In the
United States Court of Appeals
For the Seventh Circuit
No. 10-2194
S COTT C. C OLE and JENNIFER A. C OLE,
Petitioners-Appellants,
v.
C OMMISSIONER OF INTERNAL R EVENUE,
Respondent-Appellee.
Appeal from the United States Tax Court.
No. 17275-08—Diane L. Kroupa, Judge.
A RGUED O CTOBER 22, 2010—D ECIDED M ARCH 28, 2011
Before K ANNE, T INDER, and H AMILTON, Circuit Judges.
T INDER, Circuit Judge. Appellants Scott C. and Jen-
nifer A. Cole (a married couple from Brownsburg, Indi-
ana) ran into trouble with the Internal Revenue Service
(IRS) in 2003, when a revenue agent began auditing their
2001 joint tax return. Through this audit, the agent dis-
covered a web of corporate and partnership entities
serving dubious purposes, undocumented financial
transactions, and inconsistent reports regarding the
2 No. 10-2194
Coles’ income. Incongruously, although Scott engineered
much of the financial and legal tangle that landed him
and Jennifer in hot water with the IRS, Scott is a licensed
Indiana attorney with a practice focused on business
planning and tax matters. We outline the confusing
maze of entities and financial dealings below, but be
forewarned that much of it makes little business or
legal sense as the Coles fail to dispel the perception
underlying the Tax Court’s finding that the perplexing
arrangements served as nothing but after-the-fact at-
tempts to avoid taxation on the substantial income
Scott earned in 2001.
Background
Scott and his brother Darren T. Cole formed a partner-
ship called the Bentley Group on February 2, 1998. Under
the partnership agreement, each was entitled to an “equal
share of the net profits and losses . . . unless all partners
agree to a different proportion.” The Cole brothers, as
licensed Indiana attorneys, did business as Cole Law
Offices. Scott incorporated Scott C. Cole, P.C. (SCC) on
October 28, 1997, as an Indiana professional corporation.
Scott filed SCC’s first and only tax return for tax year
2000 on March 25, 2005. SCC was declared the
99% owner of the Bentley Group (with Darren the re-
maining 1% owner) in the Bentley Group’s 2001 tax
return, filed November 10, 2004. Scott does not explain
why he purportedly divested his interest in the group
(or why his brother divested all but 1% of his interest), but
the only documentary evidence of the transfer is that
Bentley Group 2001 tax return filed in 2004. The Indiana
No. 10-2194 3
Secretary of State administratively dissolved SCC on
September 5, 2001, for failing to file mandated business
entity reports. Scott also created JAC Investments, LLC.
Scott reported on JAC’s 2001 tax return that Jennifer Cole
owned 50% of JAC and her family trust owned another
49%. Scott reported owning the remaining 1%, yet he
generated all of JAC’s income from legal services he
performed independent of the Bentley Group.
The Bentley Group’s operations appeared to hum
modestly along prior to 2001. Darren managed the prac-
tice; his wife Lisa worked as a paralegal. As noted
above, Scott’s practice involved business planning and
taxation. He created limited liability companies, prepared
corporate and individual tax returns, and represented
clients before the IRS. The trio had signature authority
over the group’s checking account. Scott and Darren
agreed to deem withdrawals beyond amounts earned
as borrowed money. In 1999, the group reported total
income at $46,121 and deductions of $46,609 (including
rent, repairs, and maintenance and other business-
related deductions) for an ordinary income loss of $488.
In 2000, the group reported $69,698 in total income
and $68,393 in deductions for an ordinary income gain
of $1,305. This unexceptional pattern of business changed
drastically in 2001.
From one perspective, 2001 was the group’s banner year
financially. Yet the Coles’ bungled management of their
revenue bonanza turned their partnership’s good
fortunes into a fiscal calamity. A substantial portion of
the 2001 revenue—a whopping $1.2 million—came from
4 No. 10-2194
the group’s biggest client: the co-trustees of the George
Sandefur Living Trust. Trustees Constance J. Gestner
and Terri L. Haynes made four payments of $300,000
between June 18, 2001, and July 5, 2001, for Scott’s legal
services for the trust. The trustees made the first check
payable to “Scott Cole and Associates” and the other
three checks payable to “Cole Law Office.” All four
checks were deposited into the Bentley Group’s account.
Gestner signed an affidavit on April 12, 2005, stating
that the trustees “retained Scott Cole as the Attorney to
represent the Trust and to help us with any and all
Trust and Estate matters.” The affidavit states that she
was “fully advised by Scott Cole that his Attorney’s fee
would exceed the usual and ordinary maximum fee
for legal services of an unsupervised administration of
an estate of ten percent (10%),” that she consented to
Scott’s $1.2 million fee, and that she was “very satisfied
with the legal representation of Scott Cole.” For tax year
2001, the Bentley Group reported $1,583,900 in gross
receipts and ordinary income with no deductions.
Despite Scott’s financial windfall in 2001, he filed for
bankruptcy in 2002, but in that proceeding failed to
disclose any interest in the Bentley Group, Cole Law
Offices, or any other law practice. As noted above, tax
year 2001 was the year the Cole brothers maintained to
the IRS that they transferred 99% of their ownership
interest in the Bentley Group to Scott’s professional
corporation SCC (which also became defunct in 2001).
But don’t forget that the Bentley Group’s 2001 return
wasn’t filed until near the end of 2004, well after the
Coles learned that an audit was underway. The timing of
No. 10-2194 5
this financial sleight of hand did not go unnoticed by
the IRS or by the Tax Court judge.
The IRS began auditing the Coles’ 2001 joint return in
2003. After meeting with Scott fairly early in the audit
process, the IRS learned of the brothers’ involvement
with the Bentley Group and the investigation expanded
to include Darren and Lisa’s 2001 joint tax return. The
IRS was not favorably impressed with the Bentley
Group’s belated 2001 tax return. Although the 2001 return
reported Darren with a 1% interest and SCC with a 99%
interest in the Bentley Group, the return also reported
no “distribution of property or a transfer . . . of a partner-
ship interest during the tax year.” The Bentley Group’s
2000 return declared each Cole brother as a 50% owner
of the group. The Cole brothers did not file employ-
ment tax returns or report the purported divestment of
their Bentley Group interest on their respective joint
tax returns filed with their spouses. Although the
Bentley Group’s 2001 return was not filed until Novem-
ber 2004, SCC did not exist as of September 5, 2001, and
never filed a 2001 return.
