Cohen v. CIR, 15982.
| Citation | 266 F.2d 5 |
| Decision Date | 08 April 1959 |
| Docket Number | No. 15982.,15982. |
| Parties | Lesly COHEN, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent. |
| Court | U.S. Court of Appeals — Ninth Circuit |
John V. Lewis, San Francisco, Cal., Clyde C. Sherwood, Mountain Ranch, Cal., for petitioner.
Charles K. Rice, Asst. Atty. Gen., Grant Wiprud, Lee A. Jackson, S. Dee Hanson, Attys., Dept. of Justice, Washington, D. C., for respondent.
Before BONE, BARNES, and HAMLEY, Circuit Judges.
This matter is before us on a taxpayer's petition to review a decision of the Tax Court redetermining income tax deficiencies and penalties for 1948, 1949, and 1950. The principal question we have to decide is this: Where the Tax Court has rejected the deficiency determination of the Commissioner of Internal Revenue, may it redetermine the deficiency by finding that "it is not likely" that gross income exceeded a certain figure (substantially below that found by the Commissioner) and then utilize that figure as actual gross income because petitioner failed to establish a lesser amount?1
During the years in question the petitioner, Lesly Cohen, operated the Kingston Club, a San Francisco card room. During the same period and using the same premises as his headquarters, Cohen operated as a so-called "betting commissioner." The latter activity was in violation of both state and local law. Either as a part of this latter activity (as appellant contends) or as a separate venture in which appellant engaged in personal betting (as the Tax Court found), Cohen also received income from a San Francisco establishment known as the Film Row Club.
As betting commissioner, Cohen would obtain opposite parties to wagers on horse races and other sporting events. Normally he did not accept a wager as "placed" until he had found some other individual to "lay off" the other side of the same event. When Cohen was able to "lay off" the entire amount of the bet, his profit or loss would not depend upon the outcome of the event. Instead, it would be a fixed percentage or "commission" of the total wager. When able to do so, Cohen would lay off the bet with his own local customers. When this could not be accomplished, he would lay off or cover the bet with other betting commissioners.
The commission to petitioner on bets handled for his own customers was five per cent on each bet, except that on horseracing bets only the loser paid a commission. On bets laid off with other betting commissioners, the commission was usually split. At times he found it necessary to waive his entire commission in order to get the bet laid off. Occasionally he was unable to lay off a bet and had to carry it himself, acting in such cases as a bookmaker.
This betting-commissioner enterprise was operated almost entirely on a credit basis. Ordinarily no money was posted with the petitioner in advance of the sporting event. Settlements with local bettors and other local commissioners were usually made in cash. Transactions with out-of-town commissioners were generally settled at periodic intervals by check. The latter settlements were in effect the balancing of accounts between Cohen and the out-of-town commissioners. They usually represented the net amount due from a number of bets rather than a single bet.
Petitioner maintained a "revolving fund" of about $3,000 in cash, which he used in making payments to local winners. The only cash deposits to petitioner's commercial bank account during the years in question were as follows: 1948 — $430; 1949 — $8,470; 1950 — $13,955. However, cash received from local bettors far exceeded these sums. Cohen's records of cash transactions as betting commissioner were kept only a few days until settlement was made. He never furnished to his accountant any records of his cash transactions or cash commissions received as betting commissioner. Accordingly, undeposited cash was not taken into consideration in preparing Cohen's income tax returns for those years.
The total deposits to Cohen's commercial bank account for the years in question were: 1948 — $508,384.23; 1949 — $404,118.69; 1950 — $283,129.80. These largely represented receipts from other betting commissioners in settlement of accounts. In addition to the checks so deposited Cohen received a large number of settlement checks which were endorsed by him but not deposited. The totals of these undeposited checks were:
1948 — $120,974.75 1949 — $107,712 1950 — $22,613.75.
Cohen made payments by check in settlement of accounts with out-of-town bettors totaling $292,283.46 in 1950. Payments in unspecified amounts were made under similar circumstances in 1948 and 1949.
During the three years in question Cohen did not maintain any permanent or detailed records or formal books of account pertaining to his betting-commissioner activities. He kept a daily "master sheet" of transactions, but these were always destroyed a day or two later. It was therefore impossible to make an accurate determination of the amount of commissions received by Cohen.
