T.C. Memo. 2004-198
UNITED STATES TAX COURT
BRENDT L. SMITH, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 11191-01. Filed August 31, 2004.
Brendt L. Smith, pro se.
Stewart Todd Hittinger, for respondent.
MEMORANDUM OPINION
GALE, Judge: On June 1, 2001, respondent issued a notice of
deficiency with respect to petitioner’s Federal income taxes for
1995 and 1996 determining deficiencies of $12,677 and $11,683,
respectively, and fraud penalties under section 6663(a)1 of
1
Unless otherwise noted, all section references are to the
Internal Revenue Code in effect during the taxable years at
(continued...)
- 2 -
$9,508 and $8,762, respectively. We granted respondent’s motion
to dismiss for lack of prosecution as to the deficiencies after
petitioner failed to appear at trial or respond to our order
requesting a response to respondent’s motion to dismiss. The
issue for decision is whether petitioner is liable for fraud
penalties under section 6663(a) for the years at issue. We also
consider whether we should impose a penalty under section
6673(a)(1).
On August 31, 2001, petitioner filed an imperfect petition
with this Court and requested a copy of the Court’s Rules for
filing a formal petition.2 Over 5 months later, after two
extensions of time to file, petitioner filed an amended petition
on February 19, 2002, in conformance with this Court’s Rules.
On November 1, 2002, petitioner was served with a notice
setting his case for trial on April 7, 2003, and stating: “YOUR
FAILURE TO APPEAR MAY RESULT IN DISMISSAL OF THE CASE AND ENTRY
OF DECISION AGAINST YOU.” Included in the notice was the Court’s
standing pretrial order, which states: “Continuances will be
granted only in exceptional circumstances.” The notice further
called the parties’ attention to the Court’s requirements for
1
(...continued)
issue, and all Rule references are to the Tax Court Rules of
Practice and Procedure.
2
At the time of the filing, petitioner resided in Winona
Lake, Indiana.
- 3 -
stipulation and advised that the parties should establish contact
for this purpose.
In an effort to prepare this case for trial, respondent made
several attempts through letters and telephone calls to arrange
to meet with petitioner to prepare a stipulation of facts and
otherwise define the issues. Petitioner spoke to respondent’s
counsel once before trial but did not exchange documents or
endeavor to prepare a stipulation of facts. On March 6, 2003,
petitioner requested a continuance by means of a letter sent to
the Clerk of the Court but at the address of the Federal Building
and Courthouse in Indianapolis, Indiana. In the letter
petitioner made reference to his trial date of April 7, 2003, and
advised:
At this time I am asking for a continuance due to a
family medical problem (Pneumonia). My mother has been
sick for awhile and family physician thought it would
[sic] a good thing for her to visit relatives in
Florida. She has been their [sic] for about two months
and has been doing well. I will be flying down to
drive her home and will not be able to appear.
On March 12, 2003, petitioner’s letter was returned to him by the
Clerk of the U.S. District Court for the Southern District of
Indiana, who indicated that petitioner had sent his
correspondence to the wrong court. On March 31, 2003, this Court
received a letter dated March 22, 2003, from petitioner in which
- 4 -
he requested a continuance and attached a copy of his previous
letter. We filed this submission as a motion to continue and set
a hearing to consider it on April 7, 2003.
Petitioner did not appear for the hearing on his motion to
continue or the scheduled trial session. Respondent filed a
motion to dismiss for lack of prosecution and requested a trial
to present testimony and other evidence in support of his
determination of fraud. We denied petitioner’s motion to
continue, held a trial to receive respondent’s evidence, and
ordered petitioner to file a response to respondent’s motion to
dismiss within 30 days.
Petitioner did not file a response to respondent’s motion to
dismiss. By order dated May 19, 2003, we granted respondent’s
motion to dismiss for lack of prosecution as to the deficiencies3
and scheduled the filing of seriatim briefs on the issue of
fraud. On the day before his brief was due, petitioner mailed a
letter to the Court stating: “I received a letter denying my
3
In the amended petition, petitioner averred that the
periods of limitation for assessing tax for his 1995 and 1996
taxable years had expired before the June 1, 2001, issuance of
the notice of deficiency for those years. However, the evidence
adduced by respondent at trial includes Forms 872, Consent to
Extend the Time to Assess Tax, executed by petitioner, that
extended the period for assessment for 1995 and 1996 until June
30, 2001.
