T.C. Summary Opinion 2005-81
UNITED STATES TAX COURT
DEBORAH Y. AND DONALD J. EVERHART, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 2897-03S. Filed June 9, 2005.
Deborah Y. and Donald J. Everhart, pro sese.
Laurie A. Nasky, for respondent.
GOLDBERG, Special Trial Judge: This case was heard pursuant
to the provisions of section 7463 of the Internal Revenue Code in
effect at the time the petition was filed. The decision to be
entered is not reviewable by any other court, and this opinion
should not be cited as authority. Unless otherwise indicated,
subsequent section references are to the Internal Revenue Code in
effect for the year in issue, and all Rule references are to the
Tax Court Rules of Practice and Procedure.
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Respondent determined a deficiency in petitioners’ Federal
income tax of $12,120 and an accuracy-related penalty in the
amount of $2,424 pursuant to section 6662(a) for the taxable year
2000.
After a concession by petitioners,1 the issues for decision
are: (1) Whether petitioners failed to report income, received
by petitioner Donald J. Everhart, from Ronald Muhammad for
contracting work; and (2) whether petitioners are liable for an
accuracy-related penalty in the amount of $2,424 pursuant to
section 6662(a) for the taxable year 2000.
Background
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. Petitioners resided in
Chicago, Illinois, on the date the petition was filed in this
case.
Petitioners timely filed a Federal joint income tax return
for the taxable year 2000. During taxable year 2000, Donald J.
Everhart (petitioner) was a contractor licensed by the city of
Chicago. Petitioner was retained in that capacity by Ronald
Muhammad (Mr. Muhammad) to perform construction services at
rental property owned by Mr. Muhammad.
1
Petitioners conceded that they failed to include in gross
income for taxable year 2000, $28 of interest income.
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To do the necessary repairs, Mr. Muhammad obtained a home
rehabilitation loan of $32,949.85 from Wells Fargo Home Mortgage,
Inc. Petitioner was the general contractor of record on this
home rehabilitation loan. Wells Fargo Home Mortgage, Inc. issued
the proceeds of Mr. Muhammad’s home rehabilitation loan on August
28, 2000, and October 11, 2000, by checks jointly payable to both
Mr. Muhammad and petitioner in the amounts of $12,261.67 and
$20,688.18, respectively. Both Mr. Muhammad and petitioner
endorsed these checks. Mr. Muhammad deposited the proceeds from
these checks into his bank account at Shore Bank. Wells Fargo
Home Mortgage, Inc. also issued to petitioner a Form 1099-Misc,
Miscellaneous Income, for taxable year 2000 reflecting a
distribution to petitioner of nonemployee compensation in the
amount of $32,949.85.
At the beginning of their work relationship, petitioner and
Mr. Muhammad did not enter into any contract outlining the scope
of the work to be performed. Petitioner testified he and Mr.
Muhammad entered into a contract later in taxable year 2000.
However, no contract was offered into evidence at trial.
