Lucas v. Commissioner
| Decision Date | 26 July 1995 |
| Docket Number | Docket No. 24445-87. |
| Citation | 70 T.C.M. 191 |
| Parties | William C. Lucas and Josephine D. Lucas v. Commissioner. |
| Court | U.S. Tax Court |
William C. Lucas, pro se. John Aletta, for the respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
This case was assigned to Special Trial Judge Robert N. Armen, Jr., pursuant to the provisions of section 7443A(b)(4) and Rules 180, 181, and 183.1 The Court agrees with and adopts the Opinion of the Special Trial Judge, which is set forth below.
ARMEN, Special Trial Judge:
Respondent determined deficiencies in, and additions to, petitioners' Federal income taxes for taxable years 1980 and 1983 as follows:
Additions to Tax
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Sec. Sec. Sec. Sec. Sec
Year Deficiency 6653(a) 6653(a)(1) 6653(a)(2) 6659(a) 6661(a)
1980 .............. $3,637 $182 - - $1,091 -
1983 .............. 9,045 - $452 1 1,984 2$608
1 50 percent of the statutory interest due on the amount of the deficiency attributable to negligence; i.e. $9,045
2 Respondent amended her answer to plead, in the alternative, that inthe event that the Court concludes that
the addition to tax under sec. 6659(a) does not apply, the addition to tax under sec. 6661(a)
Respondent also determined that petitioners are liable for the increased rate of interest under section 6621(c), formerly section 6621(d), for both of the taxable years in issue.
The issues for decision are: (1) Whether petitioners' investment2 in the Saxon Energy Brain System leasing program (the Saxon leasing program or the Program) should be disregarded for Federal income tax purposes; (2) whether petitioners are liable for additions to tax for negligence under sections 6653(a), 6653(a)(1), and 6653(a)(2); (3) whether petitioners are liable for additions to tax for a valuation overstatement under section 6659(a); (4) whether petitioners are liable for an addition to tax for a substantial understatement of income tax under section 6661(a) for the taxable year 1983; and (5) whether petitioners are liable for the increased rate of interest under section 6621(c).
Some of the facts have been stipulated, and they are so found. At the time that the petition was filed, both petitioners resided in Cuyahoga County, Ohio.
Petitioner William C. Lucas (petitioner) is a college graduate. Petitioner Josephine D. Lucas (Mrs. Lucas) attended college, but did not receive a degree. During 1983, petitioner was employed as an air traffic controller and was a member of the National Association of Air Traffic Specialists. During 1983, Mrs. Lucas was employed as a computer systems analyst.
Petitioners have no specialized training in either accounting or taxation. Petitioners' 1980 and 1983 Federal income tax returns were prepared by a certified public accountant, Ron Berardinis (Berardinis), who was associated with Graham & Associates, Inc. (Graham & Associates). Berardinis provided both tax and investment advice through Graham & Associates.
Petitioner did not participate in the PATCO air traffic controllers' strike which was in effect during 1983. Due to the PATCO strike, petitioner worked overtime and earned more money in 1983 than he had in his earlier years of employment as an air traffic controller.
Prior to 1983, petitioners had invested in mutual funds, in silver, and in various stocks and bonds. In 1983, petitioners began to seek other investment opportunities.
Berardinis recommended that petitioners consult Graham & Associates for investment advice. Petitioners met with Thomas Graham (Graham), the president of Graham & Associates, at some point in 1983. In their contacts with Graham & Associates, petitioners dealt primarily with Graham.
Petitioners made a minimal effort to determine Graham's expertise as an investment adviser. Their investigation was limited to a single contact with the local chamber of commerce and a review of a document entitled "Business Advisor's Questionnaire" (the questionnaire) provided to them by Graham. In describing his present occupation and field of professional specialization, Graham wrote:
President—Graham & Associates—four (4) years. Tax Planning and Tax Advantaged Investments
In describing his experience in the questionnaire, Graham wrote that he had "12 years experience in investing in Tax Advantaged Real Estate, Equipment Leasing and Oil & Gas projects."
