The opinion
T.C. Memo. 1996-69
UNITED STATES TAX COURT
NANCY SILVERMAN AND ESTATE OF SHELDON SILVERMAN,
DECEASED, NANCY SILVERMAN, EXECUTRIX, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 20324-89. Filed February 20, 1996.
H invested $100,000 in an arrangement, as a result of
which a $1,600,000 Schedule C deduction was claimed on the
1981 tax return. W did not see or sign this tax return, but
the parties agree that it was a joint tax return. As a
result of H's income tax withholding and excess F.I.C.A.
withholding, H's and W's 1981 joint tax return reported
payments of $128,733, all of which was claimed as a refund.
In September 1982 respondent (R) refunded $74,360.39 plus
interest by check, which H deposited in one of his
individual checking accounts, and quickly spent. At the
same time, R transferred the remaining $54,372.61 of 1981
payments to H's and W's 1980 tax liability account, leaving
a zero balance in the 1980 tax liability account. H died in
1986, and his estate was insolvent. Later in 1986, W filed
claims for refund of 1979, 1980, and 1981 taxes, on account
of net operating loss carrybacks from 1982. (A similar
$1,600,000 Schedule C deduction had been taken on H's and
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W's 1982 joint tax return.) R abated $55,923 of H's and W's
1980 tax liability, which (with interest, etc.) resulted in
W’s receiving a refund check totalling $128,715.36 in 1988.
1. Held: The 1981 grossly erroneous item (the
$1,600,000 deduction) is an item of H. Sec. 6013(e)(1)(B),
I.R.C. 1954.
2. Held, further, when the tax return was signed, W
did not know, and had no reason to know, that there was a
substantial understatement of tax for 1981. Sec.
6013(e)(1)(C), I.R.C. 1954.
3. Held, further, in 1988 W received a substantial
benefit from the 1981 grossly erroneous item (the $54,372.61
that had been transferred from the 1981 account to the 1980
account), and so it is not inequitable to hold W liable for
the substantial understatement of 1981 tax resulting from
that grossly erroneous item. Sec. 6013(e)(1)(D), I.R.C.
1954.
Gary S. Weinick, for petitioners.
Halvor N. Adams III, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
CHABOT, Judge: Respondent determined deficiencies in
Federal individual income tax and additions to tax under sections
66591 (valuation overstatements) and section 6661 (substantial
understatement of liability) against petitioners as follows:
Additions to Tax
Sec. Sec.
Year Deficiency 6659 6661
1
Unless indicated otherwise all section references are to
sections of the Internal Revenue Code of 1954 as in effect for
1981.
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1981 $185,361 $55,608 ---
1
1982 27,232 8,170 $6,808
1
Determined as alternative to sec. 6659 addition to tax.
Respondent also determined that interest on the entire
deficiencies for 1981 and 1982 is to be computed under section
6621(c).
After concessions,2 the issue for decision is whether
petitioner Nancy Silverman qualifies as an innocent spouse under
section 6013(e) with respect to the 1981 tax deficiency.
FINDINGS OF FACT
Some of the facts have been stipulated; the stipulations and
the stipulated exhibits are incorporated herein by this
reference.
When the petition was filed in the instant case, petitioner
Nancy Silverman (hereinafter sometimes referred to as Nancy)
resided in Cincinnati, Ohio. The will of Sheldon Silverman
(hereinafter sometimes referred to as Sheldon) was admitted to
probate in the Surrogate's Court for Bergen County, New Jersey,
and that Court appointed Nancy as Executrix of Sheldon's estate.
Background
2
Respondent has conceded all the additions to tax.
Petitioners have conceded the deficiencies, the increased
interest under sec. 6621(c), and petitioner Nancy Silverman's
ineligibility for innocent spouse status for 1982.
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Nancy and Sheldon were married on August 25, 1974, and they
remained married and lived together until Sheldon's death on
August 9, 1986. They had two children by this marriage--Joseph,
born in 1978, and Melanie, born in 1980. Both Nancy and Sheldon
had earlier marriages that ended in divorce in 1974. Sheldon had
a child from his earlier marriage--Lee, born in 1967. From 1974
through 1986 Sheldon made $250 weekly alimony payments to his
former wife. Nancy did not receive alimony from her former
husband; she did receive about $30,000 (the balance in her and
her former husband's joint bank account) at or around the time of
her divorce. At the time of her divorce, Nancy also received
corporate stock worth about $8,000-9,000 from her employer's
profit-sharing plan. In addition, she had her car and personal
items such as clothing.
Nancy was born and grew up in Cincinnati, Ohio. She
received a B.A. degree in English literature from the University
of Cincinnati in 1964. Nancy got married in 1962, while she was
a junior in college. Her first husband also was a college
student at that time. Nancy worked part-time while she was a
student, and after graduation she worked full-time in a
department store. Nancy and her first husband filed joint tax
returns during their marriage. These tax returns were fairly
simple, especially those for the years when Nancy and her first
husband were students. Nancy's first husband prepared their tax
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returns, and Nancy signed them after they were prepared. Nancy
filed for divorce in 1973, and the divorce became final in March
1974. In 1974, after her divorce, Nancy moved to the New York,
New York, area, intending to work in that city. She did not get
a job in New York--instead she met and married Sheldon. At this
time Sheldon was already an established and successful
businessman; he was a part owner of one of the largest junior
dress manufacturers, Dawn Joy.
After Nancy and Sheldon were married, Nancy moved into
Sheldon's New York apartment, and spent her days decorating the
apartment, learning her way around New York, taking tennis
lessons, dining with friends, and going to the theater. In 1975
Nancy and Sheldon jointly bought, and in 1976 moved into, a house
in Demarest, New Jersey. The purchase price was $135,000, for
which they took out a $75,000 purchase money mortgage. This
house was their home throughout the rest of their married life.
Nancy's and Sheldon's comfortable lifestyle remained
significantly the same throughout their marriage.
Nancy and Sheldon had a "traditional" marriage. Sheldon was
the breadwinner-businessman, and Nancy was the home-manager, or
"housewife". Sheldon took care of the finances and made all of
the investment decisions, as he had done before their marriage.
Sheldon separated business from home; he conducted all business
from his office in Manhattan. Sheldon did not have an office in
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their home; he did not do any "paperwork" at home. Sheldon took
his mail, which Nancy separated from her mail, and which Nancy
did not open, into his office. While he was a part owner in Dawn
Joy, Sheldon kept his books and records at Dawn Joy's office
rather than at his home. Sheldon insisted upon this; this was
Sheldon's longstanding policy as to how he managed his
activities.
Nancy was in charge of the household; for example, she
bought furniture, food, and other household items, and she paid
for nursery school, utilities, the mortgage on their New Jersey
home, gardening, and clothing. She paid for these items out of
her and Sheldon's joint checking account in the United Jersey
Bank (hereinafter sometimes referred to as the Joint Account).
See infra table 7. The money that Nancy needed to handle the
household finances came from Sheldon. The amounts she received
fluctuated, depending on what Nancy told Sheldon she needed in
order to replenish the Joint Account. Much of the time she
received about $3,000 to $3,500 per month. Nancy did not work
outside the home during her marriage to Sheldon.
