Phemister v. Commissioner of Internal Revenue, T.C. Memo. 2009-201 (U.S.T.C. 9/9/2009)
| Decision Date | 09 September 2009 |
| Docket Number | No. 21419-06.,21419-06. |
| Parties | THURMAN L. PHEMISTER AND DENISE M. ROSS, f.k.a. DENISE M. AIELLO PHEMISTER, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent. |
| Court | U.S. Tax Court |
Denise M. Ross, pro se.
James A. Kutten and Timothy J. Driscoll, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
Respondent determined the following deficiencies, additions to tax, and penalties with respect to petitioners' Federal income taxes:1
Accuracy-related
Addition to tax penalty
Year Deficiency sec. 6651(a)(1) sec. 6662(a)
1999 $31,508 $9,208 $6,302
2000 37,642 10,500 7,528
2001 44,986 12,611 8,956
2002 43,360 6,216 8,672
2003 52,241 1,973 10,448
2004 38,706 -0- 7,741
After concessions,2 the issues for decision are:
(1) Whether petitioners Thurman L. Phemister (Dr. Phemister) and Denise M. Ross (Ms. Ross) substantiated the deductions they claimed for 1999-2004 with respect to their horse activity and whether their horse activity constituted an activity not engaged in for profit within the meaning of section 183;
(2) whether petitioners substantiated deductions claimed for 1999-2004 on Schedules C, Profit or Loss From Business, with respect to Dr. Phemister's emergency room physician business (ER physician business);
(3) whether petitioners substantiated Schedule C interest expense and legal and professional services expense deductions claimed for 2003 and 2004 with respect to a retail business, End of the Trail (retail business);
(4) whether petitioners should have reported additional income with respect to the retail business for 2003 and 2004;
(5) whether petitioners are liable for an addition to tax under section 6651(a)(1) for each of the years 1999-2003;
(6) whether petitioners are liable for an accuracy-related penalty under section 6662(a) for each year in issue; and
(7) to the extent we find petitioners liable for any tax deficiencies, additions to tax, and/or penalties, whether Ms. Ross is entitled to relief under section 6015.
Ms. Ross and respondent have stipulated some of the facts, which we incorporate in our findings by this reference. Petitioners resided in Illinois when they petitioned this Court. Dr. Phemister did not participate in the trial because he had settled all of the issues with respondent before the trial.
Ms. Ross is a high school graduate. Although she took several college-level courses, including courses in music, foreign language, government, and marketing, she neither pursued nor received a college degree. At some point Ms. Ross worked as a medical assistant. In 1982 she married Dr. Phemister, with whom she had three children. Petitioners separated in approximately November 2005 and divorced in approximately August 2007.
For all relevant years, Dr. Phemister was a physician who worked in various hospital emergency rooms. He received wages and nonemployee compensation for his services as a physician. During the same period Ms. Ross was not employed and received no wages. She occupied her time by, among other things, volunteering at local clubs and buying, training, and selling horses.
Petitioners maintained a joint checking account into which Dr. Phemister deposited his earnings and from which Ms. Ross paid household bills. Although Ms. Ross typically paid most of the household bills, Dr. Phemister occasionally paid some of them.
During the years at issue petitioners lived on property they owned in a rural area of southern Illinois. The property was improved by a residence, an in-ground swimming pool, and a barn.
Dr. Phemister contracted with several hospitals for him to perform services as an emergency room physician. He maintained an office on the lower level of petitioners' residence for his ER physician business. At some point during the 1980s Ms. Ross worked as a medical assistant in her husband's ER physician business, but she has had no substantive involvement with his business since then.3
Dr. Phemister hired an accountant to keep the books and records of his ER physician business and to prepare petitioners' income tax returns. Dr. Phemister was responsible for supplying information regarding his income and expenses to the accountant. Ms. Ross was not involved in recording the expenses for Dr. Phemister's ER physician business or in determining what deductions to claim regarding that business. Dr. Phemister paid most of the bills attributable to his ER physician business.
