Lattin v. Commissioner
| Decision Date | 30 May 1995 |
| Docket Number | Docket No. 7003-91.,Docket No. 26782-91. |
| Citation | 69 T.C.M. 2734 |
| Parties | Neil Lattin and Rhonda Shulman v. Commissioner. |
| Court | U.S. Tax Court |
Neil Lattin and Rhonda Shulman, pro sese. Keith L. Gorman, for the respondent.
Memorandum Findings of Fact and Opinion
Respondent determined deficiencies in and additions to petitioners' Federal income taxes as follows:
Additions to Tax
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Sec. Sec. Sec
Year Deficiency 6651(a)(1) 6653(a)(1)(A) 6653(a)(1)(B) Sec. 6661
1987 $30,468.00 $6,879.00 $1,985.00 1 $7,617.00
1988 26,465.00 3,382.75 -- -- --
1 50 percent of the interest due on the income tax deficiency
On November 26, 1993, petitioners filed a motion to dismiss for lack of jurisdiction. In their motion petitioners assert that this Court lacks jurisdiction to determine the deductibility of partnership losses disallowed by respondent in the notice of deficiency. Petitioners claim that section 62211 requires that the treatment of partnership items be determined at the partnership level. A hearing on the motion was held on December 6, 1993. Respondent argued that the partnership did not exist, and therefore section 6221 would not apply. This Court reserved ruling upon the motion until the filing of all briefs in order to allow the parties to fully develop their arguments. Accordingly, we tried the issues as if we had jurisdiction and allowed the parties to brief the issue.2
The issues for decision are: (1) Whether the Court has jurisdiction over proposed adjustments to petitioners' losses relating to an entity known as Friedman Financial Co. #2; and if so, whether petitioners are entitled to deduct the losses relating to Friedman Financial Co. #2. We hold that we do have jurisdiction; and furthermore, petitioners are not entitled to deduct losses relating to Friedmann Financial Company #2. (2) Whether petitioners may deduct certain expenses claimed on petitioner-husband's Schedule C. We hold that they are deductible to the extent stated herein. (3) Whether petitioners are entitled to deduct certain expenses claimed on petitioner-wife's Schedule C. We hold that they are deductible to the extent stated herein. (4) Whether petitioners are entitled to deduct certain cash and noncash contributions for tax year 1988. We hold that they are not entitled to such deductions. (5) Whether petitioners are entitled to an additional interest deduction for tax year 1987. We hold that they are not entitled to such deduction. (6) Whether petitioners' sale leaseback transaction with petitioner-wife's parents was a sham; and whether the expenses relating to the property are deductible. We hold that the transaction was a sham. Petitioners are entitled to deductions to the extent stated herein. (7) Whether petitioners are liable for additions to tax pursuant to section 6653(a)(1)(A) and (B) for tax year 1987. We hold that they are liable. (8) Whether petitioners are liable for an addition to tax pursuant to section 6661 for tax year 1987. We hold that they are liable for substantial understatement of income to the extent stated herein.
Some of the facts have been stipulated and are so found. The stipulation of facts, two supplemental stipulations of facts, and attached exhibits are incorporated herein by this reference. At the time the petition was filed, petitioners resided in Wilmington, Delaware. Petitioners are married and filed joint Federal income tax returns for all years in issue. Petitioner husband refers to Neil Lattin; petitioner wife refers to Rhonda Shulman.
During the years in issue, petitioner husband was employed by the Family Practice Associates as a physician. Petitioner wife was employed by the Easter Seals Society as an administrator.
Friedman Financial Company #2 (FFC #2) is identified as a partnership on petitioners' 1987 and 1988 tax returns. Petitioners offered copies of returns for FFC #2 for tax years 1987 and 1988. Those returns indicated that there were more than 10 partners. However, respondent offered two documents entitled Certification of Lack of Record, one for tax year 1987 and one for tax year 1988, from the Director of the Brookhaven Service Center indicating that partnership returns were not filed for FFC #2. Furthermore, petitioners admitted that they could not prove that the 1987 and 1988 partnership returns for FFC #2 were filed. Respondent filed a substitute tax return for FFC #2 for 1988. Petitioners did not offer a partnership agreement or books and records for FFC #2.