- 5 -
request [for a continuance] the day of trial”, denying the fraud
allegations, and requesting a trial.4
Petitioner’s Failure To Appear
We decline to grant petitioner’s request for additional
trial proceedings in this case because, on the basis of a review
of the entire record, we are persuaded that he had no adequate
justification for failing to appear at the initial trial and,
further, that he has engaged in a deliberate effort to delay a
resolution of this case.
After receiving the notice setting this case for trial,
petitioner disregarded numerous attempts by respondent to discuss
stipulations and otherwise prepare the case for trial. Instead,
32 days before the scheduled trial date, petitioner sent a
letter, albeit to the wrong address, requesting a continuance.
On the basis of petitioner’s subsequent statements,5 we are
persuaded that petitioner timed the submission of his request as
late as possible without triggering the more stringent
requirements of Rule 133 for continuances that are sought within
4
Petitioner’s submission was filed by the Court as his
answering brief.
5
In his response mailed the day before his answering brief
was due, petitioner complained that his request for a continuance
had been denied notwithstanding that his request had been made
“30 days prior to trial”.
- 6 -
the 30-day period preceding trial.6 Moreover, petitioner’s
original request for a continuance demonstrates that there were
no family or medical exigencies that precluded his appearance at
the trial scheduled for April 7, 2003. In his request,
petitioner advised that his mother had been visiting relatives in
Florida for 2 months on account of her doctor’s advice regarding
pneumonia. According to petitioner, she was “doing well”, but he
needed to fly to Florida to drive her back to Indiana at the time
his trial was scheduled. We were unpersuaded that these
circumstances required petitioner to miss a trial date scheduled
5 months in advance. Accordingly, we set the matter for hearing,
but petitioner failed to appear. Having been advised in the
notice setting the case for trial that his failure to appear
might result in dismissal of the case and entry of decision
against him, petitioner voluntarily forfeited his right to
present evidence at a trial by failing to appear without having
been excused.
Moreover, petitioner’s failure to cooperate in preparing the
case for trial and his 11th-hour request for a continuance
conform with a pattern of dilatoriness in this proceeding. His
petition was not perfected until more than 5 months after its
6
Rule 133 provides that a motion for continuance that is
filed 30 days or less before a scheduled trial “ordinarily will
be deemed dilatory and will be denied unless the ground therefor
arose during * * * [the 30-day] period or there was good reason
for not making the motion sooner.”
- 7 -
initial filing. After petitioner failed to appear for trial and
respondent filed a motion to dismiss for lack of prosecution, we
allowed petitioner 30 days after the scheduled trial date to
respond to respondent’s motion. Petitioner failed to do so.7
Instead, petitioner waited until after we granted respondent’s
motion to dismiss with respect to the deficiencies and, as with
his request for continuance, on the day before his deadline for
filing a brief regarding the issue of fraud, he submitted a
letter denying fraud and requesting that a trial date be set. In
these circumstances, we conclude that petitioner’s belated
request for a trial is little more than a stalling tactic,
designed to delay a disposition of this case.
Rule 149(a) provides that, where there is an unexcused
absence of a party when a case is called for trial, the case “may
be dismissed for failure properly to prosecute, or the trial may
proceed and the case be regarded as submitted on the part of the
absent party or parties.” Dismissal of a case for failure to
properly prosecute is a sanction that rests with the discretion
of the Court. See Rule 123(b); Harper v. Commissioner, 99 T.C.
533, 540 (1992); Levy v. Commissioner, 87 T.C. 794, 803 (1986);
see also Daniels v. Brennan, 887 F.2d 783, 785-789 (7th Cir.
7
We note that a response to the motion to dismiss would
have been an opportunity for petitioner to provide any further
explanation that he wished to make of his failure to appear for
trial. However, petitioner ignored our order to respond.