Petitioner received and negotiated the following checks
totaling $24,312 drawn on Mr. Muhammad’s Shore Bank account
payable to petitioner:
Date Check # Memo Amount
09/03/2000 4656 $100
09/12/2000 4657 Tax from Wells Fargo 12261 1,861
09/24/2000 4661 Dumpster 300
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09/27/2000 4666 Soffit for kitchen 350
09/27/2000 4667 Roofing material 800
10/04/2000 4674 Roof 900
10/07/2000 4717 Front roof shingles 700
10/13/2000 4720 Roofing rubbish closet drywall 600
10/22/2000 4732 Wiring intercom recess lighting... 1,000
10/22/2000 4733 1st ½ payment for concrete for basement 3,250
10/22/2000 4730 Final payment for heating... 350
10/22/2000 4731 Copping chps + bricking of 1st floor... 400
10/24/2000 4734 Tax 3,101
10/26/2000 4736 Plumbing roofing labor roof bal... 1,100
10/27/2000 4737 Final payment concrete basement 3,250
11/01/2000 4739 Roofing labor material 300
11/04/2000 4741 450
11/08/2000 4743 Insulation + drywall flashing 1,700
11/16/2000 4750 Drywall 700
11/24/2000 4752 Electrical + labor 800
12/01/2000 4754 Electrical drywall carpentry 1,200
12/08/2000 4758 Drywall installation 700
12/22/2000 4763 400
Total $24,312
Petitioner also maintained a checking account with Shore
Bank during taxable year 2000. During the period from October
25, 2000, through December 31, 2000, petitioner made deposits in
his Shore Bank account as follows:
Date Amount
10/25/2000 $500
10/27/2000 300
11/01/2000 100
11/06/2000 100
11/08/2000 1,600
11/16/2000 400
11/24/2000 50
12/01/2000 125
12/08/2000 375
12/22/2000 100
Total $3,650
During the period from October 25, 2000, through December
31, 2000, petitioner wrote checks totaling $3,509 drawn on his
Shore Bank account as follows:
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Date Check # Description Amount
10/25/2000 95 Payable to: Deborah Everhart $200
Memo: Roof material
10/26/2000 96 Payable to: Cash 100
Memo: Material plumb
10/28/2000 97 Payable to: Cash 100
Memo: Material
10/30/2000 99 Payable to: Cash 100
Memo: Expense
10/30/2000 100 Payable to: Cash 50
Memo: Material
11/01/2000 98 Payable to: Cash 60
Memo: Labor
11/03/2000 Payable to: Cash 70
11/06/2000 102 Payable to: Cash 50
Memo: Expense
11/07/2000 101 Payable to: Capital one 50
Memo: Collections
11/07/2000 103 Payable to: Cash 50
Memo: Expense
11/08/2000 104 Payable to: Deborah Everhart 130
Memo: McKey + Pogue
11/08/2000 106 Payable to: Julius Jones 35
11/09/2000 107 Payable to: Kozmiwski 24
Memo: Apples
11/09/2000 108 Payable to: Cash 800
Memo: Material
11/10/2000 109 Payable to: Cash 100
11/12/2000 110 Payable to: Deborah Everhart 100
Memo: Labor 4343
11/13/2000 112 Payable to: Cash 100
Memo: Expense
11/13/2000 113 Payable to: Cash 100
Memo: Expense
11/14/2000 114 Payable to: Cash 100
Memo: Expense
11/15/2000 115 Payable to: Cash 50
Memo: Expense
11/16/2000 116 Payable to: Cash 75
11/17/2000 117 Payable to: Cash 300
11/20/2000 118 Payable to: Cash 60
11/21/2000 119 Payable to: Cash 30
11/21/2000 121 Payable to: Cash 30
11/28/2000 122 Payable to: Cash 30
Memo: Expense
12/04/2000 124 Payable to: Cash 30
12/06/2000 125 Payable to: Cash 40
Memo: Expense
12/07/2000 126 Payable to: Cash 30
12/09/2000 127 Payable to: Deborah Y. Everhart 300
Memo: Donald Everhart loan
12/12/2000 128 Payable to: Cash 50
12/12/2000 129 Payable to: Cash 25
12/12/2000 131 Payable to: Cash 30
12/18/2000 132 Payable to: Cash 10
12/26/2000 133 Payable to: Cash 100
Total $3,509
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Petitioner also signed a document entitled “Final Waiver of
Lien”, which was dated August 28, 2000. This document
acknowledged petitioner’s receipt of $28,143.43 for labor and
material furnished for the renovation of Mr. Muhammad’s rental
property.
By notice of deficiency, respondent determined that
petitioners failed to report on their Federal income tax return
for the taxable year 2000 income earned by petitioner, received
from Mr. Muhammad, for contracting work in the amount of
$30,468.2 Respondent also determined that petitioners are liable
for an accuracy-related penalty in the amount of $2,424 pursuant
to section 6662(a) for the taxable year 2000.
