UNITED STATES TAX COURT
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T.C. Memo. 1998-337
UNITED STATES TAX COURT
ROBERT E. ILES and MONICA M. ILES, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 38917-87.
Filed September 22, 1998.
Petitioners (Ps) were (1) trustees for several trusts
and (2) principal owners of numerous business entities, some
of which were incorporated. The business entities provided
financial and tax planning services. Many of the trusts
held money that people invested in the tax shelters that Ps’
businesses offered. During the years in issue, Ps caused
many of the trusts and some of the business entities to
write checks directly to Ps or to third parties on Ps’
behalf to pay for Ps’ investments and personal expenses. By
amendment to answer, respondent asserted Ps had omitted
additional items of income. Ps did not timely file tax
returns for 1980, 1981, or 1982. When those returns were
finally filed, Ps did not report as income most of the
payments those entities made to Ps or to third parties on
Ps’ behalf. Petitioner husband (H) was the driving force,
with petitioner wife (W) providing computer and accounting
skills to their joint activities. Respondent and W filed a
Stipulation of Settled Issues which conditionally disposed
of all issues concerning W’s liabilities in this case.
1. Held: Ps had substantial underpayment for 1980,
1981, and 1982. Sec. 6653(c)(1), I.R.C. 1954.
-22. Held, further, H is liable for additions to tax for
civil fraud for 1980, 1981, and 1982. Secs. 6653(b) and
6653(b)(1), I.R.C. 1954.
3. Held, further, H is liable for additional additions
to tax for 1982 based on the portion of the deficiency
attributable to fraud; amounts redetermined. Sec.
6653(b)(2), I.R.C. 1954.
Robert E. Iles and Monica M. Iles, pro sese.
James D. Hill and Matthew J. Fritz, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
CHABOT, Judge:
Respondent determined deficiencies in
Federal individual income tax and additions to tax under sections
6653(b)1 (fraud), 6654 (failure to pay estimated tax), and 6661
(substantial understatement of income tax) against petitioner
Robert E. Iles2 as follows (amounts rounded to nearest dollar):
Year
Deficiency
Sec. 6653(b)
1980
1981
1982
$103,197
253,014
605,062
$54,369
126,507
-
1
Additions to Tax
Sec. 6653 Sec. 6653
(b)(1)
(b)(2)
Sec. 6654
Sec. 6661
$302,531
$151,266
1
$6,221
19,387
58,908
50 percent of the interest due on the entire deficiency.
1
The substance of sec. 6653(b) as in effect for 1980 and
1981, and sec. 6653(b)(1) as in effect for 1982, appears in secs.
6651(f) and 6663 of present law.
Unless indicated otherwise, all section references are to
sections of the Internal Revenue Code of 1954 as in effect for
the years in issue, and all Rule references are to the Tax Court
Rules of Practice and Procedure.
2
On Sept. 15, 1987, respondent issued a joint notice of
deficiency to petitioners for 1980, and, in the absence of
previously filed tax returns for 1981 and 1982, separate notices
of deficiency to each petitioner for 1981 and 1982.
-3By amendment to answer, respondent asserts in the
alternative that, if petitioner Robert E. Iles is not liable for
part or all of the additions to tax for fraud for any of the
years in issue, then he is liable for additions to tax under
sections 6653(a) (negligence) and 6651(a) (failure to timely file
tax returns) for those years.
On April 14, 1988, after respondent issued the notices of
deficiency and a joint petition was filed as to all 3 years,
petitioners Robert E. Iles, hereinafter sometimes referred to as
Robert, and Monica M. Iles, hereinafter sometimes referred to as
Monica, filed joint tax returns for 1981 and 1982.
See Phillips
v. Commissioner, 86 T.C. 433 (1986), affd. on this issue and
revd. on another issue 851 F.2d 1492, 1496-1498 (D.C. Cir. 1988),
discussing the effect of filing joint tax returns under such
circumstances.
In the above-noted amendment to answer,
respondent recomputed the deficiencies for 1981 and 1982 by
combining the adjustments to income determined in the separate
notices of deficiency and using joint filing rates.
Respondent’s
recomputation also reflects respondent’s position regarding
income reported and deductions claimed on petitioners’ late-filed
tax returns, makes certain concessions, and increases some income
items.
See sec. 6214(a).
The results of respondent’s
recomputation are as follows:
-4-
Year
Deficiency
Sec. 6653(b)
Additions to Tax
Sec. 6653 Sec. 6653
(b)(1)
(b)(2)
Sec.6654
1981
1982
$273,262
1,013,989
$139,382
-
$508,509
1
1
$21,047
98,720
Sec. 6661
$253,497
50 percent of the interest due on the entire deficiency.
Respondent and Monica have filed a Stipulation of Settled
Issues which conditionally disposed of all issues concerning
Monica’s liabilities in this case.3
This case was dismissed for
lack of prosecution as it relates to the issues on which Robert
has the burden of proof, except that respondent’s concessions and
our determinations which conflict with the notice of deficiency
are also to be given effect.
After respondent’s concessions and
the events described above, the overarching issue for decision is
whether Robert is liable for civil fraud additions to tax under
section 6653(b) (for 1980 and 1981), and under sections
6653(b)(1) and 6653(b)(2) (for 1982) and, as to section
6653(b)(2), in what amount.
Because of our determinations as to
fraud, we need not, and we do not, deal with respondent’s
alternative assertions as to additions to tax under sections
6651(a) and 6653(a).
3
The settlement is conditional in that respondent and
Monica agree that, if Robert’s deficiencies or additions to tax
for the years in issue are redetermined, either by settlement or
trial, to be less than Monica’s as set forth in the Stipulation
of Settled Issues, then Monica is entitled to the lesser amounts
of deficiencies or additions to tax. Although Monica and
respondent do not have an ongoing dispute in the instant case,
Monica technically remains a party petitioner. DeLucia v.
Commissioner, 87 T.C. 804 (1986).
-5FINDINGS 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,
petitioners, then husband and wife, resided in Edgewater,
Florida.
By the time of the trial in the instant case,
petitioners were divorced.
A.
Robert’s Background
Robert was born in 1939 and was reared in the Cincinnati,
Ohio, area.
After being graduated from high school in Covington,
Kentucky, in 1956, Robert served 5 years in the United States
Army.
He attained the rank of staff sergeant and became an
honors student in the Army’s Noncommissioned Officer School.
During his service in the Army, Robert attended Officer Candidate
School.
Before leaving the Army in 1961, Robert started school
at Santa Rosa Junior college.
Robert continued his studies at
that school until 1964, concentrating on courses in marketing.
At a later date, while he was in prison (see infra T.
Indictments; Criminal Convictions), Robert took accounting,
psychology, and biology classes at Eastern Kentucky University.
In 1964, Robert joined Bookkeeper’s Business Service Co.,
hereinafter sometimes referred to as BBS, as a salesman.
BBS
provided bookkeeping and tax services to various small- and
medium-sized businesses.
Between 1964 and 1969, Robert was
-6promoted to sales manager, interim branch manager (Cincinnati
area), district sales manager (Cincinnati/Dayton area), and
national new business manager, operating from the home office, in
California.
In February 1970, Robert returned to Cincinnati,
where he began to work on insurance claims in the accounting
department at General Electric.
In March 1970, Profit
Management, Inc., hereinafter sometimes referred to as PMI,
acquired BBS.
PMI operated the same type of business as BBS.
Sometime during 1970, Robert began to work at PMI.
In September
1970, Robert became national new business manager for PMI’s
sister corporation, Profit Controls, Inc., doing the same sort of
work as he had done for BBS.
Monica was born in 1952.
About 1972 Monica left college,
without receiving a degree, and went to work for Profit Controls,
Inc.
Petitioners met each other at work, and, in October 1973,
they got married.
Petitioners had two children from this
marriage--Adria, born in 1974, and Margo, born in 1976.
Robert
had two children from a previous marriage--Robert, Jr., born in
1959, and Billie Marie, born about 1961.
B.
Associates; Consultants
In January 1973, Robert started R. Iles and Associates,
(hereinafter sometimes referred as Associates), a sole
proprietorship.
Associates operated a bookkeeping and tax return
preparation service.
Robert offered franchises in Associates.
-7At the high point of the business, Associates had 20 franchises
in the Greater Cincinnati area, 1 in Michigan and 1 in Florida.
Most of Associates’ franchisees’ clients were small- and mediumsized businesses.
Associates provided services, including the
following, to its franchisees’ clients:
(1) Tax and business
consulting; (2) tax return preparation; (3) monthly and annual
financial statements; (4) cash-flow and inventory analyses; (5)
source and application of funds reports; (6) expense, purchase,
and payroll ledgers; (7) Forms W-2 and 1099 preparation; and (8)
audit work.
Associates represented to its clients that it had
“the most knowledgeable consultants and advanced technology
available in the accounting field.”
The cover of Associates’
1979 advertising brochure invited clients to “Maximize [their]
profits by Minimizing [their] taxes.”
In time, other entities
took over some of Associates' activities.
However, Associates
continued as a sole proprietorship for one facet of business or
another until the early 1980's.
Associates maintained a bank
account at the Central Trust Co. until at least December 1980.
About 1979, R. Iles Tax Consultant, Inc., hereinafter
sometimes referred to as Consultants, took over the bookkeeping
and tax return preparation services previously performed by
Associates.
Robert was president and Thomas Ney, (hereinafter
sometimes referred to as Ney), an accountant, was vice president
-8of Consultants.
Robert owned 75 percent of the stock of
Consultants and Ney owned 25 percent.4
During 1977, 1978, and 1979, Robert worked full time at his
various duties at Consultants, including soliciting new clients,
servicing existing clients by evaluating their business
performance, reviewing clients’ financial and tax records, and
preparing draft tax returns.
At the height of its business,
Consultants had about 100 clients.
C.
SSI and Its Chartered Representatives
In 1980, Robert founded and became president of Structured
Shelters of Cincinnati, Inc., hereinafter sometimes referred to
as SSC, which took over the functions of Consultants.5
Initially, SSC served as a prototype for Structured Shelters,
4
The parties have stipulated that Consultants “was
comprised of” Robert, Monica, and Ney. However, Monica did not
own any of Consultants’ stock, and she was not a compensated
officer for Consultants’ fiscal years ending May 31 of 1979,
1980, and 1981. Consultants’ corporate tax return for its fiscal
year ending May 31, 1979, declares that Consultants was not
incorporated until June 1, 1979, even though it had business
income and business expenses reportable by it for the fiscal year
before it was incorporated.