Graham advised petitioners of a variety of "tax-advantaged" investment opportunities. Graham did not subject petitioners to "pressure tactics". Instead, he assured them that they could invest in the opportunities he was offering or wait to examine other opportunities. Petitioners chose to enter into four investments presented to them by Graham. Petitioners used available funds rather than borrowed money to invest.
One of the investment opportunities proposed by Graham involved the Saxon Energy Corp. (Saxon). Saxon was a corporation formed in 1981 to lease energy management systems, such as the Energy Brain/Fuel Optimiser System A-1 (the Energy Brain System), to the public. See Schillinger v. Commissioner [Dec. 47,042(M)], T.C. Memo. 1990-640, affd. per order [93-2 USTC ¶ 50,477] 1 F.3d 954 (9th Cir. 1993) ().
Petitioners had no experience or knowledge with respect to the acquisition, lease, production, installation, marketing, or use of energy management systems during the taxable years in issue. The only information petitioners received about the Energy Brain System was given to them by Graham & Associates. No documents relating to the Energy Brain System were introduced into evidence.
In addition to Graham, petitioner also conferred with Berardinis regarding the risks and benefits of entering into the Saxon leasing program. In his conversations with Berardinis, petitioner was particularly concerned that "as applicable to my tax returns, *** we could count on *** [Graham's] advice as being reliable." Petitioner did not show Berardinis the documents provided to petitioners by Graham because Berardinis indicated that, as an associate of Graham's, he had access to those documents.
Petitioners conducted no independent investigation into the Saxon leasing program or into the value of the Energy Brain System, choosing to rely instead on Graham's representations and Berardinis' assurances as to their prospective investment in the Saxon leasing program.
Petitioners understood that in order to receive tax benefits from an investment in the Energy Brain System in 1983, a payment would have to be made prior to the end of the taxable year.
On or about December 29, 1983, an Agreement of Lease (the lease) was entered into by petitioners as lessees and Saxon as lessor. The lease involved a one-half interest in the Energy Brain System, an energy management device. The term of the lease was 20 years. The other one-half interest in the Energy Brain System was held by Steven and Marsha Tracey (the Traceys). Graham arranged for petitioners and the Traceys to share an interest in the Energy Brain System. Petitioners have never met the Traceys nor have they ever spoken to them.
Under the terms of the lease, petitioners were required to pay an advance guaranteed rental for the period December 31, 1983 through 1984, in the amount of $6,750 for their one-half interest in the Energy Brain System.3 On or about December 29, 1983, petitioners signed a form entitled "Election to Pass Investment Tax Credits from Lessor to Lessee". This form was not signed by any representative of Saxon.
Petitioners never intended to use the Energy Brain System themselves. Instead, petitioners planned to engage a management company which would locate an end-user. The end-user would pay for the Energy Brain System by sharing the amount of energy savings equally with petitioners. The management company was to retain a fee of 15 percent of petitioners' share of the energy savings and remit the balance to petitioners. Petitioners were then required to pay Saxon 75 percent of the remaining net income.
Petitioners entered into a management agreement (the management agreement) with ALH Energy Management Corp. (ALH) as the management company for the Energy Brain System. An initial payment in the amount of $337.50 was contemplated.4 Petitioners relied upon Graham to select ALH as the management company. Petitioners understood that Graham would be overseeing ALH's management activities.
By letter dated July 18, 1984, K.M. Fereg (Fereg) of ALH notified petitioners that the Energy Brain System had been placed in service in December 1983. The location of the Energy Brain System was identified in that letter as Our Lady of Lourdes Church & School, which was in Bettendorf, Iowa.
After petitioners entered into the lease, communications regarding petitioners' investment in the Energy Brain System related primarily to petitioners'. concerns about the viability of the investment as a tax shelter. Petitioners "kept no *** meticulous records of events or conversations" relating to their investment in the Energy Brain System.
Four experts (the experts) in the fields of energy management systems, design engineering evaluation methods, and energy system modeling prepared a study for respondent entitled "An Assessment of the Fair Market Value and the Profit Potential of the Energy Brain 1983A, 1 through 4" (the Experts' Study).
In evaluating the fair market value and the profit potential of the Energy Brain System, the experts considered, among other things, the Information Memorandum and other promotional literature provided by Saxon (the Information Memorandum), the terms of the lease entered into by petitioners and Saxon, and publicly...
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