To augment his salary from Family Practice Associates, petitioner husband established a part-time medical consulting business. Petitioner-husband's consulting was performed for peer review organizations. Petitioner reviewed medical records of various physicians in Delaware. On petitioner-husband's Schedule C for the years in issue he reported income and expenses relating to the peer review services.
Petitioner wife reported income and expenses on Schedule C in which she indicated that her business or profession was real estate services. Petitioner wife had no experience in real estate and was not licensed as a real estate broker. Petitioner wife never located any properties or closed any deals in connection with her activity.
On her Schedule C for tax years 1987 and 1988, she reported gross receipts of $15,000 and $12,000, respectively. However, petitioner wife did not receive cash in 1987 or 1988. In a letter dated July 26, 1987, from Mr. Gary Friedmann3 to petitioner, Mr. Friedmann stated that petitioner's compensation, $15,000 for 1987 and $12,000 for 1988, from Friedman Management Corp. will be deducted from petitioner's debt payable to Equity Investors (EI).4 Subsequently, it was determined that petitioner's mother would participate. In a letter dated August 1, 1987, from Mr. Friedmann to petitioner, he stated that petitioner could "share the benefits and burdens of the deal * * * with your mother, Victoria Shulman." The compensation was adjusted so that $15,000 payable for 1987 would be offset against Victoria Shulman's debt owed to EI and $12,000 payable for 1988 would be offset against Rhonda Shulman's debt owed to EI. The letter went on to state that "you (i.e., petitioner) will not be receiving any compensation for 1987." Victoria Shulman had never worked in the real estate field, nor was she licensed to broker real estate. The record is devoid of any documents relating to the purported agreements or loans.5
Petitioner did not maintain any receipt or disbursement journals for her business for either of the years in issue. For tax years after 1988, petitioner wife no longer filed her tax return claiming to be engaged in a Schedule C business.
On petitioners' tax returns for the years in issue, they claimed losses attributable to the rental of property located in New London, Connecticut. The parents of petitioner wife owned the property from 1966-1986. On November 28, 1986, the parents executed a deed of the property to petitioners for the stated consideration of "$1.00 and other valuable consideration". On the same day, petitioners executed a mortgage on the property in favor of First New London Savings and Loan Association for $60,000. The $60,000 was paid to the parents at closing. Petitioners also signed a second mortgage to the parents for the stated amount of $141,000, with payments of interest, in the amount of $1,175, due on the first of each month. The principal was to be paid on or before December 1, 1996.
Petitioners' payments to the parents for 1987 were often late; however, no late fees were paid. Petitioners made no payments to the parents after 1987. Petitioners did not deduct the interest payments made in 1987, nor did the parents include the interest in income. The parents reported the sale of the property on their 1986 Federal income tax return on Form 2119 Sale or Exchange of Principal Residence. However, only $60,000 was indicated as mortgage, note, or other financial instrument on which the parents would receive periodic payments of principal or interest from the sale.
Petitioners claim that the parents leased back the property for a monthly rental of $1,000.6 The parents made payments of $11,000 to petitioners in tax year 1987. Petitioners reported rental income of $5,700 for tax year 1987. Petitioners claim that in December 1987, an oral modification was entered into, whereby it was determined that the monthly rent would be reduced to $500; and in lieu of making the rent payments, the parents were to make significant repairs to the property. Petitioners also contend that the oral modification provided that interest payments would not be made until the house was repaired. Petitioners reported rental income of $5,400 for tax year 1988.
In the notices of deficiency, respondent determined deficiencies in petitioners' 1987 and 1988 Federal income tax with respect to underreporting of income, lack of substantiation of losses and expenses, and self-employment taxes. Respondent determined additions to tax for negligence and substantial understatement of liability. Petitioners amended their petition to assert additional deductions.
OpinionIssue 1. Jurisdiction Over Partnership Issues
Petitioners claim that FFC #2 was a partnership for the tax years in issue. Therefore, adjustments to partnership items were subject to the unified partnership audit procedures under section 6221 and could only be made at the partnership level. Respondent asserts that petitioners have not met their burden of proving that FFC #2 was a valid partnership as defined under section 6231(a).
As a preliminary matter, we address the admissibility of the evidence presented. Prior to trial,...
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