Opinion
22322-21S
03-01-2023
SCOTT EDWARD MCPHERSON & MICHELE EINSPAR, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent
ORDER
Diana L. Leyden, Special Trial Judge
Pursuant to Rule 152(b), Tax Court Rules of Practice and Procedure, it is
ORDERED that the Clerk of the Court shall transmit herewith to petitioner and to respondent a copy of the pages of the transcript of the remote trial in the above case before Special Trial Judge Diana L. Leyden at San Diego, California, on February 1, 2023, containing her oral findings of fact and opinion rendered at the trial session at which the case was heard. In accordance with the oral findings of fact and opinion, a decision will be entered for respondent.
Pages: 1 through 13
Place: San Diego, California (Remote Proceeding)
Date: February 1, 2023
Federal Building
880 Front Street
Room 4228
San Diego, California 92101
(Remote Proceeding)
February 1, 2023
The above-entitled matter came on for bench opinion, pursuant to notice at 8:41 a.m.
BEFORE: HONORABLE DIANA L. LEYDEN Special Trial Judge.
PROCEEDINGS
(8:41 a.m.)
THE CLERK: Calling docket number 22322-21S, Scott Edward McPherson and Michele Einspar.
(Whereupon, a bench opinion was rendered.)
Bench Opinion
Judge Diana L. Leyden
February 1, 2023
Scott Edward McPherson and Michele Einspar v. Commissioner
Docket No. 22322-21S
THE COURT: The Court will enter a bench opinion in Scott Edward McPherson and Michele Einspar, Petitioners, v. Commissioner of Internal Revenue Service, Respondent, docket number 22322-21S.The Court has decided to render oral findings of findings of fact and opinion in this case. And the following represents the Court's oral findings of fact and opinion. The oral findings of fact and opinion shall not be relied upon as precedent in any other case. The oral findings of fact and opinion are made pursuant to the authority granted by section 7459(b) of the Internal Revenue Code and Tax Court Rule 152. Rule references in to this opinion are the Tax Court Rules of Practice and Procedure, and section references are to the Internal Revenue Code, in effect at all relevant times.
The proceeding was heard as a Small Tax Case pursuant to the provisions of 7463 and Rules 170 through 174. The Court uses the term "Internal Revenue Service" or "IRS" to refer to administrative actions taken outside these proceedings. The Court uses the term "Respondent" to refer to the Commissioner of Internal Revenue, who is the head of the IRS and is Respondent in this case and to refer to actions taken in connection with this case.
The trial of this case was conducted on January 31st, 2023 at the remote San Diego trial session of the Court. Petitioner Husband appeared on his behalf. Petitioner Wife did not appear. Jennifer A. Brooker appeared on behalf of Respondent. On the evidence before us and using the burden of proof principles explained below, the Court sustains Respondent's determinations.
BACKGROUND
Some of the facts have been stipulated and are so found. The First Stipulation of Facts and the attached exhibits are incorporated herein by this reference. The First Supplemental First Stipulation of Facts are incorporated herein by this reference with the exception of Exhibit 10-P and the last sentence in Exhibit 14-P to which Respondent objected and the Court sustained the objection. At trial, Respondent introduced Exhibits 18-R and 19-R. Petitioner did not object to the admission of these exhibits, and the Court admitted these exhibits into evidence.
Petitioners resided in California at the time they filed their petition in this case. On June 21st, 2021, Petitioners timely filed a petition in this case seeking determination of the Notice of Deficiency issued March 15, 2021, for 2018. In the Notice of Deficiency, the IRS determined a deficiency of $8,691 and imposed a $1,738.20 section 6662(a) accuracy-related penalty for 2018.
The Notice of Deficiency proposed to disallow (1) Schedule C, profit or loss from business, other expenses of $12,718; (2) Schedule C travel expenses of $9,132; (3) Schedule C car and truck expenses of $8,292; and (4) to impose an accuracy-related penalty under section 6662(a). The Notice of Deficiency also proposed to allow a qualified business income deduction of $5,603 and an increase in self-employment adjusted gross income of $2,130.
