Moran v. Comm'r

T.C. Memo. 2005-66

UNITED STATES TAX COURT

JOHN F. MORAN, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 11586-01. Filed March 30, 2005.

John F. Moran, pro se.

Gerald A. Thorpe, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

RUWE, Judge: Respondent determined deficiencies, penalties,

and additions with respect to petitioner’s Federal income tax as

follows:
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Additions to Tax
Year Deficiency Sec. 6653(b)(1) Sec. 6661

1988 $47,881 $37,298 $11,970
Addition to Tax Penalty
Year Deficiency Sec. 6651(a)(1) Sec. 6663

1989 $36,620 $5,306 $27,465

Penalty
Year Deficiency Sec. 6663

1990 $21,488 $16,116

The issues for decision are:

(1) Whether petitioner received unreported constructive

dividends from Moran General Contractors, Inc. (the corporation),

by diverting corporate receipts and issuing corporate checks for

fictitious expenses in the amounts of $149,747 in 1988, $84,315

in 1989, and $100,890 in 1990;

(2) whether petitioner received additional unreported

constructive dividends during 1988, 1989, and 1990 of $11,233,

$20,439, and $8,060, respectively, from the personal use of the

corporation’s property;

(3) whether petitioner is entitled to deduct under section

162,1 as expenses of an unincorporated beauty shop business of

which he was a proprietor, payments of $11,500 in 1989 and

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.
 - 3 -

$16,000 in 1990, which he allegedly received as reimbursements

for renovations of the beauty shop;

(4) whether petitioner is entitled to deduct under section

162 expenses of $3,210 in 1989 and $14,951 in 1990 allegedly paid

to beauty shop employees;

(5) whether petitioner is entitled to deduct additional

expenses allegedly paid in the beauty shop business and horse

racing activities in 1988, 1989, and 1990;

(6) whether petitioner is entitled to depreciation

deductions under section 167 of $3,097 and $1,658 in 1989 and

1990, respectively, in relation to the beauty shop;

(7) whether petitioner is liable for additions to tax and

penalties under sections 6653(b)(1) and 6663 for filing

fraudulent income tax returns for 1988, 1989, and 1990;

(8) whether petitioner is liable for an addition to tax

under section 6651(a)(1) for failing to timely file his income

tax return for 1989;

(9) whether petitioner is liable for an addition to tax

under section 6661 for the substantial understatement of tax

liability on his Federal income tax return for 1988;

(10) whether petitioner filed joint Federal income tax

returns in 1988, 1989, and 1990 when he did not sign the returns

but granted his spouse permission to sign his name; and
 - 4 -

(11) whether the statute of limitations bars the assessment

and collection of the deficiencies in tax, additions to tax, and

penalties that respondent has determined against petitioner for

1988, 1989, and 1990.

FINDINGS OF FACT

Some of the facts have been stipulated and are so found.

The stipulation of facts, the second stipulation of facts, and

the attached exhibits2 are incorporated herein by this reference.

Petitioner resided in Williamstown, New Jersey, when he

filed his petition in this case.

During the years in issue, petitioner was married to Bonnie

E. McNamara (formerly Bonnie E. Moran). Petitioner and Bonnie E.

McNamara (Ms. McNamara) maintained a personal joint checking

account at Continental Bank during the years in issue.

Petitioner and Ms. McNamara are now divorced.

Ernest Agresto, a certified public accountant, prepared

petitioner and Ms. McNamara’s joint income tax returns for the

years in issue. Mr. Agresto prepared these returns using

information supplied by Ms. McNamara. With petitioner’s

permission, Ms. McNamara signed petitioner’s name on their joint

2
Respondent has objected on the grounds of relevancy and/or
hearsay to the admission of the following exhibits: 176-P
through 179-P, 183-P through 215-P, 222-P, 223-P, 227-P through
230-P, 232-P through 235-P, 237-P, 238-P, 243-P, and 244-P. At
trial, we reserved ruling on these exhibits. We have considered
each of the exhibits in question and find that they do not
justify any alteration in our findings of fact.
 - 5 -

Federal income tax returns for the years in issue.

During 1983 or 1984, petitioner and Ms. McNamara3 organized

the corporation.4 The corporation engaged in the business of

installing heavy machinery and equipment used by its customers in

their manufacturing businesses. The corporation maintained a

business checking account at PSFS Bank.

During the years in issue, all of the outstanding shares of

the corporation’s common stock were held in Ms. McNamara’s name.

Both petitioner and Ms. McNamara considered petitioner to be at

least a part owner of the corporation during the years in issue.

Petitioner and Ms. McNamara decided to issue all of the

corporation’s stock to Ms. McNamara for various business and

personal reasons. Petitioner stated to respondent’s agents that

he and Ms. McNamara had the corporation’s common stock issued to

Ms. McNamara because the regulations of the union of which

petitioner was a member prohibited its members from owning

corporate stock.

During the years in issue, petitioner and Ms. McNamara were

employees of the corporation. Petitioner considered his position

in the corporation equivalent to that of a chief executive

officer, and he made all significant business decisions for the

3
At the time the corporation was organized, Ms. McNamara
was known as Bonnie E. Moran.
4
The corporation also did business as Moran General
Contractors, Inc.
 - 6 -

corporation. Ms. McNamara supervised the office functions,

engaged in some sales activities, and handled some of the

bookkeeping. Petitioner’s daughter, Phyllis Moran, held a

position at the corporation, where she performed “billing,

typing, [and] posting” duties. The corporation also employed

Ellen Moran, petitioner’s mother, who was paid $50 a week. From

1987 to 1993, the corporation also employed Emma Brinton.