During 1981 Nancy and Sheldon had two vehicles, a 1978 Jeep
Wagoneer and a 1978 Stutz Blackhawke Coupe. Both of these
vehicles were left at home for Nancy to use. Sheldon also had a
leased car. The Stutz had been leased by Sheldon for 3 years
and, in 1981, he exercised his "buyback" privilege and bought the
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Stutz for $13,800, for Nancy's use. Nancy bought the Jeep new in
1977 for $11,495; Sheldon gave her the money to pay for it.
Sheldon bought furs and jewelry for Nancy. Sheldon and
Nancy took vacations, including the following: (1) Five days,
Aruba, Jan. 1978; (2) 7 days, France and Monte Carlo, July 1979;
and (3) 5 days, Antigua, Aug. 1981.
Nancy and Sheldon jointly owned a house in Cincinnati, Ohio.
Nancy's sister had been unable to qualify for a mortgage loan on
this house, so Nancy and Sheldon took out the mortgage loan.
Nancy's sister sent checks to Nancy, to reimburse Nancy for the
mortgage payments. When Sheldon died, the Cincinnati house was
worth $40,000 and was encumbered with a $22,000 mortgage.
Sheldon had open heart surgery in 1977 at age 34; he died on
August 9, 1986.
Business Activities
Both before and during his marriage to Nancy, Sheldon
conducted his business activities from his office at Dawn Joy.
Nancy was not involved in Sheldon's business activities.
Occasionally Nancy visited Dawn Joy socially. Nancy usually
stayed in the showroom portion of the facilities. She did not
know specifically where Sheldon's business records were kept, and
she did not look at these records.
Sheldon, Sheldon's father, and Martin Stein (hereinafter
sometimes referred to as Stein) began Dawn Joy in 1969. In June
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of 1982, after Sheldon's father died, Sheldon and Stein disagreed
about the direction of the business, and so Sheldon sold his
interest in Dawn Joy to Stein for $750,000. Nancy knew of this
sale before it took place. Sheldon received wage and salary
income from Dawn Joy in the amounts of $182,000 for 1981 and
$87,483.34 for 1982. After the sale of his interest in Dawn Joy,
Sheldon remained involved in the garment industry as an employee
and investor.
In April 1981 Sheldon backed another dress business, Royal
Green Fashions. Nancy knew at the time it was happening that
Sheldon was backing this business. There were two "working
partners" of Royal Green Fashions, and Sheldon was the "financial
partner". On their 1982 tax return, Nancy and Sheldon reported
that Nancy received $5,700 wage and salary income from R & L
Fashions, a company from which Sheldon had received $63,300 in
wage and salary income in 1982. However, Nancy had not done any
work for R & L Fashions, and was not aware of the Form W-2 and
the fact that she and Sheldon reported the income.
After Sheldon's death, in late 1986, all of Sheldon's
business records (contained in about 30-40 boxes), which had been
at his various places of business, were delivered to Nancy. It
was at this time that Nancy first had access to, and first saw
Sheldon's records.
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Betty Sverdlik (hereinafter sometimes referred to as
Sverdlik) was the office manager/controller at Dawn Joy from
about 1970 to May 1981. Charlotte Weiss (hereinafter sometimes
referred to as Weiss) handled accounts payable at Dawn Joy.
Sverdlik helped Sheldon keep his personal books and records.
Sverdlik wrote checks (that Sheldon signed) to pay bills, made
telephone calls, and took care of whatever came up. Sverdlik
began to work for Sheldon's father in 1963, and performed many of
the same tasks for Sheldon's father before she began to work for
Dawn Joy. Around the time Sverdlik left Dawn Joy, Sheldon
instructed her to train Weiss so that Weiss could take care of
Sheldon's personal bookkeeping. After Sverdlik left Dawn Joy,
Weiss assisted Sheldon with his personal bookkeeping.
Investing and Gambling Activities
Sheldon invested in racehorses (pacers and trotters) before
and throughout his marriage to Nancy. Nancy was generally aware
of Sheldon's investments in horses, although she was not involved
in the decision-making. She went to the track with Sheldon to
see the horses race. Sheldon sometimes mentioned to Nancy the
names of horses he owned, or was buying. After Sheldon's death
Nancy spent more than $40,000 to wind up Sheldon's horse
business, because the business was not viable without Sheldon to
manage it. Sheldon gambled on the horses at the racetrack, and
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gambled at various casinos. Sheldon owed $84,000 to casinos at
his death.
In 1981 Sheldon signed a series of documents, dated December
15, 1981, with Crude Associates, purportedly a Florida
partnership. Each of these documents relates to State Coal
Venture, hereinafter sometimes referred to as State Coal. One
document, entitled "Second Sublease", purports to obligate
Sheldon to pay $1,600,000 to Crude Associates, by paying $60,000
in cash and $1,540,000 in a promissory note on or before December
30, 1981; the document further purports to require Sheldon to
make a $40,000 principal payment on the note on or before January
31, 1982. The other documents are the promissory note, a
security agreement, an operating agreement, and a first sublease
between Load Associates and Crude Associates. Sheldon is named
in, and he signed, each of these documents except for the first
sublease. Nancy is not named in, and did not sign, any of these
documents. Nancy did not see any of these documents until late
1986, after Sheldon died. Sheldon made the 1981 payment by three
checks ($25,000, $15,000, and $20,000) and the 1982 payment by
one check ($40,000), all to an escrow account. These checks were
drawn on Sheldon's individual checking accounts at Bankers Trust
and Chemical Bank. See infra table 7. Sheldon made all the
payments that were made on this investment. The entire
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$1,600,000 of purported obligation was deducted on Sheldon's and
Nancy's 1981 tax return.
The attorney who marketed State Coal had met Nancy during
social occasions, but never discussed State Coal with her, and
Nancy was never present when the attorney discussed State Coal
with Sheldon. Sheldon did not tell Nancy of this investment
until late 1985, during a discussion about tax problems.
Nancy did not have signature authority on either of the
checking accounts that Sheldon used to make his State Coal
payments. Nancy never wrote any checks to the firm that marketed
State Coal, or any checks to anyone to buy an interest in State
Coal.
Nancy did not know of the State Coal investment or the
$1,600,000 deduction on the 1981 tax return until a long time
after the 1981 tax return was signed and filed.
Tax Returns and Refunds
Nancy filed joint Federal income tax returns with Sheldon
from 1974 through 1982. The 1981 tax return was filed on August
21, 1982. Table 1 shows the signature dates for the tax returns
from 1979 through 1982.
Table 1
Tax Year Signature Date
1979 June 11, 1980
1980 Oct. 9, 1981
1981 May 21, 1982
1982 Mar. 9, 1984
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Nancy filed tax returns as "married filing separately" from
1983 through 1985. She did this because (1) Sheldon told her
that the Federal Government owed him a large refund, and he was
not going to file tax returns until he received this refund, and
(2) R & L Fashions issued a 1983 Form W-2 reporting wage income
in Nancy's name.3 Nancy filed her 1983 and 1984 tax returns on
or about November 15, 1985, and her 1985 tax return on July 14,
1986. On her 1983 tax return she reported $15,600 in wages,
etc., income and $1,509 in interest income from the Joint
Account. On her 1984 and 1985 tax returns she reported $1,601
and $2,046, respectively, in interest income from the Joint
Account. These are the only income items Nancy reported on her
tax returns for 1983, 1984, and 1985.
