T.C. Memo. 2006-128
UNITED STATES TAX COURT
CHESTER H. AND MICHELLE R. ROSSMAN, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 20095-03. Filed June 20, 2006.
Ps failed to file Federal income tax returns for
the 1997, 1998, 1999, and 2000 taxable years. R
determined deficiencies and additions to tax under sec.
6651(f), I.R.C., or alternatively, under sec.
6651(a)(1), I.R.C.
Held: P-H is liable for additions to tax for the
years in issue under sec. 6651(f), I.R.C.
Edward G. Marshall, for petitioners.
Paul L. Dixon, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
WHERRY, Judge: Respondent’s statutory notice of deficiency
dated August 21, 2003, determined deficiencies and additions to
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tax pursuant to section 6651(f)1 (or, alternatively, section
6651(a)(1)) and section 6651(a)(2) with respect to petitioners’
Federal income taxes for 1997 through 2000. By stipulation, the
parties agreed to the following reduced tax deficiencies:
Year Deficiency
1997 $14,062
1998 24,266
1999 87,662
2000 56,572
After further concessions,2 the remaining issue for decision
is whether petitioner is liable for additions to tax under
section 6651(f) for the 1997, 1998, 1999, and 2000 taxable years.
1
Unless otherwise indicated, all section references are to
the Internal Revenue Code (Code) in effect for the years in
issue, and all Rule references are to the Tax Court Rules of
Practice and Procedure.
2
By stipulation, the parties agreed that petitioner
Michelle R. Rossman (Ms. Rossman) is not liable for any of the
income tax deficiencies or additions to tax. Thus, all future
references to “petitioner” will be to Chester H. Rossman II.
At trial, respondent agreed that the only remaining issue
was whether petitioner was liable for an addition to tax under
sec. 6651(f) or, in the alternative, sec. 6651(a)(1) for 1997
through 2000. In his pretrial memorandum, petitioner conceded
the applicability of sec. 6651(a)(1) to the stipulated
deficiencies if sec. 6651(f) does not apply. The parties
stipulated that petitioner is not liable for any additions to tax
under sec. 6651(a)(2) for 1997 through 2000.
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FINDINGS OF FACT
Background
Some of the facts have been stipulated and are so found.
The stipulations of the parties, with accompanying exhibits, are
incorporated herein by this reference. At the time the petition
in this case was filed, petitioner resided in Cedar City, Utah.
In 1992, petitioner started a business, Dependable Service
Group Trust (DSG) d.b.a. Trustees Training Services (TTS) and
Trust Support Group (TSG). Petitioner was a trustee of DSG,
which was formed to introduce trust products promoted by National
Trust Services (NTS) and Fiduciary Management Group (FMG).3
These organizations hired petitioner to give seminars regarding
the creation and the operation of their trust products.
Petitioner also conducted consultations and training with regard
to the creation and operation of various trust products as a side
business and assisted personal acquaintances in forming trust
arrangements.
3
Michael D. Richmond and Rex E. Black d.b.a. FMG have
promoted abusive tax schemes. See e.g., United States v.
Richmond, 90 AFTR 2d 2002-6353, 2002-2 USTC par. 50,677 (N.D.
Ill. 2002). NTS and its representatives Roy Fritts and Rick
Prescott have also promoted abusive trust arrangements intended
unlawfully to avoid Federal and State income, estate, and gift
taxes. See, e.g., Kooyers v. Commissioner, T.C. Memo. 2004-281;
Bowen v. Commissioner, T.C. Memo. 2001-47; United States v.
Fritts, 97 AFTR 2d 2006-915 (N.D. Cal. 2005); United States v.
Green, 95 AFTR 2d 2005-572 (E.D. Va. 2004); Colby B. Found. v.
United States, 80 AFTR 2d 97-7689 (D. Or. 1997), affd. without
published opinion 166 F.3d 1217 (9th Cir. 1999).
