United States Tax Court

Agency decision

Ask Donna

What actually matters in this document.

Text

T.C. Memo. 2022-52

GENECURE, L.L.C., FRANK Y. TUNG, TAX MATTERS PARTNER,

Petitioner

COMMISSIONER OF INTERNAL REVENUE,

Respondent

—————

Docket No. 14916-15.

Filed May 23, 2022.

—————

Frank Y. Tung, pro se.

John T. Arthur, Rubinder K. Bal, Rebeccah L. Bower, Christopher D.

Bradley, and Shannon E. Craft, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

JONES, Judge: This TEFRA 1 partnership-level case was heard

pursuant to section 6226(a)(1). 2 Petitioner, Frank Y. Tung (Mr. Tung),

seeks review of adjustments made by the Internal Revenue Service (IRS)

in Notices of Final Partnership Administrative Adjustment (FPAA)

issued to Genecure, L.L.C. (Genecure), for taxable years 2009–12.

The outstanding issues for decision are whether Genecure: (1) had

unreported income of $6,000; $21,578; and $7,000 for taxable years

1 Before its repeal, TEFRA (the Tax Equity and Fiscal Responsibility Act of

1982, Pub. L. No. 97-248, §§ 401–407, 96 Stat. 324, 648–71) governed the audit and

litigation procedures for many partnerships.

2 Unless indicated otherwise, all statutory references are to the Internal

Revenue Code (Code), Title 26 U.S.C., in effect at all relevant times, all regulatory

references are to the Code of Federal Regulations, Title 26 (Treas. Reg.), in effect at all

relevant times, and all Rule references are to the Tax Court Rules of Practice and

Procedure. All monetary amounts are rounded to the nearest dollar.

Served 05/23/22

[*2] 2009–11, respectively, 3 (2) had various deductible business

expenses of $180,586; $161,004; 4 $174,229; and $123,963 for taxable

years 2009–12, respectively, (3) is subject to a $230,979 recapture tax

for excess amounts received as a Qualified Therapeutic Discovery

Project (QTDP) grant in taxable year 2010, 5 (4) received a $200,000 loan

from a limited liability company member (LLC), Lilly Tung (Mrs. Tung),

in taxable year 2009, 6 (5) received a $100,000 capital contribution from

Mrs. Tung in taxable year 2011, 7 and (6) is liable for section 6663 civil

fraud penalties for any underpayments of tax attributable to fraud for

taxable years 2009–12. 8

We resolve these issues largely in respondent’s favor.

FINDINGS OF FACT

This case was tried in Atlanta, Georgia. The Stipulations of

Facts, including the jointly stipulated exhibits contained therein, are

incorporated by this reference. At the time Mr. Tung filed the Petition,

Genecure’s principal place of business was located in Norcross, Georgia. 9

3 Respondent conceded the determination in the FPAA for taxable year 2012

that Genecure had unreported gross receipts or sales of $388.

Respondent conceded $18,000 in purported business expense deductions

(specifically, research and development expenses) previously disallowed in the FPAA

for taxable year 2010.

5 Respondent conceded the determination in the FPAA for taxable year 2009

that QTDP grant recapture should be applied to that year.

6 The IRS also determined in the FPAA for taxable year 2009 that the loan

lacked economic substance—a determination that Mr. Tung challenged in the Petition.

However, respondent did not pursue the argument on brief. We therefore deem it

abandoned. See Mendes v. Commissioner, 121 T.C. 308, 312–13 (2003).

7 Respondent conceded the determination in the FPAA for taxable year 2009

that Genecure failed to substantiate any capital contribution received during that

year. Genecure did not report any capital contribution on its return for that year.

Respondent also conceded the determination that Genecure failed to substantiate

capital contributions from LLC members other than Mrs. Tung in taxable year 2011.

8 Respondent conceded his alternative determinations in the FPAAs for each

of the taxable years at issue with respect to the applicability of accuracy-related

penalties under section 6662(a).

9 Absent stipulation to the contrary, this case is appealable to the U.S. Court

of Appeals for the Eleventh Circuit. See § 7482(b)(1)(E).

[*3] I.

Genecure and Mr. Tung

Genecure is a biotechnology firm and is organized as a

member-managed LLC. It is treated as a partnership for federal income

tax purposes. 10 See Treas. Reg. § 301.7701-3(b)(1). Among other things,

Genecure was involved in the research and development of a therapeutic

vaccine 11 for the disease caused by the human immunodeficiency virus

(HIV) that would eliminate the need for antiviral drug treatment for

those infected. It operated primarily out of a facility located at 3150

Corners North Court, Norcross, Georgia (3150 Corners), at all relevant

times.

Genecure was founded by Mr. Tung in 1999. During the taxable

years at issue, Mr. Tung possessed the largest ownership interest in

Genecure and served as its member manager as well as its tax matters

partner (TMP); he also represented himself to be its chief executive

officer in dealings with outside parties. Prior to founding Genecure, Mr.

Tung was a professor at multiple academic institutions, including the

University of Florida and the University of Pittsburgh. He earned his

bachelor’s and master’s degrees in Taiwan and completed his doctoral

studies in the United States, including postdoctoral research at the

Harvard Medical School.

Throughout the taxable years at issue, Genecure paid for various

expenses in connection with its research and development activity (e.g.,

liquid nitrogen, pipettes, enzymes). Genecure was also engaged in

multiple contractual service and collaborative research relationships

during this period, including with Georgia State University Research

Foundation, Inc. (GSURF), MPI Research, Inc. (MPI), and the

University of Miami (UM). Under an agreement executed in November

2008, Genecure and GSURF entered into a collaborative research

relationship whereby Genecure provided funding for research activities

in exchange for the use of Georgia State University (GSU) facilities and

equipment. One project sponsored by Genecure under this agreement

was SP0000ALW95. Under an agreement executed in September 2009

10 By extension, members of the LLC are treated analogously to partners in a

partnership.

11 Therapeutic vaccines are nonprophylactic and are designed to treat diseases

by eliciting an immune response. See Ctr. for Biologics Evaluation & Rsch., U.S. Food

& Drug Admin., Guidance for Industry: Preclinical Assessment of Investigational

Cellular and Gene Therapy Products 28 (Nov. 2013), https://www.fda.gov/

media/87564/download.

[*4] with MPI, Genecure sponsored a toxicity study in rats of an HIV

vaccine it had engineered. Lastly, under an agreement executed in July

2011 with UM, Genecure also sponsored a clinical trial study (in

humans) to evaluate the safety and immunogenicity of its HIV vaccine; 12

this study started in July 2011 and was carried out by Dr. Margaret

Fischl of UM School of Medicine. 13

Genecure was not a profitable entity during any of the years at

issue. Nonetheless, Genecure was not without income. In taxable years

2009–11, respectively, Genecure received $6,000; $20,000; and $7,000

from Washington Biotechnology, Inc. (WBI). These payments were

received pursuant to a settlement agreement and as compensation for

material damages attributable to WBI’s failure to carry out a contracted

toxicology study in compliance with applicable federal regulations. In

taxable year 2010, Genecure also received two checks totaling $1,578

from Hiroshi and Hiromi Yoshida. This sum of money was received for

reagent prepared by Genecure.

II.

QTDP Program

In 2010, Congress passed the Patient Protection and Affordable

Care Act (ACA), Pub. L. No. 111-148, 124 Stat. 119 (2010). ACA

§ 9023(a), 114 Stat. at 877, created an incentive program for small

businesses engaged in a QTDP by allowing taxpayers to claim a credit

for certain expenses, which was codified at section 48D. This incentive

program was only in effect for taxable years beginning in 2009 or 2010,

and the credit was computed as 50% of a taxpayer’s “qualified

investment” in such taxable years in a qualifying project. 14 See § 48D(a),

(b)(5). In lieu of a credit, taxpayers were permitted to elect to receive

this benefit in the form of a cash grant. 15 See ACA § 9023(e), 114 Stat.

at 881. The IRS released I.R.S. Notice 2010-45, 2010-23 I.R.B. 734, to

provide taxpayers guidance on the procedures governing application for

the QTDP credit or grant.

12 We make no finding whether this HIV vaccine was the same as that under

study by MPI.

Unit.

13 Dr. Fischl was the director of the medical school’s AIDS Clinical Research

Whether Genecure’s HIV vaccine development constituted a qualifying

project is not at issue.

15 This election was particularly beneficial for taxpayers without sufficient

income to make use of the credit.

[*5] Genecure applied for the QTDP program in 2010 using Form

8942, Application for Certification of Qualified Investments Eligible for

Credits and Grants Under the Qualifying Therapeutic Discovery Project

Program. Genecure initially applied under the name “GeneCure

Biotechnologies”; however, in an amended Form 8942, it applied under

the name “GeneCure LLC.” Between the initial and amended Forms

8942, there was no difference apart from the variation in applicant

name. On the Forms 8942, Genecure reported that its project concerned

the development of therapeutic HIV vaccines, and it made elections to

receive any credits attributable to qualified investments certified by the

IRS in the form of grants. Moreover, it reported qualified investments

of $600,000 and $1,060,000 in taxable years 2009 and 2010, respectively.

In a Letter 4615 dated October 29, 2010, the IRS informed

Genecure that it had certified $488,958 in qualified investments

Genecure reported and that a grant of $244,479 had been approved. 16

The Letter 4615 does not state whether the certified qualified

investments related to taxable year 2009, 2010, or both; however, the

parties have stipulated that the $244,479 awarded as a grant was

attributable to qualified investments reported for taxable year 2009. On

November 10 and 16, 2010, respectively, Genecure received electronic

transfers of $44,479 and $200,000 to its BB&T Bank account (-1487).

