T.C. Memo. 2011-151
UNITED STATES TAX COURT
DAVID S. AND MELANIE S. ALIOTO, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 11312-09. Filed June 29, 2011.
W. Michael Conway, for petitioners.
Terry Serena, for respondent.
MEMORANDUM OPINION
GOEKE, Judge: In this deficiency case, David and Melanie
Alioto seek review of respondent’s determination to deny
deductions for business losses and theft losses for tax years
2005, 2006, and 2007 (the years in issue). As discussed below,
we sustain respondent’s determination to deny deductions but hold
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that petitioners are not liable for the accuracy-related
penalties under section 6662(a).1
Background
Some of the facts have been stipulated and are so found.
The stipulation of facts and the attached exhibits are
incorporated herein by this reference. At the time of filing the
petition, petitioners resided in Ohio. David S. Alioto (Mr.
Alioto) has been in the transportation and logistics industries
for over 20 years, including founding and developing his own
company from 1995 to 2000. Mr. Alioto was COO of this entity,
known as Nation Street, which was formed in 1995. Nation Street
was engaged in the business of transporting unusual items that
other common carriers would generally not transport.
Mr. Alioto conducted a convention for his business in early
2000 in Boston, Massachusetts, at which time he invited actor
John Ratzenberger (Mr. Ratzenberger) to speak to the attendees.
Mr. Ratzenberger played Cliff Claven, the mailman, on the
television show “Cheers”. While Mr. Alioto was having dinner
with Mr. Ratzenberger and his agent, they discussed a new
business venture. The business concept was to use celebrities,
such as Mr. Ratzenberger, and create media which would then be
sold to corporations to advertise on the Internet. Mr. Alioto
1
All section references are to the Internal Revenue Code as
in effect for the years in issue, and all Rule references are to
the Tax Court Rules of Practice and Procedure.
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testified that a business plan named Big Rent Tent (BRT) was
developed, which included multiple celebrities.
Mr. Alioto became CEO of BRT around September 2000. Mr.
Alioto and Mr. Ratzenberger discussed transferring a 10-percent
ownership interest in BRT to Mr. Alioto for his services as CEO,
but this was never finalized. Dave McNeff (Mr. McNeff) was an
associate of BRT. In 2000 or 2001 Mr. McNeff owed Mr. Alioto
$40,000 which Mr. Alioto testified he forgave at the behest of
Mr. Ratzenberger as consideration for Mr. McNeff’s terminating
his association with BRT.2
The underlying issue in this case is the deductibility of
alleged business or theft losses claimed as the result of a debt
Mr. Alioto claims he was owed by Mr. Ratzenberger.
On or about November 20, 2000, Mr. Alioto received
a reimbursement of $35,081 for amounts he had expended in
2000 on behalf of BRT. On or about July 16, 2001, Mr. Alioto
received a reimbursement of $52,875.96 for amounts he had
expended in 2000 and 2001 on behalf of BRT. Mr. Alioto testified
that he made payments or incurred expenses totaling $103,150 on
behalf of BRT and that he also incurred debts for additional
2
Petitioners’ theft loss deduction of $19,000 from their
2005 income represented a portion of Mr. Alioto’s forgiveness of
the $40,000 debt which Mr. McNeff owed to Mr. Alioto. Mr. Alioto
deducted an additional $18,500 in tax year 2008 on account of his
forgiveness of Mr. McNeff’s $40,000 debt in 2000 or 2001.
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operating expenses on behalf of BRT.3 Around mid-2001 Mr. Alioto
decided to remove himself from BRT completely.4
In February 2002 Mr. Alioto obtained legal advice concerning
the possibility of claims against Mr. Ratzenberger or BRT to
collect the amounts he believed were due him. Mr. Alioto did not
commence legal action or attempt to collect any amounts. On
October 14, 2005, Mr. Alioto commenced a voluntary chapter 7
bankruptcy proceeding before the U.S. Bankruptcy Court for the
Southern District of Ohio, Western Division (Dayton). The first
meeting of creditors in the bankruptcy case was held on February
22, 2006.
Mr. Alioto’s chapter 7 case was identified as a “no asset”
chapter 7 proceeding. Creditors were directed not to file proofs
of claim unless notified to do so. On May 1, 2006, the chapter 7
trustee in the bankruptcy case filed a “Report of No
Distribution”. Mr. Alioto received a chapter 7 discharge in his
bankruptcy case on February 27, 2007.
Mr. Alioto scheduled his claims against BRT and Mr.
Ratzenberger in his 2005 chapter 7 bankruptcy case as an item of
personal property with a “current market value” of $341,363.
3
Mr. Alioto deducted the $35,081 and the $52,875.96 before
arriving at his total claim of $103,150.
4
There was no written contract, promissory note, or other
formal agreement between Mr. Alioto and Mr. Ratzenberger or BRT
for the reimbursement of amounts which Mr. Alioto spent during
his association with the enterprise.
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This asset was identified as “Outstanding business expenses and
shareholder loans from [sic] Big Red Tent, contact person John
Ratzenberger.” The chapter 7 trustee did not pursue Mr. Alioto’s
claim against BRT or Mr. Ratzenberger and closed the bankruptcy
case on May 3, 2006.
