T.C. Summary Opinion 2009-123
UNITED STATES TAX COURT
PRESTON B. HANDY, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket Nos. 2105-07S, 3614-07S. Filed August 4, 2009.
Jay Stuart Dankberg, for petitioner.
Jessica R. Browde, for respondent.
PANUTHOS, Chief Special Trial Judge: These consolidated
cases were heard pursuant to the provisions of section 7463 of
the Internal Revenue Code in effect when the petitions were
filed.1 Pursuant to section 7463(b), the decision to be entered
1
Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the years in issue, all
Rule references are to the Tax Court Rules of Practice and
Procedure, and amounts are rounded.
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in each docket is not reviewable by any other court, and this
opinion shall not be treated as precedent for any other case.
The Internal Revenue Service (IRS) determined deficiencies
and penalties in petitioner Preston B. Handy’s Federal income tax
for taxable years 2003 and 2004 (the years in issue) as follows:
Penalty
Year Deficiency Sec. 6662(a)
2003 $2,375 $475
2004 2,196 439
The issues for decision are: (1) Whether petitioner is
entitled to itemized deductions in amounts greater than the
standard deductions the IRS allowed, and (2) whether petitioner
is liable for accuracy-related penalties under section 6662(a)
and (b)(1).
Background
Some of the facts have been stipulated, and we incorporate
the stipulation and accompanying exhibits by this reference.
Petitioner lived in New York when he filed each petition.
During the years in issue, petitioner was a professional actor
and performer and a dues-paying member of both the Screen Actor’s
Guild and the American Federation of Television and Radio
Artists.
Petitioner has been an actor since 1973, with roles in
movies, television, and theatrical productions. At a time not
apparent from the record, petitioner leased one or more rooms on
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the third floor of a residential building in Brooklyn.
Petitioner occasionally lived at that location, where he also
stored his acting wardrobe and his business records.
Petitioner timely filed his Federal income tax returns for
the years in issue, reporting the following income on Forms 1040,
U.S. Individual Income Tax Return:
Income 2003 2004
Wages, salaries, tips $18,014 $19,108
Taxable interest 2,584 -0-
Taxable State tax refund 56 312
Unemployment compensation 7,148 5,559
Total income 27,802 24,979
Petitioner claimed the following expenses on Schedules A,
Itemized Deductions, and Forms 2106, Employee Business Expenses:
Expenses 2003 2004
Job expenses & most miscellaneous
deductions
Parking fees, tolls and
transportation, not including
overnight travel or commuting $4,007 $4,237
Travel expenses while away from home
overnight -0- 1,009
Business expenses 15,896 16,254
50 percent of meals and entertainment
expenses 1,524 2,048
Tax preparation fees 350 -0-
Total job & miscellaneous expenses 21,777 23,548
2-percent sec. 67 limitation (556) (500)
Total job & miscellaneous deduction 21,221 23,048
State income taxes 745 754
Total itemized deductions 21,966 23,802
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Petitioner did not provide any further details of his
business expenses on his 2003 return, but he included with his
2004 return the following schedule detailing his business
expenses:
Expense 2004
Agent’s fees $1,850
Office 1,205
Union dues 1,597
Postage 3,042
Telephone 3,569
Professional research 1,024
Dues and subscriptions 554
Costumes 2,609
Hairstyling 505
Business gifts 175
Miscellaneous 124
Total detailed business expenses 16,254
The IRS issued a notice of deficiency for taxable year 2004
on October 17, 2006, and a separate notice of deficiency for
taxable year 2003 on November 8, 2006. The IRS disallowed
petitioner’s unreimbursed business expenses for both years,
determining that petitioner failed to substantiate the expenses
and failed to establish that the expenses were ordinary and
necessary to petitioner’s business. The IRS allowed petitioner
the standard deduction for each of the years in issue.
Petitioner timely petitioned this Court for redetermination.
On March 8, 2007, the New York City buildings commissioner
ordered petitioner’s room in Brooklyn vacated because of
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conditions deemed imminently perilous to life. The order
prohibited reentry until the hazardous conditions were
eliminated. Petitioner was away from his room in Brooklyn when
he received a telephone call informing him of this action.
Petitioner did not have an opportunity to remove his belongings.
Upon reentering the property after the city ordered it vacated,
petitioner found his acting wardrobe, business records,
furniture, and props wet and in some disarray.