On April 8, 2011, the IRS informed Genecure that as a recipient

of a QTDP grant, it was required to amend its tax return for taxable

year 2009 by reducing its previously reported deductible expenses and

depreciable costs. 17 Genecure responded to the IRS in a letter dated

May 8, 2011, stating that it did not believe an amended return for 2009

was necessary. Genecure did not file an amended return for taxable

year 2009.

III.

Genecure’s Returns at Issue

Genecure timely filed Forms 1065, U.S. Return of Partnership

Income, for the taxable years at issue (i.e., 2009–12).

16 The amount certified was far less than the aggregate $1,660,000 reported

qualified investment. Because the QTDP program was oversubscribed and capped at

$1 billion for the years in which it was in effect, see § 48D(d)(1)(B), the IRS was limited

in its ability to certify the full amounts reported by interested taxpayers.

17 Section 48D(e)(2)(B) denies taxpayers who receive a QTDP credit or grant

from also claiming a deduction for the same underlying expenses.

[*6]

2009 Return

Among other things, Genecure indicated on its 2009 return that

it was a cash method taxpayer and reported (with respect to its trade or

business) no items of income; $100,000 in deductible rent expenses; and

$80,586 in “other” deductible expenses. In Statement 1 included with

the return, Genecure itemized the “other” deductible expenses as

follows: $925 (“Accounting”); $26 (“Bank Charges”); $1,082 (“Dues and

Subscriptions”);

$3,400

(“Insurance”);

$3,234

(“Legal

and

Professional” ); $574 (“Office Supplies”); −$2,027 (“Other Income/

(Expenses)”); $56,279 (“Research & Development”); $3,242

(“Telephone/Internet”); $5,424 (“Travel”); and $8,427 (“Utilities”).

Moreover, Genecure reported on Schedule L, Balance Sheets per

Books, that it had $200,000 in “Other liabilities” at taxable yearend. In

Statement 3 attached to the return, it indicated that the $200,000 was

solely attributable to a loan from Mrs. Tung, who was married to Mr.

Tung at all relevant times. According to the Schedule L, this $200,000

loan was Genecure’s only new liability during the taxable year and its

only liability as of taxable yearend.

Genecure also attached completed Schedules K–1, Partner’s

Share of Income, Deductions, Credits, etc., for 28 partners stating their

individual tax-basis capital account balances at the beginning of taxable

year 2009. 19 Notwithstanding the reported $200,000 liability at taxable

yearend, no portion of the purported loan was allocated among the 28

partners on the respective Schedules K–1.

As stated previously, Genecure did not file an amended return for

taxable year 2009 to reduce the deductible expenses it had initially

reported and for which it received the QTDP grant. See supra note 17.

2010 Return

Among other things, Genecure indicated on its 2010 return that

it was a cash method taxpayer and reported (with respect to its trade or

business) no items of income; $100,000 in deductible rent expenses; and

$79,004 in “other” deductible expenses. In a statement included with

18 These were all legal expenses.

19 Relatedly, Genecure reported on Schedule L that the aggregate capital

account balance of the 28 partners (for financial accounting purposes) at the beginning

of the taxable year totaled $433,113.

[*7] the return, Genecure itemized the “other” deductible expenses as

follows: $576 (“Travel”); $480 (“Dues and subscriptions”); $2,343

(“Insurance”); $1,265 (“Legal and professional fees” 20); $643

(“Supplies” 21); $3,284 (“Telephone & Internet”); $6,679 (“Utilities”);

$58,062 (“Research & Development”); and $5,672 (“Other Expenses”).

2011 Return

Among other things, Genecure reported on its 2011 return that it

was a cash method taxpayer and reported (with respect to its trade or

business) no items of income; $100,000 in deductible rent expenses; and

$74,229 in “other” deductible expenses. In a statement included with

the return, Genecure itemized the “other” deductible expenses as

follows: $1,845 (“Travel”); $960 (“Dues and subscriptions”); $2,429

(“Insurance”); $970 (“Legal and professional fees”); $1,867

(“Supplies” 22); $2,949 (“Telephone”); $6,702 (“Utilities”); $44,179

(“Research & Development”); and $12,328 (“Tax”).

Moreover, Genecure reported on the Schedule K–1 for Mrs. Tung

that she had made a capital contribution of $100,000 to the partnership

during the taxable year. On a separate Schedule K–1 for Hsiang-Fen

Yin Lin (Hsiang-Fen), Genecure also reported a $100,000 capital

contribution to the partnership during the taxable year from that

individual.

2012 Return

Among other things, Genecure reported on its 2012 return (with

respect to its trade or business) no items of income and $123,963 in

“other” deductible expenses. In Statement 1 included with the return,

Genecure itemized the “other” deductible expenses as follows: $480

(“Dues and Subscriptions”); $2,487 (“Insurance”); $712 (“Office Supply”);

$7,000 (“Auto”); $98,477 (“Research & Development”); $2,486

(“Telephone & Internet”); $6,560 (“Travel”); and $5,761 (“Utility”).

IV.

Examination of Genecure’s Returns and Issuance of FPAAs

Genecure’s returns for taxable years 2009–12 were selected for

audit. In May 2012, the IRS assigned Revenue Agent Thomas White

20 These were all legal expenses.

21 We construe this to mean office supplies.

22 We construe this to mean office supplies.

[*8] (RA White) as the examining agent of the Genecure examination.

RA White worked on the Genecure examination for over two years, after

which Revenue Agent Christopher Kittrell (RA Kittrell) took over and

closed the case.

While he was still assigned to the Genecure examination, RA

White prepared Form 11661, Fraud Development Recommendation –

Examination, which was signed by Acting Group Manager Elga

Fontanes (Ms. Fontanes) on August 7, 2012. By the time RA Kittrell

took over the examination, RA White had already completed the bulk of

the exam work. Nonetheless, the Civil Penalty Approval Form in the

record was prepared by RA Kittrell. In addition to his own narrative

entry explaining the reasoning for the assertion of penalties, RA Kittrell

also included a narrative adopted from a lead sheet completed by RA

White. On March 19, 2015, Group Manager Sharonne Smith (Ms.

Smith) signed the Civil Penalty Approval Form.

On February 20, 2015, RA Kitrell issued to Genecure a Letter

1807 inviting Mr. Tung, in his capacity as TMP, to a closing conference

to discuss the IRS’s proposed adjustments concerning Genecure’s

returns for taxable years 2009–12. The proposed adjustments, including

imposition of the section 6663 penalties, were detailed in Forms 4605–A,

Examination Changes – Partnerships, Fiduciaries, S Corporations, and

Interest Charge Domestic International Sales Corporations (Unagreed

and Excepted Agreed), and Form 886–A, Explanation of Items. The

Letter 1807 collectively referred to these forms as the “summary report”

and stated that “[a]ll proposed adjustments [therein] . . . w[ould] be

discussed at the closing conference.” A closing conference was not

ultimately held. 23

On April 9, 2015, the IRS issued to Mr. Tung (in his capacity as

Genecure’s TMP) a separate FPAA for each of the taxable years at issue.

In pertinent part, the IRS determined that Genecure (1) failed to report

income of $6,000; $21,578; and $7,000 for taxable years 2009–11,

respectively, (2) was not entitled to deduct purported business expenses

23 Mr. Tung argues that the IRS erroneously denied Genecure a closing

conference; however, his allegation is inconsequential as we review this case de novo.

See Prod. House Ltd. P’ship C–23 v. Commissioner, T.C. Memo. 1992-304, 1992 Tax Ct.

Memo LEXIS 327, at *14. Moreover, absent substantial evidence of unconstitutional

conduct (which Mr. Tung has not produced), this Court does not look behind the FPAA

to examine the propriety of the IRS’s motive, administrative policy, or procedure

involved in making the adjustments at issue. See Greenberg’s Express, Inc. v.

Commissioner, 62 T.C. 324, 327–28 (1974).

[*9] of $180,586; $179,004, see supra note 4; $174,229; and $123,963 for

taxable years 2009–12, respectively, (3) was subject to $230,979 in

QTDP recapture tax with respect to taxable year 2010, see supra note 5,

(4) failed to establish receipt of a $200,000 loan from Mrs. Tung in

taxable year 2009, 24 (5) failed to establish receipt of a $100,000 capital

contribution from Mrs. Tung in taxable year 2011, 25 and (6) was liable

for a section 6663 civil fraud penalty for any underpayment of tax for

each of the taxable years at issue. On June 8, 2015, Mr. Tung filed a

Petition in his capacity as TMP, see § 6226(a)(1), challenging the

aforementioned determinations, which remain outstanding for our

review. 26

OPINION

Evidentiary Matters

As a preliminary matter, the Court must address the

admissibility of documentary evidence introduced at trial by Mr. Tung

but for which we reserved ruling. The admissibility of Exhibits 76–P,

78–P, 79–P, 83–P, and 89–P remains at issue. 27 Our evidentiary rulings

are determined under the Federal Rules of Evidence. See § 7453; Rule

143(a).

24 The FPAA for taxable year 2009 does not specifically identify Mrs. Tung or

the amount of the loan (i.e., $200,000); it only refers to Genecure’s failure to

substantiate a loan transaction with a “Dr. Tung.” However, on the Form 1065 for that

year, Genecure reported that it received a $200,000 loan from Mrs. Tung and that the

loan was its only new liability during the taxable year.