On or before April 15, 2006, petitioners timely filed their
joint Federal income tax return for 2005 in which they deducted
$19,000 and $1,507 on their Schedule C, Profit or Loss From
Business, as business losses.5 On or before April 15, 2007 and
2008, Mr. Alioto separately and timely filed his individual
Federal income tax returns for years 2006 and 2007 in which he
deducted $3,060 in 2006 and $40,520 and $4,188 in 2007 on his
Schedules C as business losses.6 The losses deducted in 2006 and
2007 were carried forward as the unused portion of the $103,150
loss incurred in 2000 and 2001.
On February 12, 2009, respondent issued a notice of
deficiency to petitioners setting forth respondent’s
determination that petitioners have a deficiency for 2005 of
$18,391 and owe a penalty under section 6662(a) of $3,678.20. On
5
Mr. Alioto treated some expenditures on behalf of BRT
during tax years 2000 and 2001 as unreimbursed employee business
expenses for which he claimed deductions in those years or
possibly for taxable years 2003 and 2004.
6
Mr. Alioto deducted the amounts at issue on Schedules C for
an entity known as Probity Enterprises. Probity Enterprises was
formed in taxable year 2001.
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February 12, 2009, respondent issued a notice of deficiency to
Mr. Alioto setting forth respondent’s determination that Mr.
Alioto owes deficiencies in income tax for 2006 and 2007 of
$10,103 and $44,754, respectively, and section 6662(a) penalties
of $2,020.60 and $8,950.80, respectively.
On May 12, 2009, petitioners timely filed a petition with
this Court.
Discussion
Generally, the Commissioner’s determinations in a notice of
deficiency are presumed correct, and the taxpayer has the burden
of proving that those determinations are erroneous. See Rule
142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). In some
cases the burden of proof with respect to relevant factual issues
may shift to the Commissioner under section 7491(a). Petitioners
did not argue or present sufficient evidence that they satisfied
the requirements of section 7491(a). Therefore, the burden of
proof does not shift to respondent.
Petitioners argue that they should be able to deduct, as
business losses or theft losses for tax years 2005, 2006, and
2007, amounts which were lost in tax years 2000 and 2001 from Mr.
Alioto’s involvement in BRT.
1. Business Losses
Section 165(a) allows a deduction for any loss sustained
during the taxable year that is not compensated for by insurance
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or otherwise. Section 165(c) limits the loss deduction for
individuals to losses incurred in a trade or business, losses
incurred in a transaction entered into for profit though not
connected with a trade or business, and certain other losses
including those arising from a casualty or theft.
Mr. Alioto alleges that in 2000 and 2001 while acting as CEO
of BRT, he advanced a total of $103,150 to BRT. Mr. Alioto
asserts that because he was the CEO of BRT, all losses that
occurred should be deducted by him as losses of his business.
Additionally, he claims that the losses did not become
uncollectible until 2005 when Mr. Ratzenberger’s agent emailed
Mr. Alioto telling him that the amount would not be paid back.
According to Mr. Alioto, it was only after this email that he
realized he would not get paid back, and thus he should be
allowed a business loss for that amount in 2005. Respondent
argues that Mr. Alioto incurred the loss before 2005, and thus no
business expense loss should be allowed for taxable years 2005,
2006, and 2007.
During trial, Mr. Alioto admitted he had disassociated
himself from BRT in July 2001. He also testified he had become
aware of material misrepresentations regarding the financial
backing of the enterprise during a meeting with BRT’s board of
advisers in the spring of 2001. According to Mr. Alioto, it was
then that he learned that the advisers were not committed to
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making any financial contributions to or on behalf of BRT. Mr.
Alioto testified that he realized he was not going to recover his
expenditures at “sometime in 2004 or 2005.” Mr. Alioto also
testified that he had received an email from Mr. Ratzenberger’s
financial manager in 2005 which stated that the amounts would not
be repaid to Mr. Alioto. On the basis of this alleged email Mr.
Alioto determined the debt uncollectible. However, a copy of
this email could not be produced at trial, and Mr. Alioto did not
otherwise establish the alleged communication.
Section 1.165–1(d)(2)(I), Income Tax Regs., provides in
pertinent part: “When a taxpayer claims that the taxable year in
which a loss is sustained is fixed by his abandonment of the
claim for reimbursement, he must be able to produce objective
evidence of his having abandoned the claim, such as the execution
of a release.” There is no objective evidence that Mr. Alioto
abandoned the claim against BRT during 2005. Outside of an email
that Mr. Alioto claimed he received from Mr. Ratzenburger’s agent
which could not be reproduced and provided at trial, all evidence
shows that Mr. Alioto was told of BRT’s financial issues in 2001
and 2002. It is clear that at the end of 2001 and early 2002 Mr.
Alioto understood that the expenses would not be paid back. The
record does not support a finding that Mr. Alioto sustained an
abandonment loss during 2005. Accordingly, the Court sustains
respondent’s determination that petitioners are not entitled to
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business loss deductions claimed by Mr. Alioto for tax years
2005, 2006, and 2007.7
2. Theft Losses
In order to claim a theft loss deduction, the taxpayer must
prove: (1) That a theft actually occurred under the law of the
jurisdiction wherein the alleged loss occurred, Monteleone v.
