T.C. Summary Opinion 2007-161
UNITED STATES TAX COURT
PERRY ALAN PEDERSEN, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 3391-05S. Filed September 10, 2007.
Perry Alan Pedersen, pro se.
Charles M. Berlau, for respondent.
WHERRY, Judge: This case was heard pursuant to section 7463
of the Internal Revenue Code in effect when the petition was
filed.1 Pursuant to section 7463(b), the decision to be entered
is not reviewable by any other court, and this opinion shall not
be treated as precedent for any other case.
1
All subsequent section references are to the Internal
Revenue Code of 1986, as amended and in effect for the taxable
year at issue. The Rule reference is to the Tax Court Rules of
Practice and Procedure.
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Respondent determined a deficiency in petitioner’s Federal
income tax for the 2002 taxable year in the amount of $23,277.
Respondent also determined an accuracy-related penalty pursuant
to section 6662(a) in the amount of $1,068. Petitioner does not
dispute the deficiency as determined by respondent.2 Thus, the
sole issue now before the Court is whether petitioner is liable
for the section 6662(a) accuracy-related penalty.
Background
Some of the facts have been stipulated, and the stipulated
facts and accompanying exhibits are hereby incorporated by
reference. At the time he filed his petition, petitioner resided
in Albuquerque, New Mexico.
Petitioner filed, in a timely manner, a Form 1040, U.S.
Individual Income Tax Return, for the 2002 taxable year. For the
2002 taxable year, petitioner received from his employer, Altana,
Inc., two Forms W-2, Wage and Tax Statement, in the amounts of
$103,955.11 and $73.313.30. Petitioner failed to report, on his
Form 1040, $73,310.30 in wages, the amount on one of his Forms W-
2
Although the amount of tax owed is not in dispute, it is
noteworthy that the actual amount of tax owed by petitioner was
$5,337.10, significantly less than the $23,277 deficiency listed
in the notice of deficiency. The difference is attributable to
the fact that withholding from one of petitioner’s Forms W-2,
Wage and Tax Statement, was not initially accounted for by
respondent because petitioner had failed to report the income
from that Form W-2. Respondent accounted for that difference
before determining the accuracy-related penalty in this case. In
any event, the deficiency in this case constitutes a substantial
understatement of income tax.
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2, and $15 in dividend income. In addition, in Schedule E,
Supplemental Income and Loss, petitioner improperly reported a
$7,584 passive loss. On January 24, 2005, respondent issued the
aforementioned notice of deficiency. Petitioner then filed a
timely petition with this Court disputing only his liability for
the accuracy-related penalty. A trial was held on November 27,
2006, in Albuquerque, New Mexico.
Discussion
I. Parties’ Contentions
Petitioner argues that he is not liable for the accuracy-
related section 6662(a) penalty because he relied on his
accountant for the preparation of his 2002 tax return. In
addition, petitioner contends that he and his accountant were
confused by the fact that petitioner’s employer, Altana, Inc.,
had issued two separate Forms W-2 for the 2002 taxable year.
Petitioner asserts that he believed that only one of the Forms W-
2 was correct and that one Form W-2 superseded the other. In
support of this contention, petitioner has provided two letters
from his accountant, David M. Beail (Mr. Beail), sent to the
Internal Revenue Service (IRS) in August and October 2004 in an
attempt to persuade the IRS to abate the section 6662(a) penalty.
In the October 2004 letter, Mr. Beail asserts that “It was our
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thought that only one W-2 was correct, as Mr. Pedersen had never
received two W-2's from his company.”3
Respondent contends that nothing other than petitioner’s own
testimony indicates whether his accountant was competent. More
importantly, respondent asserts that petitioner and his
accountant’s assumptions regarding the two Forms W-2 were not
reasonable in light of the fact that neither Form W-2 was marked
revised. Respondent further asserts that the failure of
petitioner and his accountant to contact Altana, Inc., in order
to verify the correct amount of petitioner’s wages reflects a
lack of good faith and reasonable cause. Finally, respondent
points out that, at trial, petitioner admitted that he had not
examined his tax return “closely enough” and that petitioner’s
failure to do so resulted in his failing to report more than 40
percent of his wages on his 2002 tax return.
