Zarin v. Comm'r of Internal Revenue

• Decision Date: 22 May 1989
• Docket Number: Docket No. 21371-86.
• Citation: 92 T.C. No. 68,92 T.C. 1084
• Parties: DAVID ZARIN AND LOUISE ZARIN v. COMMISSIONER OF INTERNAL REVENUE, Respondent
• Court: U.S. Tax Court

92 T.C. 1084

92 T.C. No. 68

DAVID ZARIN AND LOUISE ZARIN

v.COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 21371-86.

United States Tax Court

Filed May 22, 1989

P, a compulsive gambler, gambled on credit extended by a New Jersey casino. During the following year, P and the casino settled the debt at a substantial discount. HELD, the difference between the face amount of the debt and the amount for which it was settled constitutes income from the discharge of indebtedness. Sec. 61(a)(12), I.R.C. 1954. Karl William Kolbe, Jr., and David R. Hardy, for the petitioners.

Patricia Y. Taylor, for the respondent.

OPINION

COHEN, JUDGE:

Respondent determined deficiencies of $2,466,622 and $58,688 in petitioners' Federal income taxes for 1980 and 1981, respectively.

In the notice of deficiency, respondent determined that petitioners had income in 1980 from larceny by trick and deception. Respondent has abandoned that position. All of the other issues raised in the notice of deficiency have been settled. In his answer, respondent asserted that petitioners realized additional taxable income of $2,935,000 in 1981 through cancellation of indebtedness. The sole issue for decision is whether petitioners had income from discharge of gambling indebtedness during 1981.

Unless otherwise indicated, all Rule references are to the Tax Court Rules of Practice and Procedure, and all section references are to the Internal Revenue Code, as amended and in effect for the years in issue. All of the facts have been stipulated. The facts set forth in the stipulation are incorporated as our findings by this reference.

Petitioners resided in Atlantic City, New Jersey, at the time they filed their petition in this case. They timely filed joint Federal income tax returns for 1980 and 1981 with the Internal Revenue Service Center, Holtsville, New York.

David Zarin (petitioner) was a professional engineer involved in the development, construction, and management of multi-family housing and nursing home facilities. In 1978, 2 years after New Jersey passed the Casino Control Act, N.J. Stat. Ann. sec. 5:12-101 et seq. (West 1988), legalizing casino gambling in Atlantic City, petitioner began developing various housing projects in Atlantic City, New Jersey.

Petitioner occasionally stayed at Resorts International Hotel, Inc. (Resorts), in Atlantic City in connection with his construction activities. Prior to 1978, petitioner had gambled on credit both in Las Vegas, Nevada, and in the Bahamas. In June 1978, petitioner applied to Resorts for a $10,000 line of credit to be used for gambling. After a credit check, which included inquiries with petitioner's banks and ‘Credit Central,‘ an organization that maintains records of individuals who gamble in casinos, the requested line of credit was granted, despite derogatory information received from Credit Central.

The game most often played by petitioner, craps, creates the potential of losses or gains from wagering on rolls of dice. When he played craps at Resorts, petitioner usually bet the table limit per roll of the dice. Resorts quickly became familiar with petitioner. At petitioner's request, Resorts would raise the limit at the table to the house maximum. When petitioner gambled at Resorts, crowds would be attracted to his table by the large amounts he would wager. Gamblers would wager more than they might otherwise because of the excitement caused by the crowds and the amounts that petitioner was wagering. Petitioner was referred to as a ‘valued gaming patron‘ by executives at Resorts.

By November 1979, petitioner's permanent line of credit had been increased to $200,000. Despite this increase, at no time after the initial credit check did Resorts perform any further analysis of petitioner's creditworthiness. Many casinos extend complimentary services and privileges (‘comps‘) to retain the patronage of their best customers. Beginning in the late summer of 1978, petitioner was extended the complimentary use of a luxury three-room suite at Resorts. Resorts progressively increased the complimentary services to include free meals, entertainment, and 24-hour access to a limousine. By late 1979, Resorts was extending such comps to petitioner's guests as well. By this practice, Resorts sought to preserve not only petitioner's patronage but also the attractive power his gambling had on others.

Once the line of credit was established, petitioner was able to receive chips at the gambling table. Patrons of New Jersey casinos may not gamble with currency, but must use chips provided by the casino. Chips may not be used outside the casino where they were issued for any purpose.