Scott and Jennifer’s 2001 joint tax return reported
$100,358 in total income and $100,276 in adjusted gross
income. Through various deductions, exemptions, and
credits, they took their reported taxable income down
to $18,265 with a tax liability of $505. Both Scott and
Jennifer signed the self-prepared return on April 11, 2002.
Yet in 2001, Scott withdrew $1,173,263 from the
Bentley Group’s bank account. Darren and Lisa withdrew
$198,308. Despite the lack of documentation, Scott and
6 No. 10-2194
Jennifer argue that Scott’s withdrawals were “investment
loans” from the Bentley Group. For example, Scott made
or authorized transfers of $340,000 and $300,000 to
J&D Investments, LLC. Scott also “invested” $150,000 in
Larkin Investments, LP. Testimony at trial indicated
that both companies were managed by Scott’s friends.
Scott also loaned $10,000 to his brother Mark Cole for
Mark’s roofing company. Scott also loaned $125,865.50
to MR Parts, LLC (operated by Scott’s church colleagues)
and $10,400 to Houses Restored to Homes, LLC (managed
by Scott’s father). Scott also gave his mother $50,000
from the Bentley account to invest in MR Parts. Scott
loaned his father $40,000 from the Bentley account and
told his father to pay him back by giving $40,000 to
Scott’s church in Scott’s name. Scott and Jennifer
claimed a $40,000 charitable deduction yet did not report
any of that money as taxable wages or self-employment
income.
The IRS auditors discovered separate from the Bentley
Group that JAC had total deposits of $95,446 in 2001.
Nearly all of the deposits were checks made out to Scott,
not JAC. The IRS determined that only $15,794 was
nontaxable, but the Coles only reported self-employ-
ment tax on $1,162 of JAC’s income. Scott also deposited
$79,294 into Jennifer’s checking account in 2001, of
which $59,264 was from Scott’s legal practice. This money
paid for school tuition, music lessons, and residential
landscaping. None of these deposits were reported as
income.
Because the Coles did not maintain adequate books and
records, IRS auditors reconstructed their 2001 earnings
No. 10-2194 7
by employing two well-established indirect methods of
identifying a person’s income. The first was the “specific
items” method, which examines evidence of specific
amounts of a taxpayer’s unreported taxable income,
such as the Coles’ withdrawals from the Bentley
Group’s bank account and other sources. See United States
v. Medel, 592 F.2d 1305, 1314 n.8 (5th Cir. 1979); 35A
Am. Jur. 2d Federal Tax Enforcement § 1208. Second, the
IRS performed a “bank deposits” analysis of the Coles’
income from other sources. This method assumes that
all money deposited in a taxpayer’s account in a
certain period constitutes income, taking into account
known nontaxable sources and deductible expenses.
See Clayton v. Comm’r, 102 T.C. 632, 645 (1994) (citing
DiLeo v. Comm’r, 96 T.C. 858, 867 (1991), aff’d 959 F.2d
16 (2d Cir. 1992)); Estate of Mason v. Comm’r, 64 T.C.
651, 656 (1975) (citing e.g., Boyett v. Comm’r, 204 F.2d
205 (5th Cir. 1953)); 35 Am. Jur. 2d Federal Tax Enforce-
ment § 860.
On April 11, 2008, the IRS mailed Scott and Jennifer a
deficiency notice. The Commissioner ultimately deter-
mined that Scott and Jennifer omitted $1,215,183 in
income and $1,329,268 in self-employment income from
their 2001 return after allocating Bentley Group-related
income between Scott and Darren. The Commissioner
assessed a $556,187 income tax deficiency and a $417,140
fraud penalty against Scott and Jennifer. The Commis-
sioner also charged Darren and Lisa with a $102,227
income tax deficiency and a $76,670 fraud penalty.
Scott and Jennifer petitioned the Tax Court for relief on
8 No. 10-2194
July 14, 2008, and their case was consolidated with
Darren and Lisa’s case.
After a trial, the Tax Court found that Scott and Jennifer
understated their 2001 income. Cole v. Comm’r, T.C.M.
2010-31, 2010 WL 610701 (Feb. 22, 2010). The court
found that the Coles could not avoid tax liability by
merely assigning their income to others. All of the
money deposited into the Bentley Group’s account was
allocated to the Cole brothers by the court because of the
lack of credible evidence supporting the claim that the
brothers assigned the group’s income to SCC or that
they were not the group’s partners. The decision also
determined that the Cole brothers failed to maintain
adequate records of their income, thus justifying the
Commissioner’s indirect reconstruction of their incomes.
The court found the Commissioner’s reconstruction of
the Coles’ income (using the specific items and bank
deposits methods) to be reasonable and substantially
accurate and that the Coles failed to produce credible
evidence showing otherwise. The court also found
that “clear and convincing” evidence supported its
finding that the Coles’ underpayment was due to
fraud and that the Coles failed to show that any
portion was not due to fraud. The court found “that
Scott and Jennifer used a scheme where they assigned
income to an LLC to conceal the true nature of the
earnings subject to income and self-employment taxes.”
The Tax Court entered a final decision against the Coles
on February 23, 2010, assessing a $556,187 deficiency
and a $417,140 fraud penalty against Scott and Jennifer
for tax year 2001. The court also assessed a $102,227
No. 10-2194 9
deficiency and a $76,670 fraud penalty against Darren
and Lisa for tax year 2001. Only Scott and Jennifer Cole
appealed.1
Analysis
The Coles’ 71-page brief identifies 15 issues for review
in a scattergun approach that does not serve them well.