Nancy was not involved in the preparation of her joint
income tax returns during her marriage with Sheldon. Sheldon had
accountants prepare their joint tax returns, and then he brought
the tax returns home for Nancy to sign. The 1974 through 1980
joint tax returns were prepared by the firm of Zelon, Septimus &
Co. Sheldon had been using this firm to prepare his tax returns
at least since 1967. The 1981 and 1982 tax returns were prepared
by the firm of Spahr, Lacher, Berk & Naimer. Nancy signed the
3
When Nancy received the R & L Fashions Form W-2 for 1983,
she questioned Sheldon about it. Sheldon explained that another
partner's wife had been put on the R & L Fashions payroll, and so
Nancy was also put on the payroll to equalize the compensation of
the partners.
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joint tax returns for 1974 through 1980 and for 1982. On the
joint tax returns for 1979, 1980, and 1982, Nancy signed as
"Nancy Silverman".
Sheldon did not bring the 1981 tax return home for Nancy to
sign, and although this tax return was signed with Nancy's name
(shown as "Nancy Jane Silverman"), Nancy did not sign this tax
return. Nancy did not realize that she had not signed the 1981
tax return, because (1) she had two small children to attend to,
(2) she did not contribute to the tax return preparation, and (3)
Sheldon's and Nancy's tax returns were usually filed with
extensions of time, and were not usually signed at the same time
every year. See supra table 1. The tax return preparer's
signature on the 1981 tax return is dated May 20, 1982; the
"Nancy Jane Silverman" signature on this tax return is dated May
21, 1982. At the time the 1981 tax return was filed, Nancy was
unaware of any tax problems regarding Sheldon, or his businesses,
or their joint tax returns. Nancy did not review the 1981 tax
return before it was filed; she did not see it until after
Sheldon died.
Pertinent information that petitioners reported on their
1981 through 1984 tax returns is shown in table 2.
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Table 2
1979 1980 1981 1982
Wages, etc. $491,400 $428,700 $340,200 $169,983
Interest income,
before exclusion 5,508 5,806 6,501 29,752
Dividends,
before exclusion 571 380 33 74
Sched. C --- --- (1,600,000) (1,612,952)
Capital gain or (loss) (3,000) (3,000) -0- 185,065
Sched. E (4,926) 56,333 1,933 (106,899)
Other items 26,494 12,813 6,748 (186,901)
(20,000) 4,213 (7,800) (22,250)
(7,800) (7,500)
(7,800)
Adjusted gross income 488,047 489,845 (1,252,785) (1,544,202)
Total tax liability 186,676 204,868 -0- -0-
Total payments 196,494 163,828 128,733 34,436
Balance due (Refund
claimed) (9,818) 41,040 (128,733) (34,436)
The $1,600,000 1981 Schedule C deduction (hereinafter
sometimes referred to as the State Coal royalty deduction) and
$1,600,000 of the 1982 Schedule C deduction arose from State
Coal. The Schedule C for each of these years shows Sheldon's
name and Social Security number, and does not show Nancy's name
or Social Security number. The Schedule C net loss for each of
these years ($1,600,000 for 1981, $1,612,952 for 1982) appears on
the first page of the Form 1040.
Table 3 shows Sheldon's 1981 wages, Federal income tax
withholding, and F.I.C.A. tax withholding.
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Table 3
Withholding Taxes
Payor Wages Fed'l Inc. F.I.C.A.
Dawn Joy $182,000 $62,715.94 $1,975.05
Lucky Fashions 70,200 28,446.12 1,975.05
Lyon Fashion 52,400 16,975.76 1,975.05
AMS Industries 35,600 14,670.00 1,975.05
340,200 122,807.82 7,900.20
Of the F.I.C.A. taxes withheld, $5,925.15 is excess, and is
treated as an income tax payment on the 1981 tax return.
The 1981 tax return includes a claim for refund of
$128,733--$122,808 withholding and $5,925 F.I.C.A. taxes
withheld.
On or about September 24, 1982, the U.S. Treasury issued to
Sheldon and Nancy an $81,054.77 tax refund check on account of
1981.4 Of this amount, $6,694.38 was interest and $74,360.39 was
tax. Petitioners reported $6,798 interest from the U.S. Treasury
on their 1982 tax return. The remaining $54,372.61 of the
$128,733 claimed refund was transferred to Nancy's and Sheldon's
1980 tax liability account, as further described, infra, in
connection with table 6. Sheldon deposited the $81,054.77 check
into his individual checking account at Chemical Bank. See infra
table 7. Within 2½ weeks, Sheldon had written checks against
this bank account aggregating more than the entire deposited tax
4
The check is dated Sept. 24, 1982, a Friday, but
respondent's transcript of account for 1981 shows that the
transaction is posted as of Sept. 27, 1982, a Monday.
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refund check. Nancy first became aware of this tax refund after
Sheldon's death, probably in early 1987.
In 1984 the U.S. Treasury issued to Sheldon and Nancy a
$25,540.14 tax refund check on account of 1982. Sheldon
deposited this check into the same bank account as the earlier
refund check. Substantial withdrawals were not made from this
bank account until about 2 months after this deposit.
During the period December 11, 1980, through December 13,
1984, the balance in this Chemical Bank checking account
fluctuated substantially. Table 4 illustrates these fluctuations
by showing the bank account balances (rounded to the nearest
dollar) on selected dates.
Table 4
Date Amount Date Amount
12/11/80 $11,108 03/23/83 $17,344
12/31/80 609 06/10/83 56,248
03/04/81 41,311 06/28/83 (69,274)
04/20/81 5,681 12/15/83 61,755
09/11/81 27,792 01/12/84 5,083
11/09/81 4,726 02/14/84 123,621
05/07/82 165,572 02/17/84 14,247
06/17/82 12,730 03/09/84 103,005
06/18/82 514,327 04/09/84 (990)
07/08/82 3,737 05/09/84 33,926
09/28/82 97,864 07/23/84 3,253
12/10/82 11,338 07/27/84 46,023
12/20/82 361,221 12/03/84 989
On September 8, 1986, Nancy filed amended joint tax returns
for 1979, 1980, and 1981, claiming refunds of previously paid
taxes, as shown in table 5. On these amended tax returns, Nancy
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claimed that the refunds arose from a net operating loss
generated in 1982, which is carried back to 1979 and then carried
over to 1980 and 1981. The calculations on the amended tax
returns begin with the $1,544,202 negative adjusted gross income
shown on the 1982 tax return. See supra table 2.
Table 5
1979 1980 1981
Net operating loss
deduction $1,217,535 $807,632 $330,099
Refund claimed 186,676 204,868 74,209
Table 6 shows information as to 1980 liabilities and
payments, as reflected on the 1980 tax return, the 1980 amended
tax return, and respondent's records.
