T.C. Memo. 2011-68
UNITED STATES TAX COURT
ELIZABETH J. PRATER, Petitioner v. COMMISSIONER OF INTERNAL
REVENUE, Respondent
CHARLES B. PRATER, Petitioner v. COMMISSIONER OF INTERNAL
REVENUE, Respondent
Docket Nos. 9314-06, 9317-06. Filed March 24, 2011.
David De Coursey Aughtry and George B. Abney, for
petitioners.
Brianna B. Taylor, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
GOEKE, Judge: Respondent determined deficiencies in
petitioners’ Federal income tax and penalties as follows:
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Penalties
Year Deficiency Sec. 6663(a)
1991 $24,905 $18,678.75
1992 83,746 62,809.50
1993 437,444 328,083.00
After concessions1 the issues for decision are:
(1) Whether petitioners failed to report income of $78,000,
$262,281, and $1,178,428 for 1991, 1992, and 1993, respectively,
related to a trucking business of which Mr. Prater was part
owner; and
(2) whether Mr. Prater is liable for section 66632 civil
fraud penalties of $18,678.75, $62,809.50, and $328,083 for years
1991, 1992, and 1993, respectively.
Some of the facts have been stipulated and are so found.
The record in this case also includes a lengthy trial record
and voluminous exhibits. Many of these exhibits had previously
been admitted in a criminal prosecution of Mr. Prater and other
defendants, but much of the evidence was first admitted in the
present case. Both this case and the prior criminal case against
Mr. Prater center on his activities as coowner and manager of
1
Respondent concedes that Mrs. Prater is not liable for the
sec. 6663(a), I.R.C., fraud penalty. Mrs. Prater concedes her
sec. 6015, I.R.C., innocent spouse claim.
2
Section references are to the Internal Revenue Code in
effect for the years at issue, and Rule references are to the Tax
Court Rules of Practice and Procedure.
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Carpet Transport, Inc. (CTI). There is no doubt that Mr. Prater
caused receipts from CTI’s business to be omitted from CTI’s
books and records and also from CTI’s income tax returns. What
Mr. Prater caused to happen to the cash is factually complex, and
the extent to which he is deemed the recipient of the income is
determined herein. On the record before us, we also determine
that Mr. Prater is subject to the 75-percent fraud penalty.
FINDINGS OF FACT
At the time of filing their petitions, petitioners resided
in Georgia. Mr. Prater served as a member of the city council in
Plainville, Georgia, for 8 years. He also served as mayor of
Plainville, Georgia, for 8 years. Mr. Prater operated a number
of businesses before CTI, including a dump truck business and a
used car business. He is an intelligent and hard–working
businessman.
1. Carpet Transport, Inc.
In 1978 Mr. Prater acquired a one-third ownership interest
in CTI. The company had approximately 600 trucks and 1,000
employees by the early 1990s. CTI was headquartered in Calhoun,
Georgia. CTI operated as a common carrier providing motor
freight transportation through the 48 States of the continental
United States. CTI’s primary cargo was carpet.
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Mr. Prater acquired a one-third interest in CTI in January
1978, with Lynwood S. Warmack (Mr. Warmack) and Gary Owens (Mr.
Owens). In the early 1990s Mr. Owens passed away, and Mr. Prater
and Mr. Warmack purchased Mr. Owens’ interest and became the sole
owners of CTI.
(a) CTI: Backhaul
After CTI completed a delivery from its headquarters to
another destination, CTI would try to arrange a “backhaul” trip.
A backhaul is the delivery of cargo from as close to the first
delivery as possible to as close to CTI’s headquarters in
Calhoun, Georgia, as possible. The goal of a backhaul is to
avoid having a truck travel long distances without any cargo.
Mr. Prater arranged all backhaul trips for CTI. The checks
received for backhauls were given to Mr. Prater by the drivers
when they returned from their trips. The checks would be paper
clipped to the outside of the trip envelopes, and Mr. Prater
would then pay the drivers 25 percent of the backhaul amounts.
Mr. Prater would place the freight bills that were attached to
the backhaul checks in garbage bags. He would then endorse the
checks and take control over them. Generally, Mr. Prater would
give the checks to CTI employees to have the checks cashed and
the cash distributed as he directed.