In 1999 Ms. Ross began attending horse auctions and purchasing horses. Her experience with horses started when she was 16 years old and consisted of riding and training horses for pleasure. Ms. Ross became interested in purchasing, training, and selling horses (horse activity) through friends, and she viewed the horse activity as an activity she and her sons could do together. The horse activity also provided her with something to do while staying at home to be near one of her sons who had health problems.
Ms. Ross spent between 20 and 40 hours each week on the horse activity but did not maintain a regular schedule. Although Ms. Ross opened a separate checking account for the horse activity, she primarily used petitioners' personal checking account for the activity.
Before beginning the horse activity Ms. Ross did not have any experience operating a business. She did not prepare a business plan, and she did not consult with any experts on how to keep records or make her horse activity profitable.
Petitioners shared responsibility for maintaining the horse-activity records and making general purchases for the activity. Petitioners did not keep detailed records with respect to each horse. In fact, they maintained few records that were horse specific. In general, petitioners did not maintain accurate contemporaneous records for their horse activity.
In a year that does not appear in the record petitioners erected the barn on their property to stable their horses. The barn contained a riding arena, a training area, several horse stalls, and an office. When petitioners first began building the barn, they discovered that a covenant had been placed upon their property that prohibited stabling horses. With the assistance of an attorney, they had the covenant removed and then constructed their barn.
When Ms. Ross first began purchasing horses, she based her purchasing decisions on advice she received from horse traders who accompanied her to auctions.4 Initially Ms. Ross purchased more expensive horses, but she discovered that they did not sell well in the area where petitioners lived. She eventually began making bulk purchases at auctions of lower quality, inexpensive horses. Some of the more expensive horses were insured, but most of petitioners' horses were not. Occasionally, petitioners registered a horse in the name of one of their children.
Petitioners did not post any signs on their property advertising their horse activity. In early 2005 petitioners discontinued their horse activity.
In approximately December 2003 Ms. Ross opened the retail business, which specialized in western wear. Ms. Ross developed a business plan, and she kept books and records for the business. Dr. Phemister was not involved in the retail business' operations. He did, however, help Ms. Ross obtain financing for the retail business by cosigning a loan.
Petitioners filed joint Forms 1040, U.S. Individual Income Tax Return, for 1999-2004 on the following dates:5
Year Date filed
1999 Apr. 16, 2003
2000 Nov. 19, 2003
2001 May 12, 2004
2002 Aug. 24, 2004
2003 Dec. 15, 2005
2004 Jan. 30, 2006
On their returns petitioners reported wages from Dr. Phemister's employment as a physician and net income or loss from Dr. Phemister's ER physician business as follows:
ER physician
Year Wages business Total
1999 $29,728 $227,147 $256,875
2000 34,583 239,005 273,588
2001 17,500 282,118 299,618
2002 271,582 58,945 330,527
2003 413,635 (7,892) 405,743
2004 405,877 (1,700) 404,177
Dr. Phemister reported income and expenses from his ER physician business for 1999-2004 on Schedules C attached to the returns.
Petitioners also attached to their 1999-2004 returns Schedules F, Profit or Loss From Farming, on which they reported the income, expenses, and net losses from their horse activity, and Schedules C, on which they reported the income, expenses, and net losses from the retail business. The net losses were as follows:
Retail
Year Horse activity business
1999 ($33,224) n/a1
2000 (59,571) n/a
2001 (80,939) n/a
2002 (116,733) n/a
2003 (129,273) ($11,099)
2004 (82,369) (27,396)
In approximately March 2004 respondent began to audit petitioners' returns. On July 24, 2006, respondent issued a notice of deficiency for 1999-2004 that (1) disallowed all of the deductions claimed with respect to Dr. Phemister's ER physici business6 for 1999-2004; (2) disallowed the net losses claimed with respect to petitioners' horse activity for 1999-2004; (3) disallowed some or all of the legal and professional services expense deductions and the interest expense deductions claimed with respect to the...
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