Discussion
In general, the Commissioner’s determination set forth in a
notice of deficiency is presumed correct, and a taxpayer bears
the burden of proving that the determination is in error. Rule
142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). Pursuant
to section 7491(a), the burden of proof as to factual matters
shifts to the Commissioner under certain circumstances.
Petitioner has neither alleged that section 7491(a) applies nor
established his compliance with its requirements. Petitioner
therefore bears the burden of proof.
Deductions are a matter of legislative grace, and a taxpayer
bears the burden of proving that he is entitled to any deduction
claimed. INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 (1992);
New Colonial Ice Co. v. Helvering, 292 U.S. 435, 440 (1934). A
taxpayer is required to maintain records sufficient to enable the
Commissioner to determine his correct tax liability. Sec. 6001;
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sec. 1.6001-1(a), Income Tax Regs. Such records must
substantiate both the amount and purpose of the claimed
deductions. Higbee v. Commissioner, 116 T.C. 438, 440 (2001).
When a taxpayer establishes that he has incurred a
deductible expense but is unable to substantiate the exact
amount, we are generally permitted to estimate the deductible
amount. Cohan v. Commissioner, 39 F.2d 540, 543-544 (2d Cir.
1930). To apply the Cohan rule, however, the Court must have a
reasonable basis upon which to make an estimate. Vanicek v.
Commissioner, 85 T.C. 731, 742-743 (1985).
Congress overrode the Cohan rule with section 274(d), which
requires strict substantiation for certain categories of
expenses; in the absence of evidence demonstrating the exact
amounts of those expenses, deductions for them are to be
disallowed entirely. Sanford v. Commissioner, 50 T.C. 823, 827
(1968), affd. per curiam 412 F.2d 201 (2d Cir. 1969). Expenses
subject to section 274(d) include travel and meal expenses, as
well as expenses for listed property, such as passenger
automobiles, computers, and cellular telephones. Secs. 274(d),
280F(d)(4). A taxpayer must substantiate the amount, time,
place, and business purpose of these expenditures and must
provide adequate records or sufficient evidence to corroborate
his own statement. See sec. 274(d); sec. 1.274-5T(c)(1),
Temporary Income Tax Regs., 50 Fed. Reg. 46016 (Nov. 6, 1985).
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An exception allows a taxpayer to substantiate his expenses
through a reasonable reconstruction of his records, but only
where the taxpayer establishes that his records were lost due to
circumstances beyond his control, such as to fire, flood,
earthquake, or other casualty. Sec. 1.274-5T(c)(5), Temporary
Income Tax Regs., 50 Fed. Reg. 46022 (Nov. 6, 1985).
Section 162(a) allows deductions for all ordinary and
necessary business expenses paid or incurred during the taxable
year in carrying on a trade or business. Performing services as
an employee constitutes a trade or business. Primuth v.
Commissioner, 54 T.C. 374, 377-378 (1970). Those expenses that
are (1) ordinary and necessary to the taxpayer’s business and (2)
paid or incurred in a given year are deductible that year;
however, personal, living, or family expenses are not deductible.
See secs. 162(a), 262(a); sec. 1.162-17(a), Income Tax Regs.
Petitioner testified that his receipts and business records
were lost when the city “condemned” his room in Brooklyn.
Petitioner asserts that his records were lost due to a casualty
and through no fault of his own and argues that he should be
allowed to reconstruct his records. Petitioner also testified
that at the time of trial he believed that the condemnation
occurred before he received notification from the IRS regarding
deficiencies for the tax years in issue.
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Respondent asserts that the city action and any water damage
occurred in March 2007, not only well after the IRS completed the
examination and issued both notices of deficiency in 2006 but
also after petitioner requested redetermination of the
deficiencies by filing petitions with this Court in January and
February 2007. Respondent asserts that petitioner did not
produce any records to substantiate his expenses during the
examination of his returns and that petitioner has not provided
any corroboration of any loss of property at this location.2
Petitioner introduced a sign from the New York City
buildings commissioner stating that the premises (the front room
on the third floor of the building in Brooklyn where he rented
space) had been vacated and that reentry was prohibited until the
conditions deemed imminently perilous to life were rectified to
the satisfaction of the New York City Buildings Department. The
sign is dated March 8, 2007. Petitioner also introduced a
listing of building violations which indicates that a notice of
violation regarding water leaking onto the third-floor public
hall was issued on January 17, 2007, but that entry did not
indicate that petitioner’s unit was affected. The listing covers
2
Petitioner testified that he stored his acting wardrobe in
the room in Brooklyn and that he purchased insurance on his
acting wardrobe from Allstate Financial. At trial he did not
substantiate his loss (for example, by introducing evidence that
he filed a claim with Allstate for lost or damaged props or
costumes or by offering his 2007 Federal income tax return to
show that he claimed a casualty loss deduction).