See United States v. Lathrop, No. 10-1099, 2011 WL 710469,
at *4 (7th Cir. Mar. 2, 2011) (noting that presenting
“nearly a dozen sources of error, effectively ignoring our
advice that the equivalent of a laser light show of claims
may be so distracting as to disturb our vision and con-
found our analysis” (citations omitted)). The brief con-
tains no discussion of the standard of review, few
citations to authority, generally no citation to evidence
aside from their own trial testimony, and by and large
fails to contain an argument beyond generalized asser-
tions of error. The Coles’ arguments predominantly
consist of a series of items the Tax Court supposedly
overlooked. Repeatedly they support their arguments
by stating that the IRS “does not know” something
about their financial arrangements. A litigant’s “brief
must contain an argument consisting of more than a
generalized assertion of error, with citations to sup-
porting authority.” Anderson v. Hardman, 241 F.3d 544, 545
(7th Cir. 2001). Appellants must set forth in their
1
“The Coles” from this point on in our opinion refers to Scott
and Jennifer unless otherwise noted. We do not discuss the
Tax Court ruling on the liability of Darren and Lisa.
10 No. 10-2194
brief “contentions and the reasons for them, with citations
to the authorities and parts of the record on which the
appellant relies.” Fed. R. App. P. 28(a)(9)(A). Complete
failure to comply “with Rule 28 will result in dismissal
of the appeal.” Anderson, 241 F.3d at 545-46 (citing
McCottrell v. EEOC, 726 F.2d 350, 351 (7th Cir. 1984)).
We ascertain two issues addressed in a manner beyond
a mere generalized assertion of error precluding their
appeal’s dismissal: (1) whether the Tax Court erred in
finding that the Coles omitted income from their 2001
joint tax return, and (2) whether the Tax Court erred
in imposing a fraud penalty. Pursuant to our well-estab-
lished precedent, the Coles’ other underdeveloped “ ‘skele-
tal’ arguments,” if not specifically discussed herein,
are deemed waived. Hernandez v. Cook Cnty. Sheriff’s
Office, No. 10-1440, 2011 WL 650752, at *5 (7th Cir. Feb. 24,
2011) (citation omitted).
We also note that Scott, a licensed attorney, represented
himself on appeal. Although Scott does not expressly ask
for special treatment as a pro se litigant in his brief,
at argument he hinted that his pro se status should be
considered. We note that pro se litigants who are
attorneys are not entitled to the flexible treatment
granted other pro se litigants. Lockhart v. Sullivan, 925 F.2d
214, 216 n.1 (7th Cir. 1991) (citation omitted); Socha v.
Pollard, 621 F.3d 667, 673 (7th Cir. 2010) (citation omit-
ted). But Jennifer is also an appellant and pro se litigants
may not represent their spouse, or anyone else, on appeal.
Swanson v. Citibank, N.A., 614 F.3d 400, 402 (7th Cir.
2010) (dismissing a plaintiff’s husband from a lawsuit
because the plaintiff purported to represent him pro se
No. 10-2194 11
(citations omitted)). Because Jennifer did not sign the
Coles’ opening (and only) brief prior to argument, we
were prepared to dismiss her appeal. We informed Scott
of this at oral argument on October 22, 2010. The Coles
moved to amend their brief’s signature page to add
Jennifer’s signature on November 8, 2010. We granted
the motion on November 12, 2010, allowing Jennifer’s
pro se appeal to proceed along with Scott’s, but the brief
and argument demonstrated that Scott structured the
appellate presentation on their behalf.
A. The Coles’ omission of income
There are two layers to the standard governing our
review of the Tax Court’s finding that the Coles omitted
income from their 2001 joint tax return. First, we have
long held that “the Commissioner’s tax deficiency assess-
ments are entitled to the ‘presumption of correctness.’
This presumption imposes upon the taxpayer the
burden of proving that the assessment is erroneous.”
Pittman v. Comm’r, 100 F.3d 1308, 1313 (7th Cir. 1996)
(quoting Gold Emporium, Inc. v. Comm’r, 910 F.2d 1374,
1378 (7th Cir. 1990)). To rebut the presumption of correct-
ness and shift the burden to the Commissioner, the
Coles “must demonstrate that the Commissioner’s defi-
ciency assessment lacks a rational foundation or is arbi-
trary and excessive.” Pittman, 100 F.3d at 1313 (citing
Ruth v. United States, 823 F.2d 1091, 1094 (7th Cir. 1987)).
The Coles could do this by demonstrating that the Com-
missioner failed to make an evidentiary showing or
failed to present evidence linking them to the “alleged
12 No. 10-2194
unreported income.” Pittman, 100 F.3d at 1313. Second,
we limit our review of factual conclusions to “whether
the tax court was ‘clearly erroneous.’ ” Coleman v. Comm’r,
16 F.3d 821, 825-26 (7th Cir. 1994) (quoting Nickerson v.
Comm’r, 700 F.2d 402, 405 (7th Cir. 1983)). A factual
finding “can be reversed as clearly erroneous only
when ‘the reviewing court on the entire evidence is left
with the definite and firm conviction that a mistake has
been committed.’ ” Coleman, 16 F.3d at 826 (quoting Ander-
son v. Bessemer, 470 U.S. 564, 573, (1985)). Of course,
we review questions of law de novo. Pittman, 100 F.3d
at 1312. But because the Coles do not, for the most
part, raise errors of law, and focus instead on the
factual finding of whether they omitted income from
their 2001 joint tax return, our review of that finding
is governed by the clearly erroneous standard.
Basic principles of tax law underlie this case. I.R.C.
§ 61(a)(1)-(2) states:
Except as otherwise provided in this subtitle, gross
income means all income from whatever source
derived, including (but not limited to) the follow-
ing items:
(1) Compensation for services, including fees,
commissions, fringe benefits, and similar items;
[and]
(2) Gross income derived from business; . . . .