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Petitioner described TTS as an educational program that
provided services enabling participants to “learn how to read
& study the law, interpret the IRS’ codes and publications, and
understand the ‘sophisticated’ manner in which Trustees should
carry on business and live within the framework of Complex
Trusts.” The “complex trusts” to which petitioner referred
included the trusts that petitioner testified NTS would promote
and package together with an allegedly charitable trust to
provide tax benefits. Petitioner spoke at NTS’s conferences in
1998, 1999, and 2000 and provided consultation services to the
principals4 of NTS. Petitioner continued to engage in his DSG
consulting business during 1997 through 2000 and did not at any
time file any Federal income tax returns for DSG.5
Prior Taxable Years: 1987 Through 1992 and 1994 Through 1996
Respondent’s agent, Jacob Riley (Agent Riley), beginning in
1997 conducted an examination of petitioner’s 1994 through 1996
taxable years. He typically reviewed tax returns in the abusive
promotions and abusive returns area,6 and in connection with this
work, he determined that petitioner had not yet filed Federal tax
4
Petitioner testified that part of these consultation
services entailed clarifying issues in a dispute between NTS
principals Rick Prescott and Roy Fritts.
5
The parties stipulated that DSG is a disregarded entity
for Federal income tax purposes.
6
Petitioner and Agent Riley first met when petitioner
represented a trust during the audit of another taxpayer.
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returns for the years beginning in 1987.7 There were, however,
existing assessed tax liabilities for the taxable years 1987
through 1992 arising from substitutes for tax returns prepared by
the Internal Revenue Service (IRS). In 1997, Agent Riley
contacted petitioner via letter, informing petitioner that he had
not filed Federal income tax returns for the 1994 through 1996
taxable years and requesting that petitioner submit returns for
those years to him.
Petitioner did not immediately reply to Agent Riley’s
request. When petitioner later responded to Agent Riley,
he stated that he would meet with his accountant and would submit
returns for 1994 through 1996 sometime in early 1998. During
this time, petitioner continued to conduct trust training
seminars advising people about their tax obligations. Agent
Riley received letters from petitioner every 30 days promising
returns within the next 30 days or so. However, petitioner did
not submit returns to Agent Riley during 1998, contending that he
was “still studying it out”.
While waiting for petitioner to submit returns, Agent Riley
received a letter dated November 17, 1998, signed by both
petitioner and Edward G. Marshall (Mr. Marshall), the attorney
representing petitioner in this case. The letter titled “Opinion
Letter” propounded arguments against the filing requirement and
7
Ultimately, petitioner filed Forms 1040, U.S. Individual
Income Tax Return, for 1994 through 1996 on May 11, 2000.
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petitioner’s liability for income tax. The letter contained
petitioner’s statement:
In good faith, I have determined from written,
reliable, legal advice from tax professionals and
further research into the law, that I am not liable or
subject to or for any tax under Title 26, and nothing I
receive is subject to tax under Subtitle A. I am not a
‘taxpayer’ as defined in Section 7701(a)(14), and as
defined in Section 1313(b).
In the same letter, petitioner claimed to have determined
from the information he researched and studied that he should use
Form 2555, Foreign Earned Income,8 to file his taxes. Agent
Riley did not respond to petitioner’s letter because the IRS did
not normally respond to protest letters.
Although petitioner researched the law contained in the
letter over several years, believed his positions were accurate,
and considered sending the letter to Agent Riley, petitioner
testified the positions asserted in the letter were not his
positions. Petitioner further contended that, while he and Mr.
Marshall signed the letter, he did not know how Agent Riley
received the letter because neither petitioner nor Mr. Marshall
sent the letter to Agent Riley.
8
The purpose of Form 2555, Foreign Earned Income, is for
U.S. citizens or U.S. resident aliens living in another country
to declare, among other things, their foreign earned income and
possibly qualify for certain tax benefits related to their
foreign earned income. There is no evidence in the record, nor
did petitioner assert, that any of his income was foreign earned
income.
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Petitioner stated that there was no letterhead page attached
to the letter when both petitioner and Mr. Marshall signed the
letter. Therefore, petitioner postulated that an associate, Jim
Jensen (Mr. Jensen), also involved in TSG, sent the letter to
Agent Riley substituting a retyped page one containing Mr.
Marshall’s letterhead. Mr. Jensen was not called and did not
testify at trial.
Continuing his audit examination, in the absence of tax
returns or tax documents, Agent Riley issued summonses to banks
and mortgage companies in an attempt to obtain petitioner’s
financial information. However, Agent Riley was unable to
procure petitioner’s financial information because there were no
bank accounts in petitioner’s or his wife’s name. Agent Riley
then reconstructed petitioner’s income using Bureau of Labor
Statistics information and sent his examination report to
petitioner around the end of 1999. Petitioner responded by
filing a protest and a request to go to the Salt Lake City, Utah
IRS Office of Appeals.