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From 1991 to 1993 backhaul checks totaling $3,553,446 were
not deposited into CTI’s bank accounts. Specifically,
$544,822.82, $821,886.67, and $2,186,735.86 in backhaul checks
were not deposited into CTI’s bank accounts in 1991, 1992, and
1993, respectively. A portion of the cash from the backhaul
checks was used to pay the drivers, and large amounts were
provided to W.J. Plemons Insurance, Inc. (PI), and held in a
prepaid insurance account in CTI’s name.
(b) CTI: Department of Transportation Regulations
The Department of Transportation (DOT) regulated and limited
the number of hours that truck drivers could drive. The DOT
required truck drivers to keep logs, which were then inspected by
DOT. The logs would provide the driver’s departure time, when
the driver stopped, and for how long. A driver would be “off-
log” if he drove miles or hours not recorded as required. The
DOT would then compare the drivers’ logs for consistency against
other documents, such as toll or gas receipts, which often had a
timestamp. The DOT shut down CTI at least once for having too
many drivers driving “off-log”. The DOT also fined CTI several
times with penalties as high as $70,000.
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(c) CTI: Off-Log Hours and Expenses
Legally, truck drivers could work only 60 hours per week.
Mr. Prater would pay the drivers in cash for work beyond 60 hours
per week. Mr. Prater did not require the workers to sign any
documentation when he gave them cash payments, and he did not
appear to keep any record of the cash payments made. CTI kept
two sets of timecards and separately recorded work done by a
driver when he worked over 60 hours a week.
A driver submitted a trip envelope at the end of each trip
listing expenses for the trip on the outside of the envelope and
placing the receipts from the trip inside the envelope. If a
driver had either fuel or toll tickets that did not match the DOT
logs, Mr. Prater would give the driver cash for those receipts in
lieu of having the driver submit the expense in the trip
envelope. Mr. Prater claims that he paid these expenses in cash
to conceal from the DOT the off-log driving. Mr. Prater would
then take the receipts for which he had paid cash and place them
into a garbage bag which was taken to storage. Sometimes the
dates on the receipts were changed to avoid discovery of the
violation of the DOT regulations. The receipts retrieved from
the garbage bags in storage totaled $22,060.63, $661,382.85, and
$252,294.60 for tax years 1991, 1992, and 1993, respectively.
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(d) CTI: Cashing of Advance and Payroll Checks for Drivers
by Mr. Prater
CTI provided drivers pretyped advance checks of $50 before
they departed on deliveries. This allowed the drivers to get
started right away without having to stop somewhere to cash their
advance checks. The checks were drawn on a CTI special account
and were pretyped so the dispatchers could not write the checks
for different amounts. The dispatchers cashed these checks for
the drivers. Mr. Prater also cashed advance checks for the
drivers and sometimes cashed the drivers’ paychecks for them.
Many of the first endorsements on the CTI special and
payroll checks were not made by the payees. Many of the checks
were cashed by the drivers’ wives or roommates while drivers were
out of town driving for CTI because the drivers were not
available to sign the checks.
(e) CTI: Other Cash Payments
Mr. Prater would sometimes reimburse drivers for expenses
after trips with cash. Mr. Prater would also pay cash bonuses to
drivers for “hot loads”, which were shipments that needed to be
shipped as soon as possible. No record of such cash bonuses was
maintained. Further, CTI employees, such as dispatchers, were
paid in cash on occasion. For example, Mr. Wright, a full-time
dispatcher, was originally paid $300 weekly by check and $100 in
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cash. Mr. Prater told Mr. Wright not to worry about being paid
in cash “because everyone cheats the IRS”.
Mr. Prater testified that he paid the drivers in cash as an
incentive to keep them with CTI; he further explained that the
drivers wanted to be paid in cash. Often the drivers drove more
hours than the DOT allowed, and cash payments concealed these
violations.
(f) CTI: Other Cash Income or Cash To Pay Expenses
Mr. Prater would arrange trips for CTI clients who paid for
exclusive-use loads, whereby the client would have use of a whole
trailer. The clients would pay for this service in cash, which
was given to Mr. Prater.
As a result of these cash dealings, there were occasions
when a substantial amount of cash was lying around Mr. Prater’s
office.
