US v. Bailey

• Decision Date: 09 April 1992
• Docket Number: Civ. A. No. 91-058-Y.
• Citation: 789 F. Supp. 788
• Parties: UNITED STATES of America, v. Clement BAILEY, a/k/a/ Clem Bailey, Jewelene Bailey, Kristi Shelton, and Kathy Zeeb, all d/b/a Clem Bailey & Associates.
• Court: U.S. District Court — Northern District of Texas

789 F. Supp. 788

UNITED STATES of America, v. Clement BAILEY, a/k/a/ Clem Bailey, Jewelene Bailey, Kristi Shelton, and Kathy Zeeb, all d/b/a Clem Bailey & Associates.

Civ. A. No. 91-058-Y.

United States District Court, N.D. Texas, Fort Worth Division.

April 9, 1992.

COPYRIGHT MATERIAL OMITTED

Noreene C. Stehlik, John D. Russell, U.S. Dept. of Justice, Office of Sp. Litigation, Tax Div., Washington, D.C., for plaintiff.

Jack M. Price, Law Office of Jack M. Price, Austin, Tex., for defendants.

OPINION AND ORDER

MEANS, District Judge.

This case is before the Court on the complaint of the United States of America, which seeks to permanently enjoin Clement ("Clem") Bailey, Jewelene Bailey, Kristi Shelton, and Kathy Zeeb, individually, and doing business as Clem Bailey & Associates, from preparing federal income tax returns for compensation.

The Court held a preliminary injunction hearing in the spring of 1991, during which the United States elicited testimony from twenty-two witnesses. The Court then entered an agreed order in June which enjoined the defendants from preparing tax returns for any individuals who were not already their clients and from interfering with the proper administration of the internal revenue laws. The defendants were also ordered to abide by all Internal Revenue Service rules applicable to tax return preparers. At trial on the merits in January 1992, the United States offered testimony from forty-six witnesses and entered 890 exhibits into evidence. After reviewing the testimonial and documentary evidence adduced at trial, this Court has made findings of fact as to each taxpayer whose return was entered into evidence. Pursuant to those findings, this Court will grant the government's petition for injunctive relief in full as to Clem and Jewelene Bailey and in part as to Kristi Shelton and Kathy Zeeb.

I. FINDINGS OF FACT

Clem Bailey & Associates (hereinafter, "CBA"), now defunct, prepared federal income tax returns, both corporate and individual. CBA employed Clem Bailey, his wife, Jewelene Bailey, Jewelene Bailey's two daughters, Kristi Shelton and Kathy Zeeb, and a number of bookkeepers, typists, and clerical personnel. The Baileys, Shelton, and Zeeb are income tax return preparers as that term is defined in 26 U.S.C. § 7701(a)(36).¹

CBA, which obtains its clients by word-of-mouth advertising, prepared 7320 federal income tax returns from 1988 through 1990. In 1991, CBA prepared a total of 1764 returns. Of those, Clem Bailey prepared 624; Jewelene Bailey, 273; Kristi Shelton, 548; and Kathy Zeeb 319. These returns were filed in twenty-one different districts covering the southwestern United States.

When a client came into CBA's office, customarily one or more of the defendants met with the client for thirty minutes to an hour and prepared a handwritten return based upon the information provided by the taxpayer. The return was then sent to a typist for final preparation and proofread by either the typist or another clerical worker who then signed the preparing defendant's name to the return. None of the defendants reviewed the return again before the taxpayer actually filed it with the Internal Revenue Service ("IRS").

As part of its "Clem Bailey Return Preparer Project," the IRS spent almost 15,000 hours examining 521 individual and corporate returns prepared by CBA. Over eighty percent of them contained an understatement of tax liability. Cumulatively, those understatements exceeded two-and-one-half million dollars. Clem Bailey prepared 340 of those returns; Jewelene Bailey, forty; Kristi Shelton, sixty-nine; Kathy Zeeb, sixty; and Clem Bailey & Associates prepared twelve.²

Clem Bailey has been preparing federal income tax returns since 1951. In 1957, he and his wife established Clem Bailey & Associates, but on December 31, 1990, they dissolved the enterprise and became self-employed tax preparers. Bailey does not have a college degree, nor is he a certified public accountant or an enrolled agent allowed to practice before the Internal Revenue Service.

Jewelene Bailey has been preparing federal income tax returns since 1957. She does not have a college degree, nor is she a certified public accountant or an enrolled agent allowed to practice before the IRS. Jewelene is currently in business with her husband, who often assists her in preparing returns.