Petitioner stated that he was confused as to whether he
should file a Form 1040, U.S. Individual Income Tax Return, or a
Form 2555. He testified that Agent Riley asked him “to fill out
1040 returns” but that petitioner’s “studies” showed the form
used by the Office of Management and Budget that was “assigned
[to] collect the tax on income” appeared to be Form 2555. On May
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11, 2000, petitioner submitted Forms 1040 for 1994 through 1996,
to an Appeals officer.
Because of the information disclosed by the tax returns, the
examination of 1994 through 1996 was sent back to the examination
function by Appeals and reassigned to Agent Riley. Agent Riley
issued petitioner an Information Document Request (IDR) asking
petitioner to provide documentation and support for the income
and deductions shown on his tax returns.
After issuing the IDR, Agent Riley eventually received a
response including information from another attorney, then
representing petitioner, Brian Morris. Utilizing this
information and the tax returns, Agent Riley discovered two bank
accounts under the names Oneida Family Trust (OFT) and DSG.
Petitioner possessed signature authority on both accounts.
Following a bank deposits analysis, Agent Riley determined that
petitioner understated his gross receipts on his 1994 through
1996 Federal tax returns. During a meeting with petitioner and
Mr. Marshall on May 14, 2001, Agent Riley produced three binders
containing photocopies of every check drawn on the two bank
accounts for these years. As the expenditures exceeded the
income shown on the 1994 through 1996 tax returns, Agent Riley
asked how the additional funds were derived. Petitioner replied
that he acquired the funds from gifts by family members.
After completing the examination and allowing a number of
previously disputed deductions, Agent Riley then sent the case to
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his supervisor. On May 29, 2002, the IRS issued to petitioner a
statutory notice of deficiency for 1995 and 1996. In response,
petitioner filed a petition with the Court on September 3, 2002,
at docket No. 14104-02. On December 3, 2003, pursuant to a
stipulation of the parties, this Court entered a decision in that
case that petitioner owed a deficiency and addition to tax and
penalty under sections 6651(a)(1) and 6662(a) for 1995 and a
deficiency and an addition to tax under section 6651(a)(1) for
1996.
Years in Issue: 1997, 1998, 1999, and 2000
Petitioner had gross receipts from consulting for the years
1997, 1998, 1999, and 2000 of $76,090, $178,747, $303,225, and
$198,990, respectively. On August 21, 2003, when respondent
issued petitioner a statutory notice of deficiency for each of
these years, petitioner had not yet filed a Federal income tax
return for any of them. Petitioner filed a timely petition on
November 24, 2003, and thereafter provided Forms 1040 for 1997
through 2000 to respondent in March and April, 2004.
The Forms 1040 reported less tax due than had been
determined by the notice of deficiency. Following prolonged
negotiation and petitioner’s presentation of additional evidence
and substantiation in support of his reporting positions, the
parties agreed to the following: The 1997 deficiency of $28,074
was reduced to $14,062; the 1998 deficiency of $66,821 was
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reduced to $24,266; the 1999 deficiency of $119,278 was reduced
to $87,662; and the 2000 deficiency of $75,531 was reduced to
$56,572. Thus, the aggregate reduction in petitioner’s total tax
due from the amount determined in the statutory notice of
deficiency was $107,142.
The submitted Forms 1040 tax returns for 1997 through 2000
assisted the tax resolution process by identifying claimed
deductions subject to substantiation, but they were not free from
material errors. For example, petitioner’s Form 1040, Schedule C
for 2000 reflected gross income from DSG and its related entities
of $61,655; the parties now agree the correct amount of gross
income was $198,990.9
OPINION
I. General Rules
Section 6651(f) imposes an addition to tax of up to 75
percent of the amount of tax required to be shown on the tax
return when the failure to file a Federal income tax return
timely is due to fraud.
In a case involving fraud, respondent bears the burden of
proof of establishing fraud with clear and convincing evidence.
Sec. 7454(a); Rule 142(b). There are two elements of fraud under
the Code: (1) Existence of an underpayment and (2) fraudulent
9
The record does not contain petitioner’s Forms 1040 for
1997 through 1999.
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intent with respect to some part of the underpayment. Sec.
