28 T.C. 658 (1957), 58164, Courtney v. C.I.R.

Docket Nº:58164.
Citation:28 T.C. 658
Opinion Judge:BLACK, Judge:
Party Name:DAVID COURTNEY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Attorney:Lee S. Jones, Esq., for the petitioner. Charles R. Hembree, Esq., for the respondent.
Case Date:June 14, 1957
Court:United States Tax Court
 
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Page 658

28 T.C. 658 (1957)

DAVID COURTNEY, PETITIONER,

v.

COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

No. 58164.

United States Tax Court.

June 14, 1957

Page 659

Lee S. Jones, Esq., for the petitioner.

Charles R. Hembree, Esq., for the respondent.

1. The petitioner operated a country grocery store for a part of the period involved and a farm for the other part. He and his wife, both of whom were not well acquainted with accounting or bookkeeping methods, maintained records of receipts, disbursements, credit sales, and inventories. Petitioner gave certain information from his books and records to an attorney who prepared the returns. Respondent determined petitioner's records were inadequate to determine his net income and determined petitioner's net income for the years 1949, 1950, 1951, and 1953 by the net worth method. Held, that the respondent did not exceed the authority granted him in section 41 of the Internal Revenue Code of 1939 in disregarding the petitioner's records and accounting method and that the respondent's net worth statement, after giving effect to oral stipulations and certain other adjustments, is approved.

2. The notice of deficiency for the years 1949 and 1950 was mailed more than 3 years and less than 5 years after the returns were due. Petitioner had unreported net income determined by the net worth method in excess of 25 per cent of gross income stated on the returns. Held, the 5-year period of limitations under section 275(c), Internal Revenue Code of 1939, is applicable with respect to 1949 since unreported net income, reduced by all possible excessive deductions, exceeds 25 per cent of gross income stated on the returns. However, for the year 1950, the unreported net income, when reduced by the amount of possible excessive deductions, is not in excess of 25 per cent of the amount of gross income stated on the returns; therefore, the proceedings for that year are not timely under section 275(c) of the 1939 Code but are barred under section 275(a) of the 1939 Code. H. A. Hurley, 22 T.C. 1256, 1264-1265 (1954), followed; H. Leslie Leas, 23 T.C. 1058 (1955), distinguished.

3. Held, that addition to the tax for the year 1953 under section 293(a), Internal Revenue Code of 1939, is upheld; additions to the tax for the year 1953 under section 294(a)(1)(A) and (d)(2), Internal Revenue Code of 1939, are also upheld. Held, further, that additions to the tax under section 293(b), Internal Revenue Code of 1939, for the years 1949, 1950, and 1951, are improper.

The respondent has determined deficiencies in income tax and additions thereto, under the Internal Revenue Code of 1939,[1] as follows:

Additions to tax

Year

Deficiency Sec. Sec. 293 (b) Sec. 294 Sec. 294

293 (a) (d) (1) (A) (d) (2)