(g) Side Business
CTI had a side business of selling carpet. If a cargo of
carpet was damaged in shipment, the carpet retailer might not
accept it. As a result, CTI would often have to absorb the cost
of the damaged carpet and sold the excess carpet to wholesalers
or smaller companies.
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2. W.J. Plemons Insurance
William J. Plemons owned PI, an insurance agency working
primarily with freight carriers. PI customers would pay PI, and
PI in turn would pay the insurance carriers after deducting
commissions. PI wrote insurance policies for CTI and personal
insurance policies for Mr. Prater. PI provided various insurance
policies for CTI, including automobile and truck liability
insurance, cargo insurance, workers compensation insurance, and
terminal coverage insurance. PI would set up multiple accounts
for larger clients, like CTI. CTI paid fees for liability and
cargo insurance based upon gross miles driven or gross receipts.
The premiums paid were based on estimates. Since CTI operated
hundreds of trucks, a number of claims could arise; and
consequently PI arranged to hold funds for CTI to pay the
deductibles as accidents or as insured incidents arose. This
reserve account was also used to hold large amounts of off-book
receipts of CTI. On occasion Mr. Prater and CTI borrowed money
against the CTI reserve accounts on deposit with PI. To borrow
money, Mr. Prater would contact Mr. Plemons, who would then
require Mr. Prater to sign a note. If the note was paid off, PI
employees would document in PI’s books and records that it had
been paid.
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3. PI: Third-Party Checks and Backhaul Deposits
In addition to insurance for CTI, PI also handled personal
insurance for Mr. Prater and Chris Frix, Mr. Prater’s stepson.
Mr. Frix worked for PFW, a real estate company created in late
1991 that rented apartments, built houses, and developed land.
PFW was owned one-third each by Mr. Prater, Mr. Frix, and Bill
Walraven. Mr. Prater and Mr. Frix had client account numbers at
PI distinct from the corporate accounts for CTI.
Mr. Frix and Mr. Walraven managed PFW’s day-to-day
operations. PFW rented housing to CTI employees. If a CTI
employee owed PFW rent, CTI would write an advance check payable
to the employee. Mr. Frix would then pick up the check from CTI
as payment to PFW for the employee’s rent. Typically while a
driver was on the road, CTI would issue a check in the driver’s
name and give the check to Mr. Frix.
4. Other Companies
Mr. Prater coowned A&P Transportation (A&P) and Chase Truck
Brokers (CTB), a truck brokerage company that brokered freight.
In addition, he cofounded CPCF, Inc., to purchase a Gold’s Gym.
5. Mr. Prater’s Criminal Conviction
Mr. Prater was a defendant in a criminal tax case in the
U.S. District Court for the Northern District of Georgia
beginning in 1995 and ending in 1998. On October 16, 1995, a
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grand jury indicted Mr. Prater on multiple felony counts. Some
of Mr. Prater’s associates were also indicted by the grand jury.
The charges were based upon the assertion that more than $3.5
million of backhaul and other checks payable to CTI was diverted
and not reflected on CTI’s records. A portion of the $3.5
million was cashed and another portion was funneled through PI,
CTI’s insurance company.
On March 11 1998, the indictment was redacted. Counts 13,
15, and 17 of the redacted indictment all related to charges of
violation of section 7201, the evasion of personal income tax for
1991 through 1993, the same years as are here in issue. On March
16, 1998, a jury found Mr. Prater guilty on counts 1 through 19
and count 21 of the redacted indictment, which included the 3 tax
evasion counts. The jury found Mr. Prater not guilty on counts
23 through 26 of the redacted indictment, which related to
charges of obstruction of justice.
Mr. Prater’s defense against the individual tax offenses was
that there was no underpayment of income tax because, although
the backhaul checks were unreported income, the money derived
from these checks was used to fund corporate expenses.
On May 18, 1998, the District Court overturned the jury’s
convictions on counts 1 through 7, which were embezzlement
charges. On July 1, 1998, the court entered its judgment
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pursuant to the verdict. Mr. Prater appealed the remaining
convictions to the Court of Appeals for the Eleventh Circuit. On
June 6, 2001, the Court of Appeals in an unpublished opinion
overturned the jury’s verdicts on counts 8 through 11. Mr.
Prater filed a motion for a hearing en banc before the Court of
Appeals; this motion was denied on January 16, 2002.