During the years in issue, Mr. Agresto also prepared the

Federal income tax returns for the corporation. Ms. McNamara

provided Mr. Agresto with information to prepare the

corporation’s income tax returns, including cash receipt

summaries, cash disbursements, and payroll records.

Petitioner and Ms. McNamara diverted numerous checks issued

to the corporation for services rendered by the corporation.

The checks received by the corporation were either (1) cashed by

petitioner or another employee and the proceeds were given to

petitioner or Ms. McNamara, or (2) deposited into petitioner and

Ms. McNamara’s personal joint checking account maintained at

Continental Bank. The amounts of those diversions were

$70,672.15 for 1988, $35,497.58 for 1989, and $57,521.81 for

1990. See appendix A, listing checks diverted from the

corporation. The proceeds from these checks were not recorded as

income on the corporation’s books or reported as gross receipts

on any of the corporation’s Federal income tax returns. These
 - 7 -

diversions were not reported as income on petitioner’s income tax

returns. When first asked, petitioner falsely stated to

respondent’s agents that he was unaware that checks issued to the

corporation had been deposited to his and Ms. McNamara’s personal

bank account.

During the years in issue, petitioner also engaged in a

scheme whereby he caused the corporation to issue checks to cover

fictitious expenses. The amounts issued for those fictitious

expenses totaled $79,074.95 for 1988, $48,817.45 for 1989, and

$43,367.80 for 1990. See appendix B, listing the checks issued

by the corporation for fictitious expenses. The payees never

received these checks. Either petitioner or another employee of

the corporation cashed these checks and gave the proceeds to

petitioner or Ms. McNamara. Petitioner, or a family member under

his direction and control, prepared false invoices for the

fictitious expenses and altered the canceled checks to create the

appearance that the checks were issued for legitimate business

purposes. These payments were recorded as expenses on the

corporation’s books. These payments were not reported on

petitioner’s Federal income tax returns.

In addition to the construction business, petitioner and Ms.

McNamara engaged in a beauty salon business as proprietors. The

beauty salon first operated under the name Media Hair and later

under the name Gian Franco Faces. In 1988, petitioner and Ms.
 - 8 -

McNamara hired Michael Kapusta and John D’Ambrosio to handle the

day-to-day operation of the beauty salon. Gian Franco Faces

maintained a business checking account at First Pennsylvania

Bank, and Mr. Kapusta was authorized to sign checks drawn on that

account.

In 1988, petitioner and Ms. McNamara relocated the beauty

shop. Petitioner and Ms. McNamara agreed to pay for the

renovations to the beauty shop with the understanding that

Messrs. Kapusta and D’Ambrosio would reimburse them for

renovation expenses. Petitioner and Ms. McNamara used the

corporation’s funds to pay for the renovations to the beauty

shop. The beauty shop renovation costs were $60,202.97 for

third-party vendor expenses and $38,472 for labor performed by

the corporation’s employees.

In 1989, petitioner and Ms. McNamara requested that Messrs.

Kapusta and D’Ambrosio start making payments to reimburse

petitioner and Ms. McNamara for the renovation costs. After

paying petitioner and Ms. McNamara $100,337, Messrs. Kapusta and

D’Ambrosio became 50-percent owners of the beauty salon business.

Initially, petitioner asked Mr. Kapusta to make the

reimbursement payments in cash or by check drawn on the business

account of the beauty shop. Mr. Kapusta issued checks from Gian

Franco Faces’ business checking account to reimburse petitioner

and Ms. McNamara. Mr. Kapusta issued only one reimbursement
 - 9 -

check payable to petitioner. After receiving the initial check,

petitioner requested that Mr. Kapusta issue the remaining

reimbursement checks payable to Clairol, which was a supplier of

beauty products. The payments made by Mr. Kapusta to reimburse

petitioner and Ms. McNamara for the renovations to the beauty

shop were as follows:

Check No. Date Amount Payee Description
1170 3/11/89 $500 Petitioner First
installment
1241 5/26/89 3,000 Clairol * * * products
1354 Aug. 1989 1,500 Clairol Supplies
1402 Sept. 1989 2,500 Clairol --
1247 11/22/89 2,000 Clairol Supplies
1509 12/20/89 2,000 Clairol Supplies
1551 1/24/90 2,000 Clairol Supplies
1589 2/22/90 2,000 Clairol Supplies
1620 Mar. 1990 2,000 Clairol Supplies
1839 9/18/90 6,000 Clairol Supplies
1883 Oct. 1990 2,000 Clairol Supplies
1933 Dec. 1990 2,000 Clairol Supplies

The proceeds from these checks issued to petitioner or

Clairol were deposited in petitioner and Ms. McNamara’s personal

joint checking account at Continental Bank. The proceeds from

these checks were not recorded as income on the corporation’s

books and records or reported as income on any of the

corporation’s, or of petitioner and Ms. McNamara’s, Federal
 - 10 -

income tax returns. Petitioner and Ms. McNamara deducted the

Clairol payments on their Federal income tax returns.

To facilitate his various schemes, petitioner cashed checks

at several locations. Maximilian Segich, a friend of

petitioner’s during the years in issue, operated a bar and

restaurant that generated a substantial amount of cashflow.

During 1988 through 1990, Mr. Segich often cashed the fictitious

expense checks for petitioner. Some of the checks that Mr.

Segich cashed were payable to Ronald Hudecheck, Guy Long, and

Sebastiani Sprinkler Design, Inc., among others; however, none of

the checks were made payable to either petitioner or Ms.

McNamara. Petitioner also cashed diverted corporate checks

through his bookie, James Pirollo, and his friend, John DeLio,

who managed a business known as Jetro Cash & Carry.

During the years in issue, petitioner and Ms. McNamara

engaged in a horse racing business as proprietors. From 1988

until sometime in 1989, petitioner and Ms. McNamara retained

Hunter L. King to train their horses. Petitioner and Ms.