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the period from July 12, 2005, through March 13, 2007, but it
does not list any violation in March 2007 directly affecting
either the third floor or petitioner’s room, and it does not
describe the conditions that triggered the action taken by the
New York City Buildings Department on March 8, 2007.
In preparation for trial petitioner’s counsel sent letters
to many businesses and individuals from whom petitioner asserts
he purchased goods and services related to his business in 2003
and 2004. In these letters petitioner’s counsel asked each
vendor to specify the amounts petitioner paid the particular
vendor during the years in issue. Some of the letters were
completed and returned. Petitioner’s counsel offered the letters
into evidence. Respondent’s counsel objected that the letters
are out-of-court statements offered for the truth of their
contents. We sustained respondent’s hearsay objection.3 See
Fed. R. Evid. 801(c).
The Court did provide petitioner an opportunity to review
each of the proffered documents one at a time. After the review
of each document, petitioner was mostly unable to provide
3
Rule 174(b) provides that any evidence deemed by the Court
to have probative value shall be admissible in a small tax case.
When petitioner’s counsel attempted to lay a foundation for the
admission of the third-party statements, petitioner was unable to
adequately identify the documents or show any independent
recollection of the facts and circumstances that were the subject
matter of the particular documents. The Court thus concluded
that the documents had little, if any, probative value.
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independent testimony as to the facts and circumstances
surrounding the particular expenditure that was the subject
matter of the document. Although at times petitioner appeared to
indicate that his recollection was refreshed, as soon as a
particular document was out of his sight he was often unable to
provide any coherent testimony as to the subject matter of the
claimed deduction. Thus, in most instances petitioner’s
recollection was not refreshed by the use of these numerous
exhibits. See Fed. R. Evid. 612.
Assuming arguendo that petitioner’s records were destroyed
after he was prohibited from entering his room in Brooklyn, he
has not reasonably reconstructed any records as required by the
exception to the strict substantiation requirement of section
274. We may accept credible testimony of a taxpayer to
substantiate a deduction requiring strict substantiation when a
casualty to the taxpayer’s records has been established and no
documentation is available, but we are not required to do so.
Boyd v. Commissioner, 122 T.C. 305, 320 (2004) (citing Watson v.
Commissioner, T.C. Memo. 1988-29). In this case there is
insufficient evidence of a casualty. In any event we do not find
petitioner’s testimony sufficiently specific or credible to
satisfy the requirements of section 274 and the exception
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thereto.4 Accordingly, we will not allow any deduction for
travel and meal expenses or for expenses for listed property,
such as passenger automobiles, computers, and cellular
telephones. Thus, the remaining item for consideration is the
deduction claimed and identified by petitioner as “Business
Expenses” ($15,896 for 2003 and $16,254 for 2004).
Petitioner included a schedule detailing his business
expenses with his 2004 return but did not include such a schedule
with his 2003 return. His testimony indicates that he claimed
similar business expenses for each year. We will use the
categories he provided for 2004 as a guide to our analysis of his
deductible expenses for each year. The categories are:
Agent’s fees
Office
Union dues
Postage
Telephone
Professional research
Dues and subscriptions
Costumes
Hairstyling
Business gifts
Miscellaneous
4
Petitioner testified that he incurred expenses in 2003 in
excess of $25,000. The claimed expenses exceed petitioner’s wage
income for 2003 of $18,014 and approach his total income of
$27,802. Petitioner alleges that his sleeping on friends’
couches and eating for free at movie and television sets enabled
him to live in New York City on only a few thousand dollars in
2003.
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Petitioner’s testimony indicates that he paid several agents
to help him secure work. His explanation of office expenses
suggests that those expenses were directed to the same purpose;
to wit, preparing mailings to send to producers and others. We
are satisfied that petitioner incurred expenses for agents and
promotional materials, and we allow a combined $1,500 deduction
for agent and office expenses for each year in issue.
The parties stipulated that petitioner paid $609 and $531 in
union dues for 2003 and 2004, respectively. We are not convinced
that he paid more than these amounts for the years in issue.
