Knutsen-rowell Inc v. Comm'r Of Internal Revenue
| Decision Date | 16 March 2011 |
| Docket Number | Docket No. 27626-07,T.C. Memo. 2011-65,Docket No. 27629-07,Docket No. 27628-07 |
| Parties | KNUTSEN-ROWELL, INC. ET AL.,1 Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent. |
| Court | U.S. Tax Court |
Petitioners,
Cruz Saavedra, for petitioners.
Carolyn A. Schenck and Scott B. Burkholder, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
These three cases are consolidated for purposes of trial, briefing, and opinion. One case involves the Federal income tax of John D. and Kathleen K. Rowell(respectively, Mr. Rowell and Mrs. Rowell; collectively, the Rowells) for 2000 through 2002. Another case involves the Federal income tax of Mr. Rowell's wholly owned C corporation, John D. Rowell, Professional Law Corp. (PLC), for 1999 through 2002. The third case involves the Federal income tax of Mrs. Rowell's wholly owned C corporation, Knutsen-Rowell, Inc. (Knutsen), for 2001 and 2002.
Respondent determined the following deficiencies, additions to tax, and penalties: 2
+-----------------------------------------------------------------------------+
¦Year¦Deficiency¦Addition to Tax Sec. 6651(a)¦Accuracy-Related Penalty Sec. ¦
¦ ¦ ¦(1) ¦66621 ¦
+----+----------+----------------------------+--------------------------------¦
¦2001¦$67,973 ¦$6,797 ¦$13,595 ¦
+----+----------+----------------------------+--------------------------------¦
¦2002¦14,957 ¦-0- ¦2,991 ¦
+-----------------------------------------------------------------------------+
1Respondent asserts in the answer that Knutsen is liable for the fraud penalty under sec. 6663 for 2001 and 2002 and if not, for the accuracy-related penalty under sec. 6662.
+------------------------------------------------------------------------+
¦Year¦Deficiency¦Addition to Tax Sec. 6651(a)(1)¦Fraud Penalty Sec. 66631¦
+----+----------+-------------------------------+------------------------¦
¦1999¦$5,748 ¦$1,437 ¦$4,311 ¦
+----+----------+-------------------------------+------------------------¦
¦2000¦83,784 ¦8,382 ¦62,838 ¦
+----+----------+-------------------------------+------------------------¦
¦2001¦32,403 ¦3,240 ¦24,302 ¦
+----+----------+-------------------------------+------------------------¦
¦2002¦76,414 ¦-0- ¦57,311 ¦
+------------------------------------------------------------------------+
1Respondent determined alternatively that PLC is liable for the penalty for negligence under sec. 6662 to the extent it is not liable for the fraud penalty.
The Rowells, docket No. 27629-07
+------------------------------------------------------------------------+
¦Year¦Deficiency¦Addition to Tax Sec. 6651(a)(1)¦Fraud Penalty Sec. 66631¦
+----+----------+-------------------------------+------------------------¦
¦2000¦$85,780 ¦$4,289 ¦$64,335 ¦
+----+----------+-------------------------------+------------------------¦
¦2001¦110,585 ¦16,588 ¦82,939 ¦
+----+----------+-------------------------------+------------------------¦
¦2002¦15,079 ¦-0- ¦11,309 ¦
+------------------------------------------------------------------------+
1Respondent determined that the fraud penalty applied only to Mr. Rowell. Respondent determined alternatively that the Rowells are liable for the addition to tax for negligence under sec. 6662 to the extent Mr. Rowell is not liable for the fraud penalty. Respondent in the answer asserts that the fraud penalty for each year also applies to Mrs. Rowell.
Respondent asserts in an amendment to answer in docket No. 27629-07 that the Rowells are liable for increased deficiencies, additions to tax, and penalties in the following amounts: 3
+------------------------------------------------------------------------+
¦Year¦Addition to Tax Deficiency Sec. 6651(a)(1)¦Fraud Penalty Sec. 66631¦
+----+------------------------------------------+------------------------¦
¦2000¦$406,529 $20,343 ¦$304,897 ¦
+----+------------------------------------------+------------------------¦
¦2001¦340,485 51,344 ¦255,364 ¦
+----+------------------------------------------+------------------------¦
¦2002¦182,000-0- ¦135,500 ¦
+------------------------------------------------------------------------+
1Respondent asserts alternatively in the amendment to answer that the Rowells are liable for the penaltyfor negligence under sec. 6662 to the extent they are not liable for the fraud penalty.