25 The FPAA for taxable year 2011 does not specifically identify Mrs. Tung or

the amount of the capital contribution (i.e., $100,000); it only refers to Genecure’s

failure to substantiate capital contributions from its partners generally. However, the

Schedules K–1 included with the Form 1065 for that year indicate that Genecure

reported a $100,000 capital contribution from Mrs. Tung.

26 We note that in the Petition, Mr. Tung did not challenge adjustments made

in the FPAA for each of the taxable years at issue for (1) salaries and wages and

(2) guaranteed payments to partners. These adjustments either had no net effect on

Genecure’s ordinary income (taxable years 2009–11) or reduced it (taxable year 2012).

Notwithstanding certain statements by the parties in their respective pretrial

memoranda suggesting that these adjustments were in dispute, they were not pleaded,

tried, or addressed on posttrial brief. Consequently, we do not consider them to be at

issue.

27 Following trial, respondent withdrew his objection to the admission of

Exhibit 82–P into evidence. The exhibit is therefore admitted into evidence.

[*10] Under the Federal Rules of Evidence, irrelevant evidence is not

admissible. See Fed. R. Evid. 402. An item of evidence is relevant to the

extent it tends to make a fact more or less probable and such fact is

consequential to determining the action. See Fed. R. Evid. 401. The

Federal Rules of Evidence also prohibit the admission of hearsay

evidence unless another provision of the rules therein, federal statute,

or other rule prescribed by the Supreme Court provides otherwise. See

Fed. R. Evid. 802; see also Fed. R. Evid. 803 and 804. Hearsay is an

out-of-court statement offered to prove the truth of the matter asserted.

See Fed. R. Evid. 801(c).

With these general principles in mind, we will address the

outstanding evidentiary determinations. We sustain respondent’s

objections with respect to each of the exhibits at issue.

Exhibit 76–P

Exhibit 76–P is a purported email exchange that occurred in

November 2017 between Mr. Tung and an individual associated with

H&R Block. It discusses (hypothetically) the deductibility of rent

expense for which a promissory note was issued. Respondent objects to

the admission of this document on the basis of relevance and hearsay.

We sustain the objection on both grounds. Mr. Tung’s question to and

the responsive opinion of the individual associated with H&R Block is of

no consequence to determining whether the purported rent expenses at

issue are in fact deductible. 28 See Fed. R. Evid. 401. Moreover, the

statements made by the individual associated with H&R Block

constitute hearsay, see Fed. R. Evid. 801(c), with respect to which Mr.

Tung fails to demonstrate the applicability of any exception to the rule

against hearsay, see Fed. R. Evid. 802; Brunsting v. Lutsen Mountains

Corp., 601 F.3d 813, 818 (8th Cir. 2010) (holding that the party opposing

a hearsay objection bears the burden of demonstrating the applicability

of a hearsay exception).

28 To the extent this document speaks to Mr. Tung’s section 6664(c)(1)

reasonable cause defense raised in the Petition, this defense was pleaded only with

respect to the alternatively asserted section 6662(a) accuracy-related penalties, which

respondent conceded prior to trial. See supra note 8. Nonetheless, we note that the

exchange reflected in this exhibit took place in 2017. As the taxable years at issue

predate this exchange by several years, it would have no tendency to prove that

Genecure relied on the advice of a professional tax preparer for the returns at issue

from which the asserted section 6663 civil fraud penalties stem. Consequently, it

would be irrelevant for purposes of a section 6664(c)(1) reasonable cause defense to

such penalties. See Fed. R. Evid. 401.

[*11] B.

Exhibit 78–P

Exhibit 78–P is a collection of purported correspondence between

the IRS and Genecure. Mr. Tung offers this material to illustrate

alleged mistreatment by the IRS (including its denial of a closing

conference) and claims that the material demonstrates Genecure’s

cooperation with the IRS during the examination. Respondent objects

to the admission of this material on the basis of relevance. We sustain

the objection on this ground. Even assuming arguendo the veracity of

Mr. Tung’s claims as to these documents, they have no bearing on the

issues tried and for which we must render a decision. See supra note 23.

Thus, the factual allegation these documents are offered to establish is

inconsequential to the determination of this action and therefore

renders them irrelevant. See Fed. R. Evid. 401.

Exhibit 79–P

Exhibit 79–P consists of (1) a purported affidavit executed on

February 26, 2014, concerning a call from RA White on February 21,

2014, and (2) purported minutes prepared by an unidentified individual

from a meeting between associates of “Genecure Alliance LLC” and RA

White on February 19, 2014. Mr. Tung claims that this document

demonstrates IRS misconduct during the examination. Respondent

objects to the admission of this material on the basis of authenticity,

hearsay, and relevance. We decline to opine on the first two grounds but

sustain the objection on the basis of relevance. Similar to Exhibit 78–P,

the affidavit and meeting minutes bear no nexus with any issue tried

and for which we must render a decision. Thus, the factual allegation

these documents are offered to establish is inconsequential to the

determination of this action and therefore renders them irrelevant. See

Fed R. Evid. 401.

Exhibit 83–P

Exhibit 83–P is a warning letter issued to WBI by the Food &

Drug Administration regarding a facility inspection that it concluded on

October 3, 2008. The warning letter indicates that WBI violated federal

regulations concerning good laboratory practices with respect to certain

nonclinical studies. 29 Mr. Tung offers this evidence in order to establish

that the payments received from WBI in taxable years 2009–11 were

refunds for studies Genecure had contracted to WBI. Respondent

29 Identifying information regarding these studies is redacted.

[*12] objected to the admission of this evidence at trial on the basis of

hearsay. For the first time on brief, respondent also objected to the

admission of this evidence on the basis of relevance.

The warning letter constitutes hearsay. See Fed R. Evid. 801(c).

Moreover, Mr. Tung did not otherwise invoke the applicability of any

exception to the rule against hearsay. See Brunsting, 601 F.3d at 818.

We therefore sustain respondent’s objection on that basis and decline to

further address respondent’s relevance objection.

Exhibit 89–P

Exhibit 89–P consists of two pages of correspondence between

Genecure and the IRS. These documents are also constituent pages of

Exhibit 78–P, with respect to which we sustained respondent’s relevance

objection. Mr. Tung offers Exhibit 89–P to establish that the IRS denied

him (as TMP) a closing conference. Respondent objects to the admission

of this material on the basis of relevance, which we sustain. As a factual

matter, the denial of a closing conference is inconsequential to the

determination of the issues pending before the Court. See supra note

23. Consequently, these documents are irrelevant. See Fed. R. Evid.

401.

For the reasons elaborated upon above, Exhibits 76–P, 78–P,

79–P, 83–P, and 89–P are not admitted into evidence.

II.

Burden of Proof

The adjustments rendered in an FPAA bear a presumption of

correctness, see, e.g., Welch v. Helvering, 290 U.S. 111, 115 (1933), and

the taxpayer generally bears the burden of proving erroneous the

adjustments at issue in proceedings in this Court, see Rule 142(a)(1).

However, respondent does not bear the burden of production with

respect to penalties in a partnership-level proceeding. See § 7491(c);

Dynamo Holdings Ltd. P’ship v. Commissioner, 150 T.C. 224, 236 (2018).

III.

Evaluation of Mr. Tung as a Testifying Witness

As the finder of fact:

We observe the truthfulness, sincerity, and demeanor of

each witness to evaluate his or her testimony. We then

assign weight to that testimony for the primary purpose of

finding disputed facts based on the record as a whole. In

[*13] the light of that testimony, we weigh the evidence, make

appropriate inferences, and find what we believe to be the

truth. We are “careful to avoid making the courtroom a

haven for the skillful liar . . . .”

Garavaglia v. Commissioner, T.C. Memo. 2011-228, 2011 Tax Ct. Memo

LEXIS 226, at *41 (citations omitted) (quoting Diaz v. Commissioner, 58

T.C. 560, 564 (1972)), aff’d, 521 F. App’x 476 (6th Cir. 2013).

We generally found Mr. Tung’s testimony self-serving, evasive,

conflicted, and at times, improbable. 30

IV.

Unreported Income

Section 61(a) provides that gross income means all income from

whatever source derived unless specifically excluded by another

provision of the Code. It includes gross income derived from business.

§ 61(a)(2). To the extent a given amount does not fall within a statutorily

enumerated category of gross income, gross income is construed broadly.

See Commissioner v. Glenshaw Glass Co., 348 U.S. 426, 431 (1955)

(holding that gross income includes any accession to wealth, clearly

realized, over which the taxpayer has complete dominion).

Furthermore, this Court has previously concluded that settlement

proceeds that do not otherwise satisfy an exclusionary provision of the

Code constitute gross income. See, e.g., George v. Commissioner, T.C.

Memo. 2016-156, at *5–6, *10.

As stated previously, the adjustment(s) reflected in an FPAA bear

a presumption of correctness. See Welch v. Helvering, 290 U.S. at 115.

However, in order for the presumption to apply with respect to

unreported income, the Commissioner must produce some minimal

evidentiary foundation. See Blohm v. Commissioner, 994 F.2d 1542,

1548–49 (11th Cir. 1993) (citing Weimerskirch v. Commissioner, 596

F.2d 358, 362 (9th Cir. 1979), rev’g 67 T.C. 672 (1977)), aff’g T.C. Memo.

1991-636. In the present case, respondent has produced the underlying

checks received by Genecure, and Genecure’s BB&T Bank account

(-1487) statements confirm its receipt of those amounts. Consequently,

the presumption of correctness applies to the unreported income

adjustments in question. See id.; see also Tokarski v. Commissioner, 87

30 We also acknowledge that some of Mr. Tung’s testimony is at odds with

representations he made on brief.

