Sher v. Comm'r of Internal Revenue

• Decision Date: 09 July 1987
• Docket Number: Docket No. 7588-86
• Citation: 89 T.C. 79,89 T.C. No. 9
• Parties: LEOPOLD Z. SHER AND KAREN B. SHER, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent
• Court: U.S. Tax Court

89 T.C. 79

89 T.C. No. 9

LEOPOLD Z. SHER AND KAREN B. SHER, Petitioners

v.COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 7588-86

United States Tax Court

Filed July 9, 1987.

HELD: Petitioners' motion for litigation costs is denied because they have failed to establish that the position of the United States was not substantially justified. Steven Klein, for the petitioners.

Diane Helfgott, for the respondent.

WHITAKER, JUDGE:

This matter is before petitioners' motion for litigation costs pursuant to Rule 231. ¹ When this case was called from the calendar on January 20, 1987, the parties appeared and filed a stipulation as to settled issues. At that time petitioners filed a motion for an award of reasonable litigation costs and the Court directed that the same be served on respondent and directed respondent to file a response to petitioners' motion by March 23, 1987. Respondent filed a notice of objection to petitioners' motion on March 30, 1987, and petitioners filed a reply to respondent's notice of objection on May 14, 1987. In the reply, petitioners requested that if the Court deemed it necessary a hearing be held to resolve factual discrepancies raised by affidavits submitted in support of the motion and responses. Upon a review of the record we deem it unnecessary to hold such a hearing. ²

FINDINGS OF FACT

The following facts are based on the record including the affidavits and exhibits filed in support of petitioners' motion, respondent's response, and petitioners' reply. About October 23, 1985, petitioners received a letter which was dated October 11, 1985, from the IRS Service Center in Austin, Texas. Accompanying the letter was an IRS examination report which indicated that petitioners failed to report $1,325 in dividend income from A.G. Edwards & Sons, Inc., interest income from French Market Homestead in the amount of $30, and interest income from South Savings & Loan in the amount of $11. The letter contained the following information in the event petitioners disagreed with the findings in the examination report:

If you do not agree with our findings, you may do one of the following within 30 days from the date of this letter.

1. Mail us any additional information you would like us to consider.

2. Request a meeting with an examiner at one of our local district offices. Please write or phone us and we will transfer your case to your district office. They will contact you to arrange a convenient time and place. During this informal discussion, you may submit any additional information you would like considered.

3. Request a conference with a member of our appeals office. The appeals officer will be someone who has not examined your return. Please write or phone us and we will transfer your case to the appeals office nearest you and they will contact you. However, since the examination was conducted entirely by mail, we would appreciate your first discussing our findings with an examiner, as explained in item 2.

* * *

Please let us hear from you within 30 days. Otherwise we will have to process your case on the basis of the adjustment shown in the enclosed examination report.

If you have any questions about this matter, please write to the person whose name is shown at the top of this letter, or you may call that person at the telephone number shown. If the number is outside your local calling area, there will be a long- distance charge to you. If you prefer, you may call the IRS telephone number listed in your local directory. An employee there may be able to help you, but the office at the address shown on this letter is most familiar with your case.

If you write to us, please provide your telephone number and the most convenient time for us to call you in case we need more information. Attach this letter to any correspondence to help us identify your case. Keep the copy for your records.

The following day Mr. Sher telephoned H. Lawson, the person identified as the contact person in the letter. H. Lawson was not available, so Mr. Sher spoke with Carol Cormack, the IRS telephone tax assistant. She was available to answer questions from taxpayers about notices they received from the Service Center and about what procedures should be followed in responding to such notices. Under the circumstances described Ms. Cormack claims she would have instructed Mr. Sher to write a letter to the IRS to explain why the adjustments made were incorrect.

Mr. Sher wrote a letter to the IRS on November 7, 1985. The letter was mailed to H. Lawson at the IRS Service Center in Austin, to the attention of Carol Cormack. In the letter Mr. Sher enclosed a copy of the IRS Form 1902-E examination changes and specifically addressed each of the adjustments. In addition he had contacted Robert Karem of A.G. Edwards & Sons, Inc. who sent him a copy of the company's statement reflecting income he earned totaling $775.62. ³ He enclosed a copy of this statement in his letter and explained that he had reported on his return $739.90 of the $775.62 received from A.G. Edwards & Sons, Inc. as interest income and he conceded that $35.72 had been erroneously omitted. Mr. Sher also stated that the $30 and $11 items were mistakenly omitted and conceded those amounts. He made no reference to the additional $550 which the examination report indicated was received by petitioners from A.G. Edwards & Sons, Inc.

