Burden of Proof
As a general rule, the Commissioner's determinations in a
statutory notice of deficiency are presumptively correct, and taxpayers bear
the burden of proving those determinations erroneous. Rule 142(a); Welch v.
Helvering, 290 U.S. 111, 115 [12 AFTR 1456] (1933). The U.S. Court of Appeals
for the Sixth Circuit, to which an appeal in this case would lie barring a
written stipulation to the contrary, has stated that the Commissioner cannot
rely on the presumption of correctness to support deficiency determinations of
unreported income without a "`minimal evidentiary foundation'"
linking the taxpayers with the income-producing activity or to the receipt of
funds. 9 United States v. Walton, 909 F.2d 915, 919 [66 AFTR 2d 90-5379] (6th
Cir. 1990) (quoting Weimerskirch v. Commissioner 596 F.2d 358, 361 [44 AFTR 2d
79-5072] (9th Cir. 1979), rev'g , 67 T.C. 672 (1977)); Richardson v.
Commissioner, T.C. Memo. 2006-69 [TC Memo 2006-69], 91 T.C.M. (CCH) 981, 989
(2006), aff'd, 509 F.3d 736 [100 AFTR 2d 2007-6970] (6th Cir. 2007). Where the
Commissioner carries his burden of production with respect to unreported
income, the burden of proof shifts to the taxpayers to produce "credible
evidence that they did not earn the taxable income attributed to them or of
presenting an argument that the IRS deficiency calculations were not grounded
on a minimal evidentiary foundation." United States v. Walton, 909 F.2d at
919. Taxpayers must prove their entitlement to deductions and losses as well as
the amount of the benefit claimed. See Gatlin v. Commissioner, 754 F.2d 921,
923 [55 AFTR 2d 85-1029] (11th Cir. 1985), aff'g T.C. Memo. 1982-489 [¶82,489
PH Memo TC]; Time Ins. Co. v. Commissioner, 86 T.C. 298, 313-314 (1986); Jordan
v. Commissioner, T.C. Memo. 2009-223 [TC Memo 2009-223], 98 T.C.M. (CCH) 289,
299-300 (2009) (discussing the applicability of Walton to the payment of
expenses), aff'd, ___ Fed. Appx. ___ (6th Cir. Apr. 25, 2012).
Records a taxpayer
needs to maintain for tax purposes
Taxpayers must keep sufficient records to enable the
Commissioner to determine their correct Federal income tax liability Sec. 6001;
Petzoldt v. . Commissioner, 92 T.C. 661, 686-687 (1989). The Commissioner is
simultaneously authorized to examine books, papers, records, or other data
potentially relevant or material in determining the taxpayers' Federal income
tax liability. Sec. 7602(a)(1). Where taxpayers fail to keep such books and
records, the Commissioner is authorized to reconstruct the taxpayers' income
under any method that, in the Commissioner's opinion, clearly reflects income.
S c. 446(b); Petzoldt v. e Commissioner, 92 T.C. at 693. Courts have long
recognized the bank deposits method as a permissible indirect approach to
reconstructing taxable income. See DiLeo v. Commissioner, 96 T.C. 858, 867
(1991), aff'd, 959 F.2d 16 [69 AFTR 2d 92-998] (2d Cir. 1992); Estate of Mason
v. Commissioner, 64 T.C. 651, 656 (1975) (and cases cited thereat), aff'd, 566
F.2d 2 [41 AFTR 2d 78-348] (6th Cir. 1977).
Vitautas Kazhukauskas, et ux. v. Commissioner, TC Memo
2012-191 , Code Sec(s) 61; 102; 162; 164; 262; 446; 1401; 6662; 7491; 7602.
VITAUTAS KAZHUKAUSKAS AND VILMA KAZHUKAUSKAS, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent.
Case Information:
Code Sec(s): 61;
102; 162; 164; 262; 446; 1401; 6662; 7491; 7602
Docket: Dkt.
No. 4657-10.
Date Issued:
07/11/2012.
Judge: Opinion by
Laro, J.
Tax Year(s):
Disposition:
HEADNOTE
1.
Reference(s): Code Sec. 61; Code Sec. 102; Code Sec. 162;
Code Sec. 164; Code Sec. 262; Code Sec. 446; Code Sec. 1401; Code Sec. 6662;
Code Sec. 7491; Code Sec. 7602
Syllabus
Official Tax Court Syllabus
Counsel
Vitautas Kazhukauskas and Vilma Kazhukauskas, pro sese.
Mindy Y. Chou, Robert D. Heitmeyer, Alexandra E.
Nicholaides, and Alissa Vanderkooi (specially recognized), for respondent.