[*14] T.C. 74, 77 (1986) (“A bank deposit is prima facie evidence of

income . . . .”).

With respect to the $1,578 received from Hiroshi and Hiromi

Yoshida in taxable year 2010 for the preparation of reagent, the Court

finds that such payments constitute gross income derived from

Genecure’s business activity. As Mr. Tung has not demonstrated the

applicability of any exclusionary provision of the Code, these payments

are taxable. See § 61(a)(2). Mr. Tung disputes that the $1,578 should

be so characterized and argues, without evidence, that the payments

were received as reimbursement for material and shipping costs. To the

contrary, however, the Court notes Mr. Tung’s characterization of the

payments as “service revenue” and “a fee” at trial. Furthermore, the two

checks totaling $1,578 do not suggest in any way that they were for

reimbursement of material or shipping costs; rather, they indicate that

they were in fulfillment of certain order numbers. 31 Thus, the Court

rejects Mr. Tung’s characterization of these payments as

reimbursement. 32

With respect to the $6,000; $20,000; and $7,000 received from

WBI in taxable years 2009–11, respectively, the Court concludes that

these payments also constitute gross income. These amounts were

received as compensation for material damages caused by WBI’s breach

of contract (i.e., its failure to carry out a toxicology study in compliance

with applicable federal regulations), and Mr. Tung did not otherwise

demonstrate the applicability of any exclusionary provision of the Code.

Consequently, they constitute gross income and are taxable. See George,

T.C. Memo. 2016-156, at *10. Although Mr. Tung acknowledges that

these payments were settlement proceeds, he simultaneously argues

that these payments were refunds. Despite the inconsistent positions,

the documentary evidence confirms that these payments are settlement

proceeds intended to compensate for damages attributable to WBI’s

failure to comply with applicable federal regulations. Thus, the Court

rejects Mr. Tung’s characterization of these payments as refunds.

31 The “For” lines on the $500 and $1,078 checks reference “order # cv2010-1”

and “order # cv2010-2,” respectively.

32 To the extent Genecure paid deductible expenses in producing the reagent,

such expenses must be properly reported on Form 1065 and duly substantiated.

[*15] In sum, the Court sustains the unreported income adjustments

totaling $6,000; $21,578; 33 and $7,000 for taxable years 2009–11,

respectively.

Business Expense Deductions

Section 162(a) permits a deduction for ordinary and necessary

expenses paid to carry on a trade or business during the taxable year.

An expense is ordinary if it is normal or customary within the particular

trade, business, or industry of the taxpayer. See Welch v. Helvering, 290

U.S. at 114. An expense is necessary if it is appropriate and helpful. Id.

at 113. Relatedly, section 174(a) permits a taxpayer to deduct research

and experimental expenses paid in connection with his trade or

business.

Deductions are a matter of legislative grace, and the taxpayer

bears the burden of clearly showing his entitlement to any deduction

claimed. See INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 (1992).

Under that burden, the taxpayer must substantiate the amount and the

purpose of the expense underlying the deduction. See Higbee v.

Commissioner, 116 T.C. 438, 440 (2001). A taxpayer must also maintain

adequate records to demonstrate the propriety of any deduction claimed.

See § 6001.

Certain expenses otherwise deductible under section 162(a) are

subject to heightened substantiation requirements under section 274(d);

these include expenses for travel (including meals and lodging) and

expenses with respect to any listed property under section 280F(d)(4).

See § 274(d)(1), (4). No deduction is permitted for personal, living, or

family expenses unless expressly permitted under the Code. See

§ 262(a).

If a taxpayer is unable to substantiate the amount of a deduction,

the Court may nonetheless allow it (or a portion thereof) if there is an

evidentiary basis for doing so. See Cohan v. Commissioner, 39 F.2d 540,

543–44 (2d Cir. 1930). In estimating the amount of an allowable

expense under the Cohan rule, the Court bears heavily against the

taxpayer whose inexactitude is of his own making. Id. at 544. The

Cohan rule cannot be applied to deductions subject to the strict

33 This amount comprises the WBI payments (i.e., $20,000) and the payments

from Hiroshi and Hiromi Yoshida (i.e., $1,578).

[*16] substantiation requirements of section 274(d). See Temp. Treas.

Reg. § 1.274-5T(a) (flush language).

With these general principles in mind, we address the

deductibility of the various business expenses reported by Genecure on

its Forms 1065 for the taxable years at issue. For the sake of clarity, we

summarize them in the table below.

Rent

Accounting

Legal

Banking

Dues 35

Insurance

Office supply

Telephone and

internet

Travel

Utility

Tax

Automobile

Other 36

Research and

development

Total

2009

$100,000

925

3,234

1,082

3,400

574

2010

$100,000

-01,265

-0480

2,343

643

2011

$100,000

600 34

370

-0960

2,429

1,867

2012

-0-0-0-0$480

2,487

712

3,242

3,284

2,949

2,486

5,424

8,427

-0-0(2,027)

576

6,679

-0-05,672

1,845

6,702

12,328

-0-0-

6,560

5,761

-07,000

-0-

56,279

40,062 37

44,179

98,477

$180,586

$161,004

$174,229

$123,963

34 On its Form 1065 for taxable year 2011, Genecure reported $970 as “legal

and professional fees.” Upon review of the record, it is readily apparent that $600 was

for accounting expense and $370 for legal expense. We separate these sums to

facilitate our analysis.

35 On each of the returns at issue, Genecure referenced “dues and

subscriptions” with respect to these amounts; however, the record indicates that they

were all for purported dues to Corners North Association.

36 On brief, Mr. Tung stated that $2,000 of the reported $2,027 for taxable year

2009 was reported by Genecure in error and provided no explanation as to the

remaining $27. We thus construe the entire amount reported (i.e., −$2,027, see supra

Findings of Fact Part III.A) for 2009 as conceded. See Mendes, 121 T.C. at 312–13.

Mr. Tung similarly did not identify on brief the constituent components of the $5,672

reported for taxable year 2010. Consequently, we also deem this reported amount as

conceded. See id.

37 Genecure reported a total of $58,062 on its Form 1065 for taxable year 2010,

which the IRS disallowed in full. On brief, respondent conceded $18,000 in research

and development expenses for two payments to MPI made during that year.

[*17] A.

Rent Expenses

Section 162(a)(3) explicitly provides that a rental expense paid for

property used in a trade or business is deductible as an ordinary and

necessary business expense. Nonetheless, a cash method taxpayer may

only deduct an expense that is actually paid during the taxable year.

See Saviano v. Commissioner, 80 T.C. 955, 964 (1983) (“It is clear that a

cash basis taxpayer cannot deduct an expense incurred unless it has

been paid during the taxable year.” (citing Treasury Regulation § 1.4611(a)(1))), aff’d, 765 F.2d 643 (7th Cir. 1985); see also § 446(a); Treas. Reg.

§ 1.446-1(c)(1)(i) (“Expenditures [by cash method taxpayers] are to be

deducted for the taxable year in which actually made.”). Consequently,

a cash method taxpayer may claim a deduction under section 162(a) for

a rental expense only to the extent it is actually paid during the taxable

year. A rental expense paid with a promissory note executed in lieu of

cash payment may be deducted only when the note is satisfied. See

Helvering v. Price, 309 U.S. 409, 413 (1940).

At issue are Genecure’s reported rental expenses for 3150 Corners

totaling $100,000 for each of taxable years 2009–11. Respondent argues

that any deductions for the reported expenses must be disallowed

because Genecure did not pay any such expenses during those years.

Mr. Tung counters that Genecure paid these sums through a $200,000

“loan.” 38

Upon review of the record, we find no credible evidence to suggest

that Genecure ever received a loan, let alone paid rental expenses with

the funds. 39 Although Mr. Tung produced a document generated on

Genecure letterhead and titled “Loan Agreement” (purportedly executed

on December 1, 2009, and signed only by Mr. Tung on behalf of

Genecure), the substance of that document indicates that it is a

promissory note made to “Tu, Su-Ching” (Tu). An undated handwritten

note on that document states that “[t]he purpose of th[e] loan is to pay

38 Mr. Tung did not explain the discrepancy between the total reported rental

expense of $300,000 and the $200,000 principal amount of the purported loan.

39 The record includes copies of unnegotiated checks totaling $200,000, which

were initially produced by Genecure to substantiate rental expenses for 2009 and 2010

during the IRS examination. Mr. Tung did not allege in this action that these

unnegotiated checks substantiate the rental expenses at issue. He specifically alleged

on brief that “a loan was negotiated in lieu of checks due to unanticipated insufficient

fund[s].” (Emphasis added.)

[*18] the rent of year 2009–10. Money was directly transferred to the

landlord.”

The Court does not find this document to be credible evidence of

a loan or of a promissory note to pay rent. The document itself appears

indifferent to the nuance between a loan and a promissory note. 40

Although there is a promise to pay Tu $200,000, nothing in the

document indicates Tu’s lending of money to Genecure, notwithstanding

the document’s title (i.e., “Loan Agreement”) and the handwritten note’s

characterization of the document as a “loan.” Moreover, the document

bears no interest rate, maturity date, or other term or covenant beyond

Genecure’s promise to pay $200,000. Neither is there any testimony or

affidavit from Tu confirming that a loan or a promissory note was

executed to pay rent. Lastly, none of Genecure’s bank statements

(across four accounts) reflects receipt of $200,000 from Tu, which belies

Mr. Tung’s allegation of the existence of a loan. We therefore find that

there was no loan or promissory note to pay rent of $200,000.