5
So stipulated. However, stipulated exhibits show that
SSC was incorporated in late June or early July 1981. One of
those exhibits shows that SSC was operated as a partnership from
June 1, 1981, to Aug. 1, 1981. The parties also have stipulated
that “Structured Shelters of Cincinnati was formed in the late
1970’s by Robert and Monica Iles and others.” It may be that
Structured Shelters of Cincinnati was a partnership which was
somehow a predecessor of SSC, the corporation, even though the
chronology does not seem to fit. As shown infra in table 1,
Robert was a prolific creator of business entities. SSC figures
more importantly infra items M. and N.
-9Inc., hereinafter sometimes referred to as SSI, which was
incorporated on or about August 28, 1980.
corporation.
SSI was a subchapter S
During 1981 and 1982, Robert was chairman of SSI’s
board of directors, Monica was secretary and treasurer, and
Adrian Doyle (hereinafter sometimes referred to as Doyle) was
president.
Doyle was in charge of SSI’s marketing operations.
During 1981 and 1982, Robert owned 52 percent of SSI’s common
stock, and Monica and Doyle each owned 24 percent.
Robert had SSI incorporated under Ohio law to market “a
nationwide tax planning system.”
SSI’s principal business was
tax shelter investigation and management.
During the years in
issue, SSI marketed various tax shelters throughout the United
States through a network of “Chartered Representatives”.
At the
height of its business operations, SSI had 115 Chartered
Representatives in 33 States and had about 7,000 clients, about
half of whom invested in tax shelters.
After SSI was founded,
SSC became a Chartered Representative for SSI, to market SSI’s
products in the Cincinnati area.
Robert oversaw SSI from both financial and business
standpoints.
He worked extensively with SSI’s Chartered
Representatives.
Robert also conducted or participated in client
seminars outside of Ohio where he discussed SSI’s organization,
functions, and products.
-10Chartered Representatives were people or entities that had
the right to represent SSI in specific geographic areas.
To
become an SSI Chartered Representative, a person or entity had to
pay $14,500 for a computer and operating software, and $18,500
for the “SSI System” which included use of financial planning
software.
The Chartered Representative also had the option to
buy the financial planning software program from SSI for a
$152,000 promissory note.
Under the standard agreement, each
Chartered Representative was required to earn $100,000 in gross
volume, net of any fees to SSI, during the first year of the
agreement, and to maintain that volume of business.
If a
Chartered Representative did not meet that requirement, then SSI
reserved the right to terminate the agreement and refund the
original cash investment.
Other amounts that Chartered
Representatives paid to SSI included (1) “set-up” fees that
Chartered Representatives charged their clients for putting those
clients into the computer system, (2) “options” fees that
Chartered Representatives paid in order to reserve office
locations, (3) “due-diligence” fees that the Chartered
Representatives’ clients paid, as a percentage of a client’s
investment in a tax shelter, for SSI’s efforts in investigating
that shelter, and (4) “management” fees that were charged to the
Chartered Representatives' clients for managing the tax shelters
in which those clients invested.
Hereinafter, the term Chartered
-11Representative Fees refers to all of the money SSI collected from
Chartered Representatives.
SSI represented to its Chartered Representatives that each
investment it promoted was carefully selected for its investment
potential and tax-sheltering features; forbade its Chartered
Representatives to offer to their clients any investment
opportunities other than those offered by SSI; and agreed “to
defend any suit in any federal tax court based upon an attempt by
the Internal Revenue Service to deny the tax deferring features
resulting from SSI’s investments.”
SSI promoted its services as
a means of sheltering clients’ incomes from “unnecessary taxes”,
and described its products as tax shelters.
Each individual
client of SSI (1) created an investment company as a sole
proprietorship that executed a Declaration of Trust naming SSI as
Trustee and (2) executed a Management Agreement naming SSI as
manager of its investment company.
The purpose of the
Declaration of Trust was to allow SSI to acquire tax shelters for
the client, and the Management Agreement obligated the client to
pay SSI 1 percent of the client’s gross income on a quarterly
basis and 10 percent of the proceeds from all SSI-recommended
investments.
Under the Management Agreement, each client was to receive a
“Random Report”--a periodic statement of the client’s financial
position.
Random Processing Services, Inc., a subchapter C
-12corporation formed and owned by Robert, prepared the Random
Reports.6
Robert designed the output portion of the Random
Processing System that analyzed SSI’s client’s financial
information and produced the Random Reports.
The fee for the
first Random Report was $155; each quarterly Random Report
thereafter cost $20.
Robert directed SSI’s board of directors meetings and some
of the shareholder meetings.
Robert (1) worked directly with
third parties who presented tax shelter proposals to SSI and (2)
performed due diligence work in connection with the tax shelter
offerings.
Robert worked with attorneys to determine how SSI’s
tax shelter programs would be put together and offered.
Robert
had veto power over which tax shelters would be offered to SSI’s
clients.
Periodically, Robert asked Monica, SSI’s treasurer, about
SSI’s financial performance.
By letter dated March 8, 1982,
Monica informed Robert and Doyle that SSI’s 1981 gross receipts
and net receipts on a cash basis were $2,384,052 and $893,312,
6
So stipulated. In Cunningham v. Commissioner, T.C.
Memo. 1989-260, which involved tax liabilities of clients of some
of Robert’s and Monica’s entities, we found, based on the record
made by the parties in that case, that Random Processing
Services, Inc., was a corporation formed by Monica. Also see the
extensive discussion of SSI’s operations in Rybak v.
Commissioner, 91 T.C. 524 (1988).
-13respectively.7
By memorandum dated September 13, 1982, SSI’s
controller, Tom Basti, hereinafter sometimes referred to as
Basti, listed petitioners’ income from SSI for 1981 and for the
first 6 months of 1982 as $206,336.60 and $437,592.15,
respectively.
SSI’s principal bank account was in Central Trust Co.; it
was used primarily as a depository for Chartered Representative
Fees and SSI client funds.
SSI also had accounts in other banks.
In 1981, 37 checks and 1 wire transfer, totaling $129,285.67,
were drawn on SSI’s Southern Ohio Bank account to petitioners or
to third parties on petitioners’ behalf; the entire amount was
1981 income to petitioners.8
7
Monica’s memorandum states that the report was prepared
on a cash basis. This one-page memorandum was introduced through
Monica on direct examination by respondent. Later the same day,
on cross-examination by Robert, Monica testified that SSI used an
accrual method of accounting; we have so found. The parties have
stipulated, and we have found, infra, that SSI prepared and
maintained substantially all of its books and records
contemporaneously. We have not found in the record an
explanation of why Monica would have produced a cash basis report
while contemporaneously maintaining, or overseeing the
maintenance of, accrual basis records.
8
The parties’ stipulation lists 40 checks and 1 wire
transfer. Respondent’s proposed finding omits three of the
checks. We treat this as respondent’s implicit concession of the
$8,797.39 total of these three checks.
Respondent’s proposed finding lists each of the remaining 37
checks and 1 wire transfer, but incorrectly shows the total
amount as $120,285.67. The parties stipulated to the amount of
each check and wire transfer. The $9,000 error in the total
probably stems from a transposition of two digits during the
(continued...)
-14On October 30, 1981, two checks totaling $23,000, were drawn
on SSI’s Gradison Cash Reserves Account to third parties on
petitioners’ behalf as performance bonuses for Robert.
The
$23,000 was 1981 income to petitioners.
In 1982, 36 checks, totaling $198,850, were drawn on SSI’s
Southern Ohio Bank account to petitioners or to third parties on
petitioners’ behalf; the entire amount was 1982 income to
petitioners.9
In addition, in 1982, six checks, totaling $170,500, were
drawn on SSI’s Southern Ohio Bank account to Structured Shelters
Securities, Inc., hereinafter sometimes referred to as SSSI; they
constituted capital contributions to SSSI on behalf of Robert (52
percent), Monica (24 percent), and Doyle (24 percent).
Also in
1982, four checks, totaling $59,237.27, were drawn on that
account to Finkelstein, Thompson, and Levenson, a Washington,
D.C., law firm; they, too, constituted capital contributions to
SSSI on behalf of Robert, Monica, and Doyle in the same
8
(...continued)
process of adding the stipulated amounts. We do not have any
reason to believe that petitioners were misled or in any way
prejudiced by respondent’s arithmetic error on brief. As a
result, we do not treat respondent’s proposed finding on this
point as an implicit concession of $9,000.
9
The parties’ stipulation lists 42 checks and 1 wire
transfer. Respondent’s proposed finding omits six of the checks
and the one wire transfer. We treat this as respondent’s
implicit concession of the $23,108.30 total of these six checks
and the wire transfer.
-15proportions.
SSSI is discussed further infra at item Q.
Also in
1982, a check in the amount of $18,716 was drawn on that account
to one Howard Blumenthal; it, too, constituted a capital
contribution to SSSI on behalf of Robert, Monica, and Doyle in
the same proportions.
In addition, in 1982, two checks, totaling $14,000, were
drawn on SSI's Southern Ohio Bank account to Structured Shelters
Financial Management, Inc., hereinafter sometimes referred to as
SSFMI; they, too, constituted capital contributions to SSFMI on
behalf of Robert (52 percent), Monica (24 percent), and Doyle (24
SSFMI is discussed further infra at item R.
percent).
As a result, petitioners had 1982 income in the amount of
$199,464.49 on account of SSI's 1982 payments of capital
contributions to SSSI and SSFMI on petitioners' behalf.
1.
SSI's Financial Books and Records
SSI used an accrual method of accounting and had a fiscal
year ending July 31.
SSI prepared and maintained a
contemporaneous balance sheet, a general ledger, a check
disbursement schedule, a journal, and profit and loss statements
during its fiscal years 1981 and 1982.
SSI prepared and
maintained a contemporaneous cash receipts journal for the period
September 19, 1980, through July 31, 1982.
SSI prepared and
maintained contemporaneous profit and loss statements and journal
entries related to bank statement debits during its fiscal year
-161982.
SSI kept its books and records at SSI's headquarters,
where Robert had an office and worked on a daily basis.
SSI
maintained a comprehensive tax library.
2.
SSI's 1981 Undistributed Taxable Income
For its fiscal year ended July 31, 1981, SSI received, and
deposited into the Structured Shelters bank account, $436,400 in
gross income, consisting of $374,000 from Chartered
Representative Fees, $8,900 from setup fees, and $53,500 from
options.
SSI's deductible expenses for this fiscal year total
$252,663.06.
As a result, SSI's taxable income for this fiscal
year is $183,736.94.
In addition, during this fiscal year SSI
made $75,498.55 in payments to or for the benefit of its
shareholders--$30,069.75 as to petitioners and $45,428.80 as to
Doyle.