Petitioners timely-filed a joint Federal individual income tax return for 2018. During 2018, Petitioner-Husband operated a legal practice as a patent attorney. In addition to his legal practice, Petitioner-Husband worked with some people during 2018 to market a concrete mixer and also worked with other people to implement a chemical extraction process. On the Schedule C filed with Petitioners's joint return and on which Petitioner-Husband's business was listed as attorney, petitioners have reported gross receipts of $38,750, car and truck expenses of $8,292, office expenses of $4,247, $9,132, deductible meal expenses of $3,424, and other expenses of $12,718.
The IRS Correspondence Examination Automation Support (CEAS) program examined Petitioners's 2018 joint tax return. The program first sent an initial contact letter informing Petitioners that their 2018 Federal income tax return had been selected for audit and requesting documentation to support certain expenses claimed on their return. Subsequently, the program sent Petitioners the Letter 525, also referred to as a 30-day letter, informing Petitioners that the IRS completed an examination of their return and proposed to disallow the claimed other expenses, travel expenses, and car and truck expenses, as well as impose an accuracy-related penalty under section 6662(a) for a substantial understatement of tax, or in the alternative, negligence.
Petitioners responded to the Letter 525 to ask for an extension of time to submit documentation. Petitioners did not at that time challenge the section 6662(a) penalty. The IRS subsequently issued Petitioners the Notice of Deficiency upon which this case is based.
DISCUSSION
I. Burden of Proof
The Commissioner's determination of the taxpayer's liability in a Notice of Deficiency normally is presumed correct and the taxpayer bears the burden of proving that the determination is incorrect. Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). Deductions are a matter of legislative grace, and the taxpayer bears the burden of proving that he or she is entitled to any deduction claimed. Rule 142(a), New Colonial Ice Co. v. Helvering, 292 U.S. 435, 440 (1934).
II. Schedule C Expenses
Section 162(a) generally allows a deduction for ordinary necessary expenses paid or incurred during the taxable year in carrying on any trade or business. The determination of whether an expenditure satisfies the requirements for deductibility under section 162 is a question of fact. See Commissioner v. Heininger, 320 U.S. 467, 475 (1943). In general, an expense is ordinary if it is considered normal, usual, or customary in the context of a particular business out of which it arose. See Deputy v. du Pont, 308 U.S. 488, 495 (1940). Ordinarily, an expense is necessary if it is appropriate and helpful to the operation of the taxpayer's trade or business. See Commissioner v. Tellier, 383 U.S. 687(1966); Carbine v. Commissioner, 83 T.C. 356 , 363 (1984), affirmed 777 F.2d 662 (11th Cir. 1985). Sectio n 262(a) generally disallows a deduction for personal, living, or family expenses. Respondent has not challenged that the disallowed expenses were not ordinary and necessary business expenses.
Section 6001 in the regulations promulgated thereunder required taxpayers to maintain records sufficient to permit verification of income and expenses. See Treasury Reg. section 1.6001-1(a) and (e). As a general rule, if, in the absence of such records, a taxpayer provides sufficient evidence that the taxpayer has incurred a deductible expense, but the taxpayer is unable to adequately substantiate the amount of the deduction to which she is otherwise entitled, the Court may estimate the amount of such expense and allow the deduction to that extent. Cohan v. Commissioner, 39 F.2d 540, 543-544 (2d Cir. 1930). However, in order for the Court to estimate the amount of an expense, we must have some basis upon which an estimate may be made. Vanicek v. Commissioner, 85 T.C. 731, 743 (1985). Without such a basis, any allowance would amount to an unguided largesse. Williams v. United States, 245 F.2d 559, 560 (5th Cir. 1957).