LARO, Judge
MEMORANDUM FINDINGS OF FACT AND OPINION
Petitioners, while residing in Michigan, petitioned the
Court to redetermine deficiencies respondent determined in their 2006 and 2007
Federal income tax of $62,860 and $33,122, respectively, and accuracy-related
penalties of $12,572 and $6,624, respectively. 1 We are asked to decide the
following issues: (1) whether petitioners underreported gross receipts of
$222,534 and $168,086 on their 2006 and 2007 Schedules C, Profit or Loss From
Business, respectively. We hold they did; (2) whether petitioners may deduct
Schedule C expenses and claim costs of goods sold in addition to those
respondent allowed for 2006 and 2007. 2 We hold they may not; (3) whether
petitioners owe self-employment tax for 2006 and 2007, net of deductions
allowed under section 164(f), in the amounts of $8,749 and $7,672,
respectively. We hold they do; and (4) whether petitioners are liable for
accuracy-related penalties for 2006 and 2007 under section 6662(a) and (b)(2)
for substantial understatements of income tax. We hold they are.
FINDINGS OF FACT
Before trial, respondent's counsel sent to petitioners a
proposed stipulation of facts which respondent proffered petitioners should
agree to under Rule 91(a). Petitioners refused to execute the agreement, and
respondent moved the Court to compel stipulation under Rule 91(f). The Court
granted respondent's motion and ordered petitioners to show cause why the
proposed stipulation of facts, as well as the accompanying exhibits, should not
be deemed established for purposes of this case. See Rule 91(f)(2). Petitioners
failed to respond, and we made our order to show cause absolute by deeming
established (for purposes of this case) the facts and evidence in respondent's
proposed stipulation of facts. 3 See Rule 91(f)(3). Our findings of fact are primarily
derived from the facts and exhibits deemed stipulated, the documents admitted
at trial, and the pleadings. We find the facts and exhibits deemed stipulated
accordingly.
Vitautas Kazhukauskas (petitioner) was born in Lithuania to
Bronislovas Kazhukauskas (father) and Aldona Kazhukauskene (mother). He moved
to the United States in 1990. Vilma Kazhukauskas (Ms. Kazhukauskas), who is a
petitioner in this case, is an accountant with a bachelor's degree in budgeting
that she earned overseas. Petitioners have at all relevant times been U.S.
citizens, and they have two sons, including M.K. Petitioner's mother has at all
relevant times lived in Lithuania, and his father was deceased at the time of
trial.
During the years at issue, petitioners owned V.K. Auto Sales
(VK U.S.) and V.K. Motors, UAB (VK Lithuania). Through those entities,
petitioners operated an import and export business in which VK U.S. purchased
used automobiles mostly at auctions within the United States and exported the
vehicles to VK Lithuania for resale primarily within Lithuania. Petitioners
also bought and sold used vehicles domestically through VK U.S. For the most
part, VK U.S. purchased vehicles with scrap certificates of title and
certificates of title specifying the automobiles were to be used for salvage
purposes only. 4 Some certificates of title indicated the vehicles had been
approved for export, and as discussed below, petitioners shipped numerous
automobiles overseas. The record is unclear the extent to which (if at all) VK
U.S. repaired the vehicles it purchased before resale.
Petitioners' books and records concerning their import and
export business consisted of an amalgamation of receipts, certificates of
title, and bank statements with minimal (if any) logical arrangement. As best
we can tell from the disjointed record in this case, VK U.S. purchased at least
38 vehicles in 2006 and at least 30 vehicles in 2007, with a cost per vehicle
ranging between $330 and $8,453. 5 The information relating to the vehicles
which VK U.S. sold, as well as the proceeds received therefrom, is less clear.
In its domestic operations VK U.S. sold at least 14 vehicles in 2006 and at
least 17 vehicles in 2007. In its international operations VK U.S. shipped at
least 32 vehicles to Lithuania during 2006 and 2007, though the number of
vehicles exported and sold abroad during each year is not readily discernible
from the record. VK Lithuania employed petitioner's mother as a manager or
bookkeeper from May 5, 2006, through at least May 5, 2007.
