# UNITED STATES TAX COURT > Briefs, arguments, decisions, and more. URL: https://www.frixlaw.com/law-library/documents/agency%3Atax-court%3A0a7b3fa6d19ff573 ## Record - **Collection:** Agency decision - **Document type:** Agency decision ## Text CMS T.C. Memo. 2013-107 UNITED STATES TAX COURT JOSEPH E. LACINY AND MARY A. LACINY, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Docket No. 7710-09. Filed April 15, 2013. William Randolph Shump, for petitioners. Bradley C. Plovan and Nancy M. Gilmore, for respondent. MEMORANDUM FINDINGS OF FACT AND OPINION THORNTON, Judge: Respondent determined the following deficiencies and penalties with respect to petitioners' Federal income tax:1 1Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the years at issue, and all Rule references are to the (continued...) SERVED Apr 15 2013 -2[*2] Penalties Year Deficiency Sec.6663 (Mrs. Laciny) 1996 1997 1998 1999 $14,758 31,524 42,305 17,585 $11,069 23,643 31,729 13,189 Sec.6662 (Mr. Laciny) $2,952 6,305 8,461 3,517 The issues for decision are: (1) whether petitioners failed to report certain income during the years at issue; (2) whether Mrs. Laciny is liable for a civil fraud penalty under section 6663(a), or alternatively whether she and Mr. Laciny are liable for an accuracy-related penalty under section 6662(a), for each year at issue; and (3) whether the period of limitations on assessment expired before respondent issued the notice of deficiency. FINDINGS OF FACT The parties have stipulated some facts, which we incorporate herein by this reference. When they filed their petition, petitioners resided in Maryland. Petitioners' Business Petitioners started Sta-Cool Air Conditioning & Heating, Inc. (Sta-Cool), in April 1973. During the years at issue they were Sta-Cool's operating managers 1(...continued) Tax Court Rules of Practice and Procedure. Dollar amounts have been rounded to the nearest dollar. -3[*3] and the sole shareholders. Mary Thompson was employed as Sta-Cool's bookkeeper. As part of her duties, she paid company expenses by writing company checks, which Mrs. Laciny usually signed. Mary Thompson had no signature authority to sign Sta-Cool's business checks. Mrs. Laciny reviewed and maintained Sta-Cool's accounting records and instructed its accountants, including Mary Thompson, as to which accounting ledger accounts various expenses should be charged to and how they should be classified. Under Mrs. Laciny's direction Sta-Cool manipulated its books and records and paid on petitioners' behalf personal expenses of $37,019, $49,029, $59,186, and $35,394 for tax years 1996, 1997, 1998, and 1999, respectively. Mrs. Laciny also caused Sta-Cool to reimburse petitioners certain amounts for personal expenses during these same years. During 1996 through 1999 Mrs. Laciny caused Sta-Cool to pay petitioners a total of $93,616, $161,647, $181,859, and $144,843, respectively, not including reimbursements and other nontaxable payments. On their individual tax returns, however, petitioners reported income from Sta-Cool totaling $84,957, $89,539, $126,707, and $144,511, respectively, for these same years.2 2The parties have stipulated these amounts; we have been unable, however, to duplicate these amounts from the evidence in the record. -4[*4] In 1997 petitioners lent Sta-Cool $22,675 so that it could satisfy a judgment lien that Cobb Construction Co. held. Purportedly in repayment of this loan Sta- Cool paid petitioners $24,000 in 1997 and $25,000 in 1998. On their 1998 joint income tax return petitioners reported $10,675 of interest income with respect to this loan. During the years at issue petitioners owned two properties in Clinton, Maryland, and White Plains, Maryland (the business properties), which they rented to Sta-Cool for business purposes. On petitioners' 1996, 1997, 1998, and 1999 tax returns they reported receiving rental income totaling $28,319, $16,000, $25,241, and $30,006, respectively. During its fiscal years ended March 31, 1996 through 1999, Sta-Cool reported deductions for rent paid of $32,948, $36,260, $41,501, and $41,441, respectively. For the years at issue Shelby Bowles, C.P.A. prepared petitioners' and StaCool's income tax returns using information that Mrs. Laciny provided. Mrs. Laciny's Criminal Case In 2004 Mrs. Laciny was indicted under section 7206(1) and 18 U.S.C. sec. 2 (2000), for filing false individual and corporate income tax returns for tax years 1995 through 1999. In a superseding indictment filed on March 2, 2005, Mrs. Laciny was charged with conspiracy under 18 U.S.C. sec. 371 (2000), filing false -5[*5] individual income tax returns for tax years 1998 and 1999, filing false corporate income tax returns for fiscal years ended March 31, 1998 and 1999, under section 7206(1), and aiding and abetting under title 18 U.S.C. sec. 2. On October 12, 2006, Mrs. Laciny signed a plea agreement, attached to which was a statement of facts which she signed and a worksheet calculating the "Total Unreported Diverted Funds".3 Mrs. Laciny pleaded guilty to two counts of filing false individual income tax returns under section 7206(1) for tax years 1998 and 1999 and two counts of filing false corporate income tax returns under section 7206(1) for 1998 and 1999. Pursuant to her plea agreement Mrs. Laciny was sentenced to 12 months and 1 day of prison and 1 year of supervised release; she was also:ordered to pay restitution of $195,938.4 As part of the plea agreement and the attached statement of facts that she signed, Mrs. Laciny admitted that from 1995 through 2000, to enhance her 3Mr. Laciny was not criminally indicted and was not a party to the plea agreement. Mrs. Laciny voluntarily agreed to the plea agreement and confirmed under oath that the plea agreement and the statement of facts were accurate and truthful. 