Petitioner received chips in exchange for signing counter checks, commonly known as ‘markers.‘ The markers were negotiable drafts payable to Resorts drawn on petitioner's bank. The markers made no reference to chips, but stated that cash had been received.

Petitioner had an understanding with Gary Grant, the credit manager at Resorts, whereby the markers would be held for the maximum period allowable under New Jersey law, which at that time was 90 days, whereupon petitioner would redeem them with a personal check. At all times pertinent hereto, petitioner intended to repay any credit amount properly extended to him by Resorts and to pay Resorts in full the amount of any personal check given by him to pay for chips or to reduce his gambling debt. Between June 1978 and December 1979, petitioner incurred gambling debts of approximately $2.5 million. Petitioner paid these debts in full.

On October 3, 1979, the New Jersey Division of Gaming Enforcement filed with the New Jersey Casino Control Commission a complaint against Resorts and several individuals, which alleged 809 violations pertaining to Resorts' casino gaming credit system, its internal procedures, and its administrative and accounting controls. Of those 809 violations, 100 were specifically identified as pertaining to petitioner and a gambling companion. Pursuant to a request for a cease and desist order contained in the complaint, a Casino Control Commissioner issued an Emergency Order on October 9, 1979. That order provided, in relevant part:

5. Effective immediately, Resorts shall not issue credit to any patron whose patron credit reference card indicates that the credit now outstanding exceeds the properly approved credit limit. In determining whether a credit limit has been exceeded, all yet undeposited checks received in payment of a counter check or checks shall be included as credits.

After the Emergency Order was issued, Resorts began a policy of treating petitioner's personal checks as ‘considered cleared.‘ Thus, when petitioner wrote a personal check it was treated as a cash transaction, and the amount of the check was not included in determining whether he had reached his permanent credit limit. In addition, Resorts extended petitioner's credit limit by giving him temporary increases known as ‘this trip only‘ credit. Although not specifically addressed by the New Jersey Casino Control regulations in effect during 1979 and 1980, a ‘this trip only‘ credit increase was a temporary credit increase for a patron's current trip to Atlantic City, and was required to be reduced before the patron's return. Both of these practices effectively ignored the Emergency Order. Petitioner did not understand the difference between ‘this trip only‘ credit and his permanent credit line, and he thought that he no longer had a credit limit.

By January 1980, petitioner was gambling compulsively at Resorts. Petitioner was gambling 12-16 hours per day, 7 days per week in the casino, and he was betting up to $15,000 on each roll of the dice. Petitioner was not aware of the amount of his gambling debts.

On April 12, 1980, Resorts increased petitioner's permanent credit line to $215,000, without any additional credit investigation . During April 1980, petitioner delivered personal checks and markers in the total amount of $3,435,000 that were returned to Resorts as having been drawn against insufficient funds. On April 29, 1980, Resorts cut off petitioner's credit. Shortly thereafter, petitioner indicated to the Chief Executive Officer of Resorts that he intended to repay the obligations.

On November 18, 1980, Resorts filed a complaint in New Jersey state court seeking collection of $3,435,000 from petitioner based on the unpaid personal checks an markers. On March 4, 1981, petitioner filed an answer, denying the allegations and asserting a variety of affirmative defenses.

On September 28, 1981, petitioner settled the Resorts suit by agreeing to make a series of payments totaling $500,000. Petitioner paid the $500,000 settlement amount to Resorts in accordance with the terms of the agreement. The difference between petitioner's gambling obligations of $3,435,000 and the settlement payments of $500,000 is the amount that respondent alleges to be income from forgiveness of indebtedness.

On July 8, 1983, Resorts was fined $130,000 for violating the Emergency Order on at least 13 different occasions, 9 of which pertained directly to credit transactions between Resorts and petitioner.

BURDEN OF PROOF

We are faced first with a dispute as to the burden of proof. Petitioner argues that, to the extent that factual issues are involved, the burden of proof is on respondent with respect to the discharge of indebtedness issue because it constitutes an increase in the deficiency for 1981 and because it constitutes a new matter. Respondent contends otherwise. We agree with petitioner.

Rule 142(a) provides that the burden of proof is on petitioner, ‘except that, in respect of any new matter, increases in deficiency, and affirmative defenses, pleaded in his answer, it shall be upon the respondent.‘ A new position taken by respondent is not necessarily a ‘new matter‘ if it merely clarifies or develops respondent's original determination without requiring the presentation of different...