Amw Investments, Inc. v. Commissioner
| Decision Date | 22 May 1996 |
| Docket Number | Docket No. 3901-94. |
| Citation | 71 T.C.M. 3047 |
| Parties | AMW Investments, Inc. v. Commissioner. |
| Court | U.S. Tax Court |
Robert E. Miller, Farmington Hills, Mich., and Edith S. Thomas, for the petitioner. Alexandra E. Nicholaides and Eric R. Skinner, for the respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
AMW Investments, Inc., petitioned the Court to redetermine the following deficiencies in Federal income taxes, additions to tax, and accuracy-related penalties determined by respondent:
Additions to Tax Penalty
------------------- -------
Taxable Year Sec. Sec. Sec
Ended August 31 Deficiencies 6651(a)(1) 6653(a) 6662
1989 ..................... $ 656 $ 164 $ 6,615 --
1990 ..................... 20,000 5,000 -- $4,000
1991 ..................... 36,133 9,033 -- 7,227
Following concessions, we must decide:
1. Whether petitioner's payments to an escrow account (the Fund) are deductible as ordinary and necessary business expenses. We hold they are not.
2. Whether petitioner's payments to its sole shareholder are deductible as interest. We hold they are not.
3. Whether petitioner is liable for the additions to tax for delinquency determined by respondent under section 6651(a)(1). We hold it is.
4. Whether petitioner is liable for the addition to tax for negligence or intentional disregard of rules or regulations determined by respondent under section 6653(a). We hold it is.
5. Whether petitioner is liable for the accuracy-related penalties for negligence or intentional disregard of rules or regulations determined by respondent under section 6662. We hold it is.
Unless otherwise stated, section references are to the Internal Revenue Code in effect for the years in issue. Rule references are to the Tax Court Rules of Practice and Procedure. Dollar amounts are rounded to the nearest dollar. We refer to Harry V. Mohney as Mr. Mohney. We refer to petitioner's taxable year ended August 31, 1989, as the 1988 taxable year. We refer to petitioner's taxable year ended August 31, 1990, as the 1989 taxable year. We refer to petitioner's taxable year ended August 31, 1991, as the 1990 taxable year.
Some of the facts have been stipulated and are so found. The stipulations of facts and attached exhibits are incorporated herein by this reference. Petitioner's principal place of business was in Durand, Michigan, when it petitioned the Court. Petitioner filed a Form 1120, U.S. Corporation Income Tax Return, for each year in issue using a fiscal year ended August 31 and an accrual method of accounting. The 1988, 1989, and 1990 Forms 1120 were filed on August 15, 1991, March 6, 1992, and July 17, 1992, respectively.
Petitioner was incorporated on August 24, 1977, to purchase real property and to lease this property primarily to businesses engaged in adult entertainment. From its incorporation through August 31, 1988, petitioner was a wholly owned subsidiary of Dynamic Industries, Ltd. (Dynamic). During the subject years, Mr. Mohney owned all of petitioner's voting stock, and he was its president. At all times relevant herein, petitioner was a member of an organization of over 50 businesses that were engaged in the adult entertainment industry. All of these businesses were wholly or partially owned by Mr. Mohney, either directly or indirectly through various trusts.
In 1966, Mr. Mohney had started acquiring (and operating as sole proprietorships) numerous enterprises that were primarily engaged in adult entertainment. The assets of these enterprises included theaters, bookstores, peep machines, wholesale novelty stores, film distributorships, and "showgirl" clubs. As Mr. Mohney's business dealings evolved over time and he began to gain greater notoriety, his reputation as a proprietor of adult entertainment establishments preceded him and affected the future expansion of his business operations into new communities. Mr. Mohney decided to purchase property through nominees due to his concerns that he would encounter legal problems if he purchased property in his own name. For example, his mother was the nominee when he purchased a movie theater in Mishawaka, Indiana (Mishawaka property), on December 1, 1969, for $45,000. Mr. Mohney paid for the Mishawaka property by giving the seller $13,500 in cash and agreeing to pay the balance (with interest at 7 percent) through monthly payments of at least $500.
On October 31, 1970, Mr. Mohney purchased a drive-in theater located in Clarksville, Indiana (Clarksville property), for $120,000, signing a $114,500 promissory note (Clarksville note). From 1970 to the time that he transferred the Clarksville property to petitioner, Mr. Mohney made payments on the Clarksville note.