McNamara issued checks payable to Mr. King totaling $63,075.55.

After terminating Mr. King in 1989, petitioner and Ms. McNamara

retained Pam Shavelson to train their horses. Petitioner and Ms.

McNamara issued checks payable to Ms. Shavelson totaling $86,178.

During the years in issue, petitioner gambled regularly. He

played cards with a group of friends weekly. On average, a
 - 11 -

participant in the weekly card game could win or lose up to $500.

Also, petitioner regularly bet on football games. In the years

in issue, petitioner averaged two to three visits to the race

track a week, where he bet on horse races. Petitioner and Ms.

McNamara issued checks from their personal joint checking account

at Continental Bank to the following payees:

Payee 1988 1989 1990
Boardwalk Regency Casino $11,500 $1,500 $3,000
Caesars Casino 300 -- --
Crystal Palace (Casino) -- 4,500 --
Resorts International 4,000 -- --
Trump Castle 500 -- --
Carnival Leisure Indus.,
Inc. (d.b.a. Beach -- 10,700 --
Casino)
Total $16,300 $16,700 $3,000

Petitioner was the defendant in the criminal case United

States v. Moran, Criminal Action No. 96-412-1 (E.D. Pa. Aug. 5,

1998). Petitioner was indicted for aiding the filing of false

joint tax returns for himself and Ms. McNamara for the taxable

years 1989 and 1990 in violation of section 7206(2). On October

23, 1996, petitioner pled guilty to these charges. Petitioner

filed a motion to withdraw his guilty plea, which the District

Court denied. On February 21, 1997, the District Court for the

Eastern District of Pennsylvania entered a judgment of conviction
 - 12 -

in the criminal case on the basis of petitioner’s guilty plea.

On October 27, 1997, the Court of Appeals for the Third Circuit

affirmed the judgment of conviction entered in the criminal case.

No petition for certiorari was filed with the Supreme Court.

Ms. McNamara was indicted for the filing of false joint tax

returns for the taxable years 1989 and 1990. Ms. McNamara pled

guilty to these charges.

By March 8, 1993, petitioner and respondent had signed a

Form 872-A, Special Consent to Extend the Time to Assess Tax, for

the 1988 and 1989 taxable years. By March 9, 1994, petitioner

and respondent had signed a Form 872-A for the 1990 taxable year.

OPINION

I. Understatement of Income - Constructive Dividends

During the taxable years in issue petitioner diverted

corporate funds to himself, which he failed to report as income.

Section 316(a) provides that a dividend means any distribution of

property made by a corporation to its shareholders out of its

earnings and profits. The portion of a distribution that is a

dividend is included in the gross income of the recipient and

taxable as ordinary income. Secs. 301(c), 316(a). Although the

Code does not define earnings and profits, the calculation is

based on adjustments made to the corporation’s taxable income.

DiLeo v. Commissioner, 96 T.C. 858, 888 (1991), affd. 959 F.2d 16

(2d Cir. 1992); see sec. 1.312-6(a) and (b), Income Tax Regs.
 - 13 -

When a corporation does not formally declare a dividend, a

distribution of property by a corporation may constitute a

constructive dividend. Truesdell v. Commissioner, 89 T.C. 1280,

1295 (1987). Distributions are constructive dividends when a

corporation provides a direct benefit to the taxpayer without an

expectation of repayment. Neonatology Associates, P.A. v.

Commissioner, 299 F.3d 221, 231-232 (3d Cir. 2002), affg. 115

T.C. 43 (2000); Hood v. Commissioner, 115 T.C. 172, 179 (2000)

(quoting Magnon v. Commissioner, 73 T.C. 980, 993-994 (1980));

Truesdell v. Commissioner, supra. Although not every payment

that has incidental benefit to the shareholder is considered a

constructive dividend, a payment will constitute a constructive

dividend when “‘the distribution was primarily for the benefit of

the shareholder.’” Hood v. Commissioner, supra at 179-180

(quoting Loftin & Woodard, Inc. v. United States, 577 F.2d 1206,

1214 (5th Cir. 1978)).

In addition to distributions of property, shareholders may

receive constructive dividends when they use corporate property

for personal purposes. “[I]f shareholders of a corporation use

corporate-owned property for personal purposes, they will be

charged with additional distributions from the corporation,

taxable to them as constructive dividend income if the

corporation has sufficient earnings and profits.” Melvin v.

Commissioner, 88 T.C. 63, 79 (1987), affd. 894 F.2d 1072 (9th
 - 14 -

Cir. 1990); see also Falsetti v. Commissioner, 85 T.C. 332, 356

(1985).

A. Diverted Corporate Funds

Respondent argues that petitioner received and failed to

report constructive dividends from the corporation of $149,747,

$84,315, and $100,890 in 1988, 1989, and 1990, respectively.

Respondent contends that petitioner obtained these constructive

dividends by (1) diverting checks issued to the corporation for

personal use, and (2) appropriating the proceeds from checks

issued by the corporation for fictitious expenses. Although

petitioner admits to receiving these funds from the corporation,

he argues that he used the funds to pay (1) the corporation’s

employees in cash, (2) the expenses of the horse racing business,

and (3) the expenses of the beauty salon.

Petitioner has failed to provide documentation that supports

his contention that the corporation maintained a large cash

payroll. To support his claim that the corporation paid a number

of employees in cash, petitioner relies on the testimony of

William McGugan, a construction superintendent. While Mr.

McGugan testified that he often picked up the payroll for

employees who worked on his projects, he further testified that

he did not know whether the payroll envelopes contained any cash.