Consequently, the Court sustains respondent’s disallowance of

Genecure’s reported rental expenses of $100,000 for each of taxable

years 2009–11.

Even assuming arguendo that the purported loan document

constitutes a legitimate promissory note 41 to pay $200,000 to Tu for rent,

the Court would nonetheless sustain the disallowance of the reported

rental expenses. First, the promise to pay is made to Tu; however, Tu

was not the legal owner of 3150 Corners. At trial, Mr. Tung testified

that legal title to the property was under his and Mrs. Tung’s names. It

is therefore inconceivable that the purported note was executed for

purposes of paying rent. The Court also notes the added layer of

inconsistency between executing a promissory note to Tu and the

identity of the lessor on the purported rental agreement, “Lo, Wan Yu”

(Yu), that was allegedly in effect during the relevant years at issue. 42

40 A loan involves an act of lending (typically money) to a borrower, whereas a

promissory note is merely a promise to pay a sum of money. See Loan, Promissory

note, Black’s Law Dictionary (9th ed. 2009).

41 As stated earlier, the substance of the purported loan agreement indicates

that it is a promissory note, not a loan.

42 The only rental agreement offered by Mr. Tung with respect to 3150 Corners

was executed in 2008 and appears to be a periodic tenancy. Given the incongruity

between the lessor identified therein (Yu) and the legal title holders of 3150 Corners

(Mr. and Mrs. Tung), we do not find this purported rental agreement to be credible

evidence.

[*19] Second, as a matter of law, Genecure could not deduct expenses

paid with a promissory note until it satisfied the obligation because it

was a cash method taxpayer during each of taxable years 2009–11. See

Helvering v. Price, 309 U.S. at 413. Mr. Tung produced no evidence that

any portion of the obligation was satisfied in the relevant years, and by

his own admission, Genecure satisfied the note in taxable year 2012. 43

For the reasons elaborated upon above, the Court sustains the

disallowance of the $100,000 claimed rent expense deduction for each of

taxable years 2009–11. Moreover, we will not apply the Cohan rule

given the lack of credible evidence.

Accounting Expenses

At issue are $925 and $600 in accounting expenses for the

preparation of Genecure’s tax returns, 44 which it reported for taxable

years 2009 and 2011, respectively. Mr. Tung has satisfied his burden of

substantiating that Genecure paid such costs for accounting services in

taxable years 2009 and 2011. The record includes a copy of a check and

an invoice for the $925 and the $600, respectively. Moreover, Genecure’s

BB&T Bank account (-1487) statements corroborate the payment of

these amounts.

The amounts reported have therefore been

substantiated, and the business purpose of each expense is self-evident.

The Court will consequently allow Genecure to deduct these expenses

under section 162(a).

Legal Expenses

Under section 263(a), a capital expenditure generally may not be

deducted for the taxable year in which it is paid, notwithstanding the

fact that it may otherwise be an ordinary and necessary expense paid to

carry on a trade or business. See § 161 (providing that the deductions

allowed under part VI, which includes section 162, are subject to the

exceptions provided in part IX, which includes section 263). A capital

43 The Court acknowledges that a $200,000 international wire transfer was

made to Tu from Genecure’s Piedmont Bank account (-2665) on June 11, 2012.

Nonetheless, we decline to find, as a matter of fact, that the transfer was made to

satisfy a promissory note in payment of rent. Just days before the transfer, the IRS

met with Mr. Tung for the first time in his capacity as Genecure’s TMP and questioned

him regarding the reported rental expenses. At that time, Genecure did not allege that

it had executed a $200,000 promissory note on December 1, 2009, to pay rent.

44 The services appear to have been rendered for Genecure’s returns for taxable

years 2008 and 2010.

[*20] expense is one that either (1) creates or enhances a separate and

distinct asset or (2) otherwise generates significant benefits beyond the

taxable year. See Mylan, Inc. & Subs. v. Commissioner, 156 T.C. 137,

149 (2021).

In pertinent part, the regulations promulgated under section 263

provide that “[a] taxpayer must capitalize amounts paid to a

governmental agency to obtain, renew, renegotiate, or upgrade its rights

under a trademark, trade name, copyright, . . . or other similar right

granted by that governmental agency.”

See Treas. Reg.

§ 1.263(a)-4(d)(5)(i). Although “patent” is not expressly enumerated

under Treasury Regulation § 1.263(a)-4(d)(5)(i), we construe it to be a

“similar right” for purposes of the regulation given its intangible nature

and its conferral of a government sanctioned property right.

In addition to amounts paid to a governmental agency to obtain

or renew a patent, a taxpayer must capitalize any amounts paid to

facilitate the acquisition or creation of such an intangible. See id. paras.

(b)(1)(v), (e)(1)(i). Consequently, fees paid for legal services ancillary to

the renewal of a patent must also be capitalized. Id. However, if such

costs in the aggregate do not exceed $5,000 in a given taxable year, they

are deemed de minimis and are not treated as facilitative costs subject

to capitalization. See id. para. (e)(4)(i), (iii).

At issue are $3,234; $1,265; and $370 in legal expenses paid in

taxable years 2009–11, respectively. These amounts comprise both fees

for renewal 45 of foreign patents and fees for legal services in connection

with a foreign patent renewal. With respect to the portion of legal

expenses Genecure paid to renew its foreign patents, these expenses are

capital expenditures and are not immediately deductible. See id. para.

(d)(5)(i). These expenses totaled $900; $1,265; and $370 in taxable years

2009–11, respectively. The Court therefore sustains the disallowance of

deductions for these amounts.

The remaining $2,334 paid for legal services in taxable year 2009

in connection with the renewal of a foreign patent is de minimis and

therefore does not need to be capitalized. See id. para. (e)(4)(i), (iii).

Moreover, Mr. Tung adequately substantiated Genecure’s payment for

such services by producing underlying invoices, an email exchange with

45 Some of the relevant documentary evidence with respect to these payments

references “annuity” payments. In this context, “annuity” refers to a maintenance or

renewal fee for the patent. See Annuity, Black’s Law Dictionary (9th ed. 2009).

[*21] its counsel discussing fees, and corroborating BB&T Bank account

(-1487) statements. Because we also find the business purpose of such

expenses self-evident, the Court holds that the $2,334 paid in taxable

year 2009 for legal services may be deducted under section 162(a).

Banking Expense

At issue is a $26 fee Genecure paid to BB&T Bank with respect to

Mr. Tung offered no

a certain checking account transaction. 46

explanation or evidence regarding the nature of the underlying

transaction for which the fee was imposed. Without such an explanation

and supporting evidence, the Court cannot determine whether the $26

is an ordinary and necessary business expense, as it is part and parcel

to the underlying transaction. Consequently, Mr. Tung failed to satisfy

his burden of establishing Genecure’s entitlement to a deduction

therefrom. See INDOPCO, Inc. v. Commissioner, 503 U.S. at 84. The

Court sustains the disallowance of a deduction for this expense.

Dues Expenses

At issue are $1,082; $480; $960; and $480 purported payments to

Corners North Association in taxable years 2009–12, respectively. Mr.

Tung characterizes these payments as business park association dues

(presumably for the upkeep and maintenance of communal portions of

the broader development in which 3150 Corners is situated).

Although the reported amounts appear to have been debited to

Genecure’s BB&T Bank account (-1487) pursuant to check numbers

identified by Mr. Tung, the Court nonetheless sustains the disallowance

of deductions for these amounts as we are not persuaded of the

credibility of the underlying invoices.

The invoices offered list as Corners North Association’s address

and telephone number the same address and telephone number as those

for Genecure. They also identify Mr. Tung as the association’s point of

contact. We are suspicious of this juxtaposition and find that the

invoices lack credibility. In the absence of other relevant evidence, we

conclude that Mr. Tung failed to substantiate these purported expenses.

Even assuming arguendo that these payments were legitimate

business park association dues, the Court would sustain the

46 The description line on the relevant BB&T Bank account (-1487) statement

references “CHECK CHRG HARLAND CLARKE GENECURE LLC.”

[*22] disallowance of the amounts at issue because Mr. Tung has not

established that they constitute ordinary and necessary business

expenses. As stated previously, Mr. and Mrs. Tung, not Genecure,

owned 3150 Corners. It is thus implausible that Genecure would be

liable for these amounts as a tenant. In the absence of any evidence

otherwise establishing an obligation to pay such dues, 47 these payments

would appear to be disguised personal expenses.

For the reasons elaborated upon above, we sustain respondent’s

disallowance of a deduction for each of the purported dues expenses for

taxable years 2009–12. Moreover, we will not apply the Cohan rule

given the lack of credible evidence.

Insurance Expenses

At issue are various insurance expenses totaling $3,400; $2,343;

$2,429; and $2,487 reported for taxable years 2009–12, respectively. We

find that Mr. Tung adequately substantiated $1,843; $1,153; and $1,479

in premium payments by Genecure for a State Farm Insurance business

liability policy ending in 020-0 for taxable years 2009, 2010, and 2012,

respectively. These amounts were substantiated with invoices from the

insurer as well as BB&T Bank account (-1487) statements confirming

that such payments were actually made. Moreover, the business

purpose of those expenses is self-evident.

We sustain respondent’s disallowance as to the residual amounts,

which correspond to premium payments by Genecure that Mr. Tung did

not establish were ordinary and necessary business expenses. 48

Office Supply Expenses

At issue are $574; $643; $1,867; and $712 in purported office

supply expenses for taxable years 2009–12, respectively. We find that

47 The Court notes that the purported rental agreement (notwithstanding our

earlier finding that it lacks credibility, see supra note 42) makes no mention of

Genecure’s obligation to pay for business park association dues.