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Table 6
1040/1040X Respondent's
Item Reported Amount Records Amount
Total tax liability $204,868 $204,868.00
Withholding and excess F.I.C.A.
payments 163,828 163,828.00
Balance due 41,040 41,040.00
Adjustments--Nov. 16, 1981 --- 5.00
4,104.00
1,231.20
2,900.91
Adjustments--Sept. 27, 1982 --- 820.80
3,039.49
1,334.43
(103.22)
Balance without transfer --- 54,372.61
Transfer 1981 to 1980 --- 54,372.61
Balance due --- -0-
Amended tax return refund
requested 204,868 ---
Refund paid for 1980 --- 128,715.36
Components:
(1) abatement of 1980 tax --- 55,923.00
(2) abatement of penalty --- 2,052.00
(3) abatement of previously
assessed interest --- 5,940.40
(4) interest on overpayment --- 64,799.96
By April 15, 1982, taking into account additions to tax and
accrued interest, the 1980 tax liability of $41,040 had grown to
$54,372.61.
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As of September 27, 1982, respondent transferred $54,372.61
out of Sheldon's and Nancy's 1981 tax liability account and into
their 1980 tax liability account. This was done in connection
with the September 1982 issuance of the $81,054.77 tax refund
check for 1981, described supra, but the transfer was recorded on
respondent's records as of April 15, 1982. After this transfer,
the balance in Sheldon's and Nancy's 1980 tax liability account
was zero.
After Nancy filed the amended tax return for 1980 claiming a
$204,868 refund, respondent abated the 1980 income tax liability,
but only to the extent of $55,923. This abatement then triggered
a refund of tax for 1980 in the amount of $128,715.36. This
refund consisted of (1) a tax decrease in the amount of $55,923,
(2) an abatement of penalty in the amount of $2,052, (3) an
abatement of interest previously assessed in the amount of
$5,940.40, and (4) interest on the overpayment in the amount of
$64,799.96. The refund check for 1980, in the amount of
$128,715.36 was issued on February 5, 1988, and was received by
Nancy.
Bank Accounts, Life Insurance, Etc.
During 1981 Nancy and Sheldon held various bank accounts and
owned stock, as shown in table 7. Sheldon's two individual
checking accounts were in existence at the time Nancy and Sheldon
got married. Nancy did not have signature authority on any of
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Sheldon's individual accounts. Sheldon's records for these bank
accounts were kept at his office; Nancy did not have access to
these records.
Table 7
Type of
Bank or Stock Account Account Holder
Peoples Trust1 savings Sheldon/Nancy as trustees for Lee
Peoples Trust1 savings Nancy as trustee for Joseph
Peoples Trust1 savings Sheldon/Lee--joint
Chemical Bank savings Sheldon/Nancy as trustees for Lee
Chemical Bank savings Sheldon/Nancy as trustees for Melanie
Chemical Bank savings Sheldon/Nancy as trustees for Joseph
AT&T stock custodial Nancy as custodian for Lee
AT&T stock custodial Nancy as custodian for Joseph
United Jersey2 checking Sheldon/Nancy--joint
Peoples Trust1,3 savings Sheldon/Nancy--joint
Chemical Bank checking Sheldon
Bankers Trust checking Sheldon
1
The parties' stipulations indicate that these accounts are in Peoples Trust.
However the stipulated exhibits indicate that at some point, perhaps before 1981, Peoples
Trust (or at least the branch in which these accounts were maintained) became United
Jersey.
2
This is the Joint Account.
3
On this record we cannot determine whether the deposits in this account came in
whole or in part from Sheldon. We cannot determine whether Nancy or Sheldon made the
withdrawals. By mid-1977 the account had a balance of $39,764.41. By Jan. 24, 1980,
after deposits of $300 and $320.26, interest had caused the balance in the account to
climb to $46,301.10. On Jan. 24, 1980, $15,000 was withdrawn from the account. On Feb.
1, 1982, $25,000 was withdrawn from the account, leaving a balance of $10,120.97.
When Sheldon died, Nancy received the proceeds from life
insurance policies as shown in table 8. Three of these policies
were originally owned by Dawn Joy as part of a key-man buyout
program. At the time Sheldon left Dawn Joy, Dawn Joy allowed
Sheldon to take over these policies.
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Table 8
Policy # Date Issued Amount Received by Nancy
2190403 06/17/64 $14,458
1
25-727 02/01/72 100,919
1
28-813 06/01/73 100,740
1071929 04/01/75 100,442
1069919 04/01/75 50,250
1096151 03/05/79 24,507
1096152 03/17/79 75,463
1
8013005 12/22/80 489,163
3614323 11/22/83 175,773
001337321 --- 473,050
1,604,765
1
Policies originally owned by Dawn Joy.
The 1982 premiums on the first eight policies listed in
table 8 aggregated about $16-17,000; these policies provided
almost $1,000,000 of the proceeds that were paid to Nancy. The
record does not permit us to determine when policy number
001337321 was issued, nor how much the premiums cost.
The Estate
Sheldon's probate estate was insolvent. The estate tax
return showed that there was no estate tax liability. Respondent
agreed and issued a closing letter to this effect.
At Sheldon's death, in addition to the life insurance,
discussed supra, Nancy received Sheldon's interest in their
jointly owned Franklin Federal Tax Free Income Fund (valued at
$250,011) by operation of law. Also, in October of 1985 Nancy
received Sheldon's interest in their jointly owned home in New
Jersey. The home was valued at $650,000 on Sheldon's estate tax
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return; the remaining mortgage debt ($57,000) was shown on the
estate tax return as being entirely Sheldon's debt. Nancy sold
the home for $730,000 in August 1988. After payment of the
remaining mortgage debt, sales commission, and other expenses,
Nancy received about $625-630,000 on this sale. Nancy spent
considerable amounts in winding up Sheldon's affairs, as follows:
Legal fees, $40,000; funeral expenses, $10,000; accounting
expenses, $15,000; and horse expenses, $40,000.
Notice of Deficiency
The entire deficiency determined for 1981, which petitioners
have conceded (supra note 2), is attributable to the State Coal
royalty deduction.
_______________________
If Sheldon and Nancy had filed separate tax returns for
1981, then the State Coal royalty deduction would have been on
Sheldon's tax return and not on Nancy's tax return. The State
Coal royalty deduction claimed on Nancy's and Sheldon's 1981 tax
return is an item of Sheldon.
Nancy did not know, and did not have reason to know of the
substantial understatement of tax on the 1981 tax return.
Nancy significantly benefited from the State Coal royalty
deduction claimed on the 1981 tax return; it is not inequitable
to hold Nancy liable for the deficiency in tax resulting from
this substantial understatement.
- 23 -
OPINION
Section 6013(a) permits a husband and wife to elect to file
a joint tax return. Together with section 1(a), this joint tax
return option is a valuable privilege, which ordinarily operates
to lower the tax liability for the income reported on the tax
return. The price taxpayers must pay for this benefit is joint
and several liability. Sec. 6013(d)(3); Stevens v. Commissioner,
872 F.2d 1499, 1503 (11th Cir. 1989), affg. T.C. Memo. 1988-63;
Murphy v. Commissioner, 103 T.C. 111, 117 (1994); Bokum v.