Petitioner contends that he cannot substantiate the cash

payroll because Ms. McNamara stole the corporation’s books and
 - 15 -

records. “Evidence of the theft of a taxpayer’s records alone is

insufficient to excuse substantiation.” Sumner v. Commissioner,

T.C. Memo. 1982-561. Further, we find the testimony of

petitioner and his daughter relating to the cash payroll self-

serving and unreliable. Petitioner offered no credible evidence

to specify the number of employees who received cash

compensation, the length of time that these employees worked for

the corporation, or the hourly wage or salary that these

employees received.

Petitioner concedes that the corporation failed to record

into its books numerous checks that it received from its

customers as payment for services. Mr. Agresto was not informed

of the funds diverted from the corporation. When Mr. Agresto

asked petitioner for a list of employees who received cash wages,

petitioner refused. In the stipulated factual basis for plea

relating to petitioner’s criminal case, petitioner admitted that

during each of the years in issue he and Ms. McNamara used the

diverted corporate receipts for personal expenses. In that

stipulation, petitioner also admitted that during each of the

years in issue the proceeds of the fictitious corporate expense

checks were used for personal expenses, including gambling and

horse racing expenses. At his change of plea hearing, petitioner

acknowledged that he had read the stipulation and stated that the

stipulation was correct. We find that the evidence clearly and
 - 16 -

convincingly demonstrates that petitioner appropriated for

personal use the diverted corporate receipts and the proceeds

from checks for fictitious expenses.

Petitioner also argues that some of the diverted funds were

used to pay expenses related to the horse racing and beauty shop

businesses. “[P]ayments made for the personal benefit of a

shareholder by a corporation may constitute constructive

dividends.” Falsetti v. Commissioner, supra at 356. The parties

stipulated that petitioner and Ms. McNamara owned these

businesses as sole proprietors. These payments are of expenses

for petitioner and Ms. McNamara’s proprietorships, not corporate

business expenses. Because the beauty shop and horse racing

businesses were not corporate assets, any expenditure made in

connection with these businesses did not benefit the corporation.

See Truesdell v. Commissioner, supra at 1293-1294.

B. Use of Corporate Property

Respondent also determined that petitioner failed to report

additional constructive dividends of $11,233 in 1988, $20,439 in

1989, and $8,060 in 1990, because “Moran General Constractors

[sic] Inc. * * * permitted you to use corporate property for your

personal use without compensation.” On brief, petitioner failed

to address this issue. Respondent argues that his determination

should be sustained because petitioner failed to offer any

evidence at trial relating to this issue.
 - 17 -

We agree with respondent. By failing to introduce any

evidence or argument to refute respondent’s determination, we

find that petitioner has failed to prove that the determination

was incorrect. Accordingly, we find that petitioner received

constructive dividends for personal use of corporate property.

See Melvin v. Commissioner, 88 T.C. at 79; Falsetti v.

Commissioner, 85 T.C. at 356.

C. Earnings and Profits

During the years in issue, the corporation reported on its

financial statement current net income after tax of $86,399 in

1988, $81,511 in 1989, ($15,244) in 1990, and ($3,673) in 1991.5

The corporation reported on its financial statements retained

earnings of $184,127 in 1988, $265,638 in 1989, $250,394 in 1990,

and $246,765 in 1991. To determine petitioner’s constructive

dividends, the corporation’s reported earnings and profits should

be increased by the amounts of gross receipts that were not

included in the corporation’s income. See DiLeo v. Commissioner,

96 T.C. at 888; see also Yellow Cab & Car Rental Co. v.

Commissioner, T.C. Memo. 1974-79. After adjustments are made for

the amounts of gross receipts diverted from the corporation, the

corporation had sufficient earnings and profits to support our

5
The corporation’s fiscal year ended on Sept. 30 for each
of the years in issue. We have included the reported income and
retained earnings and profits for the corporation’s 1991 year
because it includes October, November, and December of the 1990
calendar year.
 - 18 -

finding that the distributions in issue were constructive

dividends. See DiLeo v. Commissioner, supra at 888.

We hold that respondent has proven by clear and convincing

evidence that petitioner received constructive dividends from the

numerous corporate receipts and fictitious checks that he

diverted for personal use.

II. Deductions

In the notice of deficiency, respondent disallowed some of

the deductions petitioner claimed. Petitioner contends that he

and Ms. McNamara paid the expenses claimed on their Federal

income tax returns during the years in issue.

Section 162(a) allows a deduction for all “ordinary and

necessary expenses paid or incurred” to carry out a trade or

business in the taxable year. Section 162(a)(1) specifically

provides for “a reasonable allowance for salaries or other

compensation for personal services actually rendered”. Taxpayers

must maintain records that verify the amounts of deductions

claimed on their returns. Sec. 6001; Baratelle v. Commissioner,

T.C. Memo. 2000-359. Taxpayers bear the burden of proving that

the amounts disallowed by the Commissioner constitute allowable

deductions. Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115

(1933).
 - 19 -

A. Beauty Shop Business Expenses

Respondent contends that petitioner is not entitled to

deduct business expenses of $11,500 in 1989 and $16,000 in 1990

relating to the beauty shop. Respondent argues that petitioner

and Ms. McNamara improperly deducted amounts payable to “Clairol”

as business expenses and deposited these amounts into their

personal joint checking account. Petitioner argues that he is

entitled to deduct these expenses because they were paid to

reimburse the renovation costs of the beauty shop.

We find that the checks made payable to “Clairol” that were

issued by the beauty shop are not deductible business expenses.