Discussion
In general, the Commissioner’s determination set forth in a
notice of deficiency is presumed correct, and the taxpayer bears
the burden of showing that the determination is in error. Rule
142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). As one
exception to this rule, section 7491(a) places upon the
Commissioner the burden of proof with respect to any factual
issue relating to liability for tax if the taxpayer maintained
adequate records, satisfied the substantiation requirements,
2
This amount was determined by the Form 1099-Misc,
Miscellaneous Income, from Wells Fargo Home Mortgage, Inc., which
reported nonemployee compensation of $32,949, less self
employment tax deduction of $2,481.
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cooperated with the Commissioner, and introduced during the Court
proceeding credible evidence with respect to the factual issue.
Although neither party alleges the applicability of section
7491(a), we conclude that the burden of proof has not shifted to
respondent with respect to the unreported income. Respondent has
the burden of production with respect to the accuracy-related
penalty, however. Sec. 7491(c); Higbee v. Commissioner, 116 T.C.
438, 446-447 (2001). Therefore, petitioner bears the burden of
showing that the deposits made to his account, checks cashed, and
checks written on his account, were not includable in his 2000
income as determined by respondent. Bank deposits have been held
to be prima facie evidence of income. Tokarski v. Commissioner,
87 T.C. 74, 77 (1986); Estate of Mason v. Commissioner, 64 T.C.
651, 656 (1975), affd. 566 F.2d 2 (6th Cir. 1977).
1. Unreported Income
As stated previously, respondent determined that petitioners
failed to report income in tax year 2000 in the amount of
$30,468. However, petitioner argues that such payments were made
pursuant to a contractor relationship he had with Mr. Muhammad,
and, therefore, petitioner claims he was merely a conduit between
Mr. Muhammad and the subcontractors that petitioner hired to
perform the work.
Section 61(a) defines gross income as “all income from
whatever source derived,” unless otherwise provided. The Supreme
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Court has consistently given this definition of gross income a
liberal construction “in recognition of the intention of Congress
to tax all gains except those specifically exempted.”
Commissioner v. Glenshaw Glass Co., 348 U.S. 426, 430 (1955); see
also Roemer v. Commissioner, 716 F.2d 693, 696 (9th Cir. 1983),
(all realized accessions to wealth are presumed taxable income,
unless the taxpayer can demonstrate that an acquisition is
specifically exempted from taxation), revg. 79 T.C. 398 (1982).
However, pursuant to section 162, a taxpayer may deduct
ordinary and necessary expenses paid or incurred during the
taxable year in carrying on his or her trade or business. A
taxpayer is engaged in a trade or business if the taxpayer is
involved in the activity (1) with continuity and regularity, and
(2) with the primary purpose of making a profit. Commissioner v.
Groetzinger, 480 U.S. 23, 35 (1987); Antonides v. Commissioner,
893 F.2d 656, 659 (4th Cir. 1990), affg. 91 T.C. 686 (1988).
Petitioner has the burden of proving that he was engaged in
a trade or business and, as stated previously, that the deposits
made to his account, checks cashed, and checks written on his
account, were not includable in his 2000 income as determined by
respondent. Rule 142(a); INDOPCO, Inc. v. Commissioner, 503 U.S.
79, 84 (1992); New Colonial Ice Co. v. Helvering, 292 U.S. 435,
440 (1934); Welch v. Helvering, supra.
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Petitioner does not deny that he received the payments from
Mr. Muhammad in the amounts determined by respondent. In any
event, substantial evidence was presented which leads us to the
conclusion that petitioner received the amounts calculated by
respondent. Petitioner asserts that such payments were not
income to him but advances made by Mr. Muhammad to pay
subcontractors and purchase materials for the renovation of Mr.
Muhammad’s rental property. Petitioner also asserts that he
received the payments as agent for Mr. Muhammad.