Another thirteen examples follow § 61(a)(1)-(2), further
refining the Internal Revenue Code’s broad definition
of “gross income.” In Comm’r v. Glenshaw Glass Co., 348
No. 10-2194 13
U.S. 426 (1955), the Supreme Court held that Congress
used such language to define gross income (with some-
what different wording and under a different section)
“to exert in this field ‘the full measure of its taxing
power.’ ” Id. at 429 (citations omitted). Thus, “the Court
has given a liberal construction to this broad phraseology
in recognition of the intention of Congress to tax all
gains except those specifically exempted.” Id. at 430
(citations omitted). Starting at I.R.C. § 101, the Code
lists dozens of items specifically excluded from the def-
inition of gross income, including “Certain death benefits,”
“Gifts and inheritances,” “Interest on State and local
bonds,” and “Compensation for injuries or sickness.” See
I.R.C. §§ 101, 102, 103, and 104. The Coles do not raise
an exception or argue that the money they earned in
2001 is not gross income. Their dispute with the IRS (and
the Tax Court decision) is about whether they or some
other entity actually earned the income in question.
The Coles’ 2001 joint tax return reported adjusted gross
income of $100,276, taxable income of $18,265, and a
tax liability of $505. Yet, the Coles have produced no
records supporting these figures. The evidence presented
to the Tax Court showed that the Coles actually made a
tremendous amount of money in 2001 that they did not
report on their 2001 joint return. Scott, via his representa-
tion of the Sandefur Trust and others, helped the
Bentley Group earn $1,430,802 in taxable deposits in
2001 as determined by the IRS and found by the Tax
Court. Scott also made a decent amount of money inde-
pendent of the Bentley Group as documented by the
$79,652 in taxable deposits in JAC’s bank account, all
14 No. 10-2194
from Scott’s legal services. Yet Scott only reported self-
employment tax on $1,162 of income for a self-employ-
ment tax liability of $164.
The Coles do not directly challenge the presumption
of correctness granted the Commissioner’s deficiency
assessment or our clearly erroneous standard for
reviewing the Tax Court’s factual findings. Internal
Revenue Code section 6001 requires taxpayers to “keep
such records, render such statements, make such re-
turns, and comply with such rules and regulations” as
required by the Commissioner. When a taxpayer fails to
regularly use an accounting method, “or if the method
used does not clearly reflect income,” I.R.C. § 446(b) allows
the Commissioner to determine taxable income via a
method that in its discretion “does clearly reflect income.”
See Webb v. Comm’r, 394 F.2d 366, 371-72 (5th Cir. 1968)
(holding that because a taxpayer’s “records did not
clearly reflect his income, the Commissioner was autho-
rized to use such methods as in his opinion clearly re-
flected that income” (citing 26 U.S.C. § 446(b)); Factor v.
Comm’r, 281 F.2d 100, 117 (9th Cir. 1960) (holding that an
“undisputed rule is that, because of the failure of the
taxpayer to keep books clearly reflecting his income, the
Commissioner had the right to compute the income” using
a method the Commissioner believes accurately reflects
income (citations omitted)). Courts have long approved
of the “bank deposits” and the “specific items” methods.
See United States v. Merrick, 464 F.2d 1087, 1092 (10th Cir.
1972) (affirming a tax evasion conviction—challenged on
sufficiency of the evidence—that was established by the
specific items method); United States v. Stein, 437 F.2d 775,
No. 10-2194 15
779-81 (7th Cir. 1971) (holding that a tax evasion convic-
tion could be proved on “a bank deposits analysis” (cita-
tions omitted)). The reconstruction of a taxpayer’s
income need only be reasonable in consideration of the
case’s circumstances and facts. See Bradford v. Comm’r, 796
F.2d 303, 306 (9th Cir. 1986). The Commissioner’s recon-
struction of the Coles’ income shows that they omitted
$1,215,183 of income and $1,329,268 of self-employment
income from their 2001 return. The Coles failed at the
Tax Court to rebut the assessment’s presumption of
accuracy and fail on appeal to show clear error in the
court’s finding that because the Coles did not produce
credible documentary or other evidence showing other-
wise, the Commissioner’s reconstruction was “reasonable
and substantially accurate.”
Instead, the Coles argue that Scott did not actually earn
the money; rather, the Bentley Group earned the money.
Against nearly all the evidence, Scott argues that he
suddenly stopped owning part of the Bentley Group on
January 1, 2001. Scott alleges, without any contemporary
documentary evidence, that he divested his Bentley
ownership by assigning it to SCC in spite of the evidence
that Scott directed more than $1 million of the Bentley
Group’s funds to other entities and persons in 2001.
The Coles also cite Jennifer’s purported 50% passive
ownership of JAC along with her family trust’s purported
49% ownership. According to the Coles, they only owed
tax on the 1% of JAC that Scott owned. These arguments
fail on several levels.
The Coles fail to show that the Tax Court clearly erred
in finding (1) that there is insufficient evidence showing
16 No. 10-2194
SCC’s ownership in the Bentley Group and (2) that
Scott and Darren were the only Bentley Group partners
in 2001. The only documentary evidence of SCC’s alleged
Bentley Group partnership status was the group’s 2001
return. This return was filed in November 2004—long
after the Cole brothers became aware that the IRS audit
had begun. This return also indicates that during 2001
there was no “distribution of property or a transfer . . . of
a partnership interest.” Not only are the timing and
internal inconsistencies of the Bentley Group’s 2001
return suspect given the dramatic increase in the
Bentley Group’s reported income in 2001 (from $46,121
in 1999, $69,698 in 2000, to $1,583,900 in 2001), SCC
failed to file a return for 2001 (thus, paying no income
tax) and became a defunct entity in 2001. We find no
clear error in the Tax Court’s finding that “[t]here is no
written evidence for 2001 to suggest that SCC was
involved with the Bentley Group.” Nor was the Tax
Court clearly in error to find that the Cole brothers’
testimony offered to support their after-the-fact explana-
tion of SCC’s ownership of Bentley lacked credence. The
Coles argue that because Darren signed the Bentley
Group’s 2001 tax return and the questions on the return
were presented to the Bentley Group, the omission of a
property distribution or transfer does not show “that a
transfer of ownership interest . . . did not occur.” The
Coles also argue that SCC’s administrative dissolution
was simply “[d]ue to an oversight.” These excuses fail
to show that the Tax Court clearly erred in finding that
the Coles did not rebut the presumption of correctness
as to the IRS’s determination that the money deposited
No. 10-2194 17
into the Bentley Group’s account was “income allocated
to Scott and Darren, not SCC.”
