T.C. Memo. 2004-47
UNITED STATES TAX COURT
JOSEPH TAMBERELLA, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 13879-01. Filed March 3, 2004.
Elizabeth Ann Maresca, Tatia Barnes, and Yael Neiman, for
petitioner.
William C. Bogardus, for respondent.
MEMORANDUM OPINION
PAJAK, Special Trial Judge: Respondent determined a
deficiency of $26,589 in petitioner’s 1997 Federal income tax,
together with an addition to tax of $6,714.89 under section
6651(a)(1), and an accuracy-related penalty of $5,371.80 under
section 6662(a). Unless otherwise indicated, section references
are to the Internal Revenue Code in effect for the year in issue.
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The issues for decision are: (1) Whether under section 104
petitioner may exclude from gross income $89,840 in proceeds from
a legal settlement; (2) whether petitioner is liable for the
section 6651(a)(1) addition to tax for failure to file on time a
Federal income tax return for 1997; and (3) whether petitioner is
liable for the accuracy-related penalty under section 6662(a).
Some of the facts in this case have been stipulated and are
so found. Petitioner resided in Deer Park, New York, at the time
he filed his petition.
From 1994 to 1996, petitioner worked for a bus contractor,
ATC-Vancom of Nevada Limited Partnership, Inc. (ATC), in
Laughlin, Nevada. Mr. Shawn Brophy was petitioner’s supervisor
at ATC. In 1996, petitioner was living with Diane Macarino, her
two sons from a prior marriage, and petitioner and Ms. Macarino’s
son, Joseph. Petitioner invited Mr. Brophy to live on
petitioner’s property and Mr. Brophy stayed about 2 months.
Then, Mr. Brophy moved Ms. Macarino and all three children out of
petitioner’s home and took them with him. Obviously, petitioner
was concerned and upset about this turn of events. Petitioner’s
father suffered a stroke. About that time, petitioner was
diagnosed with and treated for mental illness and high blood
pressure. Petitioner was hospitalized for these conditions for
approximately 10 days in 1996.
Petitioner was terminated from his ATC employment in 1996.
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Petitioner claimed that he was terminated because he reported to
ATC, Nevada officials, and the public Mr. Brophy’s personal use
of a Nevada vehicle to move Ms. Macarino, petitioner’s son, and
the other two children out of petitioner’s home. Petitioner
believed that Mr. Brophy’s use of the vehicle was illegal. ATC
claimed that petitioner was terminated for job abandonment due to
petitioner’s failure to report for work for more than 2 weeks
without notifying his supervisors.
In 1996, petitioner prepared and filed a complaint in the
Clark County District Court, Nevada, against ATC alleging
negligence, breach of contract, breach of public policy, and
wrongful discharge. That case was submitted to nonbinding
arbitration. Petitioner prepared and submitted a prearbitration
memorandum. Petitioner also conducted cross-examination during
the hearing. Petitioner sought reinstatement to his former
position with ATC, but he was not reinstated. Petitioner
rejected the arbitration award.
In 1997, petitioner entered into a Confidential Settlement
Agreement (settlement agreement) with ATC. Pursuant to the
settlement agreement, petitioner received from ATC two payments
totaling $115,000. The settlement agreement specifies that the
first payment, in the amount of $25,160, represents back wages.
This amount is not in issue here. The settlement agreement
specifies that the second payment, in the amount of $89,840,
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represents “a litigation settlement of [petitioner’s] claims
against [ATC].” This is the amount in issue. The settlement
agreement provides that petitioner “agrees to waive any right to
reinstatement”. The settlement agreement specifies that the
parties agree that the $89,840 will be reported by ATC on a “Form
1099” and that petitioner “acknowledges that some or all of the
monies” may be considered taxable.
The $89,840 was reported by ATC to the Internal Revenue
Service on a Form 1099-MISC, Miscellaneous Income, as nonemployee
compensation. Petitioner did not report this amount on his 1997
Federal income tax return.
Petitioner contends that the $89,840 is excludable from his
income because such amount constitutes “proceeds from a lawsuit
settlement petitioner received from a former employer for medical
conditions of a permanent and dibilating [sic] nature.”
Section 7491(a) does not affect the outcome because
petitioner’s liability for the deficiency is decided on the
preponderance of the evidence.