Petitioner contends that he functioned merely as a conduit
through which Mr. Muhammad purchased labor and materials for the
renovation project, with the result that the payments received
from Mr. Muhammad are not taxable to him. Petitioner does not
clearly explain the legal basis for this position, and he cites
no cases in support thereof.
We would agree that a taxpayer need not treat as income
moneys which he did not receive under a claim of right, which
were not his to keep, and which he was required to transmit to
someone else as a mere conduit. See Diamond v. Commissioner, 56
T.C. 530, 541 (1971), affd. 492 F.2d 286 (7th Cir. 1974); see
also Mill v. Commissioner, 5 T.C. 691, 694 (1945); Parker v.
Commissioner, T.C. Memo. 1985-263. On the other hand, if a
taxpayer receives moneys under a claim of right and without
restriction or limitation as to the disposition of the moneys,
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then the taxpayer has received income, even though it may still
be claimed that he is not entitled to retain the money, and even
though he may be liable to restore its equivalent. See North Am.
Oil Consol. v. Burnet, 286 U.S. 417, 424 (1932).
Assuming petitioner was correct in his conduit or agency
argument, he would still have to substantiate that the deposits
made to his account, checks cashed, and checks written on his
account, were not includable in his 2000 income.
However, the record as a whole in the present case leads to
the inescapable conclusion that petitioner was a self-employed
contractor licensed by the city of Chicago during taxable year
2000, and that petitioner was the general contractor of record on
the Wells Fargo Home Mortgage, Inc. rehabilitation loan.
Therefore, it is unnecessary to consider petitioner’s “conduit”
or “agency” argument.
Section 162(a) allows a deduction for ordinary and necessary
business expenses paid or incurred during the taxable year in
carrying on any trade or business. To be “ordinary” the
transaction that gives rise to the expense must be of a common or
frequent occurrence in the type of business involved. Deputy v.
du Pont, 308 U.S. 488, 495 (1940). To be “necessary” an expense
must be “appropriate and helpful” to the taxpayer’s business.
Welch v. Helvering, supra at 113-114.
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Deductions are a matter of legislative grace, and the
taxpayer bears the burden of proving that he is entitled to any
deduction claimed. Rule 142(a); New Colonial Ice Co. v.
Helvering, supra. This includes the burden of substantiation.
Hradesky v. Commissioner, 65 T.C. 87, 89-90 (1975), affd. per
curiam 540 F.2d 821 (5th Cir. 1976).
Section 6001 and the regulations promulgated thereunder
require taxpayers to maintain records sufficient to permit
verification of income and expenses. As a general rule, if the
trial record provides sufficient evidence that the taxpayer has
incurred a deductible expense, but the taxpayer is unable to
adequately substantiate the precise amount of the deduction to
which he or she is otherwise entitled, the Court may estimate the
amount of the deductible expense and allow the deduction to that
extent, bearing heavily against the taxpayer whose inexactitude
in substantiating the amount of the expense is of his or her own
making. Cohan v. Commissioner, 39 F.2d 540 (2d Cir. 1930).
However, in order for the Court to estimate the amount of an
expense, the Court must have some basis upon which an estimate
may be made. Vanicek v. Commissioner, 85 T.C. 731, 742-743
(1985). Without such a basis, any allowance would amount to
unguided largesse. Williams v. United States, 245 F.2d 559, 560-
561 (5th Cir. 1957).
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It appears from the testimony presented at trial that
petitioner and Mr. Muhammad had a “loose” work relationship in
which Mr. Muhammad would supply sums of money to petitioner in
the form of cash and checks. Petitioner would then use these
moneys to pay off expenses incurred in the renovation of Mr.
Muhammad’s rental property; any surplus or net profit was used to
pay petitioner’s personal debts. Both petitioner and Mr.
Muhammad testified that they had receipts which could
substantiate the expenditures of the renovation project; however,
such receipts were lost or stolen. Neither petitioner nor Mr.
Muhammad attempted to contact third parties to receive duplicate
receipts, and neither individual attempted to reconstruct a list
of such expenditures.