The Coles’ excuses and justifications aside, the Com-
missioner presented sufficient evidence showing Scott’s
ownership in the Bentley Group. The Bentley Group did
business as “Cole Law Offices,” without mentioning
the existence of a corporate partner. Indiana Rule of
Professional Conduct 7.5(b) at the time prohibited (it
has since been modified) lawyers from practicing
“under a name that is misleading as to the identity,
responsibility, or status of those practicing thereunder.”
The Bentley Group’s tax returns for 1999 and 2000—filed
before the audit began—list Darren and Scott as the
owners. Bentley Group clients wrote checks to Cole
Law Offices in 2001. A $300,000 check, made out by the
trustees of the Sandefur Trust to “Scott Cole and Associ-
ates” on June 18, 2001, was deposited into the Bentley
Group’s bank account. Even at trial, the Cole brothers
could not keep their answers about the Bentley Group’s
ownership consistent.
[Attorney for the Commissioner] Did you practice
law in partnership with your brother under the
name Bentley Group, DBA Cole Law Offices
during the year 2001?
[Darren] Yes.
Scott later cross-examined Darren on the issue.
[Scott] Okay, now you had mentioned that in the
year 2001 you did not practice law or you were
not a partner with anyone but Scott Cole. Did you
18 No. 10-2194
mean Scott Cole or Scott Cole professional corpora-
tion?
[Darren] I guess it would be the corporation.
When, you know, you’re thinking as far as Disci-
plinary Commission wise or whatever, I thought
of you personally as my partner, on paper Scott
Cole PC was the partner.
[Scott] So in the year 2000, who were the partners
with Cole Law Offices?
[Darren] Myself and Scott Cole PC.
[Scott] Okay, in the year 2000?
[Darren] Oh, myself and you.
[Scott] Okay, and then in 2001, who were the
partners?
[Darren] Myself and Scott Cole PC.
The Coles do not show how the Tax Court clearly erred
in finding that Scott did not divest his Bentley Group
interest in 2001 or that Scott earned the vast majority of
the Bentley Group’s 2001 income (which thus should be
allocated to him) as evidenced by the fact that he
directed the withdrawal of $1,173,263 from the group’s
account. The Coles argue that the Tax Court erred by
finding that Scott misreported his interest in the
Bentley Group in his 2002 bankruptcy filing. They argue,
despite the lack of evidence, that his filing was con-
sistent with the Bentley Group’s 2001 return and the pur-
ported divestment of his Bentley Group ownership, and
that he did not disclose SCC because it was dissolved on
No. 10-2194 19
September 5, 2001. This spurious argument only accents
the game of thimblerig 2 suggested by Scott’s legal and
financial maneuvering. It goes something like this. Scott
did not earn any of the Bentley Group-related income
in 2001. Look to the Bentley Group, it earned the
income from Scott’s legal work. Isn’t Scott a Bentley
Group partner? No, Scott disclaimed the entirety of his
Bentley Group partnership in 2001, and now his personal
corporation SCC is the primary owner of all but 1% of the
Bentley Group. But wait, don’t look to Scott to claim any
interest in SCC because SCC disappeared on September 5,
2001, along with, poof!, apparently any obligation Scott
believed he had to pay taxes on his 2001 financial wind-
fall. As Darren testified at trial, SCC was at best a
Bentley Group partner “on paper” (the paper consisting
only of a tax return created after the audit began), but
in reality Scott never ended his Bentley Group partner-
ship. Because the Coles do not show how the Tax Court’s
findings of fact as to the Bentley Group ownership
were clearly erroneous, they are dispositive of the argu-
ments that the Bentley Group income was not attribut-
able to the Coles.
Ignoring the clearly erroneous standard of review for
factual findings such as the ownership of the Bentley
Group, the Coles argue that the Tax Court lacked juris-
2
Thimblerig is a game “played with three small cups shaped
like thimbles and a small ball or pea that is so quickly shifted
from under one cup to under another that the person
watching is often misled.” Webster’s Third New International
Dictionary 2375 (1986). Often the game functions “as a
swindling operation.” Id.
20 No. 10-2194
diction over the Bentley Group. The Coles’ theory is the
Bentley Group is not a relevant party because the
group’s 2001 tax return did not list either Scott or Jennifer
as Bentley Group partners. Only Darren Cole and SCC
were listed as partners. Because Scott and Jennifer were
not listed as partners, they contend that they were some-
how surprised when the IRS attributed partnership
income to them. This lack of notice, the argument goes,
prevented the Coles from presenting evidence re-
garding their tax liability for the group’s income. This
argument lacks citation to authority. The Coles do not
explain what type of notice was necessary to substan-
tively make a difference. And the Coles had notice that
the IRS would find Scott at least partially liable for
Bentley Group income because the April 11, 2008, defi-
ciency notice attributed the group’s income to the Coles.
Most importantly, the Coles do not show how the Tax
Court clearly erred in finding that Scott was in fact a
Bentley Group partner in 2001.
Even if Scott had effectively documented his purported
divestment of his Bentley Group interest, the divest-
ment lacked economic substance as demonstrated by
his continuous dominion and control over the group’s
assets for personal purposes. Under the assignment
of income doctrine, taxpayers may not shift their tax
liability by merely assigning income that the taxpayer
earned to someone else. Kenseth v. Comm’r, 259 F.3d 881,
884 (7th Cir. 2001) (citing Lucas v. Earl, 281 U.S. 111, 114-15
(1930); United States v. Newell, 239 F.3d 917, 919-20 (7th Cir.