Petitioner requested that these checks be made payable to

“Clairol” to disguise the payments as costs of goods used in the

beauty shop. Petitioner admits that these funds were deposited

into his and Ms. McNamara’s personal joint checking account. The

deposits into petitioner’s personal account and the deceptive use

of “Clairol” as the payee establish that these payments were not

ordinary and necessary business expenses but veiled payments to

petitioner. Had these payments been legitimate business

expenditures, petitioner would have had no need to create this

elaborate scheme involving a bogus payee.

B. Beauty Shop Salaries

Respondent argues that petitioner failed to substantiate

wage expenses attributable to the beauty shop of $3,210 in 1989
 - 20 -

and $14,951 in 1990.6 Petitioner contends that he is entitled to

these deductions under section 162(a).

Petitioner failed to introduce any documentary evidence to

support these claimed deductions. Because petitioner has failed

to substantiate these amounts and we are not convinced that he

actually paid any of the disallowed wage expenses, we find that

petitioner is not entitled to deductions for wages of $3,210 for

1989 and $14,951 for 1990.

C. Beauty Shop and Horse Racing Activities

Petitioner claims that he is entitled to additional

deductions for unreported business expenses paid in the beauty

shop and the horse racing businesses during the years in issue.

Respondent contends that petitioner has failed to substantiate

the amounts of additional business expenses.

Petitioner offered no credible evidence for computing

additional beauty shop and horse racing expenses paid in the

years in issue. In support of these additional deductions,

petitioner offered into evidence a handwritten schedule that he

prepared, apparently for purposes of this trial, which lists the

horse trainer costs. Petitioner was not a credible witness. He

6
On their 1989 and 1990 Federal income tax returns,
petitioner and Ms. McNamara claimed deductions of $86,580 and
$90,101, respectively, as beauty salon wages. In the notice of
deficiency, respondent disallowed only portions of the deductions
for which petitioner and Ms. McNamara failed to provide
substantiation.
 - 21 -

has an established pattern of falsifying documents. Because

petitioner failed to introduce any credible evidence, we find

that he is not entitled to the additional deductions he claimed.

D. Section 167 Deductions

On Schedules C, Profit or Loss From Business, petitioner and

Ms. McNamara claimed depreciation deductions of $3,270 in 1989

and $2,003 in 1990. In the notice of deficiency, respondent

disallowed $3,097 in 1989 and $1,658 in 1990 of the claimed

deductions. Petitioner contends that he is entitled to these

depreciation deductions; however, petitioner failed to produce

evidence to support his contention. We sustain respondent’s

determination with respect to the disallowed deductions.

III. Fraud

In the notice of deficiency, respondent determined that

petitioner is liable for an addition to tax for fraud pursuant

section 6653(b)(1) in 1988 and for penalties for fraud under

section 6663 in 1989 and 1990. With respect to fraud, the

Commissioner bears the burden of proving by clear and convincing

evidence that (1) the taxpayer has an underpayment of tax in each

taxable year, and (2) at least some portion of the underpayment

is attributable to fraud. Sec. 7454(a); Rule 142(b). If the

Commissioner establishes that any portion of the underpayment of

tax is attributable to fraud, the entire underpayment is treated

as attributable to fraud, except for any portion of the
 - 22 -

underpayment which the taxpayer establishes is not attributable

to fraud. Secs. 6653(b)(2), 6663(b).

A. Underpayment

The Commissioner has the burden of proving by clear and

convincing evidence that an underpayment exists in each of the

years in issue. The Commissioner is not required to prove the

exact amount of the underpayment. DiLeo v. Commissioner, 96 T.C.

at 873. On the other hand, the Commissioner does not satisfy his

burden of proof by merely relying on the taxpayer’s failure to

prove error in the determination. Id. On the basis of the

evidence presented and our analysis supra, we find that

respondent has clearly and convincingly established that

petitioner had underpayments of tax in 1988, 1989, and 1990.

B. Underpayment Due to Fraud

Fraud has been defined as an “intentional wrongdoing on the

part of a taxpayer motivated by a specific purpose to evade a tax

known or believed to be owing.” Stoltzfus v. United States, 398

F.2d 1002, 1004 (3d Cir. 1968); see also Langworthy v.

Commissioner, T.C. Memo. 1998-218. Courts consider a taxpayer’s

entire course of conduct in determining fraudulent intent. DiLeo

v. Commissioner, supra at 874; Petzoldt v. Commissioner, 92 T.C.

661, 699 (1989). Because direct evidence is rarely available,

fraud may be proven by circumstantial evidence. DiLeo v.
 - 23 -

Commissioner, supra at 847; Chase v. Commissioner, T.C. Memo.

2004-142.

Courts have found that badges or indicia of fraud provide

probative evidence. Badges of fraud include: (1) Consistent and

substantial understatement of income; (2) failure to cooperate

with authorities; (3) implausible or inconsistent explanations of

behavior; (4) failure to maintain adequate books and records; (5)

concealment of assets; (6) concealing income and information from

a return preparer; and (7) extensive dealings in cash. E.g.,

Spies v. United States, 317 U.S. 492, 499 (1943); Estate of

Mazzoni v. Commissioner, 451 F.2d 197, 202 (3d Cir. 1971), affg.

T.C. Memo. 1970-37; DiLeo v. Commissioner, supra at 875; Chase v.

Commissioner, supra; Bacon v. Commissioner, T.C. Memo. 2000-257,

affd. without published opinion 275 F.3d 33 (3d Cir. 2001).

Petitioner understated substantial amounts of his income in

each of the years in issue. Petitioner falsely stated to

respondent’s agents that he was unaware that checks issued to the

corporation had been deposited to his and Ms. McNamara’s personal

bank account.

Petitioner failed to maintain adequate corporate books and

falsified corporate records. Numerous customer checks were not

recorded on the corporation’s books and records. Petitioner

caused the corporation to issue checks to pay fictitious expenses

and recorded these fictitious expenses in the corporation’s
 - 24 -

books. To make these expenses appear legitimate, petitioner, or

a family member at his direction, altered the canceled checks and

created false invoices.