Petitioners, jointly, individually, or collectively with
M.K., owned at least six bank accounts with JPMorgan Chase Bank, N.A. 6 The
first was a premier savings account titled in petitioners' names (personal
savings account) with a balance that grew from $36,405 on December 28, 2005, to
more than $334,688 on December 27, 2007. The second was a business checking
account titled in the name of VK U.S. (business checking account) with a
balance that fluctuated from $17,064 on December 30, 2006, to $6,796 on December
31, 2007. The third through sixth bank accounts were a blend of checking and
savings accounts, both personal and business, which at all relevant times
reflected a balance of $30 to $520. 7
Throughout 2006 and 2007 VK U.S. received regular advices of
credit from various parties, after which the related funds were
wire-transferred into the business checking account. Many advices of credit
bore the notation "skola", literally translated to mean
"debt" in Lithuanian, though the word's meaning may vary depending
upon the context. Specifically, petitioners received the following wire
transfers during the year at issue:
Amount From Notation
Date
Jan. 20, 2006 $16,971.43 Mother Skola
Feb. 21, 2006 15,971.75 Father Skola
Mar. 22, 2006 17,571.38 Father Skola
Apr. 25, 2006 16,171.13 Petitioner Pervedimas
May 4, 2006 34,143.89 Petitioner Pavedimas
May 26, 2006 14,970.38 Father Skola
June 20, 2006 18,770.72 Mother Skola
Aug. 1, 2006 20,205.57 Mother Skola
Aug. 11, 2006 1,650.00 VK Lithuania UZ Automobilius
Aug. 22, 2006 19,270.39 Mother Skola
<7>
The
record establishes that petitioners owned a bank account
which earned
interest income of
$8,647 in 2006. Our statement of petitioners' accounts
does not
separately identify
this account because the record is not clear that this
account is
not the same as the
personal savings account.
Sept. 1, 2006 12,620.43 Father Skola Sept. 1, 2006 9,970.43
VK Lithuania UZ Automobilius Nov. 1, 2006 11,970.64 Father Skola Nov. 22, 2006
12,275.49 Father Skola 2006 Total 222,533.63 Jan. 31, 2007 $6,590.27 Mother
Skola Feb. 14, 2007 3,370.17 VK Lithuania UZ Automobilius Feb. 28, 2007 8,938.92
VK Lithuania UZ Automobilius Mar. 6, 2007 5,969.84 VK Lithuania UZ Automobilius
Mar. 15, 2007 16,969.96 VK Lithuania Skola, UZ Automobilius Mar. 27, 2007
13,919.63 Father Skola Apr. 2, 2007 17,092.67 Father Skola May 11, 2007
17,719.30 VK Lithuania UZ Automobilius June 22, 2007 8,635.00 As Sampo Pank
Payment for Auto Honda July 3, 2007 12,019.50 Mother Skola July 30, 2007
5,675.00 As Sampo Pank Payment for Hyundai Sept. 21, 2007 14,419.75 VK
Lithuania UZ Automobilius Oct. 9, 2007 12,028.57 Petitioner UZ Automobilius
Oct. 9, 2007 6,301.57 VK Lithuania UZ Automobilius Nov. 7, 2007 12,368.08
Father Skola Dec. 6, 2007 6,067.72 Mother Skola 2007 Total 168,085.95
Petitioners filed joint Federal income tax returns for 2006
and 2007 which Ms. Kazhukauskas prepared. The 2006 return reported interest
income of $9,892, business income of $2, and total income of $9,894. Attached
to the 2006 return was a Schedule C for VK U.S. reporting gross receipts or
sales of $72,636, business expenses of $72,634, and zero cost of goods sold.
The 2007 return reported interest income of $10,208, business income of $3, and
total income of $10,211. Attached to the 2007 return was a Schedule C for VK
U.S. reporting gross receipts or sales of $66,371, business expenses of
$66,368, and zero cost of goods sold. The amounts reported as business income
on the 2006 and 2007 returns were, as petitioners admitted at trial and on
brief, falsified to hide VK U.S.' purported bankruptcy.
On audit of the 2006 and 2007 returns, petitioners submitted
to respondent bank statements, advices of credit, shipping container receipts,
and a copy of petitioners' police book, 8 among other items. These records, as
they related to the regularity of VK U.S.' international sales, were
inconsistent in certain material respects. For example, the police book
indicated that petitioners shipped overseas 21 vehicles in 2003, 42 vehicles in
2004, and 1 vehicle in each of the years 2005 through 2007. The receipts, on
the other hand, showed that VK U.S. paid at least $8,100 during 2006 and
$24,550 during 2007 for at least nine shipping containers sent to
Lithuania--suggesting that more vehicles had been shipped than were reported in
the police book.
Respondent's revenue agent Suzanne Owen was assigned to
examine petitioners' returns for the years at issue. During her investigation
Ms. Owen learned of VK Lithuania, a business which petitioner claimed during a
meeting with her to have had no relationship to VK U.S. She analyzed bank
statements petitioners submitted and inventoried wire transfers deposited into
the business checking account in a worksheet that was attached to the notice of
deficiency. The worksheet demonstrated that totals of $222,534 and $168,086
were deposited into the business checking account in 2006 and 2007,
respectively. Ms. Owen noted in her supporting workpapers that bank statements
and related advices of credit indicated that portions of the wire transfers
were from sales of vehicles abroad and in some cases included the vehicle
manufacturer and VIN. Ms. Owen determined on the basis of the foregoing that
petitioners had underreported their 2006 and 2007 Schedule C gross receipts by
$222,534 and $168,086, respectively; i.e., all amounts wire-transferred to
petitioners as gross receipts from sales of vehicles overseas were treated as
income. Ms. Owen determined the most probable source of the income to be sales
of vehicles overseas, on the basis of details contained in the wire transfers,
the shipping container purchases, and information about the vehicles shipped
overseas as sometimes recorded in the police book.