As a result, SSI's undistributed taxable income for its
1981 fiscal year is $108,238.39.
Petitioners' 76-percent share
(Robert--52 percent, Monica--24 percent) of this amount is
$82,261.18.
SSI's fiscal 1981 tax return is discussed infra S. Tax
Returns.
3.
SSI's 1982 Undistributed Taxable Income
For its fiscal year ended July 31, 1982, SSI had gross
income of $6,371,589.
SSI's deductible expenses for this fiscal
year, plus SSI payments to or for the benefit of its
shareholders, total $4,958,269.90.
As a result, SSI's
-17undistributed taxable income for its 1982 fiscal year is
$1,413,319.10.
Petitioners' 76-percent share (Robert--52
percent, Monica--24 percent) of this amount is $1,074,122.52.
D.
Free Enterprise Trust
SSI marketed some tax shelters under the name "Free
Enterprise Trust", hereinafter sometimes referred to as the FE
Trust.
Petitioners, as trustees, maintained the FE Trust's
Southern Ohio Bank account, which was used predominantly by SSI
clients as a depository for investments.
Amounts disbursed from
the account were used mainly to buy tax shelter investments for
SSI's clients.
During the period December 1, 1981, through
February 24, 1982, a total of $8,827,197.09 was deposited into
the FE Trust's Southern Ohio Bank account, and $8,564,090.55 was
disbursed from this account.
The FE Trust did not file a tax
return.
A $176,500 withdrawal from this account is discussed infra
under I. Lincoln American Securities.
E.
Riago Trust
In 1980, Robert suggested to Monica that petitioners
transfer all of their assets to a trust.
On May 4, 1981,
petitioners, as grantors, executed a Declaration of Trust
establishing Riago Revocable Trust, hereinafter sometimes
referred to as the Riago Trust.
Robert was the principal author
of the Declaration of Trust establishing the Riago Trust.
The
-18Declaration of Trust states that the Riago Trust was created for
the benefit of petitioners and their daughters, Adria and Margo.
(The word "Riago" is coined from the last letters of petitioners'
daughters' names.) Petitioners were the trustees of the Riago
Trust.
The Riago Trust was revocable by the grantors jointly, or
by the surviving grantor.
Petitioners, as grantors, had the
power, at any time, to withdraw any portion of the net income or
principal of the trust.
Petitioners conveyed all of their real, personal, and
business property to the Riago Trust, including the following:
Their residence; life insurance death benefits; jewelry;
household furnishings; stock or proprietary interests in
Associates (also discussed supra item B), Green, Inc., Random
Processing Services, Inc., Consultants (also discussed supra item
B), Robert Iles Computer Services, Inc., SSI (also discussed
supra item C), and SSC (also discussed supra item C); and "Any
and all other business endeavors."
Before and after they
conveyed their property to the Riago Trust, petitioners lived in
the same house in Cincinnati.
By letter dated August 18, 1982,
Monica, as cotrustee, informed Robert, as cotrustee, that the
Riago Trust's assets include a 1980 Rolls Royce, new residential
rental property, office furniture and equipment, a 76-percent
interest in the Rise Trust, a Saberliner Jet, jewelry,
improvements on their home, and miscellaneous household
-19furnishings and fixtures, and asked that the letter be added to
schedule A of the Declaration of Trust.
The jewelry Robert
bought and transferred to the Riago Trust during 1982, included a
$3,780 gold bracelet, $1,600 gold and diamond earrings, a $7,050
diamond ring, and a $7,950 Rolex watch.
On October 20, 1983, about 1-2 months after petitioners and
their daughters moved from Ohio to Florida, the Declaration of
Trust for the Riago Trust was filed in Florida.
On December 19,
1983, petitioners amended the Riago Trust's Declaration of Trust.
Among other changes, the amendment purported to make the Riago
Trust irrevocable.
A commentary and attachment to the Riago
Trust's financial statement, signed by Robert on October 23,
1984, lists the trust assets as having a total value of
$10,194,060.08, liabilities of $367,336.49, and a net value of
$9,826,723.59.
The listed assets include the following: A 1981
Rolls Royce, a 1979 Cadillac Eldorado, a 1954 Corvette, a 1984
Chrysler LeBaron, a Russian Sable coat and jewelry valued at
$67,000, a $270,000 home, a $110,000 home, a $300,000 home, a
$361,000 interest in a Saberliner Jet, and a $25,000 interest in
Lincoln American Securities, Inc.
Cadillac, and sable coat.
Robert bought the Corvette,
Monica wore the sable coat.
On August 20, 1983, Robert, as trustee for the Riago Trust,
bought two homes in Edgewater, Florida.
daughters lived in one of the homes.
Petitioners and their
On February 13, 1984,
-20petitioners, as trustees for the Riago Trust, bought another home
in Edgewater; then they moved their family into that home.
At
about this time, petitioners, as trustees for the Riago Trust,
sold the first two homes.
A plaque on the front door of the home
bought in 1984 stated that the property was owned by the Riago
Trust.
A general ledger was maintained for Associates.
When
Associates, as Robert's sole proprietorship, paid a personal
expense of petitioners, then that was recorded as a draw on
Associates' general ledger.
On and after May 4, 1981, when the
Riago Trust owned Associates, such payments were shown on
Associates' general ledger and also on the Riago Trust's books as
payments by the Riago Trust, through Associates, for petitioners'
personal purposes.
During 1981 and 1982, Associates paid for a variety of
petitioners' expenses including jewelry, suntanning equipment,
scuba gear, private school tuition, record and tape clubs, a lawn
tractor, mortgage payments, home remodeling bills, utility bills,
real estate taxes, homeowner's insurance, clothing and household
bills, dry cleaning, groceries, toys, pet supplies, furniture,
donations, and medical bills.
After petitioners moved to
Florida, a separate bank account was established for the Riago
Trust.
From 1984 through 1987, the Riago Trust continued to pay
for petitioners' personal items and expenses.
-21F.
The Florida Collection Suit
Glenn Storch, hereinafter sometimes referred to as Storch,
is a Florida attorney who represented David Ellsworth and James
Morrison in a judgment collection suit, hereinafter sometimes
referred to as the Florida collection suit, filed in 1984,
against Robert, the Riago Trust, and various entities controlled
by Robert.
Before that suit, David Ellsworth and James Morrison
had obtained an out-of-State judgment against Robert.
Storch
obtained a domestication of foreign judgment against Robert to
pursue the out-of-State judgment.
After filing the Florida collection suit, Storch began
formal discovery against Robert and the Riago Trust.
During
discovery, Storch found that all of Robert's property was held by
the Riago Trust.
As part of that discovery, Storch deposed
Robert on several occasions, at which time Robert told Storch
that it was fruitless for Storch's clients to try to collect on
their judgment because neither he nor Monica owned anything, not
even the clothes on their backs.
Whenever Robert or Monica
attended depositions, they arrived in a Rolls Royce.
At
Storch's meetings with petitioners, petitioners wore jewelry,
including a Rolex watch and a diamond ring.
During the course of
discovery, Storch saw a 1954 Corvette, extensive exercise
equipment, and a Jacuzzi at petitioners' home.
Robert told
Storch that petitioners did not pay any rent to the Riago Trust,
-22even though it owned their home; Robert explained that this was
because their daughters lived there and their daughters were the
Riago Trust's beneficiaries.
In 1989, Storch obtained a Florida judgment which permitted
his clients to collect their prior judgment from assets held by
the Riago Trust.
Storch was able to seize only clothing,
exercise equipment, and "some odds and ends" from petitioners'
home; he was unable to locate some assets, and some assets were
so heavily liened that Storch did not believe there was enough
unencumbered equity to make it worthwhile to pursue them.
G.
Cocoa Trusts
During 1980 and 1981, Robert acted as a trustee for Cocoa
Trust I, II, III, IV, V, and VI, hereinafter sometimes
collectively referred to as the Cocoa Trusts.
The Cocoa Trusts
were established in 1980, as vehicles for various individuals'
investments in certain patents and to help fund Continental Dutch
Cocoa, Inc.
The Cocoa Trusts Escrow Fund, an account in Southern
Ohio Bank, served as a depository account for the Cocoa Trusts'
investors' funds and as the general operating fund for the
project that included Continental Dutch Cocoa, Inc., and the
patents.
SSI solicited investors for the Cocoa Trusts, and
served as the manager of the Cocoa Trusts' project.
-23In 1980, Monica wrote four checks totaling $100,000 to
Robert from the Cocoa Trust Escrow Fund.10
One of these checks,
for $90,000, is discussed infra at item H.
All $100,000 was 1980
income to Robert.
In 1981, seven checks totaling $29,300 were written to
Robert from the Cocoa Trusts Escrow Fund.11
All $29,300 was 1981
income to Robert.
H.
Robert Iles, et al.
In 1978, Robert and Robert C. McCormick, hereinafter
sometimes referred to as McCormick, formed the partnership Robert
Iles, et al.
Robert Iles, et al., was a "computer company",
providing data processing and other services.
Robert had a 65-
percent interest in Robert Iles, et al., and was the
partnership's managing partner.
McCormick had a 35-percent
interest in Robert Iles, et al.
Both partners contributed
capital and both partners were authorized signatories on the
partnership's loan account at Central Trust.
Robert and Monica
10
In the notice of deficiency as to 1980, respondent had
determined that eight specified checks drawn on the Cocoa Trusts
Escrow Fund, in amounts totaling $143,260, constituted unreported
1980 income from the Cocoa Trusts to petitioners. Respondent has
conceded four of these checks, totaling $43,260. Our findings
relate only to the remaining four checks totaling $100,000.
11
In the notice of deficiency, respondent determined that
eight checks, totaling $31,300, were 1981 income to Robert. By
stipulation, respondent conceded the eighth check, a $2,000 check
to Maximum Management, an entity described infra at L.
-24were the only authorized signatories on the partnership's
checking account at Central Trust.
On December 1, 1978, Robert Iles, et al., acquired the
assets and business of Computing and Accounting Group, Inc.,
hereinafter sometimes referred to as CAGI.12
Before this
transfer, CAGI offered computer services, computer programming
and design, computer installation, and other related computer
services.
In February 1979, Robert Iles, et al., bought a computer,
peripherals, and software from Monitor Information Systems for
$166,500.
This purchase was financed in part by a loan from
Central Trust.
Under the financing agreement, Central Trust
acquired a security interest in the computer and in all the
fixtures and equipment located at petitioners' personal residence
and their business offices, in Cincinnati.