Commissioner, 94 T.C. 126, 151-152 (1990), affd. 992 F.2d 1132
(11th Cir. 1993); Pesch v. Commissioner, 78 T.C. 100, 129-130
(1982).
Under section 6013(e),5 however, a spouse may be relieved of
5
Sec. 6013(e) provides, in pertinent part, as follows:
SEC. 6013. JOINT RETURNS OF INCOME TAX BY HUSBAND AND
WIFE.
* * * * * * *
(e) Spouse Relieved of Lability in Certain Cases.--
(1) In general.-- Under regulations prescribed by
the Secretary, if--
(A) a joint return has been made under this
section for a taxable year,
(B) on such return there is a substantial
understatement of tax attributable to grossly
erroneous items of one spouse,
(C) the other spouse establishes that in
signing the return he or she did not know, and had
no reason to know, that there was such substantial
understatement, and
(continued...)
- 24 -
this joint liability for a year if certain requirements are met
for that year. The putative innocent spouse must show the
following: (1) A joint income tax return was filed for the year
(sec. 6013(e)(1)(A)); (2) on this tax return there is a
substantial understatement of tax (sec. 6013(e)(1)(B)); (3) this
substantial understatement of tax is attributable to grossly
erroneous items (sec. 6013(e)(1)(B)); (4) the grossly erroneous
items are items of the other (the putative "guilty") spouse (sec.
5
(...continued)
(D) taking into account all the facts and
circumstances, it is inequitable to hold the other
spouse liable for the deficiency in tax for such
taxable year attributable to such substantial
understatement,
then the other spouse shall be relieved of liability
for tax (including interest, penalties, and other
amounts) for such taxable year to the extent such
liability is attributable to such substantial
understatement.
(2) Grossly erroneous items.--For purposes of this
subsection, the term "grossly erroneous items" means,
with respect to any spouse--
(A) any item of gross income attributable to
such spouse which is omitted from gross income,
and
(B) any claim of a deduction, credit, or
basis by such spouse in an amount for which there
is no basis in fact or law.
Although the year before us is 1981, we apply the statute as
amended in 1984, because section 424(a) of the Deficit Reduction
Act of 1984 (DEFRA), Pub. L. 98-369, 98 Stat. 494, 801, amended
sec. 6013(e) retroactively to all open years to which the
Internal Revenue Code of 1954 applies. Sec. 424(c)(1) of DEFRA,
98 Stat. at 803.
- 25 -
6013(e)(1)(B)); (5) when the tax return was signed the putative
innocent spouse did not know, and had no reason to know, that
there was this substantial understatement of tax (sec.
6013(e)(1)(C)); and (6) it is inequitable to hold the putative
innocent spouse liable for the tax deficiency that is
attributable to this substantial understatement of tax. Sec.
6013(e)(1)(D). Also (as elements of item (3), supra), if any
such item is a claim of deduction, credit, or basis, then the
putative innocent spouse must show that the claim has no basis in
fact or law (sec. 6013(e)(2)(B)); and the tax liability for these
items must exceed a certain percentage of the putative innocent
spouse's income for the preadjustment year, in the instant case,
1988.6 Sec. 6013(e)(4); Hayman v. Commissioner, 992 F.2d 1256,
1260 (2d Cir. 1993), affg. T.C. Memo. 1992-228; Bokum v.
Commissioner, 94 T.C. at 138, 992 F.2d at 1133-1134.
6
The preadjustment year is "the most recent taxable year
* * * ending before the date the deficiency notice is mailed."
Sec. 6013(e)(4)(C). The notice of deficiency was mailed on May
26, 1989; thus 1988 is the preadjustment year. Nancy's 1988
income was increased by her profit on the sale of the New Jersey
home. This increase in Nancy's 1988 income was enough to
disqualify her from innocent spouse treatment for 1982
(deficiency of $27,232), but not for 1981 (deficiency of
$185,361). Because the parties agree that the preadjustment year
substantiality requirement is enough to disqualify Nancy from
innocent spouse treatment for 1982, we do not consider whether
she failed to meet any of the other requirements as to 1982.
- 26 -
The spouse seeking relief has the burden of proof on each of
these requirements. Rule 142(a);7 Purcell v. Commissioner, 826
F.2d 470, 473 (6th Cir. 1987), affg. 86 T.C. 228 (1986); Bokum v.
Commissioner, 94 T.C. at 138. Because the statute is phrased in
the conjunctive, failure to prove any one of the requirements
will prevent the taxpayer from qualifying for relief. Hayman v.
Commissioner, 992 F.2d at 1260; Purcell v. Commissioner, 826 F.2d
at 475 n. 6; Bokum v. Commissioner, 992 F.2d at 1134, 94 T.C. at
138.
These factors, taken together with the well-established
principle that exemptions from taxation are to be narrowly
construed, place a significant burden on the taxpayer. United
States v. Stewart, 311 U.S. 60, 71 (1940); Matthews v.
Commissioner, 907 F.2d 1173, 1174, 1178 (D.C. Cir. 1990), affg.
92 T.C. 351, 361 (1989); Bokum v. Commissioner, 94 T.C. at 155,
and cases there cited.
The parties agree that the following requirements have been
satisfied: (1) Nancy and Sheldon filed a joint tax return for
1981;8 (2) the understatement of tax on the tax return is
substantial; (3) the substantial understatement of tax is
7
Unless indicated otherwise, all rule references are to the
Tax Court Rules of Practice and Procedure.
8
The parties have stipulated that the 1981 tax return was a
joint tax return, even though Nancy did not sign it, and we have
so found. See Estate of Campbell v. Commissioner, 56 T.C. 1,
12-14 (1971), and cases there cited.
- 27 -
attributable to a deduction that had no basis in fact or law; (4)
this deduction is a grossly erroneous item; and (5) in accordance
with the requirements of section 6013(e)(4), the understatement
exceeds the required percentage of Nancy's 1988 income.
Still in dispute is whether Nancy satisfies the following
requirements: (1) The State Coal royalty deduction is an item of
Sheldon; (2) at the time the 1981 tax return was signed Nancy did
not know, and had no reason to know, of the substantial
understatement of tax; and (3) it is inequitable to hold Nancy
liable for the deficiency. We consider these disputed matters
seriatim.
A. Item "of" Sheldon
Respondent contends that petitioners have failed to prove
that Nancy did not write any checks to buy the interest in State
Coal, and thus that petitioners have failed to prove that the
State Coal royalty deduction is an item of Sheldon. Petitioners
contend that Nancy played no role in the decision to buy the
interest in State Coal, that Nancy's name does not appear on any
document purporting to grant an interest or impose an obligation
regarding State Coal, and that the total amount required to buy
the interest in State Coal was paid by Sheldon from his
individual accounts.
We agree with petitioners.