4Mrs. Laciny agreed to pay this amount as a calculated tax loss for criminal purposes. The amount included additional Sta-Cool corporate taxes due and owing for FYE March 31, 1996 through 1999. On May 4, 2007, the U.S. District Court for the District of Maryland entered an order of satisfaction stating that the ordered restitution, including principal, interest, and costs, was paid, settled, and satisfied. -6[*6] lifestyle and reduce her personal and corporate income tax liability, she diverted Sta-Cool moneys using several different methods. She admitted that she willfully filed false tax returns for tax years 1996, 1997, 1998, and 1999 under penalty of perjury; that she did not believe the returns to be true and correct as to every material matter; and that she knew that she was hiding income and that she would have to pay taxes on it when she reported it. Mrs. Laciny admitted that from 1995 through 1999 she diverted amounts from Sta-Cool to pay for personal items and services and failed to include these amounts as income on her personal income tax returns.5 She admitted.that she diverted additional funds from StaCool by repaying herself more than she lent the business and that she failed to report certain rental income on her personal income tax returns. She also admitted that she caused Sta-Cool to unlawfully deduct as corporate expenses some amounts that were diverted to her personal use.6 5Mrs. Laciny admitted that she diverted $47,813 in 1996, $97,048 in 1997, $114,145 in 1998, and $46,192 in 1999. 6These amounts were: $30,763 for FYE March 31, 1996; $38,228 for FYE March 31, 1997; $48,910 for FYE March 31, 1998; and $58,332 for FYE March 31, 1999. -7[*7] Notice of Deficiency In the notice of deficiency respondent determined that petitioners failed to report rental income of $4,629, $20,260, $16,260, and $11,435 for tax years 1996, 1997, 1998, and 1999, respectively; income from Sta-Cool of $6,165, $27,759, and $23,049 for tax years 1996, 1997, and 1998, respectively; income from personal expenses listed on Sta-Cool's corporate returns of $37,019, $49,029, $59,186, and $35,394 for fiscal years ended March 31, 1996, 1997, 1998, and 1999, respectively; and $15,650 of income from the overpayment of the Cobb Construction loan for tax year 1998. Respondent determined that Mrs. Laciny was liable for the section 6663 fraud penalty and that Mr. Laciny was liable for the section 6662 accuracy-related penalty. OPINION I. Burden of Proof The Commissioner's determinations are generally presumed correct, and the taxpayer bears the burden of proving that they are erroneous. Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). In the case of the fraud penalty under section 6663, the Commissioner bears the burden of proof. Sec. 7454(a); Rule 142(b). -8[*8] Section 7491(a) provides that if, in any court proceeding, a taxpayer introduces credible evidence with respect to any factual issue relevant to ascertaining the taxpayer's proper tax liability, and the taxpayer has complied with all substantiation requirements, maintained all records, and cooperated with all reasonable requests, then the Commissioner shall have the burden of proof with respect to that issue.7 Credible evidence is evidence the Court would find sufficient upon which to base a decision on the issue in the taxpayer's favor, absent any contrary evidence. See Higbee v. Commissioner, 116 T.C. 438, 442 (2001). Petitioners argue that pursuant to section 7491(a) the burden of proof has shifted to respondent and that uncertainty on any issue in this case should be resolved in their favor. We disagree. As discussed in more detail infra, petitioners have failed to introduce credible evidence to support their claims with respect to any of respondent's proposed adjustments. Consequently, section 7491(a) does not operate to shift the burden of proof. 