- 8 -
1989) (discussing standard for dismissal under rule 41(b) of the
Federal Rules of Civil Procedure, the model for Rule 123(b)).
Accordingly, for the reasons discussed above, we granted
respondent’s motion to dismiss for lack of prosecution and
sustained respondent’s determination as to the deficiencies.
With respect to the fraud penalties, we exercised our discretion
under Rule 149(a) to conduct a trial to afford respondent the
opportunity to present evidence to meet his burden of proof. See
Brooks v. Commissioner, 82 T.C. 413, 426 (1984), affd. without
published opinion 772 F.2d 910 (9th Cir. 1985); Ritchie v.
Commissioner, 72 T.C. 126, 128 (1979).
Fraud Penalties
In the case of a fraud penalty, where the taxpayer is absent
from trial without excuse, the Commissioner may meet his burden
of proving fraud by means of pleadings which set forth sufficient
facts to support a finding of fraud. Smith v. Commissioner, 91
T.C. 1049, 1058-1059 (1988), affd. 926 F.2d 1470 (6th Cir. 1991).
Respondent’s pleadings in his answer set forth the following
facts, which are deemed admitted.
During 1995 and 1996, petitioner owned and operated a
construction business, an antiques business, and commercial
rental property.
- 9 -
Respondent used the source and application of funds method
to reconstruct petitioner’s income.8 Respondent’s analysis
showed that the excess of petitioner’s application of funds over
his known sources of income in 1995 was $64,327, as compared to
reported gross receipts of $12,652. Respondent’s analysis showed
that the excess of petitioner’s application of funds over his
known sources of income in 1996 was $40,562, as compared to
reported gross receipts of $37,311.
In addition, respondent adduced evidence at trial that
establishes the following.
An agent of respondent conducted an examination of
petitioner’s 1995 and 1996 taxable years. At the time of the
examination, petitioner had conducted a construction business for
at least 9 years, which served as his primary source of income.
While petitioner was able to substantiate some expenses of
his income-producing activities in 1995 and 1996, he failed to
maintain or submit for examination by respondent books and
8
The source and application of funds method of proof has
been accepted by this Court as an appropriate method for the
Commissioner to reconstruct the income of a taxpayer whose
records are inadequate. See, e.g., DeVenney v. Commissioner, 85
T.C. 927 (1985). The Court of Appeals for the Seventh Circuit,
to which an appeal in this case lies barring stipulation to the
contrary, has likewise upheld the cash expenditures method, a
reconstruction method very similar to the source and application
of funds method. See, e.g., United States v. Marrinson, 832 F.2d
1465, 1469-1470 (7th Cir. 1987); cf. Hall v. Commissioner, T.C.
Memo. 1996-27 (discussing distinction between cash expenditures
and source and application of funds methods).
- 10 -
records to account for the income from those activities in those
years.
Petitioner admitted receiving $37,800 from Johnson Controls,
Inc., in 1995 as well as a 1995 Form 1099-MISC, Miscellaneous
Income, reporting that amount from that source. Petitioner
reported only $8,803 of gross receipts in his Schedules C, Profit
or Loss From Business, for his construction business and $2,651
for his antiques business in 1995. Petitioner offered three
different explanations to respondent’s examiner concerning why he
did not report the $37,800 shown on the foregoing Form 1099-MISC:
(i) That he had not received the Form 1099-MISC in time to
include the amount thereon in his 1995 return;9 (ii) that the
amounts reported on the 1995 Schedule C for his construction
business were net amounts; i.e., receipts less expenses; and
(iii) that when he thought about his truck payment, he “decided
to keep it.”
In response to the examining agent’s inquiries seeking to
identify nontaxable sources of income during 1995 and 1996,
petitioner claimed he received a $10,000 gift from his mother but
did not substantiate it. Petitioner also claimed that during
1995 and 1996 he collected rent receipts of approximately $11,700
annually on his mother’s behalf from two rental properties that
9
We note in this regard that petitioner’s 1995 return was
filed on Oct. 21, 1996.