An accountant employed by Cohen determined the latter's annual gross income as follows: The amount in the bank at the beginning of the year was subtracted from the amount at the end of the year. There was added to the resulting net increase or decrease in the bank balance all expenses of the cardroom business and all withdrawals made by or for Cohen. The result was considered petitioner's gross income. Undeposited cash receipts and cash payments not substantiated by a memorandum were disregarded. This was done on the theory that the $3,000 revolving fund remained approximately the same throughout the year.
Cohen's income tax returns were prepared by a certified public accountant on the basis of annual summary sheets supplied by the regularly employed accountant. The income tax disclosed and paid in Cohen's returns for 1948 and 1949 as amended was $13,863.65 and $19,190.51, respectively. His 1950 return disclosed that no tax was due, and none was paid for that year. These returns described Cohen's business as "brokerage."
Late in 1950, R. Parenti, an examining officer for the Internal Revenue Service, audited Cohen's income tax returns for 1948 and 1949. Basing his examination entirely on information furnished by Cohen's accountant, Parenti arrived at deficiencies of $5,505.67 for 1948, and $4,689.23 for 1949. In 1952, Glenn Adrian, another Internal Revenue Service agent, audited Cohen's tax return for 1950, and re-examined his returns for 1948 and 1949. At this time there was in progress a nationwide investigation of betting commissioners and others engaged in gambling activities. As a result, Adrian received from other revenue agents photostatic copies of checks which Cohen had received and endorsed but had not deposited to his account.
Adrian determined that all monies deposited in the commercial bank and all checks received and endorsed but not deposited and all wins from the Film Row Club constituted income. Because of lack of substantiation, no deductions were allowed for payouts or losses. All other deductions claimed by Cohen were allowed. Based upon Adrian's audit, Cohen was sent a notice of deficiency and penalty assessment for the years in question as follows:
Penalty
Year Deficiency 50% for fraud Total
----------------------------------------------------
1948 $ 538,911.40 $269,455.70 $ 808,367.10
1949 426,038.44 213,019.22 639,057.66
1950 228,561.34 114,280.67 342,842.01
_____________ ___________ _____________
$1,193,511.18 $596,755.59 $1,790,266.77
Cohen thereupon petitioned the Tax Court for a redetermination, asserting that there was no income tax deficiency and no penalty due for any of these years. In its unreported decision of December 12, 1957, now under review, the Tax Court determined the deficiencies and penalties as follows:
Year Deficiency Penalty Total
------------------------------------------------
1948 $ 72,164.36 $38,835.02 $110,999.38
1949 47,364.77 27,790.00 75,154.77
1950 49,004.79 24,502.40 73,507.19
___________ __________ ___________
$168,533.92 $91,127.42 $259,661.34
It will be observed that the Tax Court reduced the Commissioner's deficiency and penalty assessment for the three years from $1,790,266.77 to $259,661.34, or more than eighty-five per cent.
Two revisions in the Commissioner's determination apparently account for most of this reduction. One of these has to do with Cohen's asserted wins and losses in 1948 and 1949 from personal betting at the Film Row Club.2 His wins for these years at the Film Row Club aggregated $125,195.00, and his losses aggregated $148,987.50. The Commissioner included in income all gains from this source, but allowed no losses as balancing deductions. He disallowed losses on the ground that they were unsubstantiated, and also because the taxpayer was on a cash basis and had failed to show the year or years the losses were paid.
The Tax Court held that both of these grounds for disregarding losses were tenable and that the Commissioner's determination in this regard was therefore not arbitrary. Nevertheless it was held that the Commissioner had erred in failing to allow these gambling losses to the extent of gambling gains.3
The other major revision made by the Tax Court relates to the treatment of deposits in Cohen's commercial bank account. The Commissioner treated all such deposits as gross income and refused to allow any deductions for payouts. The Commissioner adopted this course because Cohen did not offer any substantiation of payouts, and did not maintain any records from which payouts could be calculated. Because of these circumstances the court held in effect that the Commissioner's treatment of bank deposits and his refusal to allow deductions for...
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