7454(a); Rule 142(b); Conti v. Commissioner, 39 F.3d 658, 664
(6th Cir. 1994), affg. 99 T.C. 370 (1992) and T.C. Memo. 1992-
616; Petzoldt v. Commissioner, 92 T.C. 661, 699 (1989); Recklitis
v. Commissioner, 91 T.C. 874, 909 (1988); Stone v. Commissioner,
56 T.C. 213, 223 (1971); Otsuki v. Commissioner, 53 T.C. 96, 105
(1969).
Respondent determined tax deficiencies on the basis of
petitioner’s failure to report taxable income for each of the
1997 through 2000 taxable years. Petitioner stipulated
unreported gross income and deficiency amounts for 1997 through
2000, confirming an underpayment for each taxable year.
In ascertaining whether petitioner’s failure to file was
fraudulent under section 6651(f), the Court considers the same
elements that are considered in imposing the fraud penalty under
section 6663 and former section 6653(b). Clayton v.
Commissioner, 102 T.C. 632, 653 (1994). Determining the
existence of fraud is a question of fact and is resolved upon
consideration of the entire record. Niedringhaus v.
Commissioner, 99 T.C. 202, 210 (1992).
Fraud is established by proving that the taxpayer engaged in
intentional wrongdoing designed to evade tax believed to be owing
by conduct intended to conceal, mislead, or prevent the
collection of such tax. Petzoldt v. Commissioner, supra at 698;
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Recklitis v. Commissioner, supra. Respondent need not establish
that tax evasion was a taxpayer’s primary motive but may satisfy
his burden by showing a tax-evasion motive played a part in
taxpayer’s conduct. Recklitis v. Commissioner, supra.
Fraud is not to be imputed or presumed but must be
established by some independent evidence of fraudulent intent.
Niedringhaus v. Commissioner, supra; Stone v. Commissioner, supra
at 224. A mere understatement of tax does not establish fraud.
Estate of Upshaw v. Commissioner, 416 F.2d 737, 741 (7th Cir.
1969), affg. T.C. Memo. 1968-123; Otsuki v. Commissioner, supra.
While a taxpayer’s failure to file a tax return may be an
indication of fraud, it does not, by itself, establish fraud.
Recklitis v. Commissioner, supra at 910; Kotmair v. Commissioner,
86 T.C. 1253, 1261 (1986). However, when a taxpayer’s failure to
file is combined with other signs or circumstances establishing
an intent to conceal, mislead, or otherwise prevent collection of
tax, an inference of fraud is justified. Recklitis v.
Commissioner, supra at 911; see Kotmair v. Commissioner, supra at
1261.
II. Contentions of the Parties
Petitioner asserts that respondent has not met his burden of
proof under Rule 142(b) and section 7454(a). Petitioner contends
that his failure to file tax returns timely for the years in
issue resulted from the delay by Agent Riley in examining
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petitioner’s 1994 through 1996 tax returns. Petitioner contends
it was prudent to learn whether his claimed deductions for 1994
through 1996 were allowable on the basis of the audit for these
years before submitting tax returns for 1997 through 2000 on
which he hoped to claim similar deductions. Tactically, he
believed this could assist in his presentation of claimed
deductions and avoidance of penalties.
Petitioner argues that he made his 1994 through 1996 tax
records available to Agent Riley, but the IRS nevertheless
delayed in accepting petitioner’s claimed deductions for those
years, and Agent Riley never told petitioner that many of his
claimed deductions were eventually allowed by respondent.
Consequently, he contended that he could not complete and file
his 1997 through 2000 Federal income tax returns until March or
April 2004. Petitioner believes that but for his health problems
and time pressures due to the trial date he would have been able
to substantiate more of his claimed expenses and further reduce
his tax deficiencies. Petitioner denies any role in the delivery
of a frivolous tax protester letter to the IRS. He maintains
that his trust promotion and sales activity were directed at
properly educating seminar participants regarding their tax
obligations, thereby supporting the IRS’s tax law enforcement
goals.
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Respondent determined that petitioner was liable for
additions to tax under section 6651(f) for his fraudulent failure
to file income tax returns for 1997 through 2000. As badges of
his fraudulent failure to file, respondent maintains that
petitioner attempted to hide his income through the following
methods: Materially understating his income on the late-filed
Federal tax returns; intentionally delaying filing his Federal
tax returns; failing to cooperate in the examination process;
establishing sham trusts; participating actively through 2000 in
the sale and dissemination of abusive tax avoidance trusts; and
advancing frivolous tax protester arguments including the letter
received by respondent’s agent.