48 These include premium payments for insurance policies with TIAA and

Teachers Insurance (which appear to be related, if not the same, entities). Mr. Tung

testified at trial that these payments were for life insurance coverage for himself. We

find that such payments constitute disguised personal expenses rather than Genecure

business expenses and therefore are not deductible. See § 262(a). The disallowed

amounts also include what appear to be premium payments for an auto insurance

policy. There is no evidence in the record indicating the identity of the policy holder,

nor is there any evidence that Genecure owned a vehicle to insure.

[*23] Mr. Tung substantiated only an $8 expense for envelopes in 2011

and a $10 expense for stamps in 2012. Consequently, we largely sustain

respondent’s disallowance of Genecure’s reported office supply expense

deductions except with respect to the aforementioned two expenses. 49

Telephone and Internet Expenses

At issue are $3,242; $3,284; $2,949; and $2,486 in purported

telephone and internet expenses for taxable years 2009–12, respectively.

The Court will permit as deductible business expenses only $1,327;

$1,318; $1,338; and $1,429 for taxable years 2009–12, respectively.

These amounts correspond to expenses paid for an AT&T account

(ending in -1888) for internet and telecommunication (for a landline)

services. This account was registered under Genecure’s name and

Norcross, Georgia, address. Mr. Tung substantiated the expenses

associated with this account by producing the underlying invoices as

well as BB&T Bank account (-1487) statements confirming payment.

Moreover, we are persuaded that this account served a business

purpose.

The disallowed amounts correspond to payments for

telecommunication services associated with two T-Mobile accounts

(ending in -0373 and -6172) and an additional AT&T account (ending

in -1886). These accounts were registered under either Mr. or Mrs.

Tung’s individual name and their personal address in Georgia.

Notwithstanding Mr. Tung’s testimony that these accounts were used

for business purposes, we do not find such self-serving testimony

credible nor are we obliged to accept it. See Tokarski, 87 T.C. at 77. In

the absence of any credible evidence demonstrating that these accounts

were used in furtherance of Genecure’s business, we find the payments

in connection with these three accounts to be the Tungs’ disguised

personal expenses. Consequently, we will not permit Genecure to

deduct them under section 162(a). 50 See § 262(a).

Most of the evidence offered to substantiate the reported office supply

expenses was not in fact for office supplies. It is possible that such expenses are

deductible under some other category of business expense. However, we decline to act

as Genecure’s bookkeeper given the exceedingly voluminous and haphazardly

organized record and will not correct the erroneous categorizations on its behalf. See

also § 6001.

50 The Court also notes that Mr. Tung testified that the two T-Mobile accounts

(ending in -0373 and -6172) were for telecommunication services specifically for

[*24] I.

Travel Expenses

In pertinent part, section 274(d) provides that no deduction

claimed under section 162 shall be allowed for any traveling expense

(including meals and lodging while away from home) unless the

taxpayer satisfies certain heightened substantiation requirements.

Those requirements permit a deduction for travel expenses only to the

extent the taxpayer proves (1) the amount of each expenditure for

traveling away from home, (2) the date of departure and return for each

trip and the number of days spent on business, (3) the destination or

locality of travel, and (4) the business reason for travel or the expected

benefit to be derived from such travel. See Temp. Treas. Reg. §

1.274-5T(b)(2). This is a conjunctive standard (i.e., all elements must be

met with respect to each trip).

At issue are Genecure’s reported travel-related expenses totaling

$5,424; $576; $1,845; and $6,560 for taxable years 2009–12,

respectively. Although Mr. Tung produced a variety of receipts as well

as credit card and checking account statements in an attempt to

substantiate the amounts of these reported expenses, he failed to prove

with respect to each trip (1) the dates of departure and return and the

number of days spent on business, (2) the destination of travel, and

(3) the business purpose (or the expected benefit). Mr. Tung therefore

failed to satisfy the heightened substantiation requirements of section

274(d). Consequently, we sustain the disallowance of deductions for

these reported travel expenses. Moreover, as these expenses are subject

to section 274(d), the Cohan rule cannot be applied. See Temp. Treas.

Reg. § 1.274-5T(a) (flush language).

cellular telephones and that he used at least one of the cellular phones in part for

personal purposes. For taxable year 2009, cellular telephones constituted “listed

property” under section 280F(d)(4)(A)(v). Consequently, expenses related to cellular

telephones paid during that year were subject to the heightened substantiation

requirements of section 274(d), see § 274(d)(4), which requires a taxpayer to

substantiate with respect to the cellular telephone the amount of the expense, the

amount of business use and total use, the date of each use, and the business purpose

of each use, see Temp. Treas. Reg. § 1.274-5T(b)(6). Mr. Tung did not substantiate the

2009 expenses for the two T-Mobile accounts accordingly, thus providing an alternative

basis for disallowing them. Section 280F was amended such that cellular telephones

no longer constituted “listed property” for taxable years beginning after December 31,

2009. See Small Business Jobs Act of 2010, Pub. L. No. 111-240, § 2043, 124 Stat.

2504, 2560 (2010).

[*25] J.

Utility Expenses

At issue are Genecure’s reported utility expenses totaling $8,427;

$6,679; $6,702; and $5,761 for taxable years 2009–12, respectively.

These expenses relate to amounts owed for natural gas, electricity, and

water for Genecure’s principal place of business, 3150 Corners.

The Court finds that Mr. Tung substantiated most of the amounts

reported for electricity and natural gas. 51 Consequently, we conclude

that Genecure may deduct as business expenses $5,575; $4,066; $4,390;

and $4,221 for taxable years 2009–12, respectively.

Mr. Tung

substantiated such expenses with the associated invoices from Georgia

Power, Gas South, and Georgia Natural Gas, as well as BB&T Bank

account (-1487) statements confirming payment.

The remaining expense amounts relate to purported water

payments for which Mr. Tung produced several quarterly invoices.

However, we do not find these invoices credible for purposes of

substantiating the expenses. First, we note that none of the invoices for

water came directly from a relevant water management authority

(presumably, the Gwinnett County Department of Water Resources).

All of them came from Corners North Association. We also note that the

purported rental agreement makes no reference to the association’s

serving as an intermediary for water billing purposes (notwithstanding

our earlier finding, see supra note 42, that the agreement lacks

credibility).

Second, of the 14 invoices in the record for purported water

expenses, 11 list as Corners North Association’s address and telephone

number the same address and telephone number as those for Genecure.

They also identify Mr. Tung as the association’s point of contact. These

overlapping details cause us to be suspicious of the veracity of these

documents.

Further eroding the credibility of such evidence are blatant

inconsistencies suggesting at best, inaccuracy, and at worst, fabrication.

For example, with respect to taxable year 2012, there are two invoices

for $637 for the period “2/22/2012 thru 6/21/2012” and with a payment

due date of July 20, 2012. One indicates use of 1,618 gallons of water;

however, that figure is crossed out and overwritten with 11,222 gallons.

51 The unsubstantiated amounts total $271 for 2010 for purported electricity

expense and $280 for 2011 for purported natural gas expense.

[*26] The second also indicates use of 1,618 gallons but without any

alterations in handwriting. Handwritten notes on both invoices claim

they were paid with check No. 1221. Elsewhere in the record, Mr. Tung

represents that check No. 1221 is only associated with the first invoice

and that the second invoice amount was for $500 and paid with check

No. 1224.

For the reasons elaborated upon above, we find that the

purported water invoices lack credibility. In the absence of other

evidence establishing the amounts Genecure owed and paid for water,

we find that Mr. Tung failed to substantiate its purported water

expenses. Moreover, we will not apply the Cohan rule to estimate

Genecure’s purported water expenses given the lack of credible

evidence.

In sum, Genecure may deduct only $5,575; $4,066; $4,390; and

$4,221 of the reported utility expenses for the respective years at issue.

The Court sustains respondent’s disallowance of any deduction for the

residual amounts.

Tax Expenses

Property tax payments may be deducted under section 162(a) to

the extent they are ordinary and necessary business expenditures. See

Bello v. Commissioner, T.C. Memo. 2001-56, 2001 Tax Ct. Memo LEXIS

72, at *17–19. At issue are $12,328 in purported property tax payments

reported by Genecure as business expenses for taxable year 2011.

To substantiate such expenses, Mr. Tung produced (1) a copy of a

check for $11,784 made out to Gwinnett County Tax Commissioner 52

and (2) a BB&T Bank account (-1487) statement for the period ending

March 31, 2011, reflecting a $554 debit associated with check No. 1199

and a handwritten note next to it stating “(Tax).” 53 However, Mr. Tung

did not produce the property tax assessment(s) or invoice(s) from

Gwinnett County underlying these payments, nor did he ever identify

the property to which these payments relate. Consequently, we are

52 The “Memo” line of the check is illegible but appears to reference a string of

numerals.

53 We acknowledge that the sum of these amounts is $12,338 (i.e., $10 greater

than the amount for tax expenses reported on the Form 1065 for 2011 and asserted on

brief).