Petitioners,
McCormick, and McCormick's wife were personally liable on the
loan.
McCormick stopped being associated with Robert Iles, et
al., in 1980 or later.
12
The stipulated Dec. 1, 1978, agreement between Robert
Iles, et al., and CAGI states that the only two partners in
Robert Iles, et al., are Robert and Peter J. Reil. Yet, both the
stipulated partnership agreement of Nov. 18, 1978, and the
stipulated partnership 1979 income tax return show Robert and
McCormick as the only two partners in Robert Iles, et al. It
appears that Reil and Robert were supposed to create this
partnership. Reil decided not to participate. McCormick learned
of this development and stepped in.
-25Certain loan payments with respect to the computer were not
made, and Central Trust threatened foreclosure on the computer.
On December 5, 1980, a $90,000 check payable to Robert was drawn
on the Cocoa Trusts Escrow Fund.
See supra item G. Cocoa Trusts.
On December 9, 1980, a $92,000 deposit was made to Associates'
bank account in Central Trust.
Immediately before this deposit,
this bank account had a balance of $569.52.
Monica thereupon
drew a check on Associates' Central Trust account, dated December
9, 1980, in the amount of $89,215.22, to Central Trust, to pay in
full the remaining balance on the Robert Iles, et al., loan that
had been taken out to finance the computer, etc., purchase.
Petitioners' primary motive to repay the loan was to remove the
security interest Central Trust had in assets in their personal
residence and business office.
The $89,215.22 check cleared
Associates' Central Trust account on December 10, 1980.
After a
$74.10 charge to the account, this left a balance of $3,280.20.
After that payment, Central Trust's security interest terminated.
The $90,000 Cocoa Trusts Escrow Fund withdrawal was used by
petitioners to pay the debt from the computer, etc., purchase.
I.
Lincoln American Securities
In 1981, Robert began to search for a broker-dealership he
could buy in order to facilitate sales of investment products and
in order to comply with applicable securities laws.
Robert also
wanted an entity which could act as surety on his appeal bonds in
-26a breach-of-contract suit that he had lost at the trial level.
In order to carry out these plans, on August 7, 1981, Robert,
bought all the stock of Lincoln American Securities, Inc.
(hereinafter sometimes referred to as Lincoln Securities), for
$65,000, with $25,000 due at the closing and the balance, with
interest, payable in three equal annual installments, which
Robert personally guaranteed.13
A check drawn on SSI's Gradison
Cash Reserves account paid the $25,000 that was due at the
closing.
The notation "R. Iles personal draw" was on the check.
On August 10, 1981, Robert and Lincoln Securities executed
three stay-of-execution bonds for the appeal in the above-noted
litigation.
The bonds totaled $176,500.
surety on all three bonds.
Lincoln Securities was
After the execution of the three
appeal bonds, it was discovered that Lincoln Securities did not
have enough capital to act as surety on the bonds.
On December
17, 1981, $176,500 was withdrawn from the FE Trust's Southern
Ohio Bank account and shortly thereafter was placed in an
interest-bearing escrow account in Robert's name in the same bank
to fund Robert's appeal bonds.
Trust.
See supra D. Free Enterprise
In a net worth statement that petitioners submitted in
connection with a 1983 loan application, petitioners listed the
13
The preamble of the Agreement of Acquisition shows the
buyer as "Lincoln American Holding Company" but it is clear from
the rest of that document and from other documents that both
Robert and Lincoln Securities' seller considered Robert to be the
buyer. See infra table 1.
-27escrow account (which by then had grown to $181,280) as their own
asset.
On the application, this was offset by a $176,000
[$176,500?] "contingent liability".
There is no indication that
petitioners understood they had any obligation to return the
money to the FE Trust.
The $176,500 withdrawn from the FE Trust's Southern Ohio
Bank account on December 17, 1981, was 1981 income to
petitioners.
J.
Random Processing Services
Random Processing Services' bank account was the principal
bank account for Random Processing Services, Inc., and served as
a depository account for the Random Report fees paid by SSI
clients.14
In 1980, five checks totaling $8,675 were drawn on
Random Processing Services' bank account to petitioners.
$8,675 was 1980 income to petitioners.
On March 17, 1981, a
$1,000 check was drawn on this account to Monica.
was 1981 income to petitioners.
All
This $1,000
In 1982, two checks totaling
$15,000 were drawn on this account to Monica.
All $15,000 was
1982 income to petitioners.
K.
Monica Iles Shelters Trustee Account
The Monica Iles Shelters Trustee account served as a
depository account for investors in various tax shelters promoted
14
This bank account is different from the SSI bank
account described supra, which was used primarily as a depository
for Chartered Representative Fees and SSI client funds; the two
accounts are in the same bank.
-28or managed by SSI.
In 1980, 38 checks totaling $45,631.78, drawn
on the Monica Iles Shelters Trustee account, were written to
petitioners or to third parties on petitioners' behalf.15
$45,631.78 was 1980 income to petitioners.
All
In 1981, 29 checks
totaling $42,961.11, were drawn on the Monica Iles Shelters
Trustee account to petitioners or to third parties on
petitioners' behalf.16
All $42,961.11 was 1981 income to
petitioners.
L.
Maximum Management
Petitioners formed Maximum Management, as Monica's sole
proprietorship, to pay payroll and other expenses of SSI and
other entities petitioners controlled.
Maximum Management
received the funds to pay these expenses through intercompany
billings to various entities controlled by petitioners.
During
1981, Maximum Management wrote 1 $300 check to Monica17 and 44
checks totaling $5,225.9218 to Jacqueline B. Watkins, hereinafter
15
One of these checks, number 214, is in the amount of
$1,500. The check stub shows $609.11 of this amount as "Cash".
Respondent included only this $609.11 in the notice of deficiency
determination.
16
One of these checks, number 245, is in the amount of
$450. In the ledger for this account, $154 of this amount is
distributed to "Iles draw". Respondent included only this $154
in the notice of deficiency determination.
17
Respondent's proposed finding of fact asks that we find
that the check to Monica was for $500. However, the only source
that respondent cites for this proposition shows that the entire
check was for $300.
18
Respondent's proposed finding of fact departs in
(continued...)
-29sometimes referred to as Watkins.19
During 1982, Maximum
Management wrote 47 checks totaling $6,049.81 to Watkins.20
These 1981 and 1982 payments by Maximum Management to Watkins
were for Watkins' services in taking care of petitioners'
children.
All $5,525.92 ($300 to Monica, plus $5,225.92 to Watkins)
was 1981 net profit of Maximum Management, and so was 1981 income
to petitioners.
All $6,049.81 was 1982 net profit of Maximum
Management, and so was 1982 income to petitioners.
18
(...continued)
amounts as to 8 of these 44 checks from the only source that
respondent cites. Our finding is in accordance with the sum of
the amounts in the cited exhibit, which is $125.37 less than the
sum of the amounts in respondent's proposed finding of fact.
19
The cited source for respondent's proposed finding of
fact shows that five other checks, totaling $562.51, were written
by Maximum Management to Watkins between Jan. 16, 1981, and Feb.
13, 1981. Respondent has not included these checks in the
proposed finding of fact; we treat this as respondent's
concession that these five payments by Maximum Management to
Watkins did not result in income to petitioners.
20
Respondent's proposed findings of fact list three
additional checks to Watkins, totaling $352.97, and ask us to
find that those checks also gave rise to income to petitioners.
The first of these checks does not appear in the exhibit that
respondent cites as the sole source for the proposed finding.
The second of these checks does appear in the cited exhibit, but
was voided; indeed the next check, which respondent also includes
in the proposed finding of fact, shows that it was written to
replace the voided check. The third of these checks, is shown in
respondent's proposed finding of fact as being made out to
Watkins in the amount of $119.83; in the cited exhibit it is made
out to Central Trust Co. in the amount of $3,874.05. We conclude
that none of these three checks is income to petitioners.
-30M.
First Sale of Interest in Structured Shelters of Cincinnati
As noted supra, SSC became a Chartered Representative for
SSI, to market SSI's products in the Cincinnati area.
principal business activity was financial planning.
SSC's
In March
1981, when Robert entered into an agreement to sell an interest
in SSC to Gary Elliot, hereinafter sometimes referred to as
Elliot, SSC was wholly owned by Robert.
By letter dated September 25, 1981, Robert told Elliot that
the purchase price of a 50-percent interest in SSC was $250,000,
which included a $50,000 down payment.
As of that date, Elliot
had paid $10,000 of the down payment.
Later, the sale was
rescinded.
On Schedule D of their 1981 tax return, petitioners
reported $10,953 as a long-term gain from the attempted sale of
Structured Shelters of Cincinnati, Inc.
Petitioners are taxable on this $10,953 as a 1981 long-term
capital gain.21
N.
Second Sale of Interest in Structured Shelters of Cincinnati
On March 22, 1982, Robert entered into an agreement to sell
SSC to Kent Maerki, hereinafter sometimes referred to as Maerki,
21
As noted supra, petitioners filed their 1981 and 1982
joint tax returns after respondent issued the notices of
deficiency for these years. In the notice of deficiency to
Robert, respondent determined that Robert had $10,000 ordinary
income from this transaction. By their 1981 joint tax return,
petitioners have conceded that the correct amount is $10,953,
$953 greater than the amount respondent determined. Respondent
has conceded, on brief, that petitioners are entitled to treat
the income as long-term capital gain.
-31and SSI consented to Robert's transfer of SSC to Maerki.
On that
same day, a certificate for 255 shares of SSC stock was issued to
Christina M. Gambetta (Maerki's sister), and a certificate for
245 shares of SSC stock was issued to John A. Gambetta (Maerki's
brother-in-law).
Maerki was to pay Robert $150,000, in three
equal installments on May 1, August 1, and November 1, 1982.
On or about April 29, 1982, Maerki lent $55,000 to SSC, of
which (1) SSC paid $50,000 to SSI as the May 1, 1982, required
installment, and (2) SSC paid $1,923.29 to SSI as the required
interest, under the Maerki-Robert sales agreement.
1, 1982, SSC paid $10,000 to Robert.
On September
On Schedule D of their 1982
tax return, petitioners reported $61,923 as a long-term capital
gain from partnerships and fiduciaries, related to Robert's sale
of SSC.
Petitioners received $60,000 long-term capital gain income
and $1,923.29 interest income for 1982 on account of Robert's
sale of SSC.
O.
Rolls Royce
On February 12, 1982, Robert, as trustee for the Riago
Trust, bought a Rolls Royce car for $79,000.
SSI paid the
$10,000 deposit on the car on February 10, 1982, and the $69,000
balance on the car on February 16, 1982.