3
At trial, respondent conceded that the October 2004
letter is contained in respondent’s administrative file.
Petitioner had already raised that letter in his pretrial
memorandum. Nevertheless, when petitioner referred to that
letter at trial, respondent objected to its introduction into
evidence on the basis of hearsay. Noting that this is a small
tax case, the Court observed that section 7463 generally allows
disputes in small tax cases to be decided in proceedings in which
the normally applicable procedural and evidentiary rules are
relaxed. In addition, the Court referenced Rule 174(b), which
provides: “Trials of small tax cases will be conducted as
informally as possible consistent with orderly procedure, and any
evidence deemed by the Court to have probative value shall be
admissible.” The Court then overruled respondent’s objection.
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II. Section 6662 Penalty
Under section 7491(c), respondent bears the burden of
production with respect to petitioner’s liability for the section
6662(a) penalty. This means that respondent “must come forward
with sufficient evidence indicating that it is appropriate to
impose the relevant penalty.” Higbee v. Commissioner, 116 T.C.
438, 446 (2001).
We conclude that respondent has met the section 7491(c)
burden of production with respect to the substantial
understatement penalty. As explained below, in this close case,
we ultimately find unavailing petitioner’s argument that he is
not liable for the accuracy-related penalty because he acted with
reasonable cause and in good faith by relying on his accountant
in failing to report $73,313.30 in wages for the 2002 taxable
year.
Subsection (a) of section 6662 imposes an accuracy-related
penalty on an underpayment of tax that is equal to 20 percent of
any underpayment that is attributable to a list of causes
contained in subsection (b). Among the causes justifying the
imposition of the penalty are (1) negligence or disregard of
rules or regulations and (2) any substantial understatement of
income tax. Section 6662(c) defines negligence as “any failure
to make a reasonable attempt to comply with the provisions of
this title.” “[D]isregard” is defined to include “any careless,
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reckless, or intentional disregard.” Id. Under caselaw,
“‘Negligence is a lack of due care or the failure to do what a
reasonable and ordinarily prudent person would do under the
circumstances.’” Freytag v. Commissioner, 89 T.C. 849, 887
(1987) (quoting Marcello v. Commissioner, 380 F.2d 499, 506 (5th
Cir. 1967), affg. on this issue 43 T.C. 168 (1964) and T.C. Memo.
1964-2990), affd. 904 F.2d 1011 (5th Cir. 1990), affd. 501 U.S.
868 (1991).
There is a “substantial understatement” of income tax for
any taxable year where 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. 6662(d)(1)(A)(i) and (ii). However, the amount of the
understatement is reduced to the extent attributable to an item
(1) for which there is or was substantial authority for the
taxpayer’s treatment thereof, or (2) with respect to which the
relevant facts were adequately disclosed on the taxpayer’s return
or an attached statement and there is a reasonable basis for the
taxpayer’s treatment of the item. See sec. 6662(d)(2)(B).
There is an exception to the section 6662(a) penalty when a
taxpayer can demonstrate (1) reasonable cause for the
underpayment and (2) that the taxpayer acted in good faith with
respect to the underpayment. Sec. 6664(c)(1). Regulations
promulgated under section 6664(c) further provide that the
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determination of reasonable cause and good faith “is made on a
case-by-case basis, taking into account all pertinent facts and
circumstances.” Sec. 1.6664-4(b)(1), Income Tax Regs.
Reliance upon the advice of a tax professional may, but does
not necessarily, establish reasonable cause and good faith for
the purpose of avoiding a section 6662(a) penalty. See United
States v. Boyle, 469 U.S. 241, 251 (1985) (“Reliance by a lay
person on a lawyer is of course common; but that reliance cannot
function as a substitute for compliance with an unambiguous
statute.”). Such reliance does not serve as an “absolute
defense”; it is merely a “factor to be considered.” Freytag v.