In the early 1970's, Mr. Mohney organized each aspect of his business as a separate corporation. Mr. Mohney also established five domestic trusts, of which he and his four children were beneficiaries. Each of these trusts owned an interest in another domestic trust, the Durand Trust, which owned all the stock of Dynamic, which owned many of Mr. Mohney's operating companies.
Shortly after petitioner's incorporation, Mr. Mohney transferred to it the Mishawaka property and the Clarksville property.1 The transfer was not negotiated, and the deeds on the Clarksville property and the Mishawaka property were recorded on September 5, 1978 and March 21, 1980, respectively. In connection with the transfer, petitioner assumed liability on the Clarksville note, the principal of which was then $34,350. Petitioner also issued Mr. Mohney a promissory note for the Clarksville property (Second Clarksville note).2 The Second Clarksville note stated that petitioner was to pay Mr. Mohney $120,000 on or before November 3, 1982. It set forth an interest rate of 10 percent, and it was signed by petitioner's then president. Petitioner made no payments of principal or interest to Mr. Mohney during the years 1977 through 1988 on the Second Clarksville note, and Mr. Mohney did not pursue collection of the note.
Around 1981, Mr. Mohney asked Janet Dingeman Fournier (Ms. Fournier) to serve as petitioner's president. Ms. Fournier served in this capacity until 1988. As petitioner's president, Ms. Fournier had no meaningful responsibility other than to sign tax returns and other documents on petitioner's behalf. Aside from Ms. Fournier, petitioner had no employees. Apart from the use of company cars, Ms. Fournier received no compensation from petitioner.
From 1974 through 1993, Ms. Fournier was also an employee of Modern Bookkeeping Services, Inc. (MBS). Mr. Mohney had formed MBS to handle and centralize the bookkeeping and tax preparation aspects of his businesses. Elizabeth L. Scribner (Ms. Scribner) was MBS' president and general manager. Thomas H. Tompkins (Mr. Tompkins) was MBS' accountant, and he was responsible for preparing petitioner's Federal income returns before the subject years. Lee J. Klein (Mr. Klein) provided legal services to MBS and MBS' clients.
Petitioner's financial affairs were maintained at MBS' office in Durand, Michigan, and MBS maintained all of petitioner's files, including its bank accounts, cash receipts journals, cash disbursements journals, and lease files. MBS paid petitioner's bills on behalf of it, and MBS prepared petitioner's financial statements. MBS charged petitioner a fee of $1,000 per month for its bookkeeping services.
In 1984, Federal agents, investigating a pattern of arsons at adult theaters, searched MBS' premises and seized books and records which included those of petitioner. In connection with this search, a grand jury, on September 9, 1988, handed down a seven-count indictment against Mr. Mohney, Ms. Scribner, Mr. Tompkins, and Mr. Klein (collectively referred to as the Defendants) for various criminal tax violations. The indictment generally charged that Mr. Mohney, through separate corporate tax returns, concealed his ownership of several adult-oriented businesses and filed false personal tax returns. The other defendants, who were all employees of MBS, were charged only in count I of the indictment. Count I charged the Defendants with conspiracy to defraud the Government through the concealment of ownership of the adult-oriented businesses on the tax returns, in violation of 18 U.S.C. sec. 371. The remaining counts charged Mr. Mohney with filing false individual income tax returns for the 1981, 1982, and 1983 taxable years (see sec. 7206(1)), and with aiding and assisting in the filing of false corporate income tax returns on behalf of Otis Mohney, Inc./International Amusements, Ltd. (see sec. 7206(2)). The remaining counts stemmed from the failure of International Amusements, Ltd., to report income it earned and diverted to Mr. Mohney for his personal benefit. All of the Defendants except Mr. Klein pleaded guilty to the conspiracy charge.3 Mr. Mohney was subsequently convicted of the remaining charges, and his conviction was affirmed on appeal. United States v. Mohney [92-1 USTC ¶ 50,081], 949 F.2d 1397 (6th Cir. 1991).
Petitioner and all of its related corporations jointly agreed to pay the legal fees of any officer, employee, or business associate called as a witness before the grand jury or any proceeding stemming therefrom. The legal expenses that were claimed by petitioner (and that are in issue herein) were the amounts that it paid to the Fund, which was an escrow account that was established by MBS in 1985 to administer this agreement. The Fund was a separate, interest-bearing account. MBS maintained the Fund's cash receipts journal, cash disbursements journal, and check book registers. There were no written agreements prepared and signed contemporaneous to the establishment of the Fund.
Petitioner made...
To continue reading
Request your trial