- 28 -
We have found that Sheldon signed a series of documents in
1981 purporting to give Sheldon an interest in State Coal and
purporting to impose obligations on Sheldon. Nancy is not named
in any of these documents, did not sign any of these documents,
and did not see any of these documents until late 1986, after
Sheldon died. The second sublease purports to obligate Sheldon
to pay $60,000 in cash and $1,540,000 in a promissory note on or
before December 30, 1981, and to make a $40,000 principal payment
on the promissory note on or before January 31, 1982. Sheldon
paid the $60,000 and the $40,000 by checks drawn on his separate
accounts, and he signed the promissory note. On the 1981 tax
return, the $1,600,000 disallowed deduction is claimed on
Schedule C, which shows Sheldon's name and Social Security number
and does not show Nancy's name or Social Security number. If
Sheldon and Nancy had filed separate tax returns for 1981, then
the disallowed deduction would have been on Sheldon's tax return
and not on Nancy's tax return. We conclude, and we have found,
that the item from which Nancy seeks innocent spouse relief is an
item “of” Sheldon, within the meaning of section 6013(e)(1)(B).
Bokum v. Commissioner, 94 T.C. 140.
On brief, respondent asserts that "It is uncertain whether
the four checks were the total payment for the interest in State
Coal because no evidence was offered of the total amount of the
- 29 -
investment." The four checks in question match the obligations
purportedly imposed on Sheldon. We have no reason to believe
that any additional payments were required to be made or were
made. Respondent does not suggest that (1) any other witnesses
or books and records might show any other payments, or (2) that
Nancy had a source for making any other payments. We reject
respondent's attempts to create uncertainty by making unfounded
speculations, and then to capitalize on that uncertainty by
invoking Wichita Terminal Elevator Co. v. Commissioner, 6 T.C.
1158, 1165 (1946), affd. 162 F.2d 513 (10th Cir. 1947).
Petitioners have convinced us, and we have found, that
Sheldon made all the payments that were made. We do not see the
loose ends that respondent speculates about. We believe that the
instant case does not provide a proper basis for invocation of
the Wichita Terminal doctrine.
We hold for petitioners on this issue.
B. Knowledge or Reason to Know
Respondent contends that Nancy's testimony "should not be
relied upon" and that "it is likely that Mr. Silverman informed
her of the investment in State Coal". Respondent also contends
that, even if Nancy did not in fact know of the State Coal
investment, she should have known, because Nancy should be held
to at least as high a standard of review of the tax return as
would a taxpayer who had actually signed the tax return, and if
- 30 -
she had signed the tax return, then "she would have seen the
$1,600,000 loss from State Coal claimed on the face of the return
and noticed that the return reported zero tax liability."
Petitioners maintain that respondent vastly overstates
Nancy's financial role in the Silverman marriage, and that
Nancy's testimony about her lack of actual knowledge is reliable
and uncontradicted. Petitioners also maintain that Nancy did not
have any knowledge which should have led her to realize that
there might be a tax problem and that she should ask Sheldon
about it. Finally, petitioners maintain that respondent's focus
on what Nancy would have seen if she had signed the 1981 tax
return is irrelevant because in fact Nancy did not see and did
not sign the 1981 tax return.
We agree with petitioners that Nancy did not know, and had
no reason to know, of the understatement in tax.
In Bokum v. Commissioner, 94 T.C. at 148, we set forth our
position as follows:
The standard to be applied in determining whether a
putative innocent spouse has "reason to know," under section
6013(e)(1)(C) is whether a "reasonably prudent taxpayer
under the circumstances of the spouse * * * could be
expected to know that the tax liability stated was erroneous
or that further investigation was warranted." Stevens v.
Commissioner, 872 F.2d at 1505 (fn. ref. omitted); Shea v.
Commissioner, 780 F.2d 561, 566 (6th Cir. 1986), affg. on
this issue and revg. on another issue * * * [T.C. Memo.
1984-310]. This standard applies to deduction, etc.,
matters, as well as income matters. 872 F.2d at 1505 n.8.
- 31 -
The lack of knowledge, as contemplated by section
6013(e)(1)(C), is not a mere lack of understanding of the tax
consequences of a deduction or credit. Hayman v. Commissioner,
992 F.2d at 1261; Stevens v. Commissioner, 872 F.2d at 1505 n.8;
Purcell v. Commissioner, 826 F.2d at 474, 86 T.C. at 237-238;
McCoy v. Commissioner, 57 T.C. 732, 734 (1972).
We first consider whether Nancy knew of the State Coal
investment. Nancy's testimony on this point is clear and
credible. The surrounding circumstances are consistent with her
testimony. Sheldon wrote the checks to pay for the State Coal
investment on his individual checking accounts. It was Sheldon's
practice, both before and during his marriage to Nancy, to keep
his business and investment activities separate from his home
life. The witness who dealt with Sheldon in the State Coal
matter testified that, although he had met Nancy several times,
he never mentioned State Coal to Nancy, and he never observed
anyone else referring to State Coal in Nancy's presence. Nancy's
running of the Silverman household with money that Sheldon gave
to her for this purpose is not inconsistent with Nancy's lack of
knowledge about State Coal. Nancy's service as custodian or
trustee for the children's bank accounts or A.T.& T. stock
account (see supra table 7) is not at all indicative of whether
Nancy knew of State Coal by the time the 1981 tax return was
signed. Petitioners' burden on this limited point is merely to
- 32 -
persuade us that it is more likely than not that Nancy did not
know of the State Coal investment by the time the 1981 tax return
was signed; petitioners have clearly carried this burden of
proof.
We next consider whether Nancy should have known of the
State Coal investment. Courts have considered several factors in
deciding whether a taxpayer had reason to know of a substantial
understatement of tax attributable to the grossly erroneous item
(in the instant case, the State Coal deduction), including (1)
the putative innocent spouse's level of education, (2) his or her
involvement in the family's business and financial affairs, (3)
the putative guilty spouse's evasiveness and deceit about the
family's finances, and (4) the presence of lavish or unusual
expenditures or any large unexplained increase in the family's
standard of living. Flynn v. Commissioner, 93 T.C. 355, 365-366
(1989).
Nancy received a B.A. degree in English literature from the
University of Cincinnati in 1964. Nancy was in charge of the
household. She paid for household items out of a joint checking
account; the funds deposited into the account came from Sheldon.
Nancy was generally aware of Sheldon's business and investment
activities, and was aware of (1) Sheldon's sale of Dawn Joy
interest before it took place, (2) Sheldon's Royal Green Fashion
investment when it took place, and (3) Sheldon's investments in
- 33 -
horses. She did not participate in these activities, except to
occasionally visit Sheldon's garment business showroom or a race
track where one of Sheldon's horses was running. She did not
participate in the decision-making. Sheldon had several bank
accounts in his own name, but Nancy did not have access to the
records for these bank accounts. Until 1985, Sheldon did not
tell Nancy about the grossly erroneous item, or the State Coal
investment that produced that item. Also, Sheldon did not tell
Nancy of the $81,054.77 tax refund check that he received on
account of the grossly erroneous item, or that he deposited the
check in one of his bank accounts, or that he made withdrawals
that exceeded the deposited amount within about 2½ weeks after
the deposit. She did not learn of this until after Sheldon died.