[*27] unable to ascertain whether the expenses served a business

purpose (as opposed to a personal one of Mr. and Mrs. Tung). 54

The burden is on Mr. Tung to establish Genecure’s entitlement to

deductions, which requires inter alia substantiation as to both amount

and purpose. See INDOPCO, Inc. v. Commissioner, 503 U.S. at 84;

Higbee, 116 T.C. at 440. Mr. Tung failed to produce such substantiation,

and we therefore sustain the disallowance of any deduction for the

property tax expenses reported for taxable year 2011. 55

Automobile Expense

At issue is Genecure’s reported automobile expense totaling

$7,000 for taxable year 2012. Mr. Tung did not elaborate on the nature

of this expense other than that it related to an automobile and that it

was effected through a single unidentified check allegedly drawn on

Genecure’s Piedmont Bank account (-2665). Mr. Tung did not produce

any invoice or check for $7,000, nor does a $7,000 debit appear on any of

the Piedmont Bank account (-2665) statements in the record. In the

absence of any substantiating evidence regarding this expense, the

Court sustains the disallowance of any deduction for the $7,000

automobile expense reported for 2012. Moreover, the Cohan rule is

inapplicable as passenger automobiles constitute listed property under

section 280F(d)(4)(A)(i). See Temp. Treas. Reg. § 1.274-5T(a) (flush

language).

54 Although the Court acknowledges a handwritten note on the purported lease

agreement for 3150 Corners stating that the lessor (Genecure) “should” pay the

property tax, the note on its own does not substantiate the purpose of the payments at

issue. Moreover, we previously concluded that this purported agreement is not

credible evidence. See supra note 42.

55 We separately note that Genecure would not be entitled to a deduction under

section 164(a)(1) for the tax payments even assuming that they were with respect to

3150 Corners. Section 164(a), distinct from section 162(a), provides a deduction for

various state and local taxes paid, including real property tax, regardless of whether

paid in connection with the taxpayer’s trade or business. The regulations promulgated

thereunder state that such taxes are generally deductible only by the person upon

whom they are imposed. See Treas. Reg. § 1.164-1(a) (flush language). However, this

Court has previously held “that taxpayers who do not hold legal title to property but

who establish they are equitable owners of the property are entitled to deduct property

tax paid by them for the property.” See, e.g., Abarca v. Commissioner, T.C. Memo.

2012-245, at *16. Genecure did not possess legal title over 3150 Corners, and Mr. Tung

did not allege (or produce evidence) that Genecure paid the property tax as the

equitable owner of the property.

[*28] M.

Research and Development Expenses

Section 174(a)(1) permits a taxpayer to “treat research or

experimental expenditures which are paid or incurred by him during the

taxable year in connection with his trade or business as expenses which

are not chargeable to capital account.” It further provides that such

expenses may be deducted. 56

“[R]esearch and experimental

expenditures” are research and development costs in the experimental

or laboratory sense and include incidental costs. See Treas. Reg.

§ 1.174-2(a)(1). Amounts which are paid to others for research or

experimentation on the taxpayer’s behalf may also be deducted under

section 174(a)(1). See Treas. Reg. § 1.174-2(a)(8).

At issue are $56,279; $40,062; $44,179; and $98,477 in research

and development expenses reported by Genecure for taxable years

2009–12, respectively. 57 Upon review of the evidence, we find that Mr.

Tung substantiated $18,652; $31,350; $37,830; and $58,190 for taxable

years 2009–12, respectively.

These amounts include expenses for laboratory supplies such as

liquid nitrogen and pipettes, for which Mr. Tung produced numerous

invoices from third parties and proof of payment. 58 They also include

amounts paid for contracted research services rendered by UM 59 as well

as amounts paid to GSU 60 pursuant to the collaborative research

agreement executed in November 2008. Furthermore, we are persuaded

56 Section 174(a)(1) thus enables cash method taxpayers to immediately deduct

research and development expenses (in the taxable year paid) rather than capitalize

them, which would result in depreciation or amortization expense deductions over a

period of multiple taxable years.

57 Respondent conceded $18,000 in payments to MPI for contracted research

services for taxable year 2010. See supra notes 4, 37.

58 Mr. Tung substantiated payment of such expenses largely through the

production of various credit card statements.

59 Mr. Tung substantiated payment of $22,722 and $41,926 to UM in taxable

years 2011 and 2012, respectively, by producing copies of underlying invoices, as well

as credit card statements confirming payment. These payments were for a clinical

trial study to evaluate the safety and immunogenicity of Genecure’s HIV vaccine.

60 Mr. Tung substantiated payment of $10,000; $20,000; $10,000; and $10,000

by Genecure to GSU in taxable years 2009–12, respectively. Mr. Tung produced copies

of the underlying checks each of which referenced “ALW95” (a project sponsored by

Genecure pursuant to the collaborative research agreement), as well as corroborating

BB&T Bank account (-1487) and Piedmont Bank account (-2665) statements

confirming payment.

[*29] that these expenses were paid by Genecure in connection with its

HIV vaccine research and development.

In sum, Genecure may deduct only $18,652; $49,350; 61 $37,830;

and $58,190 of the original amounts reported for research and

development expenses under section 174(a)(1) for taxable years

2009–12, respectively. We sustain respondent’s disallowance of the

residual amounts. 62

VI.

QTDP Grant Recapture

Section 48D permits taxpayers to claim a credit (or receive a grant

in lieu of a credit) equal to 50% of the qualified investment a taxpayer

makes with respect to a QTDP in a taxable year beginning in 2009 or

2010.

Subject to certain limitations and exclusions, “qualified

investment” is defined as “the aggregate amount of the costs paid . . . for

expenses necessary for and directly related to the conduct of a qualifying

therapeutic discovery project.” § 48D(b)(1), (2), and (3).

However, ACA § 9023(e)(5)(B)(i), 124 Stat. at 882, further

provides:

Recapture of excessive grant amounts.—If the amount of a

grant made under this subsection exceeds the amount

allowable as a grant under this subsection, such excess

This amount comprises the $31,350 substantiated by Mr. Tung and the

$18,000 conceded by respondent (for payments to MPI).

62 A significant portion of the evidence offered by Mr. Tung to substantiate

Genecure’s research and development expenses included amounts paid for meals,

premiums for unidentified insurance policies, and airfare. However, Mr. Tung failed

to establish how such expenses were paid in connection with Genecure’s research and

development activity such that they are deductible under section 174(a)(1) as

incidental costs. See Treas. Reg. § 1.174-2(a)(1) (“The term research or experimental

expenditures, as used in section 174, . . . generally includes all such costs incident to

the development . . . of a product.”).

Moreover, to the extent we sustain the disallowance of deductions for actual

research and development expenses, we note that such expenses are limited to a subset

of those reported for taxable year 2009. These expenses were paid by credit card at

the end of taxable year 2008, but the corresponding credit card statement was paid off

in early taxable year 2009. In such a scenario, the year of deductibility is determined

by the taxable year in which the credit card charge is made regardless of when the

credit card issuer is repaid. See Schroeder v. Commissioner, T.C. Memo. 1986-583,

1986 Tax Ct. Memo LEXIS 23, at *13–14. Consequently, these expenses may be

deducted only for taxable year 2008—a year for which we lack jurisdiction to readjust

partnership items in this proceeding. See § 6226(f).

[*30] shall be recaptured under subparagraph (A) as if the

investment to which such excess portion of the grant

relates had ceased to be a qualified investment

immediately after such grant was made.

This provision of the ACA requires recapture of an excess portion of a

QTDP grant in the taxable year the grant was actually disbursed. See

Silver Med., Inc. v. Commissioner, 147 T.C. 547, 554–56 (2016). A

portion of a grant is excess to the extent the qualified investment for

which it was awarded (i.e., the amount certified by the IRS upon its

review of the participating taxpayer’s Form 8942) was not actually

paid. 63 See Wang v. Commissioner, T.C. Memo. 2017-81, at *21–22.

Furthermore, recapture is effected in the form of an increase in federal

income tax equal to the excess portion of the grant. See ACA

§ 9023(e)(5)(A), 124 Stat. at 882; Wang, T.C. Memo. 2017-81, at *21–22.

In this case, Genecure received $244,479 in the form of a QTDP

grant attributable to $488,958 of certified qualified investment expenses

for taxable year 2009. Respondent concedes that Genecure paid for

$27,000 64 worth of qualified investment in taxable year 2009, but he

argues that Mr. Tung has not substantiated any other qualified

investment in excess of that amount. Mr. Tung argues that Genecure

made qualified investments in taxable years 2009 and 2010 totaling

(1) $670,000 in wages; (2) $144,484 in supplies and lab costs; (3) $30,502

in “other costs”; (4) $451,149 in third-party (research) contract costs; and

(5) $240,000 in depreciable property costs. 65 Upon review of the

evidence cited by Mr. Tung, we agree with respondent.

As a preliminary matter, we reiterate that although Genecure

applied for the grant with respect to purported qualified investments for

taxable years 2009 and 2010, the $244,479 QTDP grant it ultimately

63 For IRS certification purposes, qualified investment included not only

expenses actually paid as of the date of application, but also expenses a taxpayer

seeking a QTDP grant expected to pay in the remainder of its taxable year beginning

in 2009 or 2010. See I.R.S. Notice 2010-45, § 5.02(6), 2010-23 I.R.B. at 736. However,

certification of qualified investments by the IRS did not constitute a determination

that the costs reported were or would be in fact paid. See id. § 7.04, 2010-23 I.R.B.

at 737.

64 This amount was a single payment to MPI in taxable year 2009 and relates

to the toxicity study of its HIV vaccine in rats.

65 The aggregate sum of these amounts is $1,536,135, which is significantly

less than the $1,660,000 Genecure reported when it applied for the grant. See supra

Findings of Fact Part II.