SSI also paid the
$4,345 Ohio sales tax on the car on March 12, 1982.
SSI's
general ledger listed the $79,000 in wire transfers and the
-32$4,345 in sales tax that SSI paid on the Rolls Royce as
performance bonuses to Robert.
On February 16, 1983, title to the Rolls Royce was
transferred as a gift from Robert, as trustee for the Riago
Trust, to Robert individually.
Petitioners listed the Rolls Royce, valued at $90,000, as a
personal asset in the net worth statement that they submitted in
connection with a 1983 loan application.
After the $30,000 loan
was approved, the bank took a security interest in the Rolls
Royce.
The $83,345 that SSI paid in 1982 to buy the Rolls Royce
($10,000 plus $69,000 plus $4,345) was 1982 income to
petitioners.
P.
Saberliner Jet Aircraft
On February 5, 1982, Robert, acting individually and on
behalf of the Rise Trust, entered into an agreement to buy a
Saberliner Jet Aircraft, hereinafter sometimes referred to as the
Jet,22 for $1,205,000.
This total was to be paid as follows:
$25,000 as a deposit that day, $375,000 at delivery, and a 1-year
22
There was not any declaration of trust or other formal
document establishing the Rise Trust. There were not any Rise
Trust bank accounts. The record does not indicate any "activity"
of Rise Trust other than being the named purchaser of the Jet.
As far as we can tell from the fragments of information in the
record, the Rise Trust is merely a name used by petitioners and
Doyle as a "straw man" in connection with their intended
coownership of the Jet, with Robert having a 52-percent interest,
Monica having a 24-percent interest, and Doyle having a 24percent interest.
-33note for $700,000 plus $105,000 interest--in the amount of
$17,500 a month starting 6 months after delivery.
Robert, acting
on behalf of the Rise Trust, signed the security agreement in
connection with the $700,000 note.
guaranteed the note.
1982.
Robert individually
SSI paid the $25,000 deposit on February 5,
Robert, acting on behalf of the Rise Trust, accepted
delivery of the Jet on February 16, 1982.
The FE Trust paid the
$375,000 that was due at delivery.
Petitioners, as 76-percent owners of the Rise Trust, had
1982 income in an amount equal to 76 percent of the $400,000 of
1982 payments made by their controlled entities ($25,000 by SSI,
plus $375,000 by the FE Trust) for the Jet, or $304,000.
Q.
Structured Shelters Securities
In August 1982, petitioners and Doyle formed Structured
Shelters Securities, Inc., hereinafter sometimes referred to as
SSSI.
SSSI was incorporated in Delaware.
SSSI was formed on the
advice of Finkelstein, Thompson, and Levenson in order to bring
SSI's investment offerings into compliance with Federal
securities laws and regulations.
SSSI was to act as a registered
broker-dealer of securities; it was to locate investments for,
and to act as an investment adviser and financial planner to,
SSI's clients.
As we have found (supra C. SSI and Its Chartered
Representatives), in 1982 SSI paid $229,737.27 as capital
contributions to SSSI ($170,500 directly to SSSI and $59,237.27
-34to Finkelstein, Thompson, and Levenson), and these contributions
were allocated among Robert (52 percent), Monica (24 percent),
and Doyle (24 percent).
Petitioners listed $263,260.11 paid-in capital for SSSI as a
personal asset in the net worth statement that they submitted in
connection with a 1983 loan application.
Supra O. Rolls Royce.
A July 31, 1983, SSSI balance sheet shows total paid-in capital
of $448,665.
The capital contributions by SSI to SSSI on behalf of
petitioners are 1982 income to petitioners.
R.
Structured Shelters Financial Management
In August 1982, petitioners and Doyle formed Structured
Shelters Financial Management, Inc., hereinafter sometimes
referred to as SSFMI.
same time as SSSI.
SSFMI was incorporated in Delaware at the
SSFMI was formed on the advice of
Finkelstein, Thompson, and Levenson to act as an investment
adviser to SSI's clients.
As we have found (supra C. SSI and Its Chartered
Representatives), in 1982 SSI paid $14,000 as capital
contributions to SSFMI, and these contributions were allocated
among Robert (52 percent), Monica (24 percent), and Doyle (24
percent).
Petitioners listed $43,103.69 paid-in capital for
SSFMI as a personal asset in the net worth statement that they
submitted in connection with a 1983 loan application.
Supra O.
-35Rolls Royce.
The capital contributions by SSI on behalf of
petitioners are 1982 income to petitioners.
S.
Tax Returns
Petitioners are cash basis taxpayers.
1.
Petitioners' 1980 Tax Return
On April 15, 1981, petitioners filed for an extension of
time to file their 1980 tax return.
Respondent granted to
petitioners an extension to June 15, 1981.
Additional extensions
for petitioners' 1980 tax return were neither sought by
petitioners, nor granted by respondent.
Petitioners filed their
joint 1980 tax return on September 18, 1981.
On their 1980 tax return, petitioners reported (1) $79,989
gross income and $71,154 net profit from Associates, (2) $19,010
gross income and $39,128 net loss from Robert Iles Computer
Services, and (3) a $13,860 net loss from Robert Iles, et al.
Petitioners reported their total 1980 tax liability as $5,541
($1,283 income tax, $1,471 self-employment tax, and $2,787 tax
from recomputing prior-year investment credit).
signatures, petitioners wrote the following:
Below their
"This return was
prepared under duress due to summons and it will be amended."
However, petitioners never amended their 1980 tax return.
2.
Petitioners' 1981 Tax Return
On April 15, 1982, petitioners filed for an extension of
time to file their 1981 tax return.
Respondent granted to
-36petitioners an extension to June 15, 1982, a further extension to
August 15, 1982, and a final extension to October 15, 1982.
Petitioners filed their 1981 tax return on April 14, 1988, after
the notices of deficiency were issued and the petition was filed.
On their 1981 tax return, petitioners reported (1) $44,107
gross income and $24,585 net profit from Associates, (2) $15,298
gross income and $16,285 net loss from Robert Iles Computer
Service, (3) $68,529 gross income and net profit from Robert's
role as business manager of Riago Trust, (4) $35,451 gross income
and $4,770 net loss from Maximum Management, (5) $35,648 as
grantor trust income from Riago Trust, and (6) $10,953 long-term
capital gain from the attempted sale of SSC.
Supra M. First Sale
of Interest in Structured Shelters of Cincinnati.
Petitioners
reported their total tax liability as $5,501 ($1,304 income tax,
$2,762 self-employment tax, and $1,435 alternative minimum tax).
3.
Petitioners' 1982 Tax Return
On April 15, 1983, petitioners filed for an extension of
time to file their 1982 tax return.
Respondent granted to
petitioners an extension to August 15, 1983.
Petitioners did not
seek, and respondent did not grant, any additional extensions for
petitioners' 1982 tax return.
Petitioners filed their 1982 tax
return on April 14, 1988, after the notices of deficiency were
issued and the petition was filed.
-37On their 1982 tax return, petitioners reported (1) $121,918
gross income and $106,416 net profit from Robert's role as trust
manager (presumably from Riago Trust), (2) $7,899 gross income
and $154 net profit from Maximum Management, (3) $178,658 as
grantor trust loss from Riago Trust, (4) $61,923 long-term
capital gain from the sale of SSC, and (5) a $3,589 short-term
capital gain pass-through from Riago Trust.
Supra N. Second Sale
of Interest in Structured Shelters of Cincinnati.
Petitioners
reported their total tax liability as $3,029, all from selfemployment tax.
4.
Structured Shelters' and Riago Trust's 1981
and 1982 Tax Returns
On its tax return for its fiscal year ended July 31, 1981,
filed on April 6, 1982, SSI reported gross income of only $8,347
and undistributed taxable income as a loss of $353,185.56.
tax return was signed by Monica.
This
Petitioners did not report any
pass-through income or loss from SSI on their tax return for
1981.
SSI did not file a tax return for its fiscal year ending
July 31, 1982.
Fiduciary tax returns for the Riago Trust for 1981 and 1982
were filed on September 10, 1988, several months after
petitioners filed their 1981 and 1982 tax returns.
The Riago
Trust's tax returns for these years treated the Riago Trust as a
grantor trust, with Robert as the grantor.
Petitioners' 1981 and
1982 tax returns include flow-through income and losses from the
-38Riago Trust.
Respondent agrees that the Riago Trust was a
grantor trust.
T.
Indictments; Criminal Convictions
On April 9, 1987, a Federal grand jury indicted petitioners
on 139 counts of criminal tax violations.
applied only to Monica.
Two of the counts
The 137 counts against Robert only, or
Robert and Monica, are as follows: (1) One count of conspiracy to
defraud the United States and investors in connection with
certain tax shelter sales in violation of 18 U.S.C. sec. 371
(1994); (2) 133 counts of aiding and assisting in the preparation
of false tax returns in violation of 26 U.S.C. sec. 7206(2); (3)
one count of willfully filing an income tax return which was
false as to a material fact (petitioners' 1980 tax return) in
violation of 26 U.S.C. sec. 7206(1); and (4) two counts of
willfully failing to file income tax returns for 1981 and 1982 in
violation of 26 U.S.C. sec. 7203.
In late 1987, Robert was found guilty on all 137 counts that
he was charged with.
On May 13, 1988, Robert was sentenced to 13
years imprisonment and fined $940,000 as a result of his
convictions.
Robert appealed the convictions relating to the tax
shelters, but not the convictions for false tax return (for 1980)
and for willfully failing to file tax returns (for 1981 and
1982).
Robert's convictions were affirmed.
Iles, 906 F.2d. 1122 (6th Cir. 1990).
United States v.
-39_______________________
In general, and in the case of each of the arrangements
described supra, Robert provided the initiating ideas and the
force necessary to put the arrangements into effect, while Monica
provided or oversaw the necessary administrative and technical
work to carry out the arrangements.
For each of the years 1980, 1981, and 1982, respondent has
shown by clear and convincing evidence that petitioners had an
underpayment of income tax required to be shown on their joint
tax return; the underpayment for each of these years was due to
Robert's fraud.23
OPINION
Respondent contends that (1) petitioners underpaid their
taxes for 1980 through 1982, (2) petitioners' underpayments for
these years are due in whole or in part to Robert's fraud, and
thus (3) Robert is liable for the fraud additions to tax under
section 6653(b).
Robert contends that he never had any intent to
deceive the Federal Government.
We agree with respondent.
23
In the instant case we are not called upon to determine
whether and, if so, then to what extent, any of these
underpayments were due to Monica's fraud. Supra note 3. Any
such fraud on Monica's part does not diminish Robert's fraudulent
responsibility for the underpayments.