On April 16, 2002, Mr. Prater filed a petition for a writ of
certiorari with the U.S. Supreme Court, which was denied. On
August 22, 2002, the District Court amended its judgment pursuant
to the Court of Appeals’ findings. After all appeals were
exhausted, Mr. Prater’s conviction for evasion of his individual
income tax for each of the years 1991 through 1993 remained.
6. The Present Case
Lance Lobar (Mr. Lobar), CTI’s primary outside accountant,
prepared Mr. and Mrs. Prater’s personal income tax returns. Mr.
Lobar worked primarily with Mr. Warmack in gathering the
necessary information for their returns. In early 1993 Mr. Lobar
was diagnosed with multiple sclerosis, which resulted in his
inability to continue working as an accountant. In addition, Mr.
Warmack became semiretired as of 1992. Mr. Prater asked his
accountants to include an additional $100,000 of income on his
1993 personal income tax return. Respondent accounted for the
$100,000 in calculating petitioners’ deficiency for 1993.
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The notices of deficiency determined that petitioners failed
to report income of $78,000, $262,281, and $1,178,428 for the
years at issue. Respondent classified this unreported income
into three broad categories: (1) Checks written from PI
(Schedule 1 adjustments); (2) other transactions (Schedule 2
adjustments); and (3) deposits of CTI payroll and other checks
(Schedule 3 adjustments). The amounts by reference to Schedules
1, 2, and 3 in the notices are as follows:
Other Income 1991 1992 1993
Checks written from PI
(Sch. 1) -0- $79,750.00 $551,918.40
Other transactions (Sch. 2) -0- 3,000.00 332,000.00
Deposits of CTI payroll and
other checks (Sch. 3) $78,000 179,530.68 294,509.53
Schedule 1 1991 1992 1993
Check #21767 dtd 3/26/92
payable to Chris Frix $9,750
Check #24141 dtd 12/28/92 for
loan to Billie Bearden 70,000
Check #25003 dtd 3/19/93 for
loan to Billie Bearden $50,000.00
Check #25300 dtd 4/16/93 for
loan to PFW Properties 60,000.00
Check #25412 dtd 4/29/93 for
purchase of building in
Dalton from RBG Properties, 360,979.82
Inc.
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Check #26119 dtd 12/21/93 to
Charles Prater used to
purchase Gold’s Gym $300,000.00
Less A&P Check #6224
included in Notes Rec.
Stockholder Acct. -109,996.59
Less A&P Check #6412
included in Notes Rec.
Stockholder Acct. -109,094.83
Total -0- $79,750 551,918.40
Schedule 2 1991 1992 1993
Wright CTI installment sale
payment to PFW paid in
capital, GB&T deposit on
7/2/93, Acct. #10132 $6,000
Blaize CTI installment sale
payment to GB&T personal
Acct. #303752 on 4/6/93 5,000
Wable CTI installment sale
payment to Calhoun FNB
personal Acct. #0631612106
on 3/1/93 5,000
Hudson CTI installment sale
payment to PFW paid in
capital, First Union deposit
on 6/9/93, Acct. 6,000
#56540029209
Loan to Check-It-Out using
checks payable to CTI 300,000
Frick’s furniture payments $3,000 10,000
Total -0- 3,000 332,000
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Schedule 3 1991 1992 1993
Deposits of CTI payroll and
other checks into PFW
Properties Bank Acct.
#10132 at GB&T $4,286.35
Deposits of CTI payroll and
other checks into PFW
Properties Bank Acct.
#5540029209 at First Union $179,530.68 371.62
Less deposit amounts not
shown as paid in capital -1,401.74
Less deposit amounts not
shown as paid in capital -3,535.25
Deposits of CTI income checks
into PFW bank accounts 294,788.55
Deposits of CTI income checks
into Prater’s Acct. #302752
at GB&T $78,000
Total 78,000 179,530.68 294,509.53
OPINION
I. The Parties’ Basic Arguments
Mr. Prater designed and directed a scheme which caused
receipts of over $3.5 million from CTI, the trucking business in
which he was a part owner, to be left off the books of the
company over the 3 years at issue. Mr. Prater controlled the
cash generated by this scheme and diverted the funds for various
purposes, many of which were related to CTI’s business but some
of which were personal to him. With the help of CTI’s insurance
agent, W.J. Plemons, he caused over $1.4 million to be held in a
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prepaid insurance account for CTI, and he directed the use of the
account for loans to individuals or entities he selected. He
also used large amounts of the diverted CTI cash to provide
unrecorded cash payments to CTI’s drivers, ostensibly to conceal
excess hours of driving from the DOT but actually also to hide
such payments to the drivers from the IRS. This scheme resulted
in a criminal case against Mr. Prater and several others with
multiple counts including tax fraud; and ultimately, he was
convicted of three counts of income tax evasion under section
7201 regarding the joint Federal income tax returns he filed with
his spouse for 1991, 1992, and 1993. Respondent would now have
us sustain the civil fraud penalty for all 3 years and also
include roughly $1.5 million of the amounts diverted as Mr.