7Sec. 7491 is effective for court proceedings arising in connection with examinations commencing after July 22, 1998. Internal Revenue Service Restructuring and Reform Act of 1998, Pub. L. No. 105-206, sec. 3001(a), 112 Stat. at 726. The record does not establish when the examination commenced that gave rise to this case. Respondent does not allege that it commenced before July 22, 1998, and for this purpose we assume that it did not. -9- [*9] II. Deficiency In their brief petitioners contend that respondent made various errors in the notice of deficiency.8 We will address each alleged error separately. A. Constructive Dividends Respondent determined that petitioners' unreported income from Sta-Cool, their personal expenses reported on Sta-Cool's returns, and Sta-Cool's overpayment of the Cobb Construction loan are taxable to petitioners as constructive dividends. Petitioners argue that Sta-Cool had insufficient current or accumulated earnings and profits to support characterizing these distributions as dividends. Funds that a corporation distributes to a shareholder with respect to its stock are taxed to the shareholder as dividends to the extent of the corporation's earnings and profits. Secs. 301(c), 316. Any excess is considered to be a nontaxable return of capital to the extent of the shareholder's basis in the 8In the notice of deficiency respondent determined that petitioners failed to report a total of $56,337 of income received from Sta-Cool during the years at issue. In his reply brief respondent concedes that petitioners' unreported income should be reduced by $996 for tax year 1996, $409 for tax year 1998, and $160 for tax year 1999. Petitioners do not dispute that they received unreported income in the amounts determined after taking into account respondent's concessions and have not otherwise shown error in these determinations. Taking into account respondent's concessions, we conclude that petitioners failed to report $54,773 of income from Sta-Cool during the years at issue. - 10 [*10] corporation, and any remaining amount is taxable to the shareholder as a gain from the sale or exchange of property. See sec. 301(c)(2) and (3); Truesdell v. Commissioner, 89 T.C. 1280, 1295-1298 (1987). Characterization of a distribution as a dividend does not depend upon a formal dividend declaration. See Boulware v. United States, 552 U.S. 421, 429 (2008); Truesdell v. Commissioner, 89 T.C. at 1295; see also Noble v. Commissioner, 368 F.2d 439, 442 (9th Cir. 1966), af£g T.C. Memo. 1965-84. Corporate funds that a controlling shareholder diverts to personal use are generally characterized as constructive distributions to the shareholder for tax purposes. See Erickson v. Commissioner, 598 F.2d 525, 531 (9th Cir. 1979), aff'g in part, rev'g in part T.C. Memo. 1976-147; Strong v. Commissioner, T.C. Memo. 2005-125. Such a diversion may occur where a controlling shareholder causes a corporation to pay his or her personal expenses and the payment is made without expectation of repayment or without a bona fide intent that it be in repayment of a shareholder loan. See Hood v. Commissioner, 115 T.C. 172, 179-180 (2000); see also Noble v. Commissioner, 368 F.2d at 443; Clark v. Commissioner, 266 F.2d 698, 710-711 (9th Cir. 1959), aff'g in part, rev'g in part and remanding T.C. Memo. 1957-129. - 11 [*11] Petitioners' only evidence of Sta-Cool's earnings and profits is Sta-Cool's corporate income tax returns for the years at issue. But Mrs. Laciny admitted that she falsified Sta-Cool's corporate income tax returns, and petitioners offered no credible evidence to establish Sta-Cool's current or accumulated earnings and profits for the years at issue. Petitioners have failed to meet their burden of proving that there were insufficient earnings and profits to support respondent's determinations in the notice of deficiency. See Truesdell v. Commissioner, 89 T.C. at 1296. Petitioners also failed to prove that any of the constructive distributions represent nontaxable returns of capital. We sustain respondent's determinations that petitioners' unreported income from Sta=Cool, their personal expenses reported on Sta-Cool's return, and StaCool's overpayment of the Cobb Construction loan are taxable to petitioners as constructive dividends. B. Loans To and From Officers Petitioners argue that respondent's adjustments do not account for loans to and from officers, as reflected on Sta-Cool's tax returns. Petitioners also argue that any amounts they received from Sta-Cool as loans should not be treated as income. Finally, petitioners argue that the loan accounts on Sta-Cool's balance sheets do not accurately reflect petitioners' contributions and that these amounts - 12 [*12] should be increased. Respondent argues that he properly accounted for loans to and from officers and reduced petitioners' unreported income accordingly. Petitioners have failed to meet their burden of proving error in respondent's determination. On this record we find that respondent properly accounted for loans to and from officers in computing petitioners' unreported income from StaCool. C. Unreported Rental Income Petitioners argue that respondent's calculation of rental income paid to them for tax year 1996 is overstated by $100. We agree, finding the $100 error to be due to a transcription error between respondent's calculations and his summary sheet. Taking this error into account, we find that for 1996 petitioners failed to report rental income of $4,529 instead of $4,629 as determined in the notice of deficiency. Petitioners argue that respondent overstated rental income paid to them directly in tax years 1997, 1998, and 1999 by $5,000, $12,000, and $12,000, respectively, because of respondent's counting certain checks