Respondent issued to petitioners a notice of deficiency
determining various adjustments to their income for 2006 and 2007. First,
respondent determined that petitioners' costs of goods sold were increased by
$5,353 for 2006 and $46,604 for 2007. Second, respondent determined that
petitioners underreported their gross receipts for 2006 and 2007 by $222,534
and $168,086, respectively. Third, respondent determined that petitioners'
self-employment taxes for 2006 and 2007 were increased by $17,497 and $15,343,
respectively. Fourth, respondent determined that petitioners were entitled to
self-employment tax deductions for 2006 and 2007 of $8,749 and $7,672,
respectively. Fifth, respondent determined that petitioners were liable for
section 6662(a) accuracy-related penalties for 2006 and 2007 for substantial
understatements of income tax. Petitioners petitioned the Court under section
6213(a) for a redetermination of the deficiencies and accuracy-related
penalties.
OPINION
Respondent introduced ample evidence linking petitioners
with the import and export business (the income-producing activity), and
respondent has shown that petitioners received unreported income during each
year at issue. The record includes advices of credit and bank statements
showing that more than $390,000 was transferred into VK U.S.' checking account
from international sources. The record likewise contains certificates of title,
bills of lading, and receipts showing that petitioners shipped vehicles
purchased at auctions within the United States to VK Lithuania. At trial and on
brief petitioners admitted that they received, but did not report, at least
$110,000 from sales of vehicles in Lithuania. In view of the foregoing, we are
satisfied that respondent has carried his burden of production as to the
unreported Schedule C gross receipts. Accordingly, the notice of deficiency is
presumed correct and petitioners bear the burden of proving otherwise. 10
II. Schedule C Gross Receipts Respondent determined that
petitioners underreported their 2006 and 2007 Schedule C gross receipts by
$222,534 and $168,086, respectively. Petitioners acknowledge on brief that they
failed to report Schedule C gross receipts for 2006 and 2007 in the respective
amounts of $11,620 and $99,090 but claim additional amounts which respondent
attributed to them are excludable from gross income as gifts under section 102.
We will sustain respondent's determinations.
Respondent's revenue agent, Ms. Owen, testified credibly
that petitioners' books and records, including their inventory system, were not
kept in organized fashion or in compliance with internal revenue laws. The
disarray of receipts and other documents that petitioners submitted to the
Court as their books and records reinforces that testimony. Accordingly, we
conclude that respondent was justified in recreating petitioners' gross
receipts using the bank deposits method.
Bank deposits are prima facie evidence of income. Tokarski
v. Commissioner, 87 T.C. 74, 77 (1986); Estate of Mason v. Commissioner, 64
T.C. at 656. Under the bank deposits method, the Government assumes that all
deposits into a bank account during any given taxable year constitute taxable
income unless the taxpayers prove that the deposits originated from nontaxable
sources. DiLeo v. Commissioner, 96 T.C. at 868. The Commissioner may (but need
not) show a likely source of unreported income determined through the bank
deposits method, though he must take into account nontaxable items or
deductible expenses which he knows about. Price v. United States, 335 F.2d 671,
677 [14 AFTR 2d 5519] (5th Cir. 1964); DiLeo v. Commissioner, 96 T.C. at 868.
Petitioners bear the burden of establishing that the bank deposits originated
from nontaxable sources. See Price, 335 F.2d at 677.
It is deemed stipulated that petitioners underreported their
gross receipts by $222,534 for 2006 and $168,086 for 2007. A stipulation is
treated, to the extent of its terms, as a conclusive admission by the parties,
unless otherwise permitted by the Court or agreed upon by the parties. Rule
91(e). The Court may permit a party to qualify, change, or contradict a
stipulation upon a showing that the stipulation is contrary to facts disclosed
by the record, see Jasionowski v. Commissioner, 66 T.C. 312, 318 (1976), or
where justice so requires, see Rule 91(e). Petitioners have not asked to be
relieved of the deemed stipulations, and we decline to grant such relief on our
own. The stipulation concerning gross receipts is not contrary to the record
and, as we find, justice would be ill served were the stipulation not enforced.
Petitioners acknowledged at trial and on brief that they
underreported their 2006 and 2007 gross receipts by $11,620 and $99,090,
respectively. We treat those statements as conclusive and binding admissions on
petitioners. See United States v. Burns, 109 Fed. Appx. 52, 58 (6th Cir. 2004)
(statements made on brief may be considered judicial admissions). We thus
conclude petitioners' gross receipts are increased by $11,620 for 2006 and
$99,090 for 2007. As for the remaining gross receipts in controversy, i.e.,
$210,914 for 2006 and $68,996 for 2007 (sometimes collectively referred to as
the disputed gross receipts), 11 we will give effect to the stipulation
treating those amounts as gross receipts.