Petitioner concealed assets. Petitioner devised a scheme

whereby he or another employee of the corporation (1) deposited

checks issued to the corporation into petitioner’s personal bank

account, or (2) cashed these checks and gave the proceeds to

petitioner or Ms. McNamara. Petitioner attempted to conceal

these assets by failing to: (1) Record the proceeds in the

corporation’s books; (2) inform Mr. Agresto that the corporation

received these funds; and (3) report these amounts on the

corporation’s Federal income tax returns and his joint Federal

income tax returns.

Petitioner also concealed the fact that beauty shop checks

were deposited in his personal joint checking account.

Petitioner directed Mr. Kapusta to issue checks drawn on the

beauty shop account and to make them payable to “Clairol”.

Petitioner attempted to conceal the receipt of these checks by

creating the appearance that these funds were spent on deductible

business supplies.

Petitioner failed to inform his return preparer, Mr.

Agresto, that petitioner had diverted corporate funds for

personal use. Mr. Agresto specifically asked petitioner and Ms.

McNamara how, on the basis of their income, they could sustain
 - 25 -

the significant horse racing losses. Petitioner falsely

explained to Mr. Agresto that he “had a very good job” before the

years in question.

Finally, petitioner was convicted of aiding the filing of

false tax returns for himself and Ms. McNamara for the years of

1989 and 1990. In pleading guilty to these charges, petitioner

admitted to diverting corporate funds and using those funds for

personal purposes in 1988 through 1990.

We find that respondent has clearly and convincingly proven

that substantial portions of petitioner’s underpayments of tax

are the result of fraudulently diverted corporate receipts,

fictitious corporate expenses, and fraudulently deducted alleged

expenses of his beauty shop operation.7

IV. Section 6651(a)(1)--Failure To Timely File

Section 6651(a)(1) provides for an addition to tax when a

taxpayer fails to file a timely return. Section 6651(a)(1)

provides an exception to the addition to tax when the failure to

file a timely return “is due to reasonable cause and not due to

willful neglect”.

Petitioner and Ms. McNamara filed their 1989 joint Federal

income tax return on September 14, 1990. There is no evidence in

the record that they requested an extension of time to file their

7
Petitioner has not argued or established that any portions
of the underpayments due to other adjustments were not due to
fraud. Secs. 6653(b)(2), 6663(b).
 - 26 -

return. Petitioner failed to argue that the failure was the

result of reasonable cause. Because the 1989 return was 5 months

late under section 6651(a)(1), we find that petitioner is liable

for an addition to tax equal to 25 percent of the amount required

to be shown on the return in 1989, as determined by respondent.

V. Section 6661--Substantial Understatement

Section 6661(a), as in effect for 1988, provides that “If

there is a substantial understatement of income tax for any

taxable year, there shall be added to the tax an amount equal to

25 percent of the amount of any underpayment attributable to such

understatement.” There is a substantial understatement of income

tax if the amount of the understatement exceeds the greater of

(1) 10 percent of the tax required to be shown on the return for

the taxable year or (2) $5,000. Sec. 6661(b)(1)(A). An

“understatement” means the excess of the amount of tax required

to be shown on the return for the taxable year over the amount of

tax that is shown on the return. Sec. 6661(b)(2)(A). The amount

of the understatement shall be reduced by any item adequately

disclosed on the return or supported by substantial authority.

Sec. 6661(b)(2)(B). The taxpayer bears the burden of proving

that the Commissioner erred in imposing the addition to tax under

section 6661(b). Rule 142(a); Hamilton v. Commissioner, T.C.

Memo. 2004-66.
 - 27 -

We sustain respondent’s determination that petitioner

understated his income tax by $47,881 in 1988. Petitioner

offered no evidence showing that any item contributing to the

amount understated was supported by substantial authority or

adequately disclosed on the return. See sec. 6661(b)(2)(B).

Petitioner’s understatement exceeds both 10 percent of the tax

required to be shown on the return and $5,000. See sec.

6661(b)(1)(A). Petitioner is liable for an addition to tax under

section 6661 in 1988.

VI. Petitioner’s Failure To Sign Returns

As a defense to the deficiencies, additions to tax, and

penalties, petitioner argues that he did not sign the joint

returns for the years in issue. A husband and wife who file a

joint Federal income tax return are generally required to sign

the return. Sec. 6013(a); sec. 1.6013-1(a)(2), Income Tax Regs.

However, courts have found that spouses have filed a joint

Federal income tax return even when one spouse failed to sign the

return. Kann v. Commissioner, 210 F.2d 247, 251-252 (3d Cir.

1953), affg. 18 T.C. 1032 (1952); Heim v. Commissioner, 27 T.C.

270, 273 (1956), affd. 251 F.2d 44 (8th Cir. 1958). “The

determinative factor is whether the spouses intended to file a

joint return, their signatures being but indicative of such

intent.” Ladden v. Commissioner, 38 T.C. 530, 533 (1962) (citing
 - 28 -

Stone v. Commissioner, 22 T.C. 893 (1954)); see also Ziegler v.

Commissioner, T.C. Memo. 2003-282.

Here, the parties have stipulated that “With petitioner’s

permission, Bonnie E. McNamara signed petitioner’s name on their

joint income tax returns for the taxable years at issue.” We

find that petitioner manifested his intent to file joint Federal

income tax returns by granting Ms. McNamara permission to sign

his name on the returns in issue. Because petitioner and Ms.

McNamara intended to file joint Federal income tax returns, we

find that petitioner is liable for the deficiencies, additions to

tax, and penalties. See sec. 6013(d)(3).