twice. Petitioners are mistaken. Although respondent's summary sheet lists some checks twice, they - 13 [*13] appear to be listed this way to account separately for amounts paid with regard to each separate rental property and are correctly totaled. Respondent concedes, however, that because of a computational error the amount of petitioners' unreported income for 1997 should be $19,501 instead of $20,260 as determined in the notice of deficiency.9 III. Section 6663 Penalty Respondent determined that Mrs. Laciny is liable for the section 6663 penalty for tax years 1996, 1997, 1998, and 1999. A. Elements If,any part of any underpayment of a tax required to be shown on a return is due to fraud, there is an addition to the tax of 75% of the portion of the underpayment that is attributable to fraud. See sec. 6663(a). When a joint return 9At trial petitiOners' counsel argued that Mrs. Laciny's restitution payment should be applied to petitioners' deficiencies. Respondent's counsel agreed that the restitution payment should be applied to any deficiencies determined by this Court but argued that the restitution payment has no effect on the redetermination of petitioners' deficiencies in this case. The District Court, in ordering that Mrs. Laciny make restitution payments as part of the judgment, did not determine petitioners' civil tax liability and did not bar respondent from assessing a greater amount of civil tax liability against petitioners or from assessing civil fraud penalties. Accordingly, petitioners' deficiency or underpayment is not affected by the restitution payment. See Morse v. Commissioner, 419 F.3d 829, 833-835 (8th Cir. 2005), aff's T.C. Memo. 2003-332; Hicks v. Commissioner, T.C. Memo. 2011-180. - 14 [*14] is filed, the penalty does not apply to a spouse unless some part of the underpayment is due to the fraud of that spouse. Sec. 6663(c). The Commissioner bears the burden of proving fraud by clear and convincing evidence. Sec. 7454(a); Rule 142(b). "'When fraud is determined for each of several years, respondent's burden applies separately for each of the years."' Maciel v. Commissioner, T.C. Memo. 2004-28, (quoting Temple v. Commissioner, T.C. Memo. 2000-337, aff'd, 62 Fed. Appx. 605 (6th Cir. 2003)), aff'd in part, rev'd in part on other grounds, 489 F.3d 1018 (9th Cir. 2007). To prove fraud, the Commissioner must establish that (1) an underpayment exists and (2) some portion of the underpayment is attributable to fraud. DiLeo v. Commissioner, 96 T.C. 858, 873 (1991), aff'd, 959 F.2d 16 (2d Cir. 1992). The Commissioner cannot satisfy his burden of proving fraud by relying upon the taxpayer's failure to establish error in the determination of deficiencies. Parks v. Commissioner, 94 T.C. 654, 660-661 (1990). If the Commissioner proves that any portion of an underpayment of tax is attributable to fraud, the entire underpayment shall be treated as attributable to fraud, except that if the taxpayer establishes by a preponderance of evidence that any portion of the underpayment was not attributable to fraud, the fraud penalty shall not apply to that portion of the underpayment. Sec. 6663(b). -15 [*15] 1. Underpayment To prove the existence of an underpayment, the Commissioner may not rely on a taxpayer's failure to carry his or her burden of proof with respect to the underlying deficiency. Parks v. Commissioner, 94 T.C. at 660-661. The Commissioner must prove only that an underpayment exists, and not the precise amount of the underpayment. DiLeo v. Commissioner, 96 T.C. at 873. A taxpayer's conviction pursuant to section 7206(1) estops him or her from contesting that an underpayment exists for the years at issue in the criminal case. See Bradford v. Commissioner, 796 F.2d 303, 307-308 (9th Cir. 1986), aff'g T.C. Memo. 1984-601; Kemp v. Commissioner, T.C. Memo. 2004-153. Mrs. Laciny's criminakconviction under section 7206(1) estops her from contesting that an underpayment exists for tax years 1998 and 1999. With regard to tax years 1996 and 1997, Mrs. Laciny acknowledged under oath and while represented by counsel that on their 1996 and 1997 returns petitioners did not report all of their income and that this unreported income was subject to significant Federal income tax. This acknowledgment establishes underpayments by petitioners. See Considine v. United States, 683 F.2d 1285, 1287 (9th Cir. 1982); Ford v. Commissioner, T.C. Memo. 2005-18. Further, respondent introduced evidence showing that during tax years 1996 and 1997 petitioners failed to report income from their rental - 16 [*16] properties, from the personal expenses paid by Sta-Cool, and from Sta-Cool directly. The record clearly establishes that there was an underpayment of petitioners' tax for each year at issue. 2. Fraud Fraud is an intentional wrongdoing designed to evade tax believed to be owing. Neely v. Commissioner, 116 T.C. 79, 86 (2001); see Edelson v. Commissioner, 829 F.2d 828 (9th Cir. 1987), af['g T.C. Memo. 1986-223; McGee v. Commissioner, 61 T.C. 249, 256 (1973), aff'd, 519 F.2d 1121 (5th Cir. 1975). The existence of fraud is a question of fact to be resolved upon consideration of the entir