In the case of certain expenses, section 274(d) overrides the so-called Cohan doctrine. Sanford v. Commissioner, 50 T.C. 823, 827 (1968), affirmed per curiam 412 F.2d 201 (2d Cir. 1969), Temp Treasury Reg. 1.274-5T(a). Specifically, section 274(d) provides that a deduction is not allowable with respect to car and truck expenses and travel expenses unless the deduction is substantiated in accordance with the strict substantiation requirements of section 274(d) and the regulations promulgated thereunder. Thus, under section 274(d), a deduction is not allowable for expenses incurred in respect of a car and truck and travel on the basis of any approximation or unsupported testimony of the taxpayer. See e.g. Golden v. Commissioner, T.C. Memo 1993-602.
In other words, in order to obtain a deduction in respect of car and truck expenses and travel expenses, a taxpayer must substantiate the amount of the expense, the time and place of the use of the car or truck or the travel, and the business purpose of such. IRC section 274(d) Temporary Treasury 1.274-5T(c). Otherwise the deduction is proscribed.
Petitioners have failed to keep any records or produce any records that would allow the Court to apply the Cohan rule for the other expenses not subject to the stricter substantiation requirements under section 274(d). Likewise, Petitioners did not keep or provide any documents for those deductions subject to the stricter substantiation requirements. Petitioner-Husband's testimony as to some travel he purportedly took and his handwritten reconstruction of the mileage he drove during 2018 with respect to his job as an attorney and other activities he engaged in is woefully inadequate.
Further, some of the claimed expenses seem to relate to a business activity of Petitioner-Husband other than the claimed business as an attorney. Petitioner-Husband testified that as a patent attorney, he is very good with data. Unfortunately, with respect to his business and tax records, Petitioner-Husband completely failed to keep or maintain the data necessary to support the claimed disallowed deductions. Accordingly, the Court sustains Respondent's disallowance of the deductions set forth in the Notice of Deficiency for 2018.
III. Section 6662(a) Penalty
a. Burden of Production
Respondent bears the bears the burden of production with respect to the imposition of section 6662(a) accuracy-related penalty. See IRC sections 6751(b) and 7491(a). Based on this record, the Court concludes that the accuracy-related penalty for substantial understatement was automatically calculated through electronic means and did not require a supervisor's approval. IRC section 6751(b)(2)(B). Therefore, Respondent has met his burden of production.
b. Reasonable Cause
The accuracy-related penalty does not apply to any part of an underpayment of tax if the taxpayer shows he acted with reasonable cause and in good faith with respect to that portion. IRC section 6664(c)(1). Circumstances that indicate reasonable cause and good faith include reliance on the advice of a tax professional or an honest misunderstanding of the law that is reasonable in light of all facts and circumstances. Treasury Reg. 1.6664-4(b). See Higbee v. Commissioner, 116 T.C. 438, 449 (2001). Relevant facts and circumstances for the Court to consider include the knowledge and experience of the taxpayer. Treasury Reg. 1.6664-4(b)(1).
Petitioner-Husband is an attorney and has testified he is very adept at maintaining data. Nevertheless, Petitioners did not provide the Court with the necessary substantiation or data. Petitioner-Husband's testimony was vague and self-serving. Petitioner-Husband conceded he did not keep good records. The record does not convince the Court that Petitioners exercised reasonable care and good faith with respect to the disallowed deduction.
Accordingly, the Court concludes that Petitioners have not met their burden of proving reasonable cause and good faith, and they are liable for the section 6662(a) accuracy-related penalty for 2018 for substantial understatement of tax.
To reflect the foregoing, a decision will be entered in favor of Respondent. This concludes the Court's bench opinion.
(Whereupon, at 8:57 a.m., the above-entitled matter was concluded.)
CERTIFICATE OF TRANSCRIBER AND PROOFREADER
CASE NAME: Scott Edward McPherson & Michele Einspar v. Commissioner v. Commissioner
DOCKET NO.: 22322-21S
We, the undersigned, do hereby certify that the foregoing pages, numbers 1 through 13 inclusive, are the true, accurate and complete transcript prepared from the verbal recording made by electronic recording by Amanda Self on February 1, 2023 before the United States Tax Court at its session in San Diego, CA, in accordance with the applicable provisions of the current verbatim reporting contract of the Court and have verified the accuracy of the transcript by comparing the typewritten transcript against the verbal recording.