Prater’s taxable income subject to the 75-percent penalty.
Respondent maintains that the amounts included in income are
based upon specific items.
Petitioners’ representatives counter that Mr. Prater
received no additional income as a result of the diversions and
that any amounts he did receive are offset by payments he made on
behalf of CTI. Before we address the parties arguments, we will
explain the procedural posture of this case.
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II. Procedural History
After the criminal case and the expiration of the 3-year and
6-year periods of limitation, respondent issued a separate notice
of deficiency to each petitioner. These notices of deficiency
(collectively, the notices) were identical in the amounts
determined. The notices relied heavily upon information
developed in the criminal case, more specifically upon a schedule
used to track the money diverted from CTI’s books which was
introduced as an exhibit in the criminal case. However, the
explanation of the adjustments in the notices was cryptic at
best. It read: “It is determined that you received additional
income from W.J. Plemons Insurance Agency for services rendered
and such income represents taxable income realized by you as
shown in Exhibit A.”
This statement was augmented by affirmative allegations in
the answer which more fully described respondent’s assertions
regarding the money flowing through PI. Nevertheless, the
explanation in the notices is not accurate regarding the nature
of the flow of funds which originated in the operations of CTI.
We find that respondent has the burden of proof regarding the
affirmative allegations and the question of how much income Mr.
Prater received.
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Before trial respondent filed a motion for partial summary
judgment based upon Mr. Prater’s criminal conviction of income
tax evasion for 1991 through 1993. Mr. Prater opposed that
motion, arguing that he was denied access to witnesses during the
criminal trial because the prosecution placed potentially
favorable witnesses under threat of prosecution, preventing their
testifying on his behalf. We ruled in January 2009 that
arguments challenging the criminal conviction which could have
been raised on appeal of the criminal case cannot be the basis
for disputing the application of collateral estoppel in the civil
case. See Wapnick v. Commissioner, T.C. Memo. 1997-133; Lilley
v. Commissioner, T.C. Memo. 1989-602; Klein v. Commissioner, T.C.
Memo. 1984-392, affd. 880 F.2d 260 (10th Cir. 1989).
Accordingly, we placed the burden of proof on Mr. Prater to show
by a preponderance of the evidence what portions of the
underpayments of tax, if any were established, are not
attributable to fraud. However, respondent retained the burden
to show that there were underpayments of tax in accord with the
affirmative allegations in the answer. On brief, Mr. Prater’s
representatives revisit the significance of the criminal
conviction and argue that changes in the law of criminal
procedure raise questions about the use of the conviction for
collateral estoppel. We do not address these arguments because
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we analyze the fraud issue hereinafter upon the evidence at trial
without considering the criminal conviction.
III. Civil Fraud
The penalty in cases of fraud is a civil sanction provided
primarily as a safeguard for the protection of the revenue and to
reimburse the Government for the heavy expense of investigation
and the loss resulting from the taxpayer’s fraud. Helvering v.
Mitchell, 303 U.S. 391, 401 (1938). Under section 6663(a), that
part of the underpayment of tax which is due to fraud is subject
to a 75-percent addition to tax.
In applying the penalty under section 6663, we consider the
same elements, or long-recognized “badges of fraud”, discussed in
cases applying section 6651(f) and former section 6653(b)(1).
Clayton v. Commissioner, 102 T.C. 632, 647-653 (1994); see
Niedringhaus v. Commissioner, 99 T.C. 202, 211-213 (1992). Fraud
may be proved by circumstantial evidence, and the taxpayer’s
entire course of conduct may establish the requisite fraudulent
intent. Rowlee v. Commissioner, 80 T.C. 1111, 1123 (1983).