-40When respondent seeks to impose the additions to tax under
section 6653(b),24 respondent has the burden of proof.
24
To carry
Sec. 6653(b) provides, in pertinent part, as follows:
SEC. 6653.
*
FAILURE TO PAY TAX.
*
*
*
*
*
*
(b) Fraud.-(1) In general.--If any part of any underpayment
(as defined in subsection (c)) of tax required to be
shown on a return is due to fraud, there shall be added
to the tax an amount equal to 50 percent of the
underpayment.
(2) Additional amount for portion attributable to
fraud.--There shall be added to the tax (in addition to
the amount determined under paragraph (1)) an amount
equal to 50 percent of the interest payable under
section 6601-(A) with respect to the portion of the
underpayment described in paragraph (1) which is
attributable to fraud, and
(B) for the period beginning on the last day
prescribed by law for payment of such underpayment
(determined without regard to any extension) and
ending on the date of the assessment of the tax
(or, if earlier, the date of the payment of the
tax).
For 1980 and 1981, the fraud addition to tax is provided for
in sec. 6653(b), the first sentence of which is the same as the
above-quoted sec. 6653(b)(1).
Par. (2) was added by sec. 325(a) of the Tax Equity and
Fiscal Responsibility Act of 1982, Pub. L. 97-248, 96 Stat. 324,
616, and was effective for taxes the payment of which (determined
without regard to any extension) is due after Sept. 3, 1982. In
the instant case, par. (2) is applicable to the additions to tax
determined against petitioners for 1982.
(continued...)
-41this burden for a year, respondent must prove the following: (1)
Robert has an underpayment of tax for that year, and (2) some
part of that underpayment is due to Robert's fraud.
7454(a);25
Sec.
Rule 142(b); e.g., Carter v. Campbell, 264 F.2d 930,
936 (5th Cir. 1959); Stone v. Commissioner, 56 T.C. 213, 220
(1971); Otsuki v. Commissioner, 53 T.C. 96, 105, 106 (1969).
Each of those elements must be proven by clear and convincing
evidence.
DiLeo v. Commissioner, 96 T.C. 858, 873 (1991), affd.
959 F.2d 16 (2d Cir. 1992); Parks v. Commissioner, 94 T.C. 654,
663-664 (1990); Hebrank v. Commissioner, 81 T.C. 640, 642 (1983).
For this purpose, respondent need not prove the precise
amount of the underpayment resulting from fraud, but only that
there is some underpayment and that some part of it is
24
(...continued)
The later amendments of this provision by sec. 1503 of the
Tax Reform Act of 1986 (Pub. L. 99-514, 100 Stat. 2085, 2742), by
sec. 1015(b)(2)(B) of the Technical and Miscellaneous Revenue Act
of 1988 (Pub. L. 100-647, 102 Stat. 3342, 3569), and by sec.
7721(a) of the Omnibus Budget Reconciliation Act of 1989 (OBRA
89--Pub. L. 101-239, 103 Stat. 2106, 2395) do not affect the
instant case.
As a result of OBRA 89, the revised fraud addition to tax
now appears in secs. 6663 and 6651(f).
25
SEC. 7454.
BURDEN OF PROOF IN FRAUD, FOUNDATION
MANAGER,
AND TRANSFEREE CASES.
(a) Fraud.--In any proceeding involving the issue
whether the petitioner has been guilty of fraud with intent
to evade tax, the burden of proof in respect of such issue
shall be upon the Secretary.
-42attributable to fraud.
E.g., Lee v. United States, 466 F.2d 11,
16-17 (5th Cir. 1972); Plunkett v. Commissioner, 465 F.2d 299,
303 (7th Cir. 1972), affg. T.C. Memo. 1970-274.
In carrying this
burden, respondent may not rely on Robert's failure to meet his
burden of proving error in respondent's determinations as to the
deficiencies.
E.g., Petzoldt v. Commissioner, 92 T.C. 661, 700
(1989); Habersham-Bey v. Commissioner, 78 T.C. 304, 312 (1982),
and cases cited therein.
Where fraud is determined for each of several years,
respondent's burden applies separately for each of the years.
Estate of Stein v. Commissioner, 25 T.C. 940, 959-963 (1956),
affd. sub nom. Levine v. Commissioner, 250 F.2d 798 (2d Cir.
1958); McLaughlin v. Commissioner, 29 B.T.A. 247, 249 (1933).
mere understatement of income does not establish fraud.
A
However,
a pattern of consistent underreporting of income for several
years is strong evidence of fraud.
Estate of Mazzoni v.
Commissioner, 451 F.2d 197, 202 (3d Cir. 1971), affg. T.C. Memos.
1970-144 and 1970-37; Adler v. Commissioner, 422 F.2d 63, 66 (6th
Cir. 1970), affg. T.C. Memo. 1968-100; Otsuki v. Commissioner, 53
T.C. at 108.
The issue of fraud is a factual question that is to be
decided on an examination of all the evidence in the record.
Plunkett v. Commissioner, 465 F.2d at 303; Mensik v.
-43Commissioner, 328 F.2d 147, 150 (7th Cir. 1964), affg. 37 T.C.
703 (1962); Stone v. Commissioner, 56 T.C. at 224.
In order to establish fraud as to Robert, respondent must
show that Robert intended to evade taxes, which he knew or
believed were owed, by conduct intended to conceal, mislead, or
otherwise prevent the collection of taxes.
E.g., Webb v.
Commissioner, 394 F.2d 366, 377 (5th Cir. 1968), affg. T.C. Memo.
1966-81; Powell v. Granquist, 252 F.2d 56, 60 (9th Cir. 1958);
Danenberg v. Commissioner, 73 T.C. 370, 393 (1979); McGee v.
Commissioner, 61 T.C. 249, 256-257 (1973), affd. 519 F.2d 1121
(5th Cir. 1975).
This intent may be inferred from circumstantial
evidence, Powell v. Granquist, 252 F.2d at 61; Gajewski v.
Commissioner, 67 T.C. 181, 200 (1976), affd. without published
opinion 578 F.2d 1383 (8th Cir. 1978), including the
implausibility of Robert's explanations, Bradford v.
Commissioner, 796 F.2d 303, 307 (9th Cir. 1986) (and cases
therein cited), affg. T.C. Memo. 1984-601; Boyett v.
Commissioner, 204 F.2d 205, 208 (5th Cir. 1953), affg. a
Memorandum Opinion of this Court dated Mar. 14, 1951.
We consider first whether petitioners have an underpayment
of tax for one or more of the years in issue, and then we
consider whether any part of any underpayment is due to Robert's
fraud.
-44A.
Underpayments of Tax
For purposes of the fraud addition to tax, the term
"underpayment" means a "deficiency", as defined in section 6211,
except that the tax shown on the tax return is taken into account
only if that tax return was filed on or before the last day
prescribed for filing that tax return, determined with regard to
any extension of time for that filing.
Sec. 6653(c)(1).
In the
instant case, each of petitioners' 1980, 1981, and 1982 tax
returns was filed after the extended due dates, and thus the tax
shown on each of these returns is not taken into account in
determining the existence or amount of an underpayment.
Secs.
6653(c)(1) and 6211(a)(1)(A).
On their late-filed tax returns, petitioners reported tax
liabilities for each of the years 1980, 1981, and 1982.
These
admissions (Fed. R. Evid. 801(d)(2)(A)) have not been effectively
disputed by Robert.
In these circumstances, we conclude that
respondent has thereby carried the burden of proving by clear and
convincing evidence that petitioners have an underpayment of tax
for each of the years in issue.
See, e.g., Bank of the West v.
Commissioner, 93 T.C. 462, 468 (1989), and cases cited therein.
However, we examine into additional sources of underpayments for
each of these years in order to assist in determining whether any
parts of these underpayments are due to Robert's fraud.
-45Respondent's determinations in the notices of deficiency are
based primarily on respondent's contention that petitioners had
unreported income from money petitioners appropriated for their
personal benefit from accounts that petitioners purported to
manage as trustees or fiduciaries for others.
We proceed to
consider the elements of this contention.
Table 1, drawn largely from a stipulated exhibit that Robert
prepared, shows many of the business entities Robert was
associated with between 1973 and 1983.
Robert also was the sole
shareholder of Audio Research Analysts, Inc., and Super Swirl,
Inc., during part of the period before the Court.
-46Table 1
End Date
Business
Start Date
Associates
1973
Robert Iles Computer
Services, Inc.
Robert's
Activity
Bookkeeping
& Tax Related
Legal Form
Sole
Proprietorship
Interest
Owner
July 1982
Computer
Services
Corporation
90% Shareholder
Consultants
1979
Bookkeeping
& Tax Return
Preparation
Corporation
75% Shareholder
Robert Iles, et al.
1978
Computer
Software
Partnership
65% Partner1
The Cocoa Trusts
May 1980
Investment
Trusts
SSC2
Shareholder
1980
Financial
Corporation
(if applicable)
Early
1980s
1980
3-22-82
(Sold)
Trustee
Sole
Planning/
Chartered Rep.
SSI
1980
Financial
Planning/
Market Tax
Shelters
S Corporation
52% Shareholder
(plus Monica's 24%)
Random Processing
Service, Inc.
By 1980
Prepared
Financial
Reports
Corporation
Sole Shareholder3
Free Enterprise Trust
1981
Investments
Trust
Trustee
Riago Revocable Trust
May 1981
Held all of
Trust
Trustee
Ps' Assets
Lincoln American
Shareholder
Securities
Aug. 1981
Securities
Dealer
Corporation
Sole
-47-
SSSI
Aug. 1982
BrokerDealer
Corporation
52% Shareholder
(plus Monica's 24%)
SSFMI
Aug. 1982
Investment
Adviser
Corporation
52% Shareholder
(plus Monica's 24%)
-481
Robert states that he was a 52-percent partner. The
partnership's 1979 tax return shows, and we have found, that
Robert was a 65-percent partner. Supra H. Robert Iles, et al.,
note 12.
2
Supra note 5 deals with the inconsistencies in the record
as to when SSC was incorporated. Our finding is in accordance
with the parties' stipulations. In addition, Robert's impression
was that he sold SSC on Mar. 19, 1982; we have found that it was
3 days later. Supra N. Second Sale of Interest in Structured
Shelters of Cincinnati.
3
In an earlier case, based on the record in that case we
had found that Random Processing Services, Inc., was Monica's
corporation. In the instant case, the parties have stipulated,
and we have found, that it was Robert's corporation. Supra note
6.