Section 61(a) provides that gross income includes all income
from whatever source derived unless excludable by a specific
provision of the Code. Section 104(a)(2) excludes from gross
income amounts received in damages, by suit or settlement, for
personal physical injuries or physical sickness. The nature of
the claim underlying the damage award is the focus for
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determining whether damages received are excludable under section
104(a)(2). United States v. Burke, 504 U.S. 229, 237 (1992).
The underlying claim giving rise to the recovery must be “based
upon tort or tort type rights” and the damages must have been
received “on account of personal injuries or sickness”.
Commissioner v. Schleier, 515 U.S. 323, 336 (1995). Section
104(a)(2) was amended in 1996, effective for amounts received
after August 20, 1996, to require that personal injury or
sickness be physical in nature; this amendment does not otherwise
change the analysis under Commissioner v. Schleier, supra.
Prasil v. Commissioner, T.C. Memo. 2003-100, n.10. We note that
for purposes of section 104(a)(2), emotional distress shall not
be treated as a physical injury or physical sickness except for
any damages that are not in excess of the amount paid for medical
care attributable to such emotional distress. Sec. 104(a).
Petitioner’s complaint alleged four causes of action,
negligence, breach of contract, breach of public policy, and
wrongful discharge. Of these four causes of action, only
negligence could satisfy the second prong of the Commissioner v.
Schleier, supra, analysis, which requires that damages must have
been received “on account of personal [physical] injury or
[physical] sickness”. The settlement agreement did not allocate
any portion of the settlement amount in issue to personal
physical injury or physical sickness. Rather, the settlement
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agreement expressly provided that the $89,840 would be reported
to the Internal Revenue Service on a Form 1099 and that some or
all of that amount may be taxable. In the settlement agreement,
the parties characterized the $89,840 payment as “a litigation
settlement of [petitioner’s] claims against [ATC].”
Where a settlement agreement is silent with respect to
precisely what the settlement amount is paid to settle, the
intent of the payor is examined. Knuckles v. Commissioner, 349
F.2d 610, 613 (10th Cir. 1965), affg. T.C. Memo 1964-33 (citing
Agar v. Commissioner, 290 F.2d 283 (2d Cir. 1961), affg. per
curiam T.C. Memo. 1960-21). This examination is made based on
all the surrounding facts and circumstances. Robinson v.
Commissioner, 102 T.C. 116, 127 (1994), affd. in part and revd.
in part on another ground 70 F.3d 34 (5th Cir. 1995).
There is no question that petitioner provided ATC’s attorney
with his 1996 medical records concerning his hospitalization for
mental illness and high blood pressure. But there is nothing in
the record that establishes that ATC intended that any portion of
the $89,840 settlement amount paid to petitioner was on account
of personal physical injury or physical sickness. Rather, the
record reveals that this amount reflects petitioner and ATC’s
settlement discussions about the amount to be paid to petitioner
to waive reinstatement of employment. A letter, written by ATC’s
attorney to petitioner, states in pertinent part:
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You stated that you would be willing to settle this matter
for the sum of $45,000.00 including reinstatement to your
former position of employment. You stated that $45,000.00
figure was comprised of your estimate of your lost wages to
date as well as the amount awarded by the arbitrator. At my
suggestion, you also made an alternative settlement proposal
without reinstatement. Specifically, you proposed a
resolution of this matter for $150,000.00 which would not
include reinstatement of your employment.
Ultimately, petitioner and ATC settled for $115,000, of
which $25,160 represents back wages not in issue here. It
appears that the remaining $89,840 represents the amount of the
arbitrator’s award, plus payment for petitioner’s waiver of any
right to reinstatement to his former position. The settlement
agreement expressly provides that petitioner “agrees to waive any
rights to reinstatement or to apply for re-employment with
[ATC]”. Petitioner presented no evidence other than his own
testimony that he “was physically injured” by ATC. It is well
established that this Court is not bound to accept a taxpayer’s
self-serving, unverified, and undocumented testimony. Shea v.
Commissioner, 112 T.C. 183, 189 (1999); Tokarski v. Commissioner,
87 T.C. 74, 77 (1986). Our examination of the surrounding facts
and circumstances leads us to conclude that ATC did not intend
that any portion of the $89,840 be allocated to personal physical
injury or physical sickness.
On this record, we sustain respondent’s determination.