Petitioner introduced a list of addresses to which he mailed
postcards and pictures and other promotional materials during
2003 and 2004 in order to solicit acting work. We are satisfied
that he made many such mailings and allow $1,000 for postage
expenses for each year in issue.
Petitioner testified that his telephone expenses included
payments for a voice mail service as well as for service for two
cellular telephones that he used strictly for business. Under
section 274, we may not estimate expenses for listed property,
which includes cellular telephones. Although petitioner
testified that he subscribed to a voice mail service, we note
that cellular telephone service typically includes voice mail.
Thus, we will not estimate any additional expense for an
additional voice messaging service.
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Petitioner’s testimony about professional research expenses
was general and vague, and those expenses appeared to overlap
with his payments to agents and with his claimed dues and
subscription expenses. His testimony about dues and
subscriptions involved reciting the newsstand price and
publication frequency of several publications related to his
acting profession and claiming to have purchased each issue of
those items at newsstands. On this record, we do not have a
reasonable basis to estimate any expenses for research, nor is
there any evidence that petitioner paid for subscriptions to any
trade publications. We will not estimate an expense for
research, dues, or subscriptions.
Petitioner testified that he developed an extensive acting
wardrobe. Some of his promotional materials depict him in
costume, and some materials appear to list numerous costumes
petitioner apparently owned and in which he stood ready to act.
However, petitioner did not testify that he purchased any
particular costumes or props during either year in issue, and he
did not provide any detail of any roles he played during those
years that required him to add to his professional wardrobe. We
do not have any reasonable basis on which to estimate an expense
for costume purchases in 2003 or 2004. See Vanicek v.
Commissioner, 85 T.C. at 742-743; see also Yeomans v.
Commissioner, 30 T.C. 757, 767-769 (1958).
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Petitioner did not testify or introduce any other evidence
relating to his claimed hairstyling expenses. Accordingly, we
apply the general rule that grooming is an inherently personal
expense and the cost is not deductible. Hynes v. Commissioner,
74 T.C. 1266, 1291-1292 (1980).
Petitioner’s testimony with respect to expenses for business
gifts indicates that he paid for meals and drinks for business
associates. Meals and entertainment expenses are subject to the
strict substantiation requirements of section 274, and therefore
we may not estimate any expense for petitioner’s business gifts
for either year in issue.
Petitioner did not testify or introduce any other evidence
relating to claimed miscellaneous expenses, and we cannot make an
informed estimate without some reasonable basis.
As a result of our conclusions herein, petitioner’s
allowable itemized deductions are less than the standard
deduction for each year in issue. Respondent’s determination
allowing the standard deduction for each year is accordingly
sustained.
Respondent also determined an accuracy-related penalty for
each year in issue, asserting that petitioner’s deficiency
results from negligence or disregard of rules and regulations.
Pursuant to section 7491(c), the Commissioner bears the burden of
production and must produce sufficient evidence showing that the
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imposition of the penalty is appropriate in a particular case.
Higbee v. Commissioner, 116 T.C. at 446.
Respondent asserts that the magnitude of petitioner’s
claimed deductions (roughly 120 percent of his wages for each
year and 77 to 94 percent of his total income for each year) and
petitioner’s inability to substantiate his expenses even before
any alleged water damage to his room in Brooklyn collectively
indicate petitioner’s negligence and disregard for rules and
regulations. Respondent has satisfied his burden to show that
the penalties are appropriate.
Once the Commissioner meets his burden, a taxpayer must come
forward with persuasive evidence that the Commissioner’s
determination is incorrect. Rule 142(a); Higbee v. Commissioner,
supra at 447. To the extent that a taxpayer shows there was
reasonable cause for an underpayment and that he acted in good
faith, section 6664(c)(1) prohibits the imposition of a penalty
under section 6662.
Petitioner used a return preparer to prepare his Federal
income tax returns for the years in issue. He did not explain
what information he provided to his preparer or how the preparer
arrived at the amounts of expenses petitioner deducted on the
returns. The damage to petitioner’s room in Brooklyn may provide
reasonable cause for his inability at trial to produce records
substantiating his expenses, but, as noted, the listing of
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violations that petitioner introduced makes no mention of water
damage to his room, and he has not provided any evidence
supporting his loss. Petitioner failed to establish reasonable
cause for the positions he took on his return and good faith in
taking those positions. Respondent’s determination is sustained.
To reflect the foregoing,
Decisions will be entered
for respondent.