VII. Period of Limitation

Section 6501(a) generally requires the Commissioner to

assess any tax within 3 years after the return was filed.

Section 6501(c) lists exceptions to the 3-year limitation on

assessments under section 6501(a). In the case of false or

fraudulent returns, section 6501(c)(1) provides that the tax may

be assessed at any time. Because we find that petitioner’s

deficiencies in 1988, 1989, and 1990 were the result of fraud,

the statute of limitations does not bar the assessment of tax for

the years in issue.

To reflect the foregoing,

Decision will be entered

for respondent.
 - 29 -

APPENDIX A

Checks Issued to Moran General Contractors, Inc., for Services
Rendered

The checks issued to Moran General Contractors, Inc., which

petitioner diverted for personal use are as follows:

Amount Deposited/
Check No. Payor Received Date Cashed1
05122315 E.I. DuPont de $600.00 9/14/88 Cashed
Nemours & Co.
05341940 E.I. DuPont de 5,961.75 12/8/88 Deposited
Nemours & Co.
12965 A.T. Chadwick Co. 500.00 1/20/88 Deposited
6542 Perri Elec. 2,017.64 11/1/88 Deposited
65268 Simpson Paper Co. 1,724.50 4/1/88 Deposited
61279 Gen. Chem. 1,930.00 8/27/88 Cashed
62012 Gen. Chem. 450.00 9/24/88 Cashed
437404 Allied Signal, Inc. 3,331.50 1/25/88 Cashed
460258 Allied Signal, Inc. 2,420.00 3/6/88 Cashed
02051455 Gen. Elec. Co. 4,918.03 1/4/88 Deposited
044471 Tarkett, Inc. 1,650.00 5/4/88 Deposited
698 Tarkett, Inc. 1,715.00 6/15/88 Cashed
3028 Tarkett, Inc. 1,496.00 7/20/88 Cashed
02-099640 James River Corp. 1,500.00 1/28/88 Cashed
02-110178 James River Corp. 1,965.74 4/11/88 Deposited
02-113779 James River Corp. 658.40 5/3/88 Deposited
02-135979 James River Corp. 6,800.00 9/26/88 Cashed

1
Deposited means that the proceeds from the check were
deposited in petitioner and Ms. McNamara’s joint personal
checking account at Continental Bank.
 - 30 -

141 53670 City of Philadelphia 3,300.00 2/11/88 Deposited
142 45316 City of Philadelphia 1,100.00 3/3/88 Deposited
142 48292 City of Philadelphia 3/14/88 Deposited
2
4,313.96
64771 City of Philadelphia 2,500.00 7/1/88 Deposited
141-93250 City of Philadelphia 2,480.00 12/6/88 Deposited
141-95221 City of Philadelphia 3,440.00 12/13/88 Cashed
Harleysville Mut. 3
4221918 295.22 11/28/88 Deposited
Ins. Co.

Scott Paper Co. 4
386959 630.00 3/14/88 Deposited
394913 Scott Paper Co. 4,500.00 11/30/88 Deposited
395099 Scott Paper Co. 2,700.00 12/7/88 Deposited
67999791 U.S. Treasury 4,674.04 9/20/88 Deposited
67999792 U.S. Treasury 1,088.16 9/20/88 Deposited
67999790 U.S. Treasury 12.21 9/20/88 Deposited
05416277 E.I. DuPont de 2,950.00 1/9/89 Cashed
Nemours & Co.

05512454 E.I. DuPont de 5,950.00 2/15/89 Deposited
Nemours & Co.

019916 A.T. Chadwick Co. 3,952.00 5/30/89 Deposited
1939 Sebastiani Sprinkler 482.00 6/8/89 Deposited
Design Inc.

325717 Lukens, Inc. 2,540.00 1/4/89 Cashed

2
The parties stipulated that this check was issued in the
amount of $4,313.36; however, the check itself states that it was
issued for $4,313.96. We attribute this discrepancy to a
typographical error, and we have listed the amount shown on the
face of the check.
3
The parties stipulated that this check was dated Nov. 22,
1988; however, the check itself is dated Nov. 28, 1988. We
attribute this discrepancy to a typographical error, and we have
listed the date shown on the face of the check.
4
The parties stipulated that this check was dated Apr. 21,
1988; however, the check itself is dated Mar. 14, 1988. We
attribute this discrepancy to a typographical error, and we have
listed the date shown on the face of the check.
 - 31 -

40038340 Phil. Gas Works 1,158.50 2/22/89 Deposited
142 28887 City of Philadelphia 6,580.00 11/16/89 Deposited
142 29892 City of Philadelphia 1,340.00 11/20/89 Deposited
03842727 Commonwealth of 531.54 1/3/89 Deposited
Pennsylvania

12019572 U.S. Treasury 236.50 2/21/89 Deposited
83294064 U.S. Treasury 153.04 5/23/89 Deposited
84843943 U.S. Treasury 9,624.00 7/25/89 Deposited
04960319 E.I. DuPont de 3,604.79 8/15/90 Deposited
Nemours & Co.