2001)). In Lucas, the Supreme Court held that a taxpayer’s
salary may not escape tax “by anticipatory arrangements
No. 10-2194 21
and contracts however skilfully devised to prevent the
salary when paid from vesting even for a second in the
man who earned it.” 281 U.S. at 114-15. Tax law makes “no
distinction . . . according to the motives leading to the
arrangement by which the fruits are attributed to a dif-
ferent tree from that on which they grew.” Id. at 115. In
Griffiths v. Helvering, the Court refused to allow “the
refinements of title” to determine a taxation issue
and focused instead on the “actual command over the
property taxed.” 308 U.S. 355, 357 (1939) (quoting Corliss
v. Bowers, 281 U.S. 376, 378 (1930)). The Court held that
“a lawyer’s ingenuity devised a technically elegant ar-
rangement” that created “an intricate outward
appearance . . . to the simple sale . . . and the passage of
money.” Griffiths, 308 U.S. at 357.
Scott never gave up control of the Bentley Group or
its funds as demonstrated by his transferring $1,173,263
in Bentley Group money in 2001. The Coles claim that
some of these transfers were investment loans, but they
do not explain why Scott gave his mother Bentley
Group money and loaned his father $40,000 of Bentley
Group funds. The Coles argue that they did not receive
any personal benefit from these transactions. But they
do not explain how they could not have benefitted when
Scott’s father gave Scott’s church $40,000 and then Scott
claimed a $40,000 charitable deduction on the Coles’
personal tax return without ever reporting the money
as income. As found by the Tax Court, Scott acknowl-
edged that as an attorney he earned income from pro-
viding legal services but thought he could avoid
22 No. 10-2194
reporting that income by depositing that money into the
Bentley Group account and assigning his Bentley Group
interest to SCC. The Coles fail to show that the court
clearly erred in finding that Scott may not avoid tax
liability on his income by assigning it to SCC when sub-
stantively his Bentley Group ownership never changed
as evidenced by Scott’s continued dominion and control
over the partnership’s funds. See Trousdale v. Comm’r,
219 F.2d 563, 567 (9th Cir. 1955) (affirming the Tax Court’s
finding that “the transaction was not in substance
and effect the sale of a partnership interest”).
The Coles’ argument that they did not benefit from
the loans is frivolous because “gross income means all
income from whatever source derived, including . . .
[c]ompensation for services.” I.R.C. § 61(a)(1). Even if the
Coles provided genuine documentation as to the loans
(providing information such as the loans’ terms or
interest rates) and we were inclined to view them as
bona fide loans, Scott would still owe taxes on the
income because before he loaned the money, he
incurred an undeniable accession to this wealth, clearly
realized it, and exercised dominion over it. See Glenshaw
Glass Co., 348 U.S. at 431. A majority of the Bentley
Group’s income came from the Sandefur Trust for legal
representation undoubtedly performed by Scott. Regard-
less of whether this was an inadvertent error, the first
of the four checks was made out to “Scott Cole and Associ-
ates,” indicating that the trustees intended to pay Scott
for his legal services. As previously noted, co-trustee
Gestner signed an affidavit that was included among
No. 10-2194 23
the documents before the Tax Court declaring that the
trustees “retained Scott Cole as the Attorney to represent
the Trust.” The fee Scott Cole charged—not the Bentley
Group or Cole Law Offices—exceeded the usual fee
for such legal services, but Gestner was “very satisfied
with” Scott’s legal representation, considering his
$1.2 million fee to be worthwhile. Another document
presented in the Tax Court was a motion before the
Shelby County, Indiana, Circuit Court signed by Scott
declaring that “Scott Cole worked in his legal capacity
to quash any attempt to contest the” trust, among other
matters. Scott exercised control over the fees by having
the money deposited into the Bentley Group account
and then moving $1,173,263 of Bentley Group money
in 2001 to other persons and entities. The Coles’ attempt
to avoid paying taxes on this income by declaring that
they did not benefit from the loans and thus somehow
assigned the income is a nonstarter. See United States v.
Basye, 410 U.S. 441, 447-48 (1973) (noting that two
familiar principles of income taxation are “first, that
income is taxed to the party who earns it and that
liability may not be avoided through an anticipatory
assignment of that income, and, second, that partners
are taxable on their distributive or proportionate shares
of current partnership income irrespective of whether
that income is actually distributed to them”); Comm’r v.
First Sec. Bank of Utah, 405 U.S. 394, 403-04 (1972)
(noting that it is “well established that income assigned
before it is received is nonetheless taxable to the as-
signor”); Comm’r v. Sunnen, 333 U.S. 591, 604 (1948) (“As
long as the assignor actually earns the income or is other-
24 No. 10-2194
wise the source of the right to receive and enjoy the
income, he remains taxable.”).3
The Coles also do not show how the Tax Court clearly
erred in finding that the Coles omitted other income,
namely, the funds deposited into accounts held by JAC
Investments and Jennifer Cole. The Coles do not explain
their failure to report $79,294 in deposits into Jennifer
Cole’s personal checking account, including $59,264 in
legal fees earned by Scott. We do not find clear error in
the Tax Court’s finding that the Coles failed to report
these deposits as income.
JAC reported gross receipts of $146,957 in 2001 (with
$28,647 in unsubstantiated expenses), yet Scott only
reported $1,162 in income for self-employment tax pur-
poses in 2001 and Jennifer reported none at all. The
Coles’ theory for the tax treatment of this income is
that Jennifer owned 50% and her family trust 49%
as members. Scott conveniently owned only 1% as a
member-manager who ran JAC’s day-to-day operations.
Yet, as noted above, the assignment of income doctrine
prohibits taxpayers from shifting their tax liability by
simply assigning income that the taxpayer earned to
someone else. Kenseth, 259 F.3d at 884. The deposits into
JAC’s account were almost exclusively checks written to
3
The IRS and the Tax Court allocated the vast majority of the
2001 Bentley revenues to Scott rather than splitting them
equally with Darren as the partnership agreement stated. This
is consistent with the manner in which Scott controlled the
subsequent disbursement of those funds, and is not clearly
erroneous.
No. 10-2194 25
Scott. And the Coles used the JAC money for personal
reasons, such as church tithing and mortgage pay-
ments. The Tax Court’s finding of fact that the Coles
“avoided income and self-employment taxes by assigning
income from Scott’s law practice to JAC and using those
funds for personal purposes” was not clearly erroneous.