Petitioners claim that the disputed gross receipts were
nontaxable gifts from petitioner's parents. 12 We are unpersuaded. Respondent
asserts, and we agree, that petitioners have not submitted corroborating
evidence to support their claims that any portion of the disputed gross
receipts was a gift. As we find, the disputed gross receipts reflect the
proceeds of business transactions entered into by VK Lithuania and subsequently
remitted to petitioners. By reason of petitioners' failure to prove that the
disputed gross receipts were gifts and not proceeds from VK Lithuania, we
conclude that justice disfavors allowing petitioners to contradict the
stipulations.
Section 102(a) allows taxpayers to exclude from gross income
the value of property acquired by gift, bequest, devise, or inheritance. The
Supreme Court has defined a gift for statutory purposes as a transfer of
property that proceeds from a "detached and disinterested generosity, out
of affection, respect, admiration, charity or like impulses." Commissioner
v. Duberstein, 363 U.S. 278, 285 [5 AFTR 2d 1626] (1960) (internal citations
and quotation marks omitted). The donor's intent is of critical import in
deciding whether the property transferred was a gift. Id. at 285-286. Such
intent is often outcome determinative because a gift is not recognized as
complete until the donor has evinced a clear and unmistakable intention to
transfer sufficient dominion and control of the property irrevocably and
absolutely. Guest v. Commissioner, 77 T.C. 9, 16 (1981) (quoting Weil v.
Commissioner, 31 B.T.A. 899 (1934), aff'd, 82 F.2d 561 [17 AFTR 666] (5th Cir.
1936)).
Applying those considerations to this case, we decline to
recognize any of the disputed gross receipts as nontaxable gifts. With respect
to wire transfers from petitioner's mother, all of which bore the notation
"skola", petitioner testified that his mother used the word "skola"
to intimate that she expected to be repaid if she needed the funds, and only if
no such need arose would the transfer be considered a gift. 13 By petitioner's
own admission, therefore, his mother did not relinquish dominion and control of
the funds. Rather, she conditioned petitioner's enjoyment of the funds on her
not asking to be repaid--a condition uncertain to be met until the sooner of
her death or the removal of the condition. That condition precludes our
recognizing transfers from petitioner's mother as gifts for Federal income tax
purposes because the gift was not certain to be completed. With regard to wire
transfers from petitioner's father, all of which were similarly designated
"skola", petitioners presented no evidence to suggest his father's use
of the word did not connote an expectation of repayment should the need arise.
In this regard, we are not persuaded that wire transfers from petitioner's
father were completed gifts in 2006 or 2007. 14
We are skeptical for additional reasons that amounts
wire-transferred to petitioners were gifts. Petitioners each testified that
petitioner's parents wire-transferred the disputed gross receipts to them for
the support, care, and education of petitioners' children. Although
petitioner's father was unavailable to testify on the matter, we have no reason
to believe that petitioner's mother was unavailable to be called as a witness.
Insofar as petitioner's mother was not called to testify to her intent at the
time of each transfer and her use of the word "skola", we conclude
such testimony would be damaging to petitioners. See McKay v. Commissioner, 89
T.C. 1063, 1069 (1987) (witness' failure to testify to facts peculiarly within
his knowledge suggests the testimony would be unfavorable),aff'd, 886 F.2d 1237
[64 AFTR 2d 89-5712] (9th Cir. 1989). Nor did petitioners explain why moneys
transferred allegedly to support their children were deposited into the
business checking account and not, for example, one of petitioners' personal
accounts. In the same regard, petitioners did not explain why their claimed
need for support was not met by the more than $300,000 of savings which they
had collected over the years. Given that many of the transfers originated with
petitioner's mother, who was also VK Lithuania's bookkeeper, we question the
donative nature of the transfers. See Commissioner v. Culbertson, 337 U.S. 733,
746 [37 AFTR 1391] (1949) (“[T]he family relationship often makes it possible
for one to shift tax incidence by surface changes of ownership without
disturbing in the least his dominion and control over the subject of the gift
or the purposes for which the income from the property is used.").
Accordingly, we conclude the disputed wire transfers were not gifts.
When viewed in the light of the fact that petitioners owned
and operated VK
Lithuania within Europe, that they routinely purchased
shipping containers to export vehicles, and that they received transfers from
the business checking almost monthly, we agree with respondent that the most
probable source of that income is sales of vehicles abroad. Petitioners
conceded at trial and on brief that they underreported VK U.S.' gross receipts
by $11,620 for 2006 and $99,090 for 2007. Petitioners have failed to establish
a nontaxable source for the disputed gross receipts, and consequently we
conclude that justice does not favor relieving them of the stipulation treating
such amounts as gross receipts. Thus, we hold that petitioners' 2006 and 2007
gross receipts are increased by $222,534 and $168,086, respectively.