Respondent need not prove that petitioners did not have
offsetting deductions.
Once the Commissioner has presented clear
and convincing evidence of unreported gross receipts, the
taxpayer has the burden of coming forward with evidence as to
offsetting deductions claimed by the taxpayer, even in criminal
cases where the Government must prove a deficiency beyond a
reasonable doubt.
E.g., United States v. Hiett, 581 F.2d 1199,
1202 (5th Cir. 1978); United States v. Campbell, 351 F.2d 336,
338-339 (2d Cir. 1965); Elwert v. United States, 231 F.2d 928,
933 (9th Cir. 1956); see also Reiff v. Commissioner, 77 T.C.
1169, 1175 (1981).26
(1) 1980
26
This rule is independent of the general rule applicable
to civil cases, in which the taxpayer has the burden of proving
entitlement to deductions before they may be allowed. Rule
142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933).
-49In the notice of deficiency for 1980, respondent determined
that petitioners had unreported income from (1) the Cocoa Trusts,
(2) the Monica Iles Shelters Trustee account, and (3) Random
Processing Services, Inc.
In 1980, Monica wrote four checks totaling $100,000 to
Robert from the Cocoa Trusts Escrow Fund.
As our Findings of
Fact show (supra H. Robert Iles, et al.), $90,000 of this total
went to pay off a loan by a partnership in which Robert had a 65percent interest.
Monica testified, without contradictory
testimony by Robert, that the primary motive was to remove the
lender's security interest in assets in petitioners' personal
residence and business office.
Another check to Robert, for
$6,000, was a commission payment.
We have found that all
$100,000 was 1980 income to Robert.
Pursuant to the parties' stipulation, we have found that in
1980, 38 checks totaling $45,631.78 drawn on the Monica Iles
Shelters Trustee account were written to petitioners or on their
behalf.
We have found that the entire amount was income to
petitioners.
Supra K. Monica Iles Shelters Trustee Account.
Pursuant to the parties' stipulation, we have found that in
1980 five checks totaling $8,675 drawn on Random Processing
Services' bank account were written to petitioners.
We have
found that the entire amount was income to petitioners.
Random Processing Services.
Supra J.
-50None of the foregoing amounts were reported on petitioners'
1980 tax return.
There is no indication of offsetting deductions or credits.
We conclude, and we have found, that respondent has shown by
clear and convincing evidence that petitioners had an
underpayment of tax for 1980.
(2)
1981
In the notices of deficiency for 1981, respondent determined
that petitioners had unreported income from (1) the Cocoa Trusts,
(2) the Monica Iles Shelters Trustee account, (3) Random
Processing Services, Inc., (4) the FE Trust, (5) SSI, and (6)
Maximum Management, and had unreported capital gain from the
attempted sale of SSC.
Pursuant to the parties' stipulation, we have found that in
1981, seven checks totaling $29,300 were written to Robert from
the Cocoa Trusts Escrow Fund.
We have found that the entire
amount was 1981 income to petitioners.
Supra G. Cocoa Trusts.
Pursuant to the parties' stipulation, we have found that in
1981, 29 checks totaling $42,961.11 were drawn on the Monica Iles
Shelters Trustee account to Robert or to third parties on
petitioners' behalf.
We have found that the entire amount was
1981 income to petitioners.
Trustee Account.
Supra K. Monica Iles Shelters
-51Pursuant to the parties' stipulation, we have found that a
$1,000 check was drawn on the Random Processing Services' bank
account to Monica.
We have found that the entire amount was 1981
income to petitioners.
Supra J. Random Processing Services.
We have found that, on December 17, 1981, $176,500 was
withdrawn from the FE Trust's Southern Ohio Bank account, and
shortly thereafter deposited in an escrow account to help fund
Robert's appeal bonds.
We have found that the entire amount was
1981 income to petitioners.
Supra I. Lincoln American
Securities.
Pursuant to the parties' stipulation, we have found that 37
checks and 1 wire transfer totaling $129,285.67 were drawn on
SSI's Southern Ohio Bank account to petitioners or on their
behalf.
We have found that the entire amount was 1981 income to
petitioners.
Supra C. SSI and Its Chartered Representatives.
We have also found that two checks totaling $23,000, written
to third parties on petitioners' behalf as performance bonuses
for Robert, and one check for $25,000, with the notation "R. Iles
personal draw", were drawn on SSI's Gradison Cash Reserves
Account and are 1981 income to petitioners.
Supra C. SSI and Its
Chartered Representatives, and I. Lincoln American Securities.
We have found, based on SSI's books and records, that for
its fiscal year ended July 31, 1981, SSI received, and deposited
into the Structured Shelters bank account, $436,400 in gross
-52income, consisting of $374,000 from Chartered Representative
fees, $8,900 from setup fees, and $53,500 from options.
SSI's
own fiscal 1981 subchapter S corporation tax return reported only
$8,347 in gross income.
We have found that SSI's undistributed
taxable income for its fiscal 1981 was $108,238.39, and
petitioners' 76-percent share of this is $82,261.18, which is
taxable to petitioners for 1981.
Supra C. SSI and Its Chartered
Representatives.
Under the law then in effect, the undistributed taxable
income of a subchapter S corporation for a taxable year was
required to be included in the gross incomes of those persons who
were shareholders of the corporation on the last day of that
taxable year of the corporation, in proportion to those
shareholdings.
Sec. 1373(b).
In general, undistributed taxable
income was taxable income minus dividends distributed.
See
1373(c).27
Our findings take into account the distributions that SSI
made to its shareholders in SSI's fiscal year ended July 31,
1981.
These distributions reduce the amount of SSI's fiscal 1981
undistributed taxable income.
27
The distributions made later in
These rules were substantially revised effective for
taxable years beginning after Dec. 31, 1982. Secs. 2 and 6(a) of
the Subchapter S Revision Act of 1982, Pub. L. 97-354, 96 Stat.
1669, 1697. The revisions (see especially secs. 1366-1368) do
not apply to SSI's taxable years ending July 31, 1981, and 1982,
and so do not affect the instant case.
-531981 are 1981 income to petitioners but reduce the amount of
SSI's undistributed taxable income for SSI's fiscal 1982.
We have found that, during 1981, Maximum Management wrote a
$300 check to Monica, and wrote $5,225.92 in checks to Watkins to
pay for Watkins' services in taking care of petitioners'
children.
We have found that Maximum Management was Monica's
sole proprietorship.
Supra L. Maximum Management.
The notices
of deficiency refer to Maximum Management as one of "several
business accounts, over which you exercised control."
Petitioners' 1981 tax return, on which petitioners characterized
Maximum Management as Monica's sole proprietorship, was filed
more than 6 months after the notice of deficiency was sent to
Monica.
Ordinarily, a personal diversion of funds from a sole
proprietorship is not directly an income item to the proprietor-however, such a diversion of funds may not be treated as an
allowable deduction in calculating the sole proprietorship's net
income or loss.
The net income or loss is then taken into
account in determining the sole proprietor's adjusted gross
income.
In the instant case, neither side attempted to
reconstruct Maximum Management's income and deductions.
However,
Monica testified that, the way Maximum Management was intended to
operate, it "should have zero at the end".
Under the
circumstances of the instant case, we treat the $300 check to
Monica and the $5,225.92 in checks to Watkins as leading to a
-541981 net profit of $5,525.92 to Maximum Management, which results
in $5,525.92 additional 1981 income to petitioners.
Although
self-employment taxes are generally the liability of the taxpayer
earning the income, under section 1.6017-1(b)(2), Income Tax
Regs., the liability with respect to these taxes in the case of a
joint return is joint and several.
Thus, Robert, too, is liable
for self-employment tax on the $5,525.92, even though Monica had
the self-employment income.
We have so found, and we so hold.
As we have found, petitioners are taxable on $10,953 of 1981
long-term capital gain resulting from Robert's effort to sell an
interest in SSC to Elliot.
Supra M. First Sale of Interest in
Structured Shelters of Cincinnati.
In the notice of deficiency,
respondent had determined that "the benefits of capital gains
treatment are not available to you [Robert]."
Petitioners, in
their belated 1981 tax return, provided the information that the
gain was $10,953, not the $10,000 determined in the notice of
deficiency.
Respondent concedes on brief that the income is
long-term capital gain and that, as a result, 60 percent of the
gain is excluded from income and so only $4,381 is includable in
petitioners' 1981 adjusted gross income on account of this
transaction.
return.
This is in accord with petitioners' 1981 tax
-55Thus, (1) petitioners' gain on the transaction is $953 more
than the amount determined in the notice of deficiency, but (2)
because of the 60-percent exclusion, petitioners' adjusted gross
income from the transaction is $5,619 less than the amount
determined in the notice of deficiency.
Petitioners failed to file a timely 1981 tax return.
In
fact, petitioners' 1981 tax return was filed after the notices of
deficiency were issued in the instant case.
In their late-filed
1981 tax return, petitioners acknowledged a tax liability of
$5,501.
Our findings show that petitioners' 1981 income subject
to tax is far greater than what they reported on their 1981 tax
return.
There is no indication of offsetting deductions or credits.
We conclude, and we have found, that respondent has shown by
clear and convincing evidence that petitioners had an
underpayment of tax for 1981.
(3)
1982
In the notices of deficiency for 1982, respondent determined
that petitioners had unreported income from (1) Random Processing
Services, Inc., (2) SSI, (3) the FE Trust, and (4) Maximum
Management, and had unreported capital gain from the sale of SSC.
Pursuant to the parties' stipulation, we have found that in
1982 two checks totaling $15,000 were drawn on the Random
Processing Services' bank account to Monica.
We have found that
-56the entire amount was 1982 income to petitioners.
Supra J.
Random Processing Services.
Pursuant to the parties' stipulation, we have found that 36
checks totaling $198,850 were drawn on SSI's Southern Ohio Bank
account to petitioners or on their behalf.
We have found that
the entire amount was 1982 income to petitioners.
Supra C. SSI
and Its Chartered Representatives.
Pursuant to the parties' stipulations, we have found that in
1982 SSI paid $170,500 to SSSI as capital contributions to SSSI,
and that SSI paid $59,237.27 to Finkelstein, Thompson, and
Levenson as capital contributions to SSSI.
The parties did not stipulate the status of check no. 3205,
written to Howard Blumenthal in the amount of $18,716, dated
September 30, 1982.
However, the parties stipulated a
memorandum, also dated September 30, 1982, by Monica to Basti.
In this letter, Monica directs Basti to treat this check and two
other checks as follows:
These funds should be posted as contributed capital to
the broker/dealer. [SSSI] * * * The capital
contribution on behalf of Adrian Doyle, Robert Iles,
Sr., and Monica Iles is 24%, 52% and 24% respectively.
