T.C. Memo. 2005-63
UNITED STATES TAX COURT
EDGAR B. AND MONICA ALACAN, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 9088-02. Filed March 30, 2005.
Edgar B. and Monica Alacan, pro sese.
Diana P. Hinton, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
HAINES, Judge: Respondent determined a deficiency of
$87,751 in petitioners’ Federal income tax for 1999. The issues
for decision are: (1) Whether petitioners are entitled to claim
certain expenses as an exclusion from income and as deductions
for 1999; and (2) whether petitioners are liable for an increased
deficiency on the basis of a State income tax refund and interest
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income on such refund received in 1999 but not reported on their
1999 tax return.
Unless otherwise indicated, all Rule references are to the
Tax Court Rules of Practice and Procedure, and all section
references are to the Internal Revenue Code, as amended.
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
the petition, petitioners resided in Staten Island, New York.
Petitioners filed their 1998 tax return with the filing
status of “Married filing joint return”. On their Schedule A,
Itemized Deductions, petitioners claimed $18,497 for State and
local income taxes paid in 1998.
During 1999, petitioners received a refund of $14,984 of the
amount paid on their 1998 State income taxes and interest income
on the refund of $149.35.
Petitioners filed their 1999 tax return with the filing
status of “Married filing joint return”. Petitioners did not
report any income for “Taxable refunds, credits, or offsets of
state and local income taxes”. Petitioners excluded $236,761
from gross income. Attached to the 1999 tax return is a letter
dated January 31, 2000, which states:
This letter is to confirm that Edgar B. Alacan, as an
employee of J.W. Barclay & Co., sustained $236,761 in after
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tax expenses for the 1999 tax year. * * * A detailed list of
all transactions will be provided if needed by request.
Petitioners also claimed $40,248 as “Unreimbursed employee
expenses” on the Schedule A.
On April 3, 2002, respondent sent petitioners a notice of
deficiency in which respondent determined a deficiency of
$87,751. Respondent disallowed petitioners’ exclusion from gross
income of $236,761, explaining that the amount “has been adjusted
to the amount verified.” Further, respondent disallowed
petitioners’ claimed employee business expense of $40,248
reported on the Schedule A, explaining that “you did not
establish that the business expense shown on your tax return was
paid or incurred during the taxable year and that the expense was
ordinary and necessary to your business”.
On May 28, 2002, the Court filed petitioners’ petition
disputing $39,826 of respondent’s disallowance of business
expenses and the exclusion from gross income of $236,761.
Petitioners argued that they could substantiate the disallowed
amounts.
On June 19, 2003, respondent filed an amended answer with
leave of the Court in which respondent alleged that the
deficiency of $87,751 should be increased to $93,923 to reflect
petitioners’ receipt of a refund of their 1998 State and local
income taxes plus interest income on such refund which was
unreported as income on the 1999 tax return.
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OPINION
I. Claimed Expenses
Deductions are a matter of legislative grace, and a taxpayer
bears the burden of proving that he has complied with the
specific requirements for any deduction he claims.1 See INDOPCO,
Inc. v. Commissioner, 503 U.S. 79, 84 (1992); New Colonial Ice
Co. v. Helvering, 292 U.S. 435, 440 (1934).
Under section 162, a taxpayer may deduct all ordinary and
necessary expenses paid or incurred during the taxable year in
carrying on any trade or business if the taxpayer maintains
records or other proof sufficient to substantiate the expenses.
Sec. 162(a); sec. 6001; Deputy v. duPont, 308 U.S. 488, 495-496
(1940); sec. 1.6001-1(a), Income Tax Regs.
If a claimed business expense is deductible, but the
taxpayer is unable to substantiate it, we are generally permitted
to approximate the amount of the expense, bearing heavily against
the taxpayer whose inexactitude is of his own making. Cohan v.
Commissioner, 39 F.2d 540, 543-544 (2d Cir. 1930). The estimate,
however, must have a reasonable evidentiary basis. Vanicek v.
Commissioner, 85 T.C. 731, 743 (1985).
1
Petitioners do not argue that the burden of proof shifts
to respondent pursuant to sec. 7491(a) and that the threshold
requirements of sec. 7491(a) have been met. In any event, we
decide the issue on the basis of the preponderance of evidence on
the record.
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Petitioners failed to provide substantiation for any of the
claimed expenses that respondent disallowed. During trial,
petitioners did not provide any testimony or written
documentation for substantiation purposes. Further, we find that
petitioners put forth little effort in trying to obtain the
required documentation since they became aware of the deficiency
more than 2 years ago.
As a result, we hold that petitioners are not entitled to
claim the disputed expenses as deductions. In light of the lack
of evidence on the record substantiating any of petitioners’
claimed expenses, we also hold that petitioners are not entitled
to exclude the disputed expenses from income.
II. State Income Tax Refund
Generally, if an amount was deducted on a prior year’s tax
return which resulted in a reduction of tax and a tax benefit to
the taxpayer, a subsequent recovery by the taxpayer of such
amount must be included in gross income in the year the recovery
is received. Sec. 111(a); Kadunc v. Commissioner, T.C. Memo.
1997-92. Therefore, gross income includes a refund of State
income tax in the year received to the extent that the payment of
such tax was claimed as a deduction in a prior taxable year which
resulted in a reduction of Federal income tax. See Kadunc v.
Commissioner, supra.
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The burden of proof with regard to this issue is on
respondent because he asserted an increased deficiency in an
amended pleading. Rule 142(a). Respondent established
petitioners’ receipt of the State income tax refund and
accompanying interest income by placing into evidence certified
documents from the New York State Department of Taxation and
Finance, which report that petitioners received a State income
tax refund and interest income with regard to the State income
taxes paid for 1998 in 1999. Further, the parties placed into
evidence petitioners’ 1998 tax return, which reported a claimed
deduction for State income taxes paid in 1998 that reduced
petitioners’ tax for 1998, and petitioners’ 1999 tax return,
which did not report as income the State income tax refund and
interest income received in 1999.
Petitioners did not provide any evidence to dispute their
receipt of the refund and interest income in 1999 and their
failure to report such as income on their 1999 tax return. In
fact, the parties stipulated that petitioners received the State
income tax refund and applicable interest income in 1999 and did
not include such income on their 1999 tax return. On the basis
of the evidence on the record, we hold that petitioners are
liable for the increased deficiency because of their receipt of a
State income tax refund and applicable interest income during
1999.
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In reaching our holdings herein, we have considered all
arguments made, and, to the extent not mentioned above, we
conclude that they are irrelevant or without merit.
To reflect the foregoing,
Decision will be
entered for respondent.