III. Schedule C Deductions Petitioners reported on their
2006 and 2007 Schedules C that in connection with VK U.S.' trade or business
they incurred expenses of $72,634 and $66,368, respectively. Respondent allowed
those deductions in full and credited petitioners with cost of goods sold for
2006 and 2007 in the respective amounts of $5,353 and $46,604. As explained on
brief, petitioners claim entitlement to additional trade or business expense
deductions for 2006 and 2007 in the respective amounts of $9,602 and $23,602.
15 Respondent replies that petitioners are not entitled to the additional
deductions claimed because they have not proven that such expenses have not
already been deducted on the 2006 and 2007 returns. We agree with respondent.
Deductions are a matter of legislative grace, and taxpayers
bear the burden of proving their entitlement to any deduction claimed. Rule
142(a);INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 [69 AFTR 2d 92-694]
(1992). Taxpayers are allowed a deduction for ordinary and necessary business
expenses paid or incurred during the taxable year in carrying on a trade or
business. Sec. 162(a). Taxpayers must substantiate amounts claimed as
deductions by keeping the records necessary to establish that they are entitled
to the deductions. Sec. 6001(a); sec. 1.6001-1(a), Income Tax Regs.
Petitioners have failed to factually or legally establish
that they are entitled to deductions over and above those respondent allowed.
First, petitioners have failed to establish that the expense deductions to
which they claim entitlement were not already claimed on the 2006 and 2007
returns. See Avery v. Commissioner, T.C. Memo. 1993-344 [1993 RIA TC Memo
¶93,344], 66 T.C.M. (CCH) 305, 313 (1993) (no deduction for real estate taxes
paid when taxpayers failed to prove the expenses were not already allowed as
deductions). Second, portions of the expense deductions petitioners claim
entitlement to in their petition, including shipping fees, shipyard fees,
taxes, and duties, are not deductible because the supporting receipts suggest
the expenses were ordinary and necessary business expenses of VK Lithuania and
not VK U.S. See Welch v. Helvering, 290 U.S. at 114 (taxpayers may not deduct
expenses of another entity). Petitioners introduced no evidence concerning which
counterparty bore the duties, fees, and taxes due upon arrival in Lithuania.
Third, taxpayers are required to keep records sufficient to
establish the amounts of the deductions they claim. Sec. 6001; sec.
1.6001-1(a), Income Tax Regs. Even though we may estimate the amount of an
expense where taxpayers introduce evidence demonstrating that they paid or
incurred a deductible expense but cannot substantiate the precise amount, see
Cohan v. Commissioner, 39 F.2d 540, 544 [8 AFTR 10552] (2d Cir. 1930), we
decline to do so here because petitioners have not persuaded us that such
expenses were not already deducted on their 2006 or 2007 return. Fourth,
petitioners have not persuaded us that receipts for postage, utilities, and
other similar items are not nondeductible personal expenses. See sec. 262
(deductions for personal, living, and family expenses are not allowed). Fifth,
petitioners did not explain how (if at all) the expenses claimed as deductions
were ordinary and necessary to their import and export business. See sec.
162(a). On the basis of the foregoing, we conclude that petitioners have failed
to establish that they are entitled to trade or business expense deductions in
addition to those respondent has already allowed. Accordingly, we hold petitioners
may not deduct trade or business expenses in addition to those respondent has
already allowed.
IV. Cost of Goods Sold Notwithstanding the fact that
petitioners reported zero cost of goods sold for each year at issue, respondent
credited petitioners with costs of goods sold for 2006 and 2007 of $5,353 and
$46,604, respectively. Petitioners allege in the petition they are entitled to
costs of goods sold above and beyond those allowed in the notice of deficiency.
We will sustain respondent's determinations.
Gross income is defined in section 61(a) to include “[g]ross
income derived from business”. Sec. 61(a)(2). A manufacturing or merchandising
business, such as VK U.S., calculates gross income by subtracting cost of goods
sold from gross receipts and adding investment income and proceeds from
ancillary operations or sources. Sec. 1.61-3(a), Income Tax Regs. The cost of
goods sold is determined under the taxpayer's regular method of accounting,see
id., and includes the items acquired for resale and the cost of producing items
for resale adjusted for opening and closing inventories, see Hultquist v.