The Coles raise another jurisdictional argument that
bears little mention but we will address it anyway.
The Coles argue that the Tax Court erred in taking juris-
diction over JAC Investments because the Commis-
sioner failed to apply the 1982 Tax Equity and Fiscal
Responsibility Act (TEFRA) audit and litigation proce-
dures, see I.R.C. §§ 6221-6234, namely by not sending
JAC’s partners a Notice of Final Partnership Administra-
tive Adjustment. This argument lacks merit. Internal
Revenue Code section 6231(g)(2) permits the Commis-
sioner to find that TEFRA does not apply to a partner-
ship based on its tax return. Scott answered “no” to the
question on JAC’s 2001 return asking whether JAC was
subject to TEFRA. The Coles’ attempt to raise TEFRA,
when Scott expressly stated that JAC was not subject
to TEFRA, is misguided.
Because none of the Tax Court’s findings as to the
Coles’ unreported income from 2001 were clearly errone-
ous, we affirm the court’s finding that the Coles omitted
$1,215,183 of income and $1,329,268 of self-employ-
ment income from their 2001 joint tax return.4
4
The Coles argue that the Tax Court erred in allowing
Revenue Agent Loretta Reed to testify without giving the
(continued...)
26 No. 10-2194
B. The imposition of the fraud penalty
We next address the Tax Court’s finding that the Coles
were liable for the fraud penalty. If any portion of an
“underpayment of tax required to be shown on a return
is due to fraud, there shall be added to the tax an
amount equal to 75 percent of the portion of the under-
payment which is attributable to fraud.” I.R.C. § 6663(a).
Unlike the assessment of unreported income, courts
do not presume the existence of fraud; rather, the Com-
missioner carries the burden of proving “by clear and
convincing evidence that” an underpayment of taxes
“was due to fraud.” Toushin v. Comm’r, 223 F.3d 642,
647 (7th Cir. 2000) (citing I.R.C. § 7454(a); Pittman, 100 F.3d
at 1319). If the Commissioner proves “that any portion
(...continued)
Coles notice and that she used notes during her testimony.
These claims are without merit. The Coles do not show why
Reed’s use of notes constitutes error. The Coles also had
notice. The Commissioner’s pretrial memorandum declared an
intent to call a revenue agent, which at the time was Jeffrey
Nichols. The Commissioner wanted him to discuss the Cole
couples’ lack of cooperation and the indirect methods of
reconstructing their income. At trial, Darren requested the
Commissioner call Reed to discuss Darren and Lisa’s alleged
lack of cooperation. The Coles (all four of them) received
notice from the IRS on May 26, 2009, indicating “that it is
possible to have Revenue Agent Loretta Reed available for
trial.” Reed did not testify until June 18, 2009, giving the
Coles ample notice. Scott and Jennifer also fail to show how
Reed’s testimony caused them prejudice.
No. 10-2194 27
of an underpayment is attributable to fraud, the entire
underpayment shall be treated as attributable to fraud,
except with respect to any portion of the underpay-
ment which the taxpayer establishes (by a preponder-
ance of the evidence) is not attributable to fraud.” I.R.C.
§ 6663(b). The fraud determination turns on whether
the taxpayer “had an actual, specific intent to evade a
tax” owed. Stephenson v. Comm’r, 79 T.C. 995, 1005 (1982),
aff’d, 748 F.2d 331 (6th Cir. 1984) (per curiam). Rarely
does direct evidence exist of a taxpayer’s fraudulent
intent. Toushin, 223 F.3d at 647. But “the IRS may estab-
lish fraudulent intent through circumstantial evidence.”
Id. Like our review of the findings regarding the Coles’
unreported income, a tax court’s fraud determination is
a finding of fact that “will not be set aside unless
clearly erroneous.” Id. (quoting Pittman, 100 F.3d at 1319).
In Spies v. United States, 317 U.S. 492, 499 (1943), the
Supreme Court noted that:
Congress did not define or limit the methods by
which a willful attempt to defeat and evade
might be accomplished and perhaps did not define
lest its effort to do so result in some unexpected
limitation. Nor would we by definition constrict
the scope of the Congressional provision that it
may be accomplished “in any manner”. By way of
illustration, and not by way of limitation, we
would think affirmative willful attempt may be
inferred from conduct such as keeping a double
set of books, making false entries or alterations, or
false invoices or documents, destruction of books
28 No. 10-2194
or records, concealment of assets or covering up
sources of income, handling of one’s affairs to
avoid making the records usual in transactions
of the kind, and any conduct, the likely effect of
which would be to mislead or to conceal.
Courts have expanded these examples to include the
understatement of income, failure to file tax returns, and
implausible or inconsistent explanations of behavior.
Bradford, 796 F.2d at 307 (citations omitted). Commingling
assets in an attempt to avoid tax liability, filing late tax
returns, and failure to maintain adequate personal or
corporate business records have also been cited as indica-
tions of fraud. United States v. Walton, 909 F.2d 915, 926
(6th Cir. 1990). Courts also consider relevant the tax-
payer’s education, intelligence, and tax expertise in
determining fraudulent intent. See id. at 927; Stephenson,
79 T.C. at 1006.
The Tax Court found the Coles liable for the fraud
penalty citing a variety of factors, or “badges of fraud,” to
show that the Commissioner proved with clear and
convincing evidence that Scott and Jennifer fraudulently
understated their 2001 tax liabilities. These findings
were not clearly erroneous.
The court started with the Coles’ education and in-
telligence as illustrated by Jennifer’s prior work as an
accountant after earning a college degree and Scott’s
attorney’s license, oath to uphold the law, and his legal
practice that included tax law and preparing tax returns.
The Coles cannot claim to be unsophisticated or
unknowledgeable of the Code’s principles. Thus, we
No. 10-2194 29
reject their claim that the Tax Court used “acts of negli-
gence to show fraud,” particularly considering the
number of improper acts identified by the Tax Court.