III. Section 6651(f) Addition to Tax
In Bradford v. Commissioner, 796 F.2d 303, 307 (9th Cir.
1986), affg. T.C. Memo. 1984-601, the Court of Appeals for the
Ninth Circuit observed that because “fraudulent intent is rarely
established by direct evidence, this court has inferred intent
from various kinds of circumstantial evidence”. See also Spies
v. United States, 317 U.S. 492, 499 (1943); Niedringhaus v.
Commissioner, supra; Stone v. Commissioner, supra; Otsuki v.
Commissioner, supra at 106. Thus, over the years, courts have
developed a nonexclusive list of indicia as circumstantial
evidence of fraudulent intent. As relevant to this report, we
discuss the following “badges of fraud”: (1) Understating
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income, (2) failing to maintain adequate records, (3) failing to
file tax returns, (4) giving implausible or inconsistent
explanations of behavior, (5) concealing assets, (6) failing to
cooperate with tax authorities, (7) engaging in illegal
activities, and (8) failing to make estimated tax payments.
Spies v. United States, supra at 499-500; Conti v. Commissioner,
39 F.3d at 662; Bradford v. Commissioner, supra at 307-308;
Niedringhaus v. Commissioner, 99 T.C. at 211; Runkle v.
Commissioner, T.C. Memo. 2005-112. While no single factor is
essential to establishing fraud, the existence of several “badges
of fraud” may constitute compelling circumstantial evidence of
fraud. See Bradford v. Commissioner, supra.
1. Understating Income
This Court has held that consistent understatements of
income in substantial amounts over a number of years by
knowledgeable taxpayers, standing alone, may be considered
persuasive evidence of fraud. Otsuki v. Commissioner, 53 T.C. at
108. For the 1995 and 1996 taxable years, respondent discovered
that petitioner understated gross receipts deposited in the OFT
and DSG bank accounts, over which petitioner had signatory
authority. After respondent’s discovery, petitioner agreed to
deficiencies for those taxable years. For the years in issue,
petitioner received compensation for his teaching and speaking
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services at NTS and FMG conferences, providing consulting
services, and engaging in several business activities.
Petitioner never filed tax returns for any of his
businesses. Ultimately, he reported some of the business income
on his own returns. He did not file any returns for the years in
issue until 2004, several months after the statutory notice of
deficiency underlying this case had been mailed determining
deficiencies in his income tax and section 6651(f) additions to
tax.
By stipulation, petitioner conceded gross receipts from his
consulting business DSG of $76,090 for 1997, $178,747 for 1998,
$303,225 for 1999, and $198,990 for 2000, and at trial,
petitioner admitted he significantly understated gross income for
2000 on the Form 1040 he submitted to respondent in March or
April of 2004. Furthermore, when Kevin Davis (Agent Davis), an
IRS agent, performed an examination of petitioner’s records, the
examination revealed that petitioner’s tax liability should have
been higher than the amounts shown on his Forms 1040 for 1998
through 2000.10 Lastly, petitioner’s self-serving statement that
he agreed to the stipulated deficiency amounts for the years in
issue only because he was “worn out” from his dealings with the
IRS fails to persuade the Court that the acknowledged tax
10
At trial, Agent Davis could not remember whether this
situation also pertained to the 1997 taxable year.
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deficiencies and failure to file timely returns are irrelevant to
the fraud issue. Thus, petitioner’s failure: (1) To fully
substantiate claimed deductions, (2) to report substantial
amounts of income for the years in issue, and (3) to report
income in prior taxable years is a pattern of conduct probative
of fraud. See Estate of Upshaw v. Commissioner, 416 F.2d at 741.
2. Failing To Maintain Adequate Records
Petitioner admitted he was a poor bookkeeper. Although he
claimed to “keep everything”: “I have every receipt. I have
everything. I just don’t have it organized, and I didn’t get a
chance to substantiate”, he did not, however, maintain his bank
records. Petitioner did not attempt to obtain bank records for
2000 because he claimed that in 2004 it was too costly for him to
do so. The extent of petitioner’s record maintenance was
described by Agent Davis as three plastic tubs containing records
spanning various years.