Commissioner T.C. Memo. 2011-17 [TC Memo 2011-17], 101 , T.C.M. (CCH) 1054,
1056 (2011); sec. 1.162-1(a), Income Tax Regs. 16 In contrast, section 162
allows taxpayers a deduction for all ordinary and necessary business expenses
incurred or paid during the taxable year. Sec. 162(a). Thus, cost of goods sold
is an offset to gross receipts for purposes of computing gross income, and
deductions are subtracted from gross income in arriving at taxable income. See
B.C. Cook & Sons, Inc. v. Commissioner, 65 T.C. 422, 428-429 (1975), aff'd,
584 F.3d 53 (5th Cir. 1978).
Petitioners have not proved they are entitled to costs of
goods sold above and beyond those allowed by respondent. Taxpayers bear the
burden of substantiating Memo. 2009-22, 97 T.C.M. (CCH) 1090, 1092 [TC Memo
2009-22] (2009). Petitioners do not specify the amounts of costs of goods sold
being claimed; nor do their records permit us to differentiate between costs
generally incurred and costs relating to vehicles sold such that we might
calculate costs of goods sold on our own initiative. Although we may estimate
charges to gross income for items such as cost of goods sold,see Cohan v.
Commissioner, 39 F.2d at 540 [8 AFTR 10552]; Jackson v. Commissioner, T.C.
Memo. 2008-70 [TC Memo 2008-70], 95 T.C.M. (CCH) 1258, 1262 (2008), we decline
to do so. Petitioners' records do not allow us to differentiate between the
costs of goods sold they incurred and those respondent has already credited
them for. Moreover, Ms. Kazhukauskas testified that she reported costs of goods
sold as "supplies" on the 2006 and 2007 Schedules C, amounts which
respondent allowed as deductions in arriving at taxable income. Thus,
petitioners have been credited for costs of goods sold they substantiated on
audit as well as additional amounts in the form of a tax-effected deduction.
Accordingly, we hold that petitioners are not entitled to claim cost of goods
sold for 2006 or 2007 in addition to that allowed in the notice of deficiency.
V. Self-Employment Tax Respondent determined that
petitioners are liable for self-employment tax under section 1401 for each year
at issue. Section 1401 imposes a tax on the self-employment income of
individuals. See sec. 1401(a) and (b). Self-employment income generally means
the gross income derived by an individual from carrying on a trade or business,
less the allowable deductions attributable to that trade or business. Sec.
1402(a) and (b); sec. presented no evidence to suggest that the Schedule C
gross income earned from VK U.S. (less the allowable deductions) is not
self-employment income. Therefore, petitioners are liable for self-employment
tax for 2006 and 2007 of $17,497 and $15,343, respectively, and they are
entitled to deductions for one-half of the self-employment tax paid in the
respective amounts of $8,749 and $7,672 as determined by respondent. See sec.
164(f).
VI. Accuracy-Related Penalties Respondent determined for
each year at issue that petitioners are liable for a 20% accuracy-related
penalty for a substantial understatement of income tax under section 6662(a)
and (b)(2). There is a substantial understatement of income tax for any year in
which the amount of the understatement exceeds the greater of 10% of the tax
required to be shown on the return or $5,000. Sec. 6662(d)(1)(A). Under section
7491(c), respondent bears the burden of producing sufficient evidence that
imposition of the penalty is appropriate. See Higbee v. Commissioner, 116 T.C.
438, 446 (2001). Once respondent carries his burden of production, petitioners
bear the burden of proving that the penalties are inappropriate because of
reasonable cause, substantial authority, or other affirmative defenses. Id. at
446-447. The single most important factor to be considered when determining
whether to excuse taxpayers from the accuracy-related penalty on account of
reasonable cause is the extent to which the taxpayers sought to compute their
proper tax liability. Sec. 1.6664-4(b)(1), Income Tax Regs.
Respondent has met his burden of production because
petitioners' failure to report funds wire-transferred to them resulted in an
understatement of income tax for each year in an amount of more than $5,000 and
more than 10% of the tax required to be shown on the return. See Park v.
Commissioner, 136 T.C. 569, 583 (2011) (the Commissioner met his burden of
production by showing that failure to report income resulted in an
understatement of income tax for each year at issue of more than $5,000 and
more than 10% of the tax required to be shown on the return). Thus, petitioners
bear the burden to prove that the accuracy-related penalty should not be imposed
on account of reasonable cause or substantial authority. We will sustain
respondent's determinations with respect to the accuracy-related penalties.
Among the deemed stipulated facts were that petitioners
underreported their respective gross receipts for VK U.S. for 2006 and 2007 by
$222,534 and $168,086 and that they lacked reasonable cause for failing to
report those gross receipts. Those stipulations are treated as a binding and
conclusive admission that may be qualified, changed, or contradicted only where
justice requires it. See Rule 91(e). Petitioners have not asked to be relieved
of the deemed stipulations, and we decline to grant such relief on our own.