Kristi Shelton has been preparing federal income tax returns since 1981 when CBA first employed her. Her professional education consists of "on the job" training by Clem Bailey and attending seminars on relevant tax topics. She does not have a college degree, nor is she a certified public accountant or an enrolled agent allowed to practice before the IRS. Since December 1990, Shelton has been a self-employed income tax preparer, but she shares office space with Clem and Jewelene Bailey.

Kathy Zeeb has been preparing federal returns since the late 1970s. She attended one year of college at Texas Tech. She also attended a college in Oregon where she was subsequently licensed to prepare tax returns. Zeeb does not have a degree in accounting, nor is she a certified public accountant or an enrolled agent allowed to practice before the IRS. From 1982 through 1990, Zeeb worked for CBA but since the end of December 1990, Zeeb has been self-employed in the tax preparation business. Like Shelton, Zeeb shares office space with the Baileys.

The Court makes the following findings of fact as to the conduct of each of the defendants in preparing federal income tax returns for the taxpayers whose names are set out below:

A. CLEM BAILEY

1. DONNIE BARROW

Donnie Barrow is the lead musician in a band that plays regularly at the Stagecoach, a nightclub in the Fort Worth area. The Stagecoach pays the band members directly, and issues a Form 1099 to each member.³ Donnie Barrow has a ninth-grade education and, because he is not sophisticated in tax matters, he hired Clem Bailey to prepare his federal income tax returns from the 1970s through 1987. Bailey also prepared the individual tax returns of at least one other Stagecoach band member.

Barrow met with Bailey for twenty to twenty-five minutes to prepare his 1987 return. He gave Bailey his financial records and bank statements, including the Form 1099 he received from the Stagecoach, but did not give Bailey any cancelled checks, bank statements, or a Form 1099 showing that he had compensated other band members. The 1987 return Bailey prepared reports Barrow's income of $28,000 from the Stagecoach on Schedule C of Form 1040.⁴ Line 10 of Barrow's Schedule C shows a deduction of $10,375 for payments to other band members, ostensibly for substituting for him when he was ill. Barrow testified, however, that he never paid the other band members or anyone else to substitute for him when he could not play. He did not tell Bailey that he made such payments, nor did Bailey ask him whether he had.

Bailey appeared with Barrow when the IRS examined his 1987 return. When the examining agent questioned Barrow about the payments, Bailey told Barrow that they were payments to the other band members. Barrow denied making such payments, however, so Bailey told Barrow to tell the IRS that the commissions were "a misunderstanding." The IRS disallowed the commission expense, and Barrow agreed that he owed the additional tax. Although the 1987 return showed that Barrow was entitled to an earned income credit of $851, Barrow actually owed $6,503.41 in additional taxes.

In his affidavit filed with the IRS, Bailey swore that Barrow told him he had paid the other band members and that Bailey accepted Barrow's oral representation without making personal verification. Bailey further stated that IRS regulations permitted him to rely in good faith on the information allegedly furnished by Donnie Barrow. Bailey is greatly in error. The revenue rulings specifically require a tax preparer to "make reasonable inquiries" if the information is incorrect or incomplete or if a code section or regulation requires the existence of specific facts, circumstances, or documents as a condition to claiming a deduction. See Rev.Proc. 80-40, 1980-2 C.B. 774.

Clem Bailey knew or should have known that Barrow did not pay other members of the band. He prepared the individual tax returns of at least one other band member and knew that the Stagecoach paid the band members directly. Further, he knew Barrow's annual earned income was insufficient for him to pay over $10,000 to other musicians for performing in his absence. Finally, even if Barrow did tell Bailey he paid his substitutes himself, Bailey had an obligation as a return preparer to require documentary proof of payment, whether in the form of cancelled checks, receipts, or Forms 1099 issued by Barrow. Clem Bailey knowingly and intentionally understated Barrow's 1987 tax liability by including a fraudulent deduction on Barrow's return.

2. JOSEPH BOWLES

Joseph Bowles works for General Dynamics and runs a farm he inherited from his father in 1988. Clem Bailey prepared Bowles's federal income tax returns in 1987, 1988, and 1989.

On Bowles's 1988 return, Bailey prepared a Form 4562, a depreciation form, which valued the farm equipment Bowles inherited from his father at $61,153. Bailey obtained this information from the inventory furnished to the probate court which set out the value of each piece of equipment. Bowles testified that he merely gave the inventory to Bailey; they did not go over the individual items on it, nor did Bailey ask him any questions about it.

The inventory lists a front-end loader at $1500. A list attached to Bowles's 1988 return, however, valued the front-end loader at $15,000. Bowles testified that he did not add the extra zero to the value of the loader, and that he first saw the changed valuation at the audit. Bailey testified that Bowles orally told him that he acquired additional farm equipment worth about $13,500 which is not shown on the list....