T.C. Memo. 2007-22
UNITED STATES TAX COURT
SHAHROOZ S. AND SHIDA S. JAMIE, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 18497-05. Filed February 5, 2007.
Shahrooz S. and Shida S. Jamie, pro sese.
Terry Serena, for respondent.
MEMORANDUM OPINION
COHEN, Judge: Respondent determined the following
deficiencies and penalties with respect to petitioners’ Federal
income tax:
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Penalty
Petitioner(s) Year Deficiency I.R.C. Sec. 6662(a)
Shahrooz S. and 2000 $478,890 $95,778.00
Shida S. Jamie
Shahrooz S. Jamie 2001 137,839 27,567.80
Shahrooz S. Jamie 2002 200,138 40,027.60
The notice of deficiency for 2000 was addressed to both
Shahrooz S. Jamie (petitioner) and Shida S. Jamie, his wife
(Mrs. Jamie), and was based on a joint return that they filed for
that year. The notice of deficiency for 2001 and 2002 was
addressed only to petitioner. Respondent has agreed that
Mrs. Jamie is entitled to relief as an innocent spouse.
The issues for decision are:
(1) Whether petitioner is entitled and limited to a $3,000
per year deduction for capital losses from his trading activity
for 2000, 2001, and 2002;
(2) whether petitioner may claim net operating loss
carryovers in 2001 and 2002 with regard to losses sustained in
his transactions as a trader in securities in 2000 and 2001; and
(3) whether petitioner is liable for penalties under section
6662(a) of the Internal Revenue Code for substantial
understatements of income tax.
Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the years in issue, and
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all Rule references are to the Tax Court Rules of Practice and
Procedure. All amounts have been rounded to the nearest dollar.
Background
All of the facts have been stipulated as to petitioner, and
these stipulated facts are incorporated in our findings by this
reference. Petitioners resided in Clay, West Virginia, at the
time that the petition was filed.
During the relevant period, petitioner was a licensed
physician in Clay County, West Virginia. During the years in
issue, petitioner also engaged in business as a “day trader” of
securities, buying and selling on his own account the same
securities on the same day or within a few days (trading
activity). Petitioner engaged in the trading activity for the
sole purpose of profiting from short-term fluctuations in the
market price of securities. Petitioner did not have any
customers for his trading activity, did not earn or attempt to
earn any commissions with regard to his trading activity, and did
not maintain a place of business for his trading activity.
Petitioner did not earn dividends or interest from the securities
in which he traded, and he did not engage in his trading activity
with the purpose of earning dividends or interest. Petitioner
was not, for Federal income tax purposes, a dealer in the
securities that he traded.
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For the years in issue, petitioner reported income and basis
and claimed losses with regard to his trading activity on
Schedules C, Profit or Loss From Business, identifying his
profession as “Stock Day Trader” in 2000, “Trader” in 2001, and
“Day Trader” in 2002. The number of transactions, gross
receipts, total basis, and losses with respect to petitioner’s
trading activity for each of the years in issue were as follows:
No. of Gross Direct Total
Year Trans. Receipts Total Basis Losses Losses
2000 118 $14,487,667 $16,409,654 $1,921,987 $1,978,747
2001 81 655,764 993,906 338,142 377,388
2002 53 1,788,341 2,040,663 252,322 252,322
The total losses indicated above include allowable interest
expenses claimed by petitioner in the amounts of $56,760 for 2000
and $39,246 for 2001. On his returns for the years in issue,
petitioner did not elect to use a “mark to market” method of
accounting for his trading activity. Petitioner reported income
and expenses associated with his medical practice, identifying
his profession as “Physician” in all years, on Schedules C
separate from those reporting his trading activity.
From losses sustained in his trading activity, petitioner
claimed net operating loss (NOL) carryovers in the amounts of
$545,907 in 2001 and $2,027,136 in 2002. He used the claimed NOL
carryovers to offset his reported net income from his medical
practice in those years.
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Discussion
As a general rule, any loss sustained in a business or other
profit-seeking activity by a taxpayer during the taxable year for
which the taxpayer is not compensated by insurance or otherwise
is allowed as a deduction in calculating the taxpayer’s taxable
income. Sec. 165(a). However, losses from sales or exchanges of
capital assets are allowed only to the extent allowed in sections
1211 and 1212. Sec. 165(f). Section 1211(b) places limitations
on the allowability of capital losses for individuals as follows:
SEC. 1211(b). Other Taxpayers.--In the case of a
taxpayer other than a corporation, losses from sales or
exchanges of capital assets shall be allowed only to
the extent of the gains from such sales or exchanges,
plus (if such losses exceed such gains) the lower of–-
(1) $3,000 * * *, or
(2) the excess of such losses over such
gains.
If capital losses exceed capital gains by more than $3,000, the
excess may be carried forward to later taxable years. Sec.
1212(b). Section 172 permits a deduction in a current year for
the full amount of net operating loss carrybacks or carryovers
from previous years, as long as taxable income for the current
year is not less than zero. Sec. 172(a), (b)(2). However, net
capital losses that are carried forward may be deducted only in
later tax years subject to the limitations of section 1211(b),
which allows capital losses only to the extent of capital gains,
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plus up to $3,000 for individuals each year. Secs. 172(d)(2),
1211(b); see Fortner v. Commissioner, T.C. Memo. 1993-195.