Neither side has drawn our attention to anything in the record
contradicting the clear import of this evidence, and we have not
found any such contradicting evidence.
We conclude, and we have
found, that respondent has shown by clear and convincing evidence
that SSI paid $18,716 to Howard Blumenthal as a 1982 capital
-57contribution to SSSI.
We have found that in 1982 SSI paid
$14,000 to SSFMI as capital contributions to SSFMI.
All the foregoing contributions were on behalf of Robert,
Monica, and Doyle.
Robert held 52-percent interests in all three
corporations (SSI, SSSI, and SSFMI), and Monica and Doyle each
held 24-percent interests in all three corporations.
Respondent
concedes on brief, and we agree, that petitioners' income does
not include the 24 percent allocable to Doyle.
Thus, petitioners
had 1982 income in the amount of 76 percent (52 plus 24) of
$262,453.27 ($170,500 plus $59,237.27 plus $18,716 plus $14,000),
or $199,464.49, on account of SSI's 1982 payments of capital
contributions to SSSI and SSFMI on petitioners' behalf.
We have
so found.
Respondent also asks us to conclude that-An additional nineteen SSI checks, totalling $2,408.00,
represent payments for state registration fees or
accounting services for SSSI or SSFMI, and are also
contributions to the capital of SSSI or SSFMI. (RPFF
¶¶ 255, 263, 264) All of these amounts were payments
by SSI to fund the personal acquisition by Robert Iles,
Monica Iles, and Adrian Doyle of individual ownership
interests in SSSI or SSFMI.
The cited proposed findings of fact direct our attention to one
$550 SSI check to Kolbinski and Kling, and two statements by
Kolbinski and Kling to SSSI for services rendered, in the amounts
of $300 and $750.
Respondent does not direct our attention to
anything in the record, including respondent's tables and
explanations, that would show that in 1982 SSI paid any debt of
-58SSSI or SSFMI, and we have not found anything in the record that
would so show.
We conclude, and we have found, that petitioners' 1982
income on account of SSI's payments that constitute capital
contributions to SSSI and SSFMI is $199,464.49.
We have found that in February 1982, Robert, as trustee for
the Riago Trust, bought a Rolls Royce car for $79,000; that SSI
paid the $79,000 purchase price; and that a month later SSI paid
the $4,345 sales tax.
We have found that the entire $83,345 was
recorded on SSI's books as performance bonuses to Robert and is
1982 income to petitioners.
Supra O. Rolls Royce.
We have found, based largely on SSI's books and records,
that SSI's undistributed taxable income for its fiscal year ended
July 31, 1982, is $1,413,319.10.
This is after giving effect to
deductions under section 1373(c) on account of more than $850,000
of SSI payments to or for the benefit of petitioners and Doyle
during that fiscal year.
We have found that petitioners' share
of SSI's undistributed taxable income is $1,074,122.52; under
section 1373(b), this is taxable to petitioners for 1982.
Supra
C. SSI and Its Chartered Representatives.
We have found that on February 5, 1982, Robert bought the
Jet, acting individually and on behalf of the Rise Trust.
It
appears that the Rise Trust was merely a name used by Robert,
Monica, and Doyle (in their by-then usual ownership interest
-59ratios of 52, 24, and 24, respectively) in which to own the Jet.
We have found, pursuant to the parties' stipulations that in
February 1982, SSI paid the $25,000 deposit on the Jet and FE
Trust paid the $375,000 delivery installment on the Jet.
A
dispute then developed between the Jet's seller and the Rise
Trust trio.
It is not clear what eventually happened to the Jet.
However, in March 1983, on a net worth statement petitioners
submitted in connection with a loan application, petitioners
claimed that their 76-percent interest in the Jet was worth
$361,000.
Also, on a net worth statement dated October 23, 1984,
the Riago Trust claimed that its 76-percent interest in the Jet
was worth $361,000.
We have found that 76 percent of SSI's
($25,000) and FE Trust's ($375,000) 1982 payment--$304,000--is
1982 income to petitioners.
Supra P. Saberliner Jet Aircraft.
We have found that, during 1982, Maximum Management wrote
$6,049.81 in checks to Watkins to pay for Watkins' services in
taking care of petitioners' children.
For reasons set forth
supra note 20, we conclude that three other checks, totaling
$352.97 do not constitute 1982 income to petitioners.
For
reasons set forth in our analysis of petitioners' 1981 income
from Maximum Management, supra, we conclude that Maximum
Management had a 1982 net profit of $6,049.81, which results in
$6,049.81 additional 1982 income to petitioners.
We so hold.
-60We have found that Robert sold SSC to Maerki.
In 1982, SSC
paid $51,923.29 to SSI, of which $1,923.29 was interest.
1982, SSC paid $10,000 to Robert.
In
On their late-filed 1982 tax
return, petitioners acknowledged $61,923 gain from this
transaction, thereby conceding that they did not have any as-yetunrecovered basis in SSC.
Also, petitioners do not contend that
they should be taxable on only 76 percent of the SSI receipts,
because of Doyle's 24-percent interest in SSI.
Respondent does
not contend that petitioners had any additional income from the
transaction and agrees with petitioners' long-term capital gain
treatment of all but the interest component.
We conclude that
the record clearly shows that $1,923.29 of SSC's payment to SSI
was interest, and we have so found.
Supra N. Second Sale of
Interest in Structured Shelters of Cincinnati.
We hold for respondent on this issue.
Petitioners failed to file a timely 1982 tax return.
In
fact, petitioners' 1982 tax return was filed after the notices of
deficiency were issued in the instant case.
In their late-filed
1982 tax return petitioners acknowledged a tax liability of
$3,029.
Our findings show that petitioners' 1982 income subject
to tax is far greater than what they reported on their 1982 tax
return.
There is no indication of offsetting deductions or credits.
-61We conclude, and we have found, that respondent has shown by
clear and convincing evidence that petitioners had an
underpayment of tax for 1982.
(4)
Summary
We hold that petitioners had an underpayment of tax for each
of the years 1980, 1981, and 1982.
We hold for respondent on this issue.
B.
Fraudulent Intent
As Robert's own listing of his business enterprises (supra
table 1) suggests, and as our Findings of Fact amply confirm,
Robert wove a marvelously tangled web.28
Throughout the period before us Robert created and managed
or supervised entities designed to produce or manage cash-flows.
Robert saw to it that he and Monica tapped into these cash-flows
to satisfy their own personal standard-of-living needs, or their
investment or legal defense needs, without regard to whether
those "tap-ins" were legitimate expenditures by the entities
whose cash was used.
In most instances it appears that the
entities did not file Federal income tax returns.
Some entities
were little more than misleading names on bank accounts.
28
Oh, what a tangled web we weave,
When first we practice to deceive!
--Sir Walter Scott, Marmion, canto VI,
stanza 17 (1808).
-62These freewheeling activities generated income subject to
tax for petitioners.
Robert understood enough about Federal
income tax laws to understand this.
Many of the entities he
created were advertised as entities that could facilitate tax
shelter investments, or that could prepare or assist in preparing
Federal income tax returns.
Yet Robert failed to report
substantial amounts of the income thus generated.
Petitioners
filed their 1980 tax return about 3 months late.
They did not
file their 1981 and 1982 tax returns until after the notices of
deficiency were issued, many years late.
Even then, they failed
to report substantial amounts of their income.
In his opening statement Robert claimed as follows:
As to the 1981, 1982, failure to file, under advice of
counsel because of an ongoing fraud investigation by a
Norman Heidleberger, it was -- the advice was given to
us by counsel not to file income tax returns. That to
file the tax return could adversely affect us in the
way of a criminal investigation so therefore following
counsel's advice we did not file.
Robert testified, but he did not repeat under oath this
contention from his opening statement.
Monica testified as follows:
the advice from Mr. Moore was to clear up the criminal
investigation which had already ensued before filing
another tax return.
The following colloquy then occurred:
BY MR. HILL:
Q. Mrs. Iles, you testified as to advice from Mr.
Moore with respect to the filing of tax returns and
-63that he advised that the return should not be filed
until the criminal investigation was cleared up. When
is it your recollection that Mr. Moore provided you
with that advice?
A. Right after I moved to Florida.
it would be around September of '83.
However:
In fact, so
(1) Petitioners' 1980 tax return was filed about 3
months after the extended due date; it was filed, petitioners
wrote, "under duress due to summons and it will be amended"; and
it was not amended during the 2 years between the filing of this
tax return and the receipt of the asserted advice about not
filing tax returns.
(2) The asserted advice was not given until
about 11 months after the extended due date for the 1981 tax
return.
(3) The asserted advice was not given until about 1
month after the extended due date for the 1982 tax return.
Thus,
even if we credit the accuracy of Monica's testimony as to the
precise advice that petitioners understood they received,29 this
advice still would not explain petitioners' failure to timely
file their tax returns for any of the years in issue.
Nor would
this advice affect petitioners' failure to report substantial
29
The "Mr. Moore" referred to by Monica and respondent's
counsel is John N. Moore, who filed the petition in the instant
case and was petitioners' counsel herein until Apr. 29, 1991,
when he withdrew from the case. None of the documents filed by
Moore on petitioners' behalf in the instant case during the 3-1/2
years before Moore's withdrawal indicated that Moore had advised
petitioners to delay filing any of their tax returns. Moore was
not called as a witness in the instant case.
-64amounts of income on each of the tax returns they actually filed
for the years in issue.
Based on the foregoing summary, our observations of Robert
at and in connection with the trial, and the record as a whole,
we conclude (and we have found) that respondent has shown by
clear and convincing evidence that the underpayment of tax for
each of the years in issue was due to Robert's fraud.
In order to take account of (1) the effect of petitioners'
late-filed joint tax returns for 1981 and 1982 (see supra, our
discussion of Phillips v. Commissioner, 86 T.C. 433 (1986), affd.
on this issue and revd. on another issue 851 F.2d 1492, 1496-1498
(D.C. Cir. 1988)), (2) respondent's concessions, and (3) our
determinations in the instant report that (a) certain items were
not income to petitioners,30 and (b) respondent carried the
burden of proof in certain assertions that petitioners had income
items in addition to those determined in the notices of
deficiency,
Decision will be entered
under Rule 155.
30
We had dismissed Robert's case insofar as he had the
burden of proof. However, in addition to respondent's
concessions, in a few instances the record clearly shows that the
notices of deficiency were wrong. Our determinations in the
instant report in this regard supersede our previous order of
dismissal.
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