We next consider whether petitioner is liable for an
addition to tax under section 6651(a)(1) and the accuracy-related
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penalty under section 6662(a). Section 7491(c) places the burden
of production on respondent with respect to the liability of any
individual for any penalty, addition to tax, or additional amount
(penalties). Higbee v. Commissioner, 116 T.C. 438, 446 (2001).
To meet his burden of production, respondent must come forward
with sufficient evidence indicating that it is appropriate to
impose the relevant penalty. Id. The burden of proof remains on
the taxpayer with respect to issues such as reasonable cause or
substantial authority. Id.
Section 6651(a)(1) imposes an addition to tax for failure to
timely file a tax return, unless failure to do so is due to
reasonable cause and not willful neglect. The taxpayer must
prove both reasonable cause and lack of willful neglect. Crocker
v. Commissioner, 92 T.C. 899, 912 (1989). “Reasonable cause”
requires the taxpayer to demonstrate that he exercised ordinary
business care and prudence. United States v. Boyle, 469 U.S.
241, 246 (1985). Willful neglect is defined as a “conscious,
intentional failure or reckless indifference.” Id. at 245.
Petitioner admitted that he did not file a tax return for
taxable year 1997 until January 1999, when he received
correspondence from respondent requesting that he file a tax
return for 1997. Because petitioner did not file his 1997 tax
return until January 1999, respondent has satisfied his burden of
production with respect to the addition to tax under section
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6651(a)(1). Higbee v. Commissioner, supra at 447. Petitioner
stated that he did not timely file a 1997 tax return because
taxes were withheld from the back wages portion of the settlement
payment. However, the settlement agreement expressly provided
that some or all of the $89,840 may be taxable and that ATC would
issue a Form 1099 for that amount.
Although on two occasions petitioner was treated for mental
illness, nothing in the record suggests that he was so
incapacitated during the period in issue as to render him
incapable of exercising ordinary business care and prudence.
Petitioner was hospitalized for diagnosis and treatment of his
mental illness for 10 days in early 1996. Petitioner also was
hospitalized for mental illness for approximately 5 weeks in
2002. There is no evidence that petitioner had any mental
problems during the intervening time period. In fact, during
that time period, petitioner brought suit against ATC, admittedly
prepared the complaint, prepared a prearbitration memorandum,
conducted cross-examination, and negotiated a settlement of
$115,000 with ATC. We conclude that petitioner is liable for the
addition to tax under section 6651(a)(1) for taxable year 1997.
Section 6662(a) imposes a 20-percent penalty on the portion
of any underpayment of tax attributable to negligence or
disregard of rules or regulations. Sec. 6662(b)(1). Negligence
is any failure to make a reasonable attempt to comply with the
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provisions of the internal revenue laws. Sec. 6662(c).
Moreover, negligence is the failure to exercise due care or
failure to do what a reasonable and prudent person would do under
the circumstances. Neely v. Commissioner, 85 T.C. 934, 947
(1985). Disregard includes any careless, reckless, or
intentional disregard of rules or regulations. Sec. 6662(c);
sec. 1.6662-3(b)(2), Income Tax Regs. No penalty will be imposed
with respect to any portion of any underpayment if it is shown
that there was a reasonable cause for such portion and that the
taxpayer acted in good faith with respect to such portion. Sec.
6664(c).
For the same reasons that petitioner’s mental illness does
not excuse him from the addition to tax under section 6651(a)(1),
his mental illness does not excuse him from the accuracy-related
penalty under section 6662(a). In addition, petitioner was on
notice by the settlement agreement and the Form 1099 issued by
ATC that some or all of the $89,840 was subject to tax. Based
upon petitioner’s settlement discussions with ATC, there was no
reason for petitioner to believe that any of this amount was
excludable from his income. Petitioner did not seek professional
advice as to whether any of the $89,840 was taxable and
intentionally omitted that amount from the income tax return he
filed at the request of the Internal Revenue Service. Respondent
has satisfied his burden of production with respect to the
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accuracy-related penalty under section 6662(a). Petitioner has
not shown reasonable cause for his failure to report the $89,840.
We conclude that petitioner is liable for the accuracy-related
penalty under section 6662(a) as determined by respondent.
We have considered petitioner’s remaining arguments and
conclude that they are either irrelevant or without merit.
Decision will be entered
for respondent.