The existence of fraud is a question of fact to be resolved
upon consideration of the entire record. DiLeo v. Commissioner,
96 T.C. 858, 874 (1991), affd. 959 F.2d 16 (2d Cir. 1992). Since
direct evidence of fraud is rarely available, fraud may be proved
by circumstantial evidence and reasonable inferences from the
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facts. Petzoldt v. Commissioner, 92 T.C. 661, 699 (1989).
Courts have developed a nonexclusive list of factors or “badges
of fraud” that demonstrate fraudulent intent. Niedringhaus v.
Commissioner, supra at 211. These badges of fraud include: (1)
Understatement of income; (2) inadequate records; (3) implausible
or inconsistent explanations of behavior; (4) concealment of
income or assets; (5) failure to cooperate with tax authorities;
(6) filing false documents; (7) failure to make estimated tax
payments; (8) dealing in cash; (9) engaging in illegal
activities; and (10) engaging in a pattern of behavior that
indicates an intent to mislead. Vogt v. Commissioner, T.C. Memo.
2007-209, affd. 336 Fed. Appx. 758 (9th Cir. 2009). No single
factor is necessarily sufficient to establish fraud; however, a
combination of several of these factors may constitute persuasive
evidence of fraud. Niedringhaus v. Commissioner, supra at 211.
Mr. Prater intentionally caused funds to be unreported on
the books and records of CTI. These actions were fraudulent and
meet the traditional elements of fraud such as concealment and
dealing in cash. The issue presented is whether Mr. Prater’s
fraud only affected CTI’s income or whether it also resulted in
his fraudulently underreporting his personal income by concealing
funds he diverted from CTI for his own use. The answer to this
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question requires an analysis of the facts surrounding each of
the adjustments in the notices issued to him.
IV. Respondent’s Specific Adjustments
A. Schedule 1 Adjustments
Respondent determined that checks totaling $79,750 in 1992
and $551,918.40 in 1993 should be included in Mr. Prater’s
income. The insurance agency characterized these checks as loans
from an advance premium account of CTI. Mr. Plemons and Mr.
Prater conspired to have CTI backhaul checks deposited with PI.
However, the evidence does not support respondent’s position that
all the diversions were income to Mr. Prater. Rather, CTI was
credited with the funds on PI’s books. Although Mr. Prater may
have influenced who received the funds as loans from the CTI
advance premium account, he repaid the funds he himself borrowed
and with one exception did not personally benefit from the loans.
The record simply does not support a finding that Mr. Prater
took dominion and control over all these funds for his own use or
that he diverted all these funds to himself from CTI. Rather,
while the funds were not shown on CTI’s corporate accounting
records, they were with one exception reflected as credited to
CTI by PI.
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Mr. Prater’s actions were generally consistent with the
treatment as advance premium payments by CTI and the subsequent
checks being loans from the CTI credited account at PI. The
exception to the treatment of funds as property of CTI is the
$360,979.82 check to purchase a building in Dalton, Georgia, for
the company Mr. Prater coowned with his stepson and PFW. This
amount was the subject of a loan agreement Mr. Prater signed, but
this loan was not repaid. The record does not support
characterizing this amount as a loan Mr. Prater intended to
repay. A similar check to buy real estate for a Gold’s Gym was
repaid by Mr. Prater, but according to his testimony the purchase
of the building in Dalton for use as a carpet warehouse was for
CTI’s business. However, he had title to the building in Dalton
placed with PFW. Despite his testimony, we find that Mr.
Prater’s arrangement of PFW as the building’s owner was
intentional.
Mr. Prater’s business decisions were not haphazard but
rather careful and calculated. He alone directed that funds in
the CTI advance premium account at PI be used to buy property for
a different entity in which he and his stepson held a controlling
interest. Therefore, we find that respondent has established
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that the check for $360,979.82 was income to Mr. Prater in 1993
but has failed to establish the other Schedule 1 amounts were Mr.
Prater’s income.