- 11 -
she owned and deposited them into his checking account before
remitting them to his mother. When the examining agent was
unable to trace in petitioner’s bank records the rent payments
allegedly collected for and paid over to his mother, petitioner
then explained that the remittances to his mother were not
traceable because he occasionally used the rent receipts for
repairs to the properties and occasionally kept the payments when
he was short of cash, advising his mother that the tenants were
late in paying and then remitting the payments to her at a later
time.
To establish fraud, the Commissioner must show by clear and
convincing evidence that there is an underpayment and that a
portion of the underpayment is attributable to fraud. See sec.
7454(a); Rule 142(b); Petzoldt v. Commissioner, 92 T.C. 661, 699
(1989). If the Commissioner establishes that any portion of an
underpayment is attributable to fraud, the entire underpayment
shall be treated as attributable to fraud, except to the extent
the taxpayer establishes otherwise. See sec. 6663(b); Marretta
v. Commissioner, T.C. Memo. 2004-128; Peyton v. Commissioner,
T.C. Memo. 2003-146.
“Fraud is established by proving that the taxpayer intended
to evade tax believed to be owing by conduct intended to conceal,
mislead, or otherwise prevent the collection of such tax.”
Recklitis v. Commissioner, 91 T.C. 874, 909 (1988). The
- 12 -
existence of fraud is a question of fact established by
consideration of the entire record. Petzoldt v. Commissioner,
supra at 699; Estate of Pittard v. Commissioner, 69 T.C. 391, 400
(1977). Direct proof of fraud is seldom available; therefore,
fraud may be proved by circumstantial evidence and reasonable
inferences from the facts. Petzoldt v. Commissioner, supra;
Rowlee v. Commissioner, 80 T.C. 1111, 1123 (1983). The courts
have recognized numerous indicia or “badges” of fraud, including
the following: (1) A pattern of underreporting income; (2)
maintaining inadequate records; (3) giving implausible or
inconsistent explanations of behavior; and (4) establishing a
pattern of inaction and delay during the pretrial and trial
proceedings. Spies v. United States, 317 U.S. 492, 499 (1943);
Conti v. Commissioner, 39 F.3d 658, 662 (6th Cir. 1994), affg.
and remanding on other grounds T.C. Memo. 1992-616; Bradford v.
Commissioner, 796 F.2d 303, 307-308 (9th Cir. 1986), affg. T.C.
Memo. 1984-601; Rice v. Commissioner, T.C. Memo. 2003-208; McCue
v. Commissioner, T.C. Memo. 1983-580. Although no single factor
is necessarily sufficient to establish fraud, the existence of
several indicia constitutes persuasive circumstantial evidence of
fraud. Petzoldt v. Commissioner, supra at 700.
Respondent reconstructed petitioner’s income in the years at
issue by use of the source and application of funds method.
Respondent’s analysis indicates that petitioner substantially
- 13 -
underreported income in both years; namely, $64,327 in 1995 and
$40,562 in 1996. Accordingly, respondent has met his burden of
showing by clear and convincing evidence that petitioner had
underpayments of tax in 1995 and 1996.
On the question of whether these underpayments are
attributable to fraud, respondent has demonstrated several badges
of fraud, as follows. Petitioner failed to report income in both
years, indicating a pattern of underreporting. The unreported
amounts were substantial in relation to petitioner’s reported
gross receipts; namely, $64,327 of unreported income versus
reported gross receipts of $12,652 in 1995, and $40,562 of
unreported income versus reported gross receipts of $37,311 in
1996. The magnitude of the unreported amounts makes it virtually
impossible that they could have been due to mere mistake or
inadvertence.
Petitioner’s records were clearly inadequate. While he was
able to substantiate certain expenses, petitioner did not
maintain or produce regular books or records from which the
income from his Schedule C businesses could be ascertained.