Commissioner, 34 T.C. 688, 692 (1960); (2) the amount of the
loss, Gerstell v. Commissioner, 46 T.C. 161, 175 (1966); and (3)
the date the taxpayer discovered the loss, sec. 165(e); McKinley
v. Commissioner, 34 T.C. 59, 63 (1960); see also River City
Ranches #1 Ltd. v. Commissioner, T.C. Memo. 2003-150, affd. in
part, revd. in part on another issue and remanded 401 F.3d 1136
(9th Cir. 2005); Yates v. Commissioner, T.C. Memo. 1988-565.
In determining the jurisdiction in which the loss occurred,
petitioners and respondent agree that Massachusetts is the
logical jurisdiction. In Massachusetts, theft is defined as
follows:
7
Petitioners also argue that because none of the claimed
losses were reimbursed by debts discharged in their ch. 7
bankruptcy, the losses could be used as business losses. Mr.
Alioto testified that every scheduled debt, except for a student
loan and one-half of a debt to, presumably, a law firm, arose
from his expenditures on behalf of BRT. These debts were
scheduled as unsecured, nonpriority claims. Mr. Alioto received
a ch. 7 discharge on Feb. 27, 2007, of all the remaining debt,
except for the student loan, incurred as a result of his
involvement with BRT. Therefore, even if we were to assume that
business losses were allowed, there was nothing for petitioners
to deduct for tax years 2005, 2006, and 2007.
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Sec. 34. False Pretences to Constitute Larceny.
Whoever, with intent to defraud and by a false
pretence, induces another to part with property of any
kind or with any of the benefits described in * * *
[the preceding sections] shall be guilty of larceny.
[Mass. Ann. Laws ch. 266, sec. 34 (Lexis Nexis 2010).]
Massachusetts law thus requires Mr. Alioto to show proof
that Mr. Ratzenberger committed acts of larceny or fraud
specifically intended to steal from Mr. Alioto or to defraud him
by false pretenses when BRT was established in 2000 and 2001.
There is nothing in the record that would prove that Mr.
Ratzenberger committed any wrongdoing. Mr. Alioto did not
present any evidence demonstrating that Mr. Ratzenberger or his
agents did anything illegal and failed to show any specific
promises or agreements made by Mr. Ratzenberger and his agents.
Mr. Alioto never contacted the police, the Securities and
Exchange Commission, or any State licensing division, never filed
suit against Mr. Ratzenberger, and never had any written contract
between himself and Mr. Ratzenberger. At trial Mr. Alioto
claimed that a formal agreement did exist between himself and Mr.
Ratzenberger but that he had left it at home and did not want to
share it with anyone. Consequently, we hold that petitioners are
not entitled to their claimed $103,150 loss incurred in 2000 and
2001.
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3. Penalties
Respondent also determined that Mr. Alioto is liable under
section 6662(a) for accuracy-related penalties for tax years
2005, 2006, and 2007. Section 6662(a) imposes an accuracy-
related penalty equal to 20 percent of the underpayment to which
section 6662 applies. Section 6662 applies to the portion of an
underpayment of tax which is attributable to, among other things,
(1) negligence or intentional disregard of rules or regulations,
(2) a substantial understatement of income tax, or (3) a
substantial valuation misstatement. See sec. 6662(b)(1)-(3).
Section 6662(c) defines “negligence” as “any careless, reckless,
or intentional disregard”. See also Hansen v. Commissioner, 820
F.2d 1464, 1469 (9th Cir. 1987) (“Intentional disregard occurs
when a taxpayer who knows or should know of a rule or regulation
chooses to ignore the requirements.”).
Section 6664(c)(1) provides that the accuracy-related
penalty shall not be imposed with respect to any portion of an
underpayment if it is shown that there was reasonable cause for
that portion and the taxpayer acted in good faith with respect to
that portion. The determination of whether a taxpayer acted with
reasonable cause and in good faith is made on a case-by-case
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basis, taking into account all pertinent facts and circumstances.
Sec. 1.6664-4(b)(1), Income Tax Regs.
We believe that Mr. Alioto did in fact make a good faith
effort on the basis of his knowledge of the facts and
understanding of the law. Mr. Alioto is not a tax expert, nor
has he any background in tax law. Respondent does not dispute
that Mr. Alioto incurred $103,150 of expenses. Neither does
respondent dispute that Mr. Alioto was involved in a complicated
business transaction. Mr. Alioto sincerely believed he was
shorted $103,150 in this business transaction, and he genuinely
believed he was entitled to some income tax relief. Thus, given
these difficult circumstances, we find that the claims of losses
were made with reasonable cause and in good faith. Accordingly,
we do not sustain respondent’s imposition of accuracy-related
penalties for tax years 2005, 2006, and 2007.
To reflect the foregoing,
Decision will be entered
for respondent as to the
deficiencies in income tax
and for petitioners as to the
penalties.