to the
BankTEXAS loan in 1997.
- 6 -
B. Did the Insolvency Exception Apply in 1997?
Petitioners concede that BankTEXAS forgave their loan of
$32,000 in 1997. The parties agree that resolution of the issue
as to whether petitioners must include this income in 1997
depends on whether, immediately before BankTEXAS forgave their
loan on April 20, 1997, petitioners were insolvent within the
meaning of sections 108(a)(1)(B) and (d)(3) (insolvency
exception).
Petitioners contend that the evidence demonstrates that
their liabilities exceeded the fair market value (FMV) of their
assets in 1997. Additionally, petitioners argue that further
evidence, such as the foreclosure on their house and BankTEXAS’s
unsuccessful attempts to collect on the loan, support a
conclusion that they were insolvent. Respondent argues that
petitioners were not insolvent and that section 108(a)(1)(B) does
not apply. Respondent contends that petitioners’ proof of the
FMV of their assets in 1997 was “incomplete and highly
questionable” because it was based on petitioners’ memory.
Section 61(a) defines the term “gross income” broadly to
mean all income from whatever source derived, including income
from discharge of indebtedness. Sec. 61(a)(12). Section 108(a)
provides certain exceptions to section 61(a)(12). See Gitlitz v.
Commissioner, 531 U.S. 206, 213 (2001). Section 108(a)(1)(B)
excludes from gross income any amount that otherwise would be
- 7 -
includable in gross income by reason of the discharge of
indebtedness of the taxpayer if the discharge occurs when the
taxpayer is insolvent. The amount of this income excluded under
section 108(a)(1)(B) is not to exceed the amount by which the
taxpayer is insolvent. Sec. 108(a)(3). The term “insolvent” is
defined in section 108(d)(3) as:
Insolvent.--For purposes of this section, the term
“insolvent” means the excess of liabilities over the
fair market value of assets. With respect to any
discharge, whether or not the taxpayer is insolvent,
and the amount by which the taxpayer is insolvent,
shall be determined on the basis of the taxpayer’s
assets and liabilities immediately before the
discharge.
A taxpayer claiming the benefit of the insolvency exception must
prove: (1) With respect to any obligation claimed to be a
liability, that, as of the calculation date, it is more probable
than not that he will be called upon to pay that obligation in
the amount claimed; and (2) that the total liabilities so proved
exceed the FMV of his assets. Merkel v. Commissioner, 109 T.C.
463, 484 (1997), affd. 192 F.3d 844 (9th Cir. 1999).
We note section 108(e)(1) provides that, “there shall be no
insolvency exception from the general rule that gross income
includes income from the discharge of indebtedness” except as
provided in section 108, eliminating any judicially created
exceptions to the general rule of income from discharge of
indebtedness. See Carlson v. Commissioner, 116 T.C. 87, 100
(2001).
- 8 -
Petitioners relied upon their oral testimony as evidence of
the FMV of assets owned and liabilities owed in 1997 immediately
prior to the discharge. Having observed petitioners’ appearances
and demeanors at trial, we find their testimony to be honest,
forthright, and credible. Based upon this testimony, we find
that petitioners owned approximately $8,500 in assets and owed
$84,116 in liabilities. See Diaz v. Commissioner, 58 T.C. 560,
565 (1972) (basing analysis upon evaluation of the entire record
and credibility of witnesses). Based on the entire record, we
find that petitioners’ liabilities exceeded the FMV of their
assets when their loan was discharged to such an extent that no
discharge of indebtedness income is recognized.
II. Accuracy-Related Tax Penalty
Respondent determined that petitioners are liable for the
accuracy-related penalty under section 6662(a) due to a
substantial understatement of tax. Section 6662(a) imposes a
penalty in the amount of 20 percent on the portion of the
underpayment to which the section applies. Relevant to this
case, the penalty applies to any portion of the underpayment that
is attributable to any substantial understatement of tax under
section 6662(b)(2). As outlined in the above discussion, we hold
that petitioners did not have $32,000 of income from discharge of
indebtedness. Accordingly, we find that no understatement of tax
- 9 -
occurred. We hold, therefore, that petitioners are not liable
for the accuracy-related penalty.
In reaching our holdings herein, we have considered all
arguments made, and to the extent not mentioned above, we find
them to be moot, irrelevant, or without merit.
To reflect the foregoing,
Decision will be
entered for petitioners.