03051496 E.I. DuPont de 1,500.00 9/20/90 Deposited
Nemours & Co.

05079704 E.I. DuPont de 1,200.00 10/1/90 Deposited
Nemours & Co.

05124747 E.I. DuPont de 1,970.00 10/18/90 Deposited
Nemours & Co.

027195 A.T. Chadwick Co. 1,488.00 11/30/90 Deposited
024396 A.T. Chadwick Co. 10,000.00 5/3/90 Deposited
6469 Nelson Co. 2,312.00 9/13/90 Deposited
001859 Medford Foods 3,371.50 3/30/90 Deposited
004750 Medford Foods 2,534.40 8/10/90 Deposited
62365 D & Z, Inc. 3,770.00 10/29/90 Deposited
41614 Tarkett, Inc. 972.00 12/21/89 Deposited
142 58136 City of Philadelphia 6,875.00 7/12/90 Deposited
4589434 Harleysville Mut. 1,605.00 6/14/90 Deposited
Ins. CO.
42447939186 U.S. Postal Service 109.90 Aug. 1990 Deposited

01631 PECO Energy 1,069.70 11/21/90 Deposited
84439 Phil. Hous. Auth. 374.61 10/26/90 Deposited
84440 Phil. Hous. Auth. 376.00 10/26/90 Deposited
010838 Sec. Elevator Co. 5,740.00 11/9/90 Deposited
641917881 U.S. Treasury 209.91 9/11/90 Deposited
5959 Roger E. Gibbons 8,439.00 2/21/90 Deposited
Ins.
 - 32 -

APPENDIX B

Fictitious Expenses Paid By Moran General Contractors, Inc.

The checks drawn by Moran General Contractors, Inc., from

its checking account that were issued to cover fictitious

expenses are as follows:

Check No. Date Amount Purported Payee
3425 11/5/88 $1,225.00 Wm. A. Schmidt
3456 11/22/88 1,159.00 Wm. A. Schmidt
2867 4/11/88 3,959.00 Ernest D. Menold
2607 2/1/88 4,200.00 Jim Black
2774 3/15/88 2,100.00 Jim Black
3285 10/4/88 1,351.95 Jim Black
2960 5/23/88 4,600.00 Giles J. Cannon
2987 6/6/88 3,000.00 Giles J. Cannon
3117 8/15/88 1,200.00 Giles J. Cannon
3236 9/20/88 1,473.00 Giles J. Cannon
3393 11/7/88 1,188.00 Giles J. Cannon
2562 1/19/88 4,920.00 Charles Dectis
2946 5/16/88 3,600.00 Charles Dectis
1
2685 2/16/88 4,200.00 Nicholas J. Bouras
2935 5/9/88 3,100.00 Nicholas J. Bouras
2998 6/14/88 3,700.00 D.J. Cappelli
3021 6/27/88 1,100.00 D.J. Cappelli
3062 7/26/88 2,100.00 D.J. Cappelli
3111 8/9/88 1,335.00 D.J. Cappelli
3190 9/6/88 1,413.00 D.J. Cappelli

1
The parties stipulated that this check was dated Aug. 15, 1988;
however, the check itself is dated Feb. 16, 1988. We attribute this
discrepancy to a typographical error, and we have listed the date shown on the
face of the check.
 - 33 -

3040 7/5/88 1,100.00 Jack Cohen
3135 8/22/88 1,300.00 Jack Cohen
3208 9/13/88 1,360.00 Jack Cohen
3377 10/25/88 1,111.00 Jack Cohen
3484 11/29/88 1,760.00 Jack Cohen
2461 1/4/88 4,000.00 Ronald K. Hudecheck
3258 9/27/88 1,611.00 Frank Perri
3391 10/31/88 1,209.00 Frank Perri
2650 2/8/88 4,500.00 J.B. Acoust
2893 4/20/88 4,100.00 C.F. Remaley Design &
Co.
3169 7/19/88 3,000.00 C.F. Remaley Design &
Co.
2929 5/2/88 3,100.00 J. Azar
4750 12/26/89 4,256.00 H. Barron
3677 1/24/89 600.00 Jim Black
3710 2/8/89 900.00 Jim Black
3801 2/28/89 1,375.00 Jim Black
4010 5/2/89 1,200.00 Jim Black
3597 1/3/89 1,527.00 Charles Dectis
3620 1/11/89 1,200.00 Charles Dectis
4044 5/18/89 2,500.00 Charles Dectis
4084 5/23/89 3,600.00 Ronald Hudecheck
3621 Jan. 1989 2,320.00 Frank Perri
4105 5/30/89 2,990.00 Frank Perri
4140 6/13/89 2,500.00 Frank Perri
4153 6/20/89 2,300.00 Frank Perri
4286 8/8/89 1,100.00 Frank Perri
4306 8/16/89 600.00 Frank Perri
4318 8/21/89 2,800.00 Frank Perri
4346 8/28/89 3,000.00 Frank Perri
 - 34 -

4379 9/5/89 4,000.00 Frank Perri
4405 9/13/89 600.00 Frank Perri
4424 9/18/89 3,375.00 Frank Perri
4465 9/27/89 1,300.00 Frank Perri
4480 10/3/89 1,500.00 Frank Perri
4549 10/18/89 3,274.45 Frank Perri
5233 6/27/90 1,950.00 Guy C. Long
5240 7/3/90 2,100.00 Guy C. Long
5247 7/11/90 1,650.00 Guy C. Long
5275 7/17/90 1,550.00 Guy C. Long
5371 8/7/90 3,000.00 Guy C. Long
5382 8/13/90 2,000.00 Guy C. Long
5477 10/1/90 2,000.00 Guy C. Long
5507 10/9/90 1,960.00 Guy C. Long
4795 1/16/90 3,640.60 H. Barron
4838 2/6/90 2,000.00 Eugene Cobbs
4875 2/27/90 3,000.00 Eugene Cobbs
4970 3/13/90 2,020.00 Eugene Cobbs
5222 6/20/90 1,335.74 Eugene Cobbs
5023 4/3/90 2,500.00 J.H. Simon
5054 4/16/90 2,911.46 J.H. Simon
5088 May 1990 3,225.00 J. Simon
5142 5/24/90 2,125.00 J. Simon
5168 6/4/90 2,500.00 J. Simon
5179 6/12/90 1,900.00 John Simon