Commissioner, supra at 888. The caselaw sets forth the following
three requirements in order for a taxpayer to use reliance on a
tax professional to avoid liability for a section 6662(a)
penalty: (1) The adviser was a competent professional who had
sufficient expertise to justify reliance, (2) the taxpayer
provided necessary and accurate information to the tax adviser,
and (3) the taxpayer actually relied in good faith on the
adviser's advice. See Neonatology Associates, P.A. v.
Commissioner, 115 T.C. 43, 99 (2000), affd. 299 F.3d 221 (3d Cir.
2002).
In this case, the notice of deficiency included the
imposition of a $1,068.00 section 6662(a) penalty on the basis
that there was a substantial understatement of petitioner’s
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income tax for the 2002 taxable year. Petitioner does not
contest that he substantially understated his 2002 income tax.
The vast majority of that understatement was attributable to
petitioner’s failure to report $73,313.30 in wages on his income
tax return for that year. Although petitioner also failed to
report $15 in dividend income and improperly claimed a $7,584
Schedule E passive activity loss, all of petitioner’s and
respondent’s arguments, at trial and in their briefs, focus on
petitioner’s failure to report the $73,313.30 in wages.
With respect to the first prong of the Neonatology, test, we
conclude that petitioner has established that his accountant was
a competent professional who had sufficient expertise to justify
reliance.4 See Neonatology Associates, P.A. v. Commissioner,
supra at 99. With respect to the second prong of the Neonatology
test, Mr. Beail’s letters make clear that petitioner did provide
Mr. Beail with both Forms W-2. Because petitioner’s failure to
report all of his wages is the sole basis argued by respondent to
support the imposition of a penalty in this case, petitioner has
satisfied the second prong of the Neonatology test.
4
Mr. Beail’s letters indicate that he is a certified
public accountant, and records of the Washington State Board of
Accountancy, which this Court will take judicial notice of,
indicate that Mr. Beail is currently licensed to practice public
accounting. In addition, the Supreme Court has held that
accountants, like attorneys, are professionals upon whom
taxpayers can rely for advice “on a matter of tax law, such as
whether a liability exists.” United States v. Boyle, 469 U.S.
241, 251 (1985).
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Turning to the third prong of the Neonatology test, we note
that petitioner admitted at trial that he had not examined his
2002 tax return “closely enough.” Petitioner had a duty to read
his return to ensure that all income items were included. Magill
v. Commissioner, 70 T.C. 465, 479-480 (1978), affd. 651 F.2d 1233
(6th Cir. 1981). Petitioner was not permitted to bury his head
in the sand and ignore his obligation to ensure that his tax
return accurately reflected his income for the 2002 taxable year.
In the end, reliance on his accountant does not excuse
petitioner’s failure to closely examine his 2002 tax return.
To the extent that petitioner and/or his accountant might
have been confused by the fact that petitioner’s employer, Altana
Inc., issued two Forms W-2 for the 2002 taxable year rather than
one, they were free to contact petitioner’s employer to inquire
as to that issue. As was conceded by petitioner at trial,
neither petitioner nor his accountant contacted Altana, Inc.,
before filing petitioner’s 2002 tax return, in order to determine
why petitioner had been issued two Forms W-2 for the 2002 taxable
year. Given (1) the materiality of the large amount of
unreported Form W-2 income, (2) the fact that petitioner and his
accountant were both confused as to why petitioner had received
two Forms W-2, and (3) the fact that neither one of them made a
reasonable effort to resolve that issue, the Court cannot find
that petitioner relied in good faith on Mr. Beail’s advice.
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Finally, as respondent correctly points out, because neither Form
W-2 was marked as having been corrected, it was not reasonable
for petitioner and his accountant to believe, without questioning
petitioner’s employer, that only one of the Forms W-2 was
correct.
Although this close case might have been more equitably
resolved by the parties, this Court is constrained to apply the
full penalty or no penalty at all. Because petitioner has not
demonstrated reasonable cause and good faith for the
underpayment, the Court sustains respondent’s imposition of the
section 6662(a) penalty.
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,
Decision will be entered
for respondent.