Petitioners concede they are liable for the accuracy-related penalties under section 6662 (), to the extent they are not liable for the fraud penalties under section 6663, and for the failure to file additions to tax under section 6651(a)(1). We are left to decide the following issues:
1.Whether Knutsen overreported its income for 2001 and 2002. We hold it did not;
2. whether PLC underreported its income for 1999, 2000, 2001, and 2002. We hold it did to the extent stated herein;
3. whether the Rowells underreported their income for 2000, 2001, and 2002. We hold they did to the extent stated herein;
4. whether Knutsen is entitled to deductions of certain expenses and to costs of goods sold reported on its 2001 and 2002 Federal income tax returns. We hold it is to the extent stated herein; and
5. whether any of petitioners is liable for a fraud penalty under section 6663. We hold that none of petitioners is liable for a fraud penalty.
The parties submitted to the Court stipulated facts and related exhibits. We find those stipulated facts accordingly andincorporate those facts and exhibits herein. The Rowells, husband and wife, filed joint Federal income tax returns for 2000 through 2002. They resided in California when their petition was filed. Knutsen's mailing address and PLC's principal place of business were in California when their petitions were filed.
Mr. Rowell is a trial attorney who has practiced law in California for over 30 years. His practice areas are personal injury and products liability. He has received various awards and certificates of appreciation from several professional organizations. He practiced law during the years in issue through PLC, his wholly owned corporation.
Mrs. Rowell is a television and screen writer. During the years in issue she worked as a screenwriter and as a buyer and seller of vintage dolls and similar collectible items (collectively, vintage dolls). She worked through Knutsen, her wholly owned corporation.
Each of the Rowells is well educated and devotes long hours to his or her profession. Neither of the Rowells is proficient on the subject of tax law or on the requirements thereof.
Mr. Rowell graduated from law school in 1977, and he began practicing law at a law firm specializing in products liability. He formed PLC on September 20, 1982.
In 1999 PLC joined the law firm of Cheong, Denove, Rowell, Antablin & Bennett (Cheong firm). The Cheong firm's practice included products liability. During the years in issue, PLC was a partner in the Cheong firm, and Mr. Rowell was PLC's sole shareholder. While Mr. Rowell (through PLC) worked for the Cheong firm, he also (through PLC) worked on some cases for PLC alone.
For 1999 the Cheong firm issued PLC a Schedule K-1, Partner's Share of Income, Credits, Deductions, etc., reporting that PLC realized $92,120 of taxable income for 1999 with respect to its partnership interest in the Cheong firm. PLC reported on its 1999 Federal income tax return that it realized $7,574 of taxable income as to that interest.
When Mr. Rowell (through the firm for which he worked) retained a client, the retainer agreement stated that the firm would pay certain litigation costs (e.g., costs of depositions, transcripts, and filing fees) for the client and that the firm would recover its payment of those costs (advanced client costs)from any proceeds received at the end of the client's case. Mr. Rowell (through his firm) represented plaintiffs in lawsuits that involved significant amounts of advanced client costs. PLC did not always recover the full amount of advanced client costs paid on behalf of a client. PLC recorded its payment of a client's advanced client costs as a loan to that client.
Mrs. Rowell organized Knutsen on September 2, 1982. Mrs. Rowell was Knutsen's only employee. Initially, Knutsen's sole business was the leasing of Mrs. Rowell's writing services.
In 2001 Mrs. Rowell's earning capacity as a writer began to decline, and Mrs. Rowell decided to expand Knutsen's business to include the purchase and sale of vintage dolls. During 2001 and 2002 Knutsen bought and sold vintage dolls through an eBay store. Knutsen initially bought and sold collectible Barbie dolls but later expanded into other collectible items. During 2001 and 2002 Knutsen generally maintained a daily inventory of 900 to 1,000 vintage dolls. Knutsen attempted to sell each of its vintage dolls above cost but was not always able to do so.
During 2001 and 2002 Knutsen paid its business expenses (including inventory purchases) primarily by check or creditcard. During those respective years Knutsen paid $157,258 and $29,661 for vintage dolls it purchased for resale. Knutsen also paid the following expenses:
+----------------------------------+
¦ ¦2001 ¦2002 ¦...To continue reading
Request your trial