Although petitioner kept some records, he did not give any
records to Agent Riley regarding his income when Agent Riley
asked petitioner to file returns for the years in issue. When
the records were eventually provided to the IRS, they were
insufficient to substantiate many claimed deductions. For
example, when Agent Davis examined petitioner’s records with
respect to contributions and meals and travel expenses for the
years in issue, he allowed only some of the deductions, noting
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that petitioner had substantiation problems with other claimed
deductions. Petitioner failed to comply with repeated requests
from Agent Riley for records, and his actions show no apparent
effort to maintain adequate records from which Agent Davis could
develop an accurate accounting of petitioner’s finances.
3. Failing To File Tax Returns
Petitioner failed to file timely tax returns for 1994
through 2000, and his excuse for not filing timely returns for
the years in issue was that his “intent was to get an
understanding on 1994, 1995 and 1996 and that I would file the
1997, 1998, 1999 and 2000 as soon as I could, but that I had [an]
intention of getting those all cleared up this [2003] year.”
Petitioner did not file returns for 1994 through 1996 until May
11, 2000, and did not file returns for 1997 through 2000 until
March or April 2004. In both cases, the tax returns were filed
only after respondent issued statutory notices of deficiency to
petitioner.
In determining fraudulent intent, the Court considers as
relevant a taxpayer’s intelligence, education, and tax expertise.
Iley v. Commissioner, 19 T.C. 631, 635 (1952). While the record
does not indicate that petitioner received any special education
or training in the tax laws, he promoted himself as a business
person skilled in providing seminars on trusts and tax planning.
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Petitioner admitted that he knew he had a Federal income tax
“liability or a responsibility” to file a Federal income tax
“return or a statement”. By his own testimony, petitioner
purported to advise people on timely filing returns and timely
paying taxes. Thus, petitioner should have been and was aware of
his obligations to file a tax return and pay taxes timely.
Petitioner’s actions over several years established a pattern of
failing to file returns. Petitioner’s reasons for failing to
file do not constitute mere negligence; rather, they are an
indicator of intentional effort to delay payment of the income
tax due.
4. Giving Implausible or Inconsistent Explanations of
Behavior
Petitioner testified that he was an advocate for the IRS in
his consulting business encouraging seminar participants to
timely file their tax returns. Yet, petitioner did not file his
returns or pay his taxes timely. Petitioner’s claimed position
concerning the IRS and the filing and the payment of taxes is
inconsistent with his behavior during the 1994 through 2000
taxable years. Furthermore, petitioner’s explanation that he was
waiting for resolution on his 1994 through 1996 tax returns in
order to file tax returns for 1997 through 2000 is not
persuasive, given his business background and his familiarity
with the timely filing requirement.
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Taxpayers must file tax returns each and every year for
which gross income exceeds a certain threshold amount. Sec.
6012(a)(1). Each tax year represents a new liability and a
separate cause of action. Commissioner v. Sunnen, 333 U.S. 591,
598-599 (1948). Petitioner is not entitled to use Agent Riley’s
investigation of previous tax years’ returns as an excuse for
failing to file current year returns. Moreover, the Court does
not agree that petitioner’s alleged confusion as to whether to
file a Form 1040 or Form 2555 is a valid excuse to delay filing
either form.
Petitioner believed NTS and FMG had promoted “a lot of very
big misconceptions to taxpayers”. As a result, he claimed that
he started educating people about NTS’s and FMG’s fallacies and
misconceptions in 1992. Despite petitioner’s asserted beliefs
regarding NTS’s and FMG’s promoted misconceptions, petitioner was
hired independently by NTS and FMG to conduct seminars sponsored
by them. He also assisted in the formation of the NTS and FMG
promoted trusts. Petitioner’s tax returns for 1997 through 2000
revealed that he continued to promote for profit abusive trust
schemes marketed by NTS and FMG through at least 2000. The Court
finds petitioner’s testimony to be self-serving and contradicted
by his actions. The Court deems petitioner’s reasons for failing
to file timely his tax returns to be manufactured and not
a defense to fraud.
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5. Concealing Assets
For the taxable years 1994 through 1996, petitioner took
affirmative steps to conceal his assets and income, forcing
respondent to serve summonses on banks and mortgage companies,
to use Bureau of Labor Statistics information, and to implement
a bank deposits analysis in order to discover bank accounts,
recreate petitioner’s income, and eventually determine
understatements of income.