The Tax Court’s finding that the Coles omitted $1,215,183
of income and $1,329,268 of self-employment income
from their 2001 joint tax return is a longstanding sign of
intent to evade taxation. See Spies, 317 U.S. at 499 (noting
that “covering up sources of income” allows an infer-
ence of “affirmative willful attempt” to evade); Bradford,
796 F.2d at 308 (failing to report taxable income
supported a fraud finding). Intensifying this indication
of fraud is that Scott’s attempt to avoid tax liability for
his 2001 windfall took the form of an elaborate shell
game through which Scott attempted (although ineptly)
to use his knowledge of tax matters to place the income
in a defunct entity purportedly free of tax responsibilities.
See Walton, 909 F.2d at 926 (noting that “implausible
explanations of conduct” is “a strong indication of fraud”).
Failing to maintain accurate records “is a strong indicum
of fraud with intent to evade taxes.” Toushin, 223 F.3d at
647 (quoting Estate of Upshaw v. Comm’r, 416 F.2d 737, 741
(7th Cir. 1969)). The Tax Court found that although
Scott claimed that he diverted most of his income from
his Bentley Group-related legal fees to others ostensibly
as loans, the transactions lacked documentation. The
Coles also failed to document the alleged transfer of the
Bentley Group interest to SCC or his deposits into the
Bentley Group account. The lack of records also sup-
ported the Tax Court’s finding that Scott failed to respect
“the existence of different entities or the partners in the
30 No. 10-2194
Bentley Group.” The Coles’ defense is that the records
were “lost or misplaced or discarded due to the passage
of time” and that an August 19, 2005, storage building
fire consumed “many of the records of the Bentley
Group.” Regardless of these excuses, Scott testified that
he did not retain billing invoices or save the papers
he used to prepare his tax returns. And the IRS began
auditing their 2001 tax return in 2003, well before the
2005 fire and not long after the Coles filed their joint
2001 income tax return on April 11, 2002. The Coles also
do not elaborate on what records they would produce
but for the fire or why they did not attempt to re-
produce the records. Nor do they explain why the loan
recipients did not have records of the transactions or
why the Coles did not keep at least some of the records
in Scott’s home office. And some documents survived
as evidenced by the inclusion in the Tax Court record of
the Bentley Group partnership agreement and hand-
written minutes from an October 5, 1999, meeting of “Cole
Law Offices” partners Darren and Scott Cole. The
Tax Court’s finding that the absence of records
suggested fraud was not clearly erroneous.
The Coles also commingled business and personal
assets. Scott deposited some of his earnings from his legal
practice into the JAC account and Jennifer’s personal
account. Jennifer wrote checks from these accounts to
pay for personal expenses, such as school tuition, land-
scaping, and music lessons. Scott also withdrew $1.17
million from the Bentley Group in 2001 and loaned it to
friends and family. The Tax Court did not clearly err in
finding that Scott “showed little respect for business
No. 10-2194 31
formalities and effectively made the Bentley Group
nothing more than a checking account.”
The Coles also concealed assets by funneling income
into multiple business entities that lacked any business
purpose. The entities served, as found by the Tax Court,
“as conduits to hide income Scott earned from pro-
viding legal services and preparing tax returns.” Instead
of reporting the income from his law practice, Scott
attempted (after the IRS audit began) to assign his
interest in his law practice to his personal corporation
(for which he disclaimed all but 1% of the ownership)
that later that year became defunct. This scheme, as
found by the Tax Court, was an attempt to “conceal the
true nature of the earnings subject to income and self-
employment taxes.” Scott also misrepresented his oc-
cupation (and thus his source of income) by stating on
the Coles’ 2001 return that he was an investor. Scott
directed his income through several entities he undoubt-
edly controlled. By attempting to minimize his owner-
ship, Scott thought he could report only $505 in tax
liability despite earning more than $1.2 million in tax
year 2001. This scheme, given Scott’s apparent knowl-
edge of tax and business planning matters, is a striking
badge of fraud that Scott endeavors to further by ad-
vancing spurious arguments on appeal. Walton, 909 F.2d
at 927 (agreeing with the district court that the tax-
payer’s “most incredible, . . . most nonsensical, child-like
story,” despite his college education and business experi-
ence, supported a fraud finding).
Finally, the Coles argue “that the Tax Court may have
used acts by Darren Cole and Lisa Cole” and an investment
32 No. 10-2194
company “to cross contaminate Scott and Jennifer Cole,
JAC, or Bentley Group and to conclude fraud.” The Coles
do not show where the Tax Court confused anything.
Putting aside that the Coles raise this issue as a mere
possibility, the Tax Court explicitly delineated between
Scott and Jennifer’s acts and Darren and Lisa’s acts sug-
gesting fraud. The Coles’ claim that some of the acts
suggesting fraud were on account of the Bentley Group
or JAC ignores that Scott was a Bentley Group partner
and Scott managed JAC’s affairs.
Thus, the Coles fail to show where the Tax Court com-
mitted clear error in finding that the Commissioner
proved “by clear and convincing evidence that Scott
and Jennifer each fraudulently understated their tax
liabilities for 2001.” 5
5
Because we affirm the Tax Court’s finding that the Coles
fraudulently avoided tax liability, the Coles’ statute-of-limita-
tions defense fails. I.R.C. § 6501(c)(1) creates an exception
for cases of a “fraudulent return with the intent to evade tax.” In
such cases, the tax “may be assessed . . . at any time.” Id.
And even without fraud, the three-year limitations period is
extended to six years, where, as here, a taxpayer omits from
gross income an amount greater than 25% of the gross
income reported on the return. I.R.C.§ 6501(e)(1)(A); see Beard
v. Comm’r, No. 09-3741, 2011 WL 222249, at *1 (7th Cir.
Jan. 26, 2011). The IRS issued the Coles’ notice of deficiency
on April 11, 2008, within six years of April 11, 2002, when the
Coles filed their 2001 return.
No. 10-2194 33
Conclusion
We A FFIRM the judgment of the Tax Court.
3-28-11