1949 $436.24 $218.12

1950 451.14 225.57 $37.46 $32.11

1951 1,212.74 606.37

1953 92.00 $4.60 32.98 23.28

Total 2,192.12 4.60 1,050.06 70.44 55.39

By an amended answer, filed to conform the pleadings to the proof, the respondent claims increased deficiencies in income tax for the taxable years 1949 and 1953 in the respective amounts of $623.10 and $249.99; and additional, or increased, deficiencies in additions to tax under sections 293(a) and 294(d) (1)(A) and (d)(2) in the respective amounts of $12.50, $21.26, and $15 for the year 1953. All of the above amounts have been placed in controversy by the pleadings. Page 660 The respondent's determination of additions to the tax under section 293(b) has been conceded by him to be erroneous and is no longer in issue. The deficiencies in income tax are based upon unreported income determined by the net worth method. The petitioner's primary contention is that his books and records are adequate and correct; that his returns were made in accordance with the books and records; and, therefore, the respondent had no authority to determine his income by the net worth method. After oral stipulations and concessions, there are only three items in the net worth computation made by the respondent in his determination of the deficiencies which are in dispute. Petitioner also has pleaded that the statute of limitations bars the assessment for the years 1949 and 1950. Respondent, in an amended answer, pleads the 5-year statute of limitations provided in section 275(c) and denies that the statute of limitations has barred the assessment for either 1949 or 1950. FINDINGS OF FACT. Petitioner, David Courtney, is an individual with residence at Ghent, Kentucky. He filed timely income tax returns for the years 1949, 1950, 1951, and 1953 with the collector or the district director of internal revenue, as the case may be, for the district of Kentucky. ISSUE 1. NET WORTH METHOD. Petitioner was engaged in the grocery business in the years 1949 and 1950 and for part of the year 1951. He sold his grocery business in 1951 and purchased a farm which he operated until March 1953, at which time he sold the farm and re-entered the grocery business. While he was in the grocery business, petitioner had one or two employees working for him. The formal education of petitioner and his wife consisted of attending public school until the seventh and eighth grades, respectively. For the taxable years involved herein, the petitioner and his wife maintained records of the grocery business. The records consisted principally of a book which showed daily sales, purchases, expenses, cash receipts and disbursements, and accounts receivable. They also compiled an inventory each year. When they operated the farm they kept a book showing receipts and expenses. A bank account was maintained. The petitioner retained an attorney to prepare his income tax returns. The attorney made no audit of the petitioner's books and records but prepared the returns from information submitted by the petitioner and his wife. The petitioner knew nothing about the various methods of accounting or of determining income. Page 661 The books and records of the petitioner and his method of accounting did not clearly reflect his income. Attached to the deficiency notice was a net worth statement which showed, inter alia, the following:

Year Total taxable Reported Unreported

income

1949 $5,586.61 $1,873.08 $3,713.53

1950 5,417.20 2,536.16 2,881.04

1951 8,412.43 1,170.62 7,241.81

1953 3,262.70 2,825.10 437.60

The Commissioner has not determined any deficiency for the year 1952 and that is why no figures are given for 1952. During the course of the hearing the petitioner agreed that the majority of the items included in the net worth statement were correct. The parties orally stipulated other changes in the net worth statement. The respondent made certain concessions in his brief. Effect will be given to these agreements and concessions in a recomputation under Rule 50. Three items remain in controversy. Findings regarding them are as follows:

(a) New Furniture and Improvements. The net worth statement shows as an asset ‘ New Furniture & Improvements' in the amount of $550 on December 31, 1952, which is agreed to be correct, and in the amount of $2,657 on December 31, 1953. The petitioner's 1953 income tax return and the record do not show the sale or disposition of all or part of the $550 of ‘ New Furniture & Improvements' on hand at the beginning of the year 1953. During the year 1953, the petitioner purchased ‘ New Furniture & Improvements' in the amounts of $395 and $1,601.56. The petitioner, therefore, had ‘ New Furniture & Improvements' on December 31, 1953, in the amount of $2,546.56 ($550 plus $395 plus $1,601.56). (b) Depreciation Reserve. The amounts in the depreciation reserve at the end of all the years involved are agreed upon except that the petitioner contends that the balance in the reserve on December 31, 1951, should be $155 in excess of the $1,520.75 shown on the net worth statement.

During the year the petitioner sold two cows, which had a basis of $500, for $345. On his return he deducted $155, the difference between the basis and the sale price, as depreciation. The net worth statement on December 31, 1951, does not reflect the two cows in the amount of $500 as assets, nor does the depreciation reserve reflect any depreciation taken on the two cows. The amount of $1,520.75 is the proper balance in the depreciation reserve on December 31, 1951. Page 662 (c) Living Expenses. The respondent's net worth statement shows living expenses of $2,000 for each of the years 1949, 1950, and 1951, and $2,500 for the year 1953. The petitioner and his wife had two daughters who were 13 and 18 years old in 1949. The oldest daughter finished high school in 1950 and moved away from home. The other daughter was attending school until 1953, when she passed away. Petitioner expended $1,000 on her funeral. Petitioner paid the funeral expenses, in part, from insurance proceeds of $850 which he received. These proceeds are shown on the net worth statement as a reduction of the increase in net worth. Respondent computed petitioner's net income for 1953 by the net worth method, as follows:

Net taxable income (this figure is arrived at by computing petitioner's increase in net worth for 1953) $1,612.70

Add: Living expenses 2,500.00

Less: Insurance proceeds (life insurance on daughter) (850.00)

Total taxable income 3,262.70

Petitioner expended about $150 per year for life, property, and...

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