At trial, petitioner elicited testimony from Robert Blacher
(Mr. Blacher), who was a subcontractor who did concrete work in
the renovation of Mr. Muhammad’s rental property. Mr. Blacher
testified that he received payment of $6,500 for his services
from petitioner. Petitioner also elicited testimony from Rafiq
Ahmad (Mr. Ahmad) who did drywall work in the renovation project.
Mr. Ahmad testified that he received payment of approximately
$700 for his services from petitioner.
Petitioner offered into evidence copies of the
aforementioned checks and applicable bank statements. Petitioner
also testified that these payments were made for the renovation
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project. Petitioner also testified that the proceeds from these
payments were used to pay for the labor and materials incurred in
the renovation project.
Based upon all of the facts and circumstances of this case,
we find that petitioner’s general contracting business had gross
income of $32,949 in taxable year 2000. We further find that
petitioner has substantiated business expense deductions relating
to his general contracting business of $18,4003 for taxable year
2000. As a result, petitioners realized net income of $12,068
for the taxable year in issue from petitioner’s general
contracting business.
2. Accuracy-Related Penalty
As stated previously, respondent determined that petitioners
are liable for an accuracy-related penalty pursuant to section
6662(a) with respect to the underpayment attributable to the
unreported income of petitioner.
Section 7491(c) provides that the Commissioner shall have
the burden of production in any court proceeding with respect to
the liability of any individual for any penalty, addition to tax,
or additional amount. Specifically, section 7491(c), which was
3
It is possible that petitioner has incurred business
expense deductions in excess of this amount; however, due to
petitioner’s lack of clear records, petitioner is unable to
substantiate further deductions, and we are unable to estimate
any further deductions under the rule in Cohan v. Commissioner,
39 F.2d 540 (2d Cir. 1930).
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enacted by the Internal Revenue Service Restructuring and Reform
Act of 1998 (RRA 1998), Pub. L. 105-206, sec. 3001(a), 112 Stat.
726, provides as follows:
SEC. 7491(c). Penalties.--Notwithstanding any other
provision of this title, the Secretary shall have the burden
of production in any court proceeding with respect to the
liability of any individual for any penalty, addition to
tax, or additional amount imposed by this title.
As previously stated, section 7491(c) is effective with respect
to court proceedings arising in connection with examinations
commencing after July 22, 1998. RRA 1998 sec. 3001(c)(1), 112
Stat. 727. There is no dispute that the examination in the
present case commenced after July 22, 1998.
Section 6662(a) imposes a 20-percent penalty on the portion
of an underpayment attributable to any of various factors, one of
which is negligence or disregard of rules or regulations. Sec.
6662(b)(1). “Negligence” includes any failure to make a
reasonable attempt to comply with the provisions of the Internal
Revenue Code, including failure to keep adequate books and
records or to substantiate items properly. Sec. 6662(c); sec.
1.6662-4(b)(1), Income Tax Regs. Section 6664(c)(1) provides
that the penalty under section 6662(a) shall not apply to any
portion of an underpayment if it is shown that there was
reasonable cause for the taxpayer’s position and that the
taxpayer acted in good faith with respect to that portion. The
determination of whether a taxpayer acted with reasonable cause
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and in good faith is made on a case-by-case basis, taking into
account all the pertinent facts and circumstances. Sec. 1.6664-
4(b)(1), Income Tax Regs. The most important factor is the
extent of the taxpayer’s effort to assess his proper tax
liability for the year. Id.
It is clear that petitioner was negligent with respect to
the $12,068 that was received by him through his general
contracting business. Petitioner did not keep adequate books and
records, or otherwise substantiate the $12,068, as required by
the Internal Revenue Code. Thus, the amount of the accuracy-
related penalty applicable to petitioners’ unreported income for
taxable year 2000 requires computation from the foregoing.
Reviewed and adopted as the report of the Small Tax Case
Division.
To reflect petitioners’ concessions and our resolution of
the disputed matters,
Decision will be entered
under Rule 155.