Thus, as to most business and major investment matters, Sheldon
neither hid nor volunteered what was happening, but clearly he
hid the State Coal investment and its tax aftermath. There was
no lavish or unusual expenditure or large unexplained increase in
the Silverman's standard of living at, or after, or in connection
with, the State Coal investment or the tax refunds. Unlike
Sheldon's garment industry and horse racing activities, State
Coal did not have any showrooms to visit or horse races to watch.
Apart from the 1981 tax return itself, we are satisfied on
the record in the instant case that nothing occurred that should
- 34 -
have put Nancy on notice that there was a tax problem or that she
should inquire as to whether there was a tax problem.
The 1981 tax return presents two difficulties for Nancy: (1)
She did not sign it, and (2) if she had signed it, then she would
or should have seen the $1,600,000 claimed deduction. As can be
seen from table 2, supra, the $1,600,000 deduction and Schedule C
loss, and the resultant minus $1,252,785 adjusted gross income,
are far larger than any other amounts on the 1981 tax return, and
several times as large as any amounts on the 1979 and 1980 tax
returns that Nancy signed. See Bokum v. Commissioner, 94 T.C. at
147-148.
For whatever reason, Sheldon did not bring the 1981 tax
return home for Nancy to sign, and, although the tax return was
signed with Nancy's name, Nancy did not sign the 1981 tax return.
Ordinarily, we would conclude that Sheldon's failure to present
the 1981 tax return to Nancy for signing should, like "the
incident of the dog in the night-time",9 have alerted Nancy that
9
You consider that to be important? he asked.
Exceedingly so.
Is there any point to which you would wish to draw my
attention?
To the curious incident of the dog in the night-time.
The dog did nothing in the night-time.
That was the curious incident, remarked Sherlock
Holmes.
Doyle, "Silver Blaze", Sherlock Holmes: The Complete Novels
and Stories (vol. 1) 455, 472 (Bantam Books 1986).
- 35 -
something was wrong. However, the evidence in the record of the
instant case causes us to conclude that Nancy's failure to
inquire is excusable under section 6013(e)(1)(C). Nancy did not
realize that she had not signed the 1981 tax return, because (1)
she had two small children to attend to, (2) she did not
contribute to the tax return preparation; and (3) Sheldon's and
Nancy's tax returns were usually filed with extensions of time,
and were not usually signed at the same time every year. See
supra table 1.
We do not suggest that a taxpayer who fails to sign a tax
return is better off, for section 6013(e)(1)(C) purposes, than
one who does sign the tax return. The taxpayer must explain the
failure, and must dispel any notion that he or she simply chose
to turn a blind eye to--by preferring not to know of--facts fully
disclosed on a tax return, of such a numerical magnitude as would
reasonably put him or her on notice that further inquiry would
need to be made. Bokum v. Commissioner, 94 T.C. at 148.
On the totality of the instant case's record, we are
satisfied that Nancy's failure to inquire about the 1981 tax
return is reasonable. In this circumstance, she did not see the
tax return, and so it is understandable and excusable that the
zero tax liability did not come to her attention and did not set
off any alarms.
- 36 -
In light of these facts and circumstances, we conclude, and
we have found, that Nancy did not know and did not have reason to
know of the substantial understatement of tax for 1981.
We hold for petitioners on this issue.
C. The Equities
Respondent contends that it is not inequitable to hold Nancy
liable for the 1981 deficiency, because of the financial benefits
Nancy received from Sheldon. In particular, respondent directs
our attention to the following:
(1) Nancy came to the marriage with assets worth less
than $50,000 and left it after Sheldon's death with assets
worth more than $2.5 million, with "virtually all" of the
increase having been "accumulated from Mr. Silverman's
earnings."
(2) Less than 3 months after receiving and depositing
the $81,054.77 tax refund check for 1981, Sheldon paid a
$12,840 life insurance premium from that account on his life
insurance policy 8013005. When Sheldon died, Nancy received
a death benefit of $489,163 from that policy. See supra
table 8.
(3) The claimed $1,600,000 loss deduction freed up
$54,372.61 of Sheldon's 1981 income tax withholding to be
applied to Sheldon's and Nancy's 1980 income tax liability,
- 37 -
and this resulted in the 1980 tax refund that Nancy received
in 1988 being greater than it would otherwise have been.
Petitioners maintain that section 1.6013-5(b), Income Tax
Regs., "disqualify a spouse for relief under Section 6013(e) only
where the alleged benefit is derived from the omitted income and
traceable to the omitted income (or deduction in this case)."
They also maintain that (1) the New Jersey home was bought in
1976 from the funds not traceable to any refund of 1981 tax; (2)
Nancy received only normal support, at a level attained before
the 1981 tax refund; (3) the life insurance proceeds are not
traceable to the 1981 tax refund; (4) the mortgage payments are
properly treated as part of normal support at a level established
before the 1981 tax refund; and (5) the tax refund that Nancy
received in 1988 resulted from an abatement of 1980 tax liability
that "had absolutely no relationship to the 1981 tax year."
We agree with respondent's conclusion and contention as to
the tax refund Nancy received in 1988.
Under section 6013(e)(1)(D), Nancy is not entitled to
innocent spouse treatment unless she can show that "taking into
account all the facts and circumstances, it is inequitable to
hold [her] * * * liable for the deficiency in tax * * *
attributable to such substantial understatement". This provision
of the statute specifically directs us to take into account
- 38 -
equitable considerations in determining whether to grant immunity
from joint and several tax liability.
One of the equitable considerations is "Whether the failure
to report correctly tax liability results from `concealment,
overreaching, or any other wrongdoing' on the part of the
`guilty’ spouse". Hayman v. Commissioner, 992 F.2d at 1262
(quoting McCoy v. Commissioner, 57 T.C. at 735). To the same
effect, see Bokum v. Commissioner, 992 F.2d at 1134-1135.
In considering whether Sheldon understood what he was doing
in taking the State Coal royalty deduction, we note the
following: (1) From at least 1967 through 1980, Sheldon used one
firm to prepare his tax returns; the tax returns with the State
Coal royalty deductions were prepared by a different firm. (2)
From 1974 through 1980, Sheldon showed the tax returns to Nancy
and had her sign them; the first tax return with the State Coal
royalty deduction was not shown to Nancy before it was filed, and
was not signed by Nancy. (3) As we pointed out supra, under B.
Knowledge or Reason to Know, as to most business and major
investment matters, Sheldon neither hid nor volunteered what was
happening, but clearly he hid the State Coal investment and its
aftermath; thus, as to this item there was a change in Sheldon's
approach to disclosure to Nancy. The foregoing leads us to
conclude that Sheldon was a "guilty" spouse and there was
concealment of the truth from Nancy.
- 39 -
Another of the facts and circumstances to be taken into
account is whether Nancy significantly benefited from the
substantial understatement of tax.10 Hayman v. Commissioner, 992
F.2d at 1262; Purcell v. Commissioner, 86 T.C. at 241. In the
instant deduction case we look at whether Nancy significantly
benefited from the tax savings produced by the erroneous
deduction. Bokum v. Commissioner, 94 T.C. at 157. Normal
support is not a significant benefit. Whether a benefit is
significant is to be measured by the circumstances of the
parties. Hayman v. Commissioner, 992 F.2d at 1262; Purcell v.
