T.C. Memo. 2004-146
UNITED STATES TAX COURT
PAUL MCGOWAN, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 13587-01. Filed June 21, 2004.
Daniel L. Britt, Jr., for petitioner.
Travis T. Vance III, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
FOLEY, Judge: The issues for decision are whether
petitioner is liable for deficiencies and fraud penalties
relating to 1991, 1992, and 1993.
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FINDINGS OF FACT
In 1968, petitioner began operating McGowan Construction
Company, Inc. (the Company), an S corporation. Petitioner is the
president and sole shareholder of the Company.
In 1987, petitioner married Bonnie Cason, owner and operator
of Bonnie’s Sportswear, a wholesale garment manufacturing
business. Soon after they were married, petitioner hired Leonard
Kisalus, Ms. Cason’s accountant, to set up the Company’s
accounting and payroll records and prepare tax returns. Mr.
Kisalus prepared the Company’s 1987 through 1993 returns and
petitioner’s 1985 through 1993 returns.
In 1990, petitioner purchased a computer for the Company,
and Mr. Kisalus installed, on the computer, an accounting
software program to record general ledger, payroll, invoice, and
accounts receivable information. Petitioner’s secretaries did
not have any previous bookkeeping experience, but Mr. Kisalus
trained them to manage the Company’s bookkeeping
responsibilities.
Each year petitioner and his secretaries maintained a
handwritten ledger to record all work performed, invoices
prepared, and customer checks received. The secretaries opened
the Company’s mail and collected customer checks. They would
match each check with its corresponding invoice and record, in
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the handwritten ledger, that the invoice had been paid. In
addition, the secretaries recorded, in the general ledger, the
customer checks they deposited in the Company’s account and used
this information to prepare monthly financial statements.
From 1990 through 1993, petitioner and his secretaries
recorded the receipt of all of the customer checks in
petitioner’s handwritten ledger. During this period, petitioner
cashed, or deposited into his personal bank account, customer
checks and used the proceeds for his personal benefit. The
Company’s balance sheets for each year in issue reflected
significant balances in the shareholder equity accounts
(shareholder accounts), which included shareholder loan, capital
stock, retained earnings, and current earnings.
Beginning in 1990, Ms. Cason became concerned because some
of the customer checks were not being deposited into the
Company’s account. Ms. Cason informed Mr. Kisalus that she did
not want to file a 1990 joint return. Mr. Kisalus asked
petitioner whether all customer checks were being accounted for,
and petitioner told Mr. Kisalus that all of the income was being
recorded in the Company’s books. Based upon petitioner’s
assurance, and Mr. Kisalus’s belief that Ms. Cason would qualify
as an innocent spouse even if petitioner were underreporting his
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income, Mr. Kisalus convinced Ms. Cason to sign a 1990 joint
return.
Prior to signing a 1991 return, Ms. Cason sought legal
advice to determine whether she would qualify as an innocent
spouse if petitioner failed to report all of his income on their
joint return. Ms. Cason subsequently refused to sign a 1991
joint return with petitioner. Her failure to do so precipitated
petitioner and Ms. Cason’s 1992 separation and 1994 divorce. Ms.
Cason subsequently contacted the Internal Revenue Service and
alleged that petitioner had taken funds from the Company and not
reported those funds on his returns.
Mr. Kisalus had access to, but did not review, the
handwritten ledger, accounts receivable, and invoices. He relied
exclusively on the bank records and financial statements (i.e.,
prepared from the information in the general ledger) to prepare
the Company’s 1991, 1992, and 1993 returns.
By notice of deficiency dated September 6, 2001, respondent
determined deficiencies of $103,299, $36,968, and $67,180 and
fraud penalties, pursuant to section 6663,1 of $77,474, $27,726,
and $50,385 relating to 1991, 1992, and 1993, respectively.
1
Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the years in issue, and
all Rule references are to the Tax Court Rules of Practice and
Procedure.
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In 1998, petitioner was convicted, pursuant to section
7206(1), of filing false tax returns and, pursuant to section
7206(2), of aiding or assisting the filing of false tax returns
relating to 1991, 1992, and 1993. The convictions were
subsequently affirmed on appeal and became final.
On December 4, 2001, petitioner, while residing in Townsend,
Georgia, filed his petition with this Court.
OPINION
Petitioner concedes that he underreported his 1991 through
1993 taxes, but contends that the liabilities were determined
after the 3-year and 6-year periods of limitations set forth in
section 6501(a) and (e), respectively. Respondent contends that
the determinations are timely because petitioner’s underpayments
are due to fraud and thus are not subject to either the 3-year or
6-year limitations period. Sec. 6501(c)(1).
Petitioner’s conviction, pursuant to section 7206(1), is a
badge of fraud and estops him from contesting that he filed false
1991, 1992, and 1993 returns and that an underpayment exists for
these years. Bradford v. Commissioner, 796 F.2d 303, 307-308
(9th Cir. 1986), affg. T.C. Memo. 1984-601; Considine v. United
States, 683 F.2d 1285, 1287 (9th Cir. 1982); Wright v.
Commissioner, 84 T.C. 636, 643-644 (1985). Respondent cannot
rely on petitioner’s conviction to sustain his burden of
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establishing fraud but must clearly and convincingly prove that
petitioner intended to evade tax. Sec. 7454(a); Rule 142(b);
Parks v. Commissioner, 94 T.C. 654, 660-661 (1990); Wright v.
Commissioner, supra at 643-644. This burden is met where
respondent proves conduct intended to conceal, mislead, or
otherwise prevent the collection of tax. Parks v. Commissioner,
supra at 661. Fraud is not to be imputed or presumed but rather
must be established by some independent evidence. Beaver v.
Commissioner, 55 T.C. 85, 92 (1970).
Respondent has failed to meet his burden. Respondent’s
witnesses either supported petitioner’s contentions or presented
contradictory and unconvincing testimony. In addition, the
typical indicia of an intent to evade tax are not present.
Petitioner maintained adequate records, made all pertinent
information available to his secretaries (i.e., who prepared
records for Mr. Kisalus to use in preparing petitioner’s returns)
and subsequently to the Internal Revenue Service, cooperated with
the Internal Revenue Service’s investigation, and did not employ
any scheme to conceal income. Petitioner and his secretaries
recorded, in the handwritten ledger, the receipt of all customer
checks (i.e., those cashed or deposited in his personal account).
Mr. Kisalus, on whom petitioner relied, did not, however, use
this ledger to prepare the Company’s returns.
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Petitioner questioned Mr. Kisalus about the shareholder
accounts and believed that the checks he converted to personal
use were included in these accounts. While he knowingly
underreported his income during the years in issue, petitioner,
who had an eighth grade education, believed that any disparity
between his reported income and the amounts reflected in the
shareholder accounts would ultimately be reconciled and that, at
some point, he would pay the appropriate amount of tax relating
to all of his income. Inexplicably, respondent failed to address
petitioner’s apparent confusion relating to these shareholder
accounts (i.e., respondent did not question any witnesses about
this issue or address it on brief). In essence, respondent
rested on petitioner’s conviction and ignored this critical issue
relating to petitioner’s intent to evade tax.
Accordingly, respondent’s determinations relating to 1991,
1992, and 1993 are barred.
Contentions we have not addressed are irrelevant, moot, or
meritless.
To reflect the foregoing,
Decision will be entered
for petitioner.
[REPORTER’S NOTE: This opinion was amended by Order dated Sept. 14, 2004.]