Petitioners next received a letter dated November 24, 1985, from the IRS Examination Branch acknowledging receipt of the November 11, 1985, correspondence. The letter indicated that the IRS would send a reply within 45 days. The IRS contact person was listed as H. Lawson.

On December 19, 1985, the IRS Service Center in Austin, Texas, mailed petitioners a statutory notice of deficiency. Respondent made the same determinations that were addressed in the examination letter. Mr. Sher called the telephone contact number listed on the statutory notice twice, on December 24, 1985, and January 10, 1986, but was unable to speak with anyone who could help him resolve the matter. ⁴ Mr. Sher was not contacted by a representative of the IRS.

Mr. Sher, an attorney himself, then retained Steven I. Klein, an associate in his law firm. Through counsel petitioners filed a petition in this Court on March 21, 1986, contesting the amounts respondent determined were received from A.G. Edwards & Sons, Inc. ⁵

Respondent's Answer was filed by District Counsel on May 22, 1986. Respondent denied petitioners' allegation with respect to the amount of income received from A.G. Edwards & Sons, Inc. and alleged that no record of petitioners' November 7 letter appeared in respondent's administrative files.

The Sher case was assigned to Carolyn Palermo, an appeals officer in the New Orleans District Office on June 16, 1986. At the time she received the administrative file containing petitioners' income tax returns and other records, Mr. Sher's correspondence of November 7, 1985, was not included. Ms. Palermo did not receive the correspondence and attachments until June 19, 1986. Ms. Palermo and petitioners' counsel subsequently conferred by telephone, after which petitioners' counsel transmitted a copy of petitioners' amended tax return to Ms. Palermo. On August 27, 1986, Ms. Palermo and petitioners' counsel met and discussed the $550 discrepancy in the amount petitioners claimed to have received from A.G. Edwards & Sons, Inc.

In a letter dated September 2, 1986, petitioners' counsel concluded that, based on the two separate A.G. Edwards & Sons, Inc. account numbers for Mr. Sher that Ms. Palermo had provided, ⁶ the source of the discrepancy in reporting was income earned by a Defined Benefit Plan and Trust Plan in Mr. Sher's name. Upon learning this respondent then resolved the issue in petitioners' favor.

OPINION

Generally a taxpayer who has substantially prevailed in a civil tax proceeding may be awarded a judgment for reasonable litigation costs incurred in such proceeding. Sec. 7430(a). In order to be entitled to such an award, the taxpayer must be the ‘prevailing party.‘ The taxpayer must:

(1) establish that the position of the United States in the civil proceeding was not substantially justified; »Sec. 7430(c)(2)(A)(i)† ⁷

(2) substantially prevail in the litigation; »Sec. 7430(c)(2)(A)(ii)†>>> and

(3) have a net worth which did not exceed $2,000,000 at the time the adjudication was initiated. »Sec. 7430(c)(2)(A)(iii)†. ⁸

A judgment for litigation costs will not be awarded under section 7430(a) unless the Court determines that the prevailing party has exhausted the administrative remedies available to such party within the IRS. Sec. 7430(b)(1). No award for reasonable litigation costs may be made with respect to any portion of the civil proceeding during which the prevailing party has unreasonably protracted such proceeding. Sec. 7430(b)(4).

In this case respondent argues that petitioners are not the ‘prevailing party‘ within section 7430(a) because they have not established that the position of the United States was not substantially justified and they have not shown that their net worth did not exceed $2,000,000 at the time the proceeding was initiated. Respondent also contends that petitioners did not avail themselves of administrative procedures available to reconcile their dispute. Furthermore, respondent claims, even if petitioners satisfied all three prongs of the ‘prevailing party‘ test and exhausted their administrative remedies, according to our recent holding in Minahan v. Commissioner, 88 T.C. 492 (1987), the attorney's fees claimed are not ‘reasonable litigation costs‘ because Mr. Sher holds an equity interest in the law firm to which the fees are to be paid.

In 1986 Congress amended section 7430 to conform that provision more closely to the Equal Access to Justice Act. Section 1551, Pub. L. 99-514, 100 Stat. 2752 (Tax Reform Act of 1986); see S. Rept. 99- 313 at 198 (1986), 1986-3 C.B. (Vol. 3) 198. Where the prior statute...