Commissioner, 86 T.C. at 242; sec. 1.6013-5(b), Income Tax Regs.
Nancy and Sheldon saved $185,361 in 1981 Federal income tax
on account of the erroneous State Coal royalty deduction.
Because of withholding prepayments, $74,360.39 plus interest was
returned to Nancy and Sheldon in September 1982 as a refund, and
$54,372.61 was applied as a credit against Nancy's and Sheldon's
1980 tax liability, as of April 15, 1982. The remaining $56,628
10
As we pointed out, supra, in the last paragraph of note 4,
sec. 6013(e) was revised retroactively by sec. 424(a) of DEFRA.
The 1984 amendments removed from the statute the language about
significant benefit. It is clear, however, from the legislative
history that the rewording was not intended to remove from
consideration whether the relief-seeking spouse benefited from
the understatement of tax. H. Rept. 98-432 (Part 2), 1501, 1502
(1984). The conference committee agreement follows the House
bill with two modifications, which are not applicable to this
issue. H. Conf. Rept. 98-861, at 1119-1120 (1984), 1984-3 C.B.
(Vol. 2) 1, 373-374.
- 40 -
of the $185,361 correct 1981 tax liability (supra note 2) was not
paid by or withheld from Nancy and Sheldon.
The tax refund check for 1981 was taken by Sheldon,
deposited into one of Sheldon's individual checking accounts, and
spent by Sheldon, all without Nancy's knowledge. That checking
account balance fluctuated substantially; money flowed in and out
in large amounts. See supra table 4.
How Sheldon spent this money (plus the $56,628 that he
avoided payment of) is unclear, but Nancy's lifestyle did not
change on account of the receipt of this refund and the avoided
payment. We note that throughout their marriage Sheldon and
Nancy had a comfortable lifestyle easily supported by Sheldon's
earnings. See supra table 2. Up to the time of the 1981 tax
return, Sheldon was a successful businessman who made a
considerable amount of money. Sheldon's and Nancy's lifestyle
included a New Jersey home, two cars, furs, jewelry, dining out,
going to the theatre, and taking vacations.
Sheldon also gambled and invested. During 1981 and 1982
Sheldon spent $100,000 to invest in State Coal. At the time of
his death he owed $84,000 to casinos. Sheldon owned racehorses,
and he gambled on these horses. After Sheldon's death Nancy
spent over $40,000 to wind up Sheldon's horse business.
Sheldon was a "key man" in Dawn Joy, and he had open heart
surgery at age 34; he owned much life insurance. Substantially
- 41 -
all of Sheldon's life insurance policies were bought before the
year in issue.
Sheldon's probate estate was insolvent, and Nancy spent more
than $100,000 (including the horse business expenditures) in
winding up Sheldon's affairs. However, at or around the time of
Sheldon's death Nancy received (1) about $1.6 million in life
insurance proceeds (supra table 8), (2) Sheldon's interest,
valued at about $125,000, in their Franklin Federal Tax Free
Income Fund, and (3) Sheldon's interest in the jointly owned New
Jersey home they bought in 1975.
Based on the foregoing, it is more likely than not, because
of the circumstances of Sheldon's and Nancy's life, and because
Sheldon made a considerable amount of money during his life, that
the above items received by Nancy are normal support and are not
benefits related to the tax savings produced by the State Coal
royalty deduction.
An additional consideration in weighing the equities is
whether innocent spouse treatment might result in the putative
innocent spouse being relieved of liability for tax on that
spouse's own income. This might occur if the putative innocent
spouse had income that was offset by a grossly erroneous
deduction item of the putative guilty spouse. See discussion in
Elting, "Innocent Spouse Relief Availability Is Far From
Certain", 23 Taxn. for Lawyers 205, 210-211 (1995). In the
- 42 -
instant case, Nancy had practically no income for 1981, and so
innocent spouse treatment would not relieve her from a liability
she would have had even if she had filed a separate tax return.
Thus, this consideration should not disqualify Nancy from
innocent spouse status.
If our analysis were to end at this point, then we would
conclude that it is inequitable to hold Nancy liable for the 1981
deficiency in tax.
However, Nancy directly received a $54,372.61 benefit from
the tax savings produced by the State Coal royalty deduction.
The tax refund check for 1980, received by Nancy in 1988 in the
amount of $128,715.36, included $54,372.61 of Sheldon's withheld
income tax for 1981 (plus the interest thereon), which amount
would not have been available for transfer to the 1980 tax year
if the State Coal royalty deduction had not created the $185,361
tax saving for 1981. We consider this to be a significant
benefit. Thus, Nancy received a significant benefit on account
of the grossly erroneous item.
In light of the foregoing, we conclude, and we have found,
that it is not inequitable to hold Nancy liable for the
deficiency.
Petitioners contend that the 1988 refund of 1980 taxes
resulted from an abatement of 1980 tax liability and was not
related to 1981. However, whatever may have been the source of
- 43 -
the abatement determination, there is no blinking the fact that
the $54,372.61 plus interest that was a portion of the
$128,715.36 refund was available to be paid to Nancy in 1988
solely because of the credit for 1981 that had been generated by
the State Coal royalty deduction.
On answering brief, petitioners contend as follows:
Respondent's own witness testified that the amount
"transferred back" to 1980 consisted of withholding credits
and occurred April 15, 1982, a date which is prior to the
filing of the Silverman's 1981 tax return, a date which is
prior to the Internal Revenue Service receiving the tax
return which contained the grossly erroneous item.
Therefore, the prior "transfer back" of Sheldon Silverman's
withholding credits had nothing whatsoever to do with the
filing of the 1981 tax return and had nothing to do with the
grossly erroneous State Coal Venture deduction claimed on
the 1981 tax return. The "transfer back" of Sheldon
Silverman's withholding credits was not contingent upon, nor
did it result from the State Coal Venture deduction, as this
"transfer back" occurred prior to the reporting of this
grossly erroneous item. [Emphasis in original.]
The transcripts of account for Nancy's and Sheldon's 1981
and 1980 income tax liabilities show that the $54,372.61 transfer
occurred, or was posted, as of April 15, 1982. It is clear, and
we have found, that after the transfer the balance in Sheldon's
and Nancy's 1980 account was zero. Examination of the
adjustments shown on the transcript of account for 1980 and
listed on supra table 6, shows that a $54,372.61 transfer into
the 1980 account would make the balance zero only after giving
effect to the September 27, 1982, adjustments. Thus, although
the transfer was made as of April 15, 1982, it was made on or
- 44 -
about September 27, 1982. This is after the 1982 tax return
filing date (Aug. 21, 1982), and matches the date of the refund
of $81,054.77. See supra note 4 and associated text. We are
satisfied, and we have found, that the $54,372.61 transfer was a
transfer of part of the tax refund claimed on the 1981 tax
return.
We hold for respondent on this issue.
As a result, we hold that Nancy fails to qualify for
innocent spouse treatment under section 6013(e).
To reflect the foregoing and the parties' settlement of
other issues,
Decision will be entered in
accordance with the parties'
stipulations, as described supra in
note 2.