Petitioners conceded that VK U.S.' 2006 and 2007 gross receipts were
underreported by more than $100,000, and they also admitted to falsely
reporting VK U.S.' profits because, as they claimed on brief, they did not want
to show that the business was facing bankruptcy. On the basis of these facts,
we are convinced that justice requires that the deemed stipulation be binding
upon petitioners and that they made no effort to accurately report their 2006
or 2007 Federal income tax liability. Accordingly, we hold petitioners are
liable for accuracy-related penalties in the amounts respondent determined.
The Court has considered all of petitioners' arguments for a
contrary result, and to the extent not discussed herein, we conclude those
arguments are irrelevant, moot, or without merit.
To give effect to the foregoing,
Decision will be entered for respondent.
1
Unless otherwise
indicated, section references are to the applicable version of the Internal
Revenue Code, and Rule references are to the Tax Court Rules of Practice and
Procedure. Some dollar amounts are rounded.
2
Respondent allowed
petitioners all trade or business expense deductions claimed on their 2006 and
2007 Federal income tax returns (2006 return and 2007 return, respectively), as
well as offsets to their 2006 and 2007 gross receipts for costs of goods sold
of $5,353 and $46,604, respectively.
3
Among the facts
deemed stipulated were that petitioners underreported their respective gross
receipts for 2006 and 2007 by $222,534 and $168,086 and that petitioners lacked
reasonable cause for failing to report those gross receipts.
4
A scrap certificate
of title signifies that the vehicle to which it relates is not to be titled or
registered and is to be used for parts or scrap metal only. See Mich. Comp.
Laws Serv. sec. 257.222(8) (LexisNexis 2001 & Supp. 2012).
5
We examined the records
submitted at trial and summarized VK U.S.' purchases using the associated
vehicle identification number (VIN).
6
Two accounts named
Vilma Kazhukauskene as a joint account holder or a d.b.a. owner of VK U.S. It
is our understanding that Vilma Kazhukauskene and Ms. Kazhukauskas are the same
individual, and we collectively refer to both as Ms. Kazhukauskas. We note that
the parties' redaction of all but the first three digits of financial account
numbers prevented us from more precisely describing petitioners' accounts.
7
The record
establishes that petitioners owned a bank account which earned interest income
of $8,647 in 2006. Our statement of petitioners' accounts does not separately
identify this account because the record is not clear that this account is not
the same as the personal savings account.
8
A police book is
defined under Michigan law to mean a bought and sold registry for each vehicle
a dealer handles. Mich. Comp. Laws Serv. sec. 257.41a (LexisNexis 2001).
9
While the factual
allegations deemed admitted under Rule 91(f) establish that petitioners
underreported their 2006 and 2007 gross receipts, respondent still must produce
evidence linking petitioners with that income.
10
Petitioners do not
allege, and the record does not establish, that the burden of proof as to
factual matters should shift to respondent under sec. 7491(a).
11
To calculate the
disputed 2006 gross receipts, we subtracted the amount conceded by petitioners
on brief, or $11,620, from the unreported gross receipts as determined in the
notice of deficiency, or $222,534. We calculated the challenged 2007 gross
receipts in the same way; that is, we subtracted the amount petitioners
conceded on brief, or $99,090, from the unreported gross receipts as determined
in the notice of deficiency, or $168,086.
12
Notwithstanding the
literal translation of "skola" to mean debt, petitioner testified on
direct at trial that there was not a loan between him and his mother.
13
Petitioner's
specific testimony was: “The money was given to me and because of that she
felt--in case if she need those monies back she put the word, skola, meaning
that I be owing to her in case if she needs [it]. If not this will be as a
gift.”
14
Although the record
establishes that petitioner's father was deceased at the time of trial, the
record does not specify whether he died in 2007. On this subject, we are unable
to discern whether purported gifts from the father were completed in 2007, in
which case these amounts may have been nontaxable to petitioners, or at some point
thereafter. This failure of proof is borne by petitioners.
15
We calculated the
additional deductions which petitioners claim they are entitled to for 2006 by
subtracting the amount allowed as a deduction and claimed on the 2006 Schedule
C, or $72,634, from the amount petitioners claim on brief they are entitled to,
or $82,236. We calculated the additional deductions to which petitioners claim
entitlement for 2007 the same way; that is, we subtracted the amount allowed as
a deduction and claimed on the 2007 Schedule C, or $66,368, from the amount
petitioners claim on brief they are entitled to deduct, or $89,970.
16
Certain small
business owners with average annual receipts of $1 million or less, as VK U.S.
was during the years at issue, neednot take inventories at the beginning and
end of each taxable year. See Rev. Proc. 2001-10, sec. 4.01, 2001-1 C.B. 272,
273.
www.irstaxattorney.com (212) 588-1113 ab@irstaxattorney.com
No comments:
Post a Comment