B. Schedule 2 Adjustments--Other Transactions
The second phase of respondent’s income adjustments includes
(a) $3,000 and $10,000 of payments for furniture in 1992 and
1993, respectively, (b) four checks deposited in 1993 into PFW
accounts or Mr. Prater’s personal accounts totaling $22,000 which
related to sales of CTI vehicles, and (c) a 1993 payment of
$300,000 to a check-cashing business called Check-It-Out (CIO)
which was made with CTI funds.
We will first address the $300,000 item. Mr. Prater
maintains this was a loan by CTI. Whether the CIO payment was a
loan or a payment to facilitate the conversion of CTI checks to
cash, the payment was not made on behalf of Mr. Prater personally
but rather for CTI. Even if the payment was made for the illegal
purpose of facilitating the concealment of CTI income, it was not
paid for the primary benefit of Mr. Prater and thus is not his
income.
The payments for furniture, however, were made on behalf of
PFW, the business in which Mr. Prater had an interest with his
stepson. Respondent has also established a sufficient connection
between the $22,000 of deposits and the proceeds of the sales of
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vehicles to carry the burden of proving that these deposits were
also income to Mr. Prater. The record establishes that the
vehicles were not Mr. Prater’s property but rather belonged to
CTI. Two of the payments for vehicles were made to PFW accounts
but were credited as paid-in capital of Mr. Prater.
Accordingly, the items apart from the $300,000 payment to
CIO are income to Mr. Prater.
C. Schedule 3 Adjustments--Deposits to PFW Accounts and
Mr. Prater’s Personal Account
The first group of deposits in respondent’s last schedule of
adjustments to income is $78,000.80 of CTI income checks which
was deposited into Mr. Prater’s personal account in 1991. The
record establishes the deposits of CTI checks were made to the
personal account, and therefore we uphold this income adjustment.
Respondent also determined that a group of CTI-related
checks totaling over $475,000 deposited into PFW accounts in 1992
and 1993 is Mr. Prater’s income. Respondent offsets these
adjustments by roughly $5,000 in 1993 for deposit amounts not
shown as paid-in capital to Mr. Prater in PFW. However, the
lion’s share of respondent’s adjustment in 1993 was not reflected
as paid-in capital on the PFW books until many years after 1992
and 1993. PFW had business relationships with CTI providing
rental properties to CTI truckers and was often paid directly by
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CTI. Accordingly, we find that respondent has not carried the
burden of proving that the items in question are Mr. Prater’s
income as opposed to the income of PFW.
V. The Offset Claim
Mr. Prater established that CTI expenses in excess of
respondent’s income adjustments to Mr. Prater’s income were paid
during the years at issue in cash. Through his representatives,
Mr. Prater reasons that these cash payments should offset all of
the income adjustments and he should prevail. The record does
not reflect, however, a loan or account receivable arrangement
between CTI and Mr. Prater regarding the cash funds flowing
between CTI and Mr. Prater; and because of the success of Mr.
Prater’s efforts to hide the flow of CTI’s receipts converted to
cash, there is not a specific record to track the source of the
cash used to make the payments to drivers that are offered to
support the claimed offsets. Regardless of Mr. Prater’s scheme
to cause CTI receipts to be off the books and to be reduced to
cash in his control, we do not accept that he is the source of
all the cash payments for CTI. We have presumed that CTI is a
separate entity that must be respected in determining the amounts
of income Mr. Prater received. Likewise, Mr. Prater’s calculated
efforts to reduce CTI’s unrecorded receipts to his unfettered
control should not work to his advantage. Accordingly, Mr.
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Prater has failed to establish that the income adjustments
sustained should be offset by the cash used to pay CTI’s
expenses.
VI. Whether the Civil Fraud Penalty Is Applicable
Dealing in cash and hiding receipts are clearly badges of
fraud, and it is difficult to imagine a record with greater
evidence of such activities. The income adjustments to Mr.
Prater are among the CTI receipts he sought to shield from the
IRS and other regulatory agencies. The fact that he did not
receive all of the unrecorded CTI receipts he caused to be
converted to cash does not relieve him of the fraud penalty for
the amounts he did receive or use for his personal benefit.
Accordingly, Mr. Prater is subject to the fraud penalty for each
of the years at issue.
VII. Mrs. Prater
Mrs. Prater is jointly liable for the deficiencies in income
tax which result from our analysis, but by agreement she is not
liable for the fraud penalty.
To reflect the foregoing,
Decisions will be entered
under Rule 155.