For taxable years 1997 through 2000, petitioner continued to
conduct business in the name of DSG. By not correctly reporting
the income earned by DSG, a disregarded trust, either on DSG’s
own return or on petitioner’s Form 1040, and continuing to
operate under DSG, there is a strong inference that petitioner
did so with the intent to conceal his income.
6. Failing To Cooperate With Tax Authorities
Petitioner did not cooperate with Agent Riley’s attempts to
obtain tax returns or financial information for the years in
issue. On December 2, 2002, petitioner informed Agent Riley that
returns were being prepared, when, in fact, they were not. When
respondent issued a notice of deficiency on August 21, 2003,
petitioner had still not filed the relevant tax returns. He
appeared to have eventually submitted Forms 1040 only to obtain
deductions to decrease the deficiencies owed.
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During an October 2004 meeting, petitioner finally provided
records to Agent Davis. The Court concludes that petitioner’s
tardy actions in providing records to Agent Davis were an attempt
to forestall further investigation and substantiate his
deductions on his late-filed returns. Petitioner’s pattern of
noncompliance is indicative of a fraudulent failure to file for
the taxable years in issue.
7. Engaging in Illegal Activities or Attempting to
Conceal Illegal Activities
Petitioner established DSG as a trust that purported to act
as his business entity. He disclosed the trust’s income and
expenses for the first time on Forms 1040 submitted woefully
late, after a notice of deficiency for the years in issue had
already been received. The Court may infer fraudulent conduct
based on petitioner’s activities involving trusts. See Muhich v.
Commissioner, T.C. Memo. 1999-192 (holding that trusts designed
to avoid Federal income tax were sham trusts), affd. 238 F.3d 860
(7th Cir. 2001).
Taxpayers are generally allowed to arrange and conduct their
affairs and structure their transactions to minimize any adverse
tax implications. See Gregory v. Helvering, 293 U.S. 465, 469
(1935); Markosian v. Commissioner, 73 T.C. 1235, 1241 (1980).
However, where a sham transaction has no economic effect other
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than creation of income tax losses, it will not be recognized for
tax purposes. Zmuda v. Commissioner, 731 F.2d 1417, 1421 (9th
Cir. 1984) (citing Thompson v. Commissioner, 631 F.2d 642, 646
(9th Cir. 1980), affg. 66 T.C. 1024 (1976)), affg. 79 T.C. 714
(1982).
Petitioner is not a stranger to disregarded trusts. In
Castro v. Commissioner, T.C. Memo. 2001-115, this Court held that
a trust created by DSG for Kevin Castro was a “flagrant tax
avoidance scheme” and properly disregarded for Federal tax
purposes because it lacked economic substance.11 Petitioner’s
involvement, himself and through DSG, in disregarded trusts as in
Castro and in the instant case demonstrates his continued
association with sham transactions and is further evidence of
fraudulent conduct.
8. Failing To Make Estimated Tax Payments
Petitioner did not file estimated tax forms or timely pay
his taxes due for the years in issue. When asked at trial
whether petitioner could recall whether he made any estimated tax
payments for the years at issue, petitioner replied: “No, I did
not.” Moreover, there is no evidence in the record that
petitioner made any payments for estimated taxes.
11
The Court notes that counsel for petitioners in Castro v.
Commissioner, T.C. Memo. 2001-115, and in the instant case is the
same individual.
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IV. Conclusion
On the basis of the record and considering all the facts and
circumstances in this case, petitioner’s actions demonstrate a
majority of the indicia of fraud considered by this Court.
Respondent has met his burden of proof by providing clear and
convincing evidence that petitioner not only established a
pattern of failing to file income tax returns, but he also
created trusts designed to conceal his income, thereby knowingly
attempting to evade taxes. Thus, respondent has shown that at
least some portion of the underpayment for each of the years in
issue was due to fraud. Moreover, petitioner did not demonstrate
that any portion of the underpayment was not attributable to
fraud. Accordingly, the Court finds that petitioner is liable
for an addition to tax under section 6651(f) for 1997 through
2000.
The Court has considered all of petitioner’s contentions,
arguments, requests, and statements. To the extent not discussed
herein, we conclude that they are meritless, moot, or irrelevant.
To reflect the foregoing and concessions made by respondent,
Decision will be entered
under Rule 155.