Petitioner gave numerous implausible explanations for his
failure to report income. He offered three inconsistent
explanations for his failure to report the $37,800 in income that
he received from Johnson Controls, Inc., in 1995. Moreover, his
claim that he did not receive the Form 1099-MISC from Johnson
- 14 -
Controls, Inc., in 1996 in time to include the amount on his
return is implausible, given that the return was not filed until
October 21, 1996, and Johnson Controls, Inc., had a statutory
obligation to mail the form to him by the end of the preceding
January.10
Petitioner’s attempts to identify nontaxable sources of
income are similarly implausible. His claim that his mother gave
him $10,000 was not substantiated. His claim that he deposited
rent receipts belonging to his mother into his own checking
account, and then paid over the receipts to his mother, was later
qualified when the examining agent was unable to trace these
amounts through his account. In the qualified version,
petitioner claimed that the rent receipts were sometimes expended
on repairs and sometimes kept by him for a period of time before
being repaid to his mother. Even if the claims regarding the
rent receipts were accepted, they would at most account for
$11,700 of nontaxable source income annually, far less than the
amounts petitioner failed to report in each year.
In reaching our conclusion that petitioner’s various
attempts to explain to the examining agent his failure to report
income constitute evidence of fraud, we also take note of the
10
Information returns must be delivered to the person with
respect to whom the information is required by Jan. 31 of the
year following the calendar year in which payment of the reported
income is made. See sec. 6041(d).
- 15 -
fact that, when faced with the prospect of putting these various
explanations through the crucible of sworn testimony and cross-
examination, petitioner opted to avoid trial.
Finally, petitioner’s pattern of inaction and delay in this
proceeding is evidence of fraud. He took 5 months to perfect his
petition. Notwithstanding multiple attempts by respondent’s
counsel, petitioner made no effort to complete the stipulation
process or otherwise prepare the case for trial. He waited until
just before the 30-day window preceding trial to seek a
continuance, failed to appear for trial, ignored our order to
respond to respondent’s motion to dismiss, and then, on the last
day for filing a brief regarding the fraud issue, insisted on a
trial. Taken together, the actions evince an effort to avoid any
final reckoning on his tax liabilities and are evidence of fraud.
Accordingly, on the basis of the entire record, we find that
respondent has shown clearly and convincingly that petitioner’s
underpayments of tax in 1995 and 1996 were due to fraud. The
entirety of petitioner’s actions persuade us that he was aware
that taxes were owed on the income that was not reported. As
noted, the magnitude of the unreported amounts rebuts any
realistic possibility that the omissions were due to inadvertence
or error, as do petitioner’s various inconsistent attempts to
explain the discrepancies. Those explanations were an effort to
conceal and mislead. Finally, petitioner has not shown that any
- 16 -
portion of the underpayment in either year was not attributable
to fraud. Therefore, we will sustain in full respondent’s
determinations of fraud for both years.
Section 6673 Penalty
We note that section 6673(a)(1) authorizes the Court to
require a taxpayer who has instituted or maintained a proceeding
primarily for delay, or whose position is frivolous or
groundless, to pay a penalty to the United States. See Williams
v. Commissioner, 119 T.C. 276, 280-281 (2002); Bagby v.
Commissioner, 102 T.C. 596, 614 (1994); Stamos v. Commissioner,
95 T.C. 624, 638 (1990), affd. without published opinion 956 F.2d
1168 (9th Cir. 1992). The Court may consider the imposition of
such a penalty sua sponte. See, e.g., Jones v. Commissioner,
T.C. Memo. 2003-131; Hawes v. Commissioner, T.C. Memo. 1999-152;
Bierhaalder v. Commissioner, T.C. Memo. 1993-164, affd. without
published opinion 16 F.3d 415 (10th Cir. 1994).
As our previous discussion indicates, petitioner’s failure
to engage in any meaningful pretrial preparation, his failure to
appear for trial, and his other efforts to protract this
proceeding are evidence that he instituted and maintained it
primarily for delay. Respondent has not sought a penalty under
section 6673(a)(1), however, and we will not impose one in these
circumstances. Petitioner is nonetheless cautioned that should
- 17 -
he engage in similar actions in any future proceedings in this
Court, penalties under section 6673 may be imposed.
To reflect the foregoing,
Decision will be entered
for respondent.