Because capital gains and losses are those sustained in the
disposition of capital assets, we consider whether the securities
held by petitioner in relation to his trading activity were
capital assets. Section 1221 defines the term “capital asset” as
follows:
SEC. 1221(a). In General.--For purposes of this
subtitle, the term “capital asset” means property held
by the taxpayer (whether or not connected with his
trade or business), but does not include–-
(1) stock in trade of the taxpayer or other
property of a kind which would properly be
included in the inventory of the taxpayer if on
hand at the close of the taxable year, or property
held by the taxpayer primarily for sale to
customers in the ordinary course of his trade or
business;
Because they deal in securities held primarily for sale to
customers in the ordinary course of their trade or business,
dealers in securities need not treat securities as capital
assets. King v. Commissioner, 89 T.C. 445, 458 (1987). However,
because traders buy and sell securities on their own accounts and
have no customers, securities held by traders are capital assets
for Federal income tax purposes. Id.
Petitioner and respondent have stipulated that petitioner
was a trader and not a dealer with regard to his securities
trading activity during the years in issue. The courts have
consistently held, in keeping with the definition of capital
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asset under section 1221, that the character of gains or losses
from a taxpayer’s buying and selling securities on his own
account is capital and not ordinary, even though the taxpayer may
be engaged in a trade or business with regard to such trading
activity. See, e.g., Marrin v. Commissioner, 147 F.3d 147, 151
(2d Cir. 1998), affg. T.C. Memo. 1997-24; King v. Commissioner,
supra at 458. Thus, the losses that petitioner sustained as a
securities trader buying and selling stocks are capital losses,
not ordinary losses. He may not offset his ordinary income in a
taxable year, except to the extent of $3,000, with the capital
losses sustained in that year. Secs. 172(d)(2), 1211(b).
Because the amounts claimed as NOL carryovers were capital
losses, respondent correctly disallowed the NOL carryover
deductions as offsets to petitioner’s ordinary income in 2001 and
2002.
Petitioner may offset any capital gains he had in the years
in issue with his capital losses, and he may take an additional
capital loss deduction of up to $3,000 per year for the excess
losses that cannot be offset by capital gains. Sec. 1211(b).
His nondeductible capital losses may be carried over to be
deducted from capital gains in subsequent years. Sec. 1212(b).
Because the losses sustained by petitioner in relation to his
trading activity are capital and not ordinary in character, such
excess capital losses carried over are deductible only in
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subsequent years to the extent he has capital gains, plus excess
losses of up to $3,000. Secs. 172(d)(2), 1211(b); see also Flora
v. Commissioner, T.C. Memo. 1965-64.
Respondent also determined accuracy-related penalties under
section 6662(a) for a substantial understatement of income tax on
petitioner’s income tax returns for the years in issue. Under
section 7491(c), respondent has the burden of production with
regard to penalties and must come forward with sufficient
evidence indicating that it is appropriate to impose the penalty.
Higbee v. Commissioner, 116 T.C. 438, 446 (2001).
Under section 6662(a), a taxpayer may be liable for a
penalty of 20 percent on the portion of an underpayment of tax
due to any substantial understatement of income tax. Sec.
6662(b)(2). An understatement of income tax is “substantial” if
it exceeds the greater of 10 percent of the tax required to be
shown on the return or $5,000. Sec. 6662(d)(1)(A). The
understatement is reduced to the extent that the taxpayer (1) has
substantial authority for the tax treatment of the item or
(2) adequately disclosed his position and has a reasonable basis
for such position. Sec. 6662(d)(2)(B).
In this case, the understatement on petitioner’s returns
meets the section 6662(d)(1)(A) definition of “substantial”, so
respondent has met that burden of production. Petitioner has not
cited any substantial authority to support his argument that his
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losses from day trading are deductible from his ordinary income.
There is no reasonable basis for his treatment of the losses as
ordinary. Thus there is no reduction of petitioner’s
understatement of tax that is subject to the section 6662(a)
penalty. See sec. 6662(d)(2)(B).
The accuracy-related penalty under section 6662(a) is not
imposed with respect to any portion of the underpayment as to
which the taxpayer acted with reasonable cause and in good faith.
Sec. 6664(c)(1). The decision as to whether a taxpayer acted
with reasonable cause and in good faith is made by taking into
account all of the pertinent facts and circumstances. Sec.
1.6664-4(b)(1), Income Tax Regs. Relevant factors include the
taxpayer’s efforts to assess his or her proper tax liability,
including the taxpayer’s reasonable and good faith reliance on
the advice of a tax professional. See id. Petitioner has
presented no evidence that he acted in reasonable reliance on the
advice of a tax professional in asserting the position taken on
his returns or that he otherwise acted with reasonable cause or
in good faith. Therefore, the penalties for substantial
understatement of tax are sustained for 2000, 2001, and 2002.
To reflect the foregoing,
Decision will be entered
under Rule 155.