[*31] received was attributable to amounts reported for taxable year

2009, which the parties stipulated. On brief, Mr. Tung contends that

the grant was attributable to qualified investments reported for both

2009 and 2010. The Court declines to entertain Mr. Tung’s more recent

and inconsistent position as justice does not require the Court to release

him from the binding effect of the stipulation. See Rule 91(e). Mr. Tung

has offered no justification for doing so. Moreover, I.R.S. Notice 2010-45,

§ 5.02(10), 2010-23 I.R.B. at 737, requires that if (1) a taxpayer requests

a grant for both 2009 and 2010 and (2) the aggregate qualified

investment ultimately certified is less than that reported, then the

amount certified must first be attributed to 2009 before 2010. As

$488,958 is less than the $600,000 reported for taxable year 2009, no

amount certified may be attributed to taxable year 2010. Thus, in order

to avoid recapture tax, Mr. Tung must prove that Genecure actually paid

for an additional $461,958 in qualified investment in taxable year

2009. 66

Mr. Tung failed to substantiate payment of any qualified

investment expense in taxable year 2009 beyond the $27,000 respondent

conceded. With respect to the $670,000 purportedly paid for wages, none

of the evidence cited by Mr. Tung for this amount substantiates any

payment for wages. 67 Moreover, Mr. Tung cited no evidence with respect

to the $144,484 in supplies and lab costs nor with respect to the $30,502

in “other costs.”

With respect to the purported $451,149 in third-party contract

expenses, Mr. Tung claims that $406,149 is attributable to payments

associated with the UM contract and that the residual $45,000 is

attributable to payments associated with the MPI contract. As to the

$406,149, none of the evidence cited by Mr. Tung substantiates that

Genecure paid such amounts to UM in taxable year 2009. 68 As to the

66 This sum represents the $488,958 in qualified investment initially certified

by the IRS less the $27,000 conceded by respondent. We note nonetheless that

Genecure reported $600,000 in qualified investment expenses for taxable year 2009

when it applied for the grant.

67 The evidence in question is (1) a purported employment agreement between

Genecure and Mr. Tung executed on January 1, 1999, and (2) a purported letter dated

July 1, 1999, from Genecure offering employment to Mrs. Tung.

68 Mr. Tung cites to UM’s response to a subpoena issued by the IRS during the

examination. The documents included in the response indicate that UM did not receive

any payments in 2009 for any invoices issued to Genecure for the clinical trial study,

which totaled $64,648.

[*32] remaining $45,000 paid to MPI for the toxicity study in rats,

respondent has already conceded $27,000. 69 The residual $18,000 was

paid in taxable year 2010, not 2009.

Lastly, with respect to the purported $240,000 in depreciable

property expenses (all apparently attributable to construction and

certification of a clean room for vaccine production), none of the evidence

offered by Mr. Tung substantiates payment of that amount by Genecure

in taxable year 2009. 70

In sum, Mr. Tung failed to substantiate qualified investment

expenses in taxable year 2009 in excess of $27,000. Consequently,

Genecure was entitled to a QTDP grant of only $13,500 (i.e., 50% of its

qualified investment), and the excess grant amount, $230,979, 71 is

subject to recapture in taxable year 2010. See ACA § 9023(e)(5)(B)(i),

124 Stat. at 882; Silver Med., Inc., 147 T.C. at 554–56.

VII.

Purported Loan and Capital Contribution from Mrs. Tung

At issue are two alleged transactions between Genecure and Mrs.

Tung reflected on Genecure’s Form 1065 for taxable years 2009 and

2011. The first of these transactions concerns a purported $200,000 loan

from Mrs. Tung in 2009, which was Genecure’s only reported liability as

of the taxable yearend. The second of these transactions concerns a

UM also acknowledged having received a $250,000 check dated December 1,

2010, from Genecure on or about July 2, 2012. The check was written from Genecure’s

Piedmont Bank account (-2665). A statement from that account for the period ending

July 31, 2012, indicates that UM deposited the check sometime that month.

Notwithstanding the check date, Genecure’s Piedmont Bank account (-2665) never had

an average balance exceeding $152,000 between December 2010 and August 2011.

Moreover, Mr. Tung offered no credible testimony at trial as to the purpose of this

payment, nor is there an invoice in the record associated with this check. We find

particularly noteworthy that the purported date of the check (i.e., December 2010)

predates the execution of the underlying contract (i.e., July 2011) by over six months.

Regardless of whether this $250,000 transfer constitutes a qualified investment, it did

not occur in taxable year 2009 and is therefore irrelevant for purposes of substantiating

the QTDP grant at issue.

As to the outstanding $91,501 of the $406,149 in alleged payments to UM, Mr.

Tung offered no evidence to substantiate this amount.

69 The record nonetheless confirms that payment of $27,000 to MPI for the

contracted study occurred in taxable year 2009.

To the extent Mr. Tung produced invoices and corresponding proof of

payment, such expenses were all paid in taxable year 2006.

71 This sum represents the $244,479 received less the $13,500 duly entitled.

[*33] purported $100,000 capital contribution to Genecure from Mrs.

Tung in 2011.

Mr. Tung did not offer any credible evidence

substantiating these purported transactions.

With respect to the purported $200,000 loan from Mrs. Tung, Mr.

Tung offered as evidence the same purported promissory note he offered

to substantiate purported rent expenses. 72 See supra Opinion Part V.A.

As noted previously, the purported note created an obligation to

someone other than Mrs. Tung. It is therefore incomprehensible how

this note substantiates a purported loan from Mrs. Tung. Furthermore,

it contains no interest rate, maturity date, or other term or covenant

beyond Genecure’s promise to pay. The omission of such critical terms

casts serious doubt as to the credibility of this evidence for purposes of

substantiating any debt obligation whatsoever. In the absence of any

credible evidence of a $200,000 loan from Mrs. Tung, we sustain

respondent’s determination.

With respect to the purported $100,000 capital contribution from

Mrs. Tung, Mr. Tung offered as evidence a copy of Genecure’s BB&T

Bank account (-1487) statement for the period ending August 31, 2011,

and a BB&T Bank wire transfer notice issued to Genecure for the same

account. The statement for the period indicates that a total of $100,000

was credited to Genecure’s BB&T Bank account (-1487), but it does not

identify the source of the credited funds nor whether they came from one

or multiple sources. However, the wire transfer notice establishes that

the $100,000 is attributable to a single source—“Lin Yin, Hsiang-Fen”—

and that it was credited on August 31, 2011. Taken together, this

evidence substantiates only a $100,000 capital contribution from

Hsiang-Fen in taxable year 2011, which is reflected on the Schedule K–1

for Hsiang-Fen included with Genecure’s Form 1065 for that year. In

the absence of any other evidence of a $100,000 capital contribution from

Mrs. Tung, we sustain respondent’s determination.

In sum, we find that Mr. Tung failed to substantiate the

purported $200,000 loan and the purported $100,000 capital

contribution from Mrs. Tung in taxable years 2009 and 2011,

respectively.

72 For purposes of this discussion, we disregard the nuance between a loan and

a promissory note as they are both reported as liabilities on Form 1065.

[*34] VIII.

Section 6663 Civil Fraud Penalties

At issue are section 6663 civil fraud penalties determined against

Genecure for taxable years 2009–12. 73 Because respondent does not

bear the burden of production with respect to penalties in a

partnership-level proceeding, see Dynamo Holdings Ltd. P’ship, 150 T.C.

at 236, Mr. Tung was required to plead respondent’s noncompliance

with section 6751(b)(1) (requiring written supervisory approval for the

assessment of penalties) as an affirmative defense if he wished to raise

that issue, see Blossom Day Care Ctrs., Inc. v. Commissioner, T.C.

Memo. 2021-87, at *57. Mr. Tung did not do so in the Petition.

We nonetheless deem noncompliance with section 6751(b)(1)

pleaded as an affirmative defense to the section 6663 penalties, as the

issue was actually tried by implied consent of the parties. See Rule

41(b)(1) (“When issues not raised by the pleadings are tried by express

or implied consent of the parties, they shall be treated in all respects as

if they had been raised in the pleadings.”). Respondent called as

witnesses RA White and RA Kittrell, who were each cross-examined by

Mr. Tung. Moreover, both parties introduced documentary evidence

concerning this issue. Consequently, before reaching the merits of the

asserted fraud penalties, the Court must address whether the IRS

complied with section 6751(b)(1).

Section 6751(b)

Section 6751(b)(1) provides that no penalty, including the penalty

under section 6663, may “be assessed [against a taxpayer] unless the

initial determination of such assessment is personally approved (in

writing) by the immediate supervisor of the individual making such

determination.”

Initial Determination

The Code does not define “initial determination.” See Graev v.

Commissioner, 149 T.C. 485, 500, 503 (2017) (Lauber, J., concurring)

73 Although Genecure is not a taxable entity for federal income tax purposes,

see § 701, TEFRA confers on this Court jurisdiction to determine the applicability of

section 6663 penalties in partnership-level proceedings, see § 6226(f); United States v.

Woods, 571 U.S. 31, 39–42 (2013); see also Omega Forex Grp., LC v. United States, 906

F.3d 1196, 1211–12 (10th Cir. 2018) (sustaining trial court determination that it had

jurisdiction in a TEFRA case to review the applicability of civil fraud penalties in light

of section 6226(f) and Woods).

[*35] (Holmes, J., concurring in result), supplementing and overruling

in part 147 T.C. 460 (2016). Nonetheless, in a partnership-level

proceeding under TEFRA, section 6751(b)(1) generally requires that

written supervisory approval of a penalty determination occur no later

than the issuance of the FPAA. See Palmolive Bldg. Inv’rs, LLC v.

Commissioner, 152 T.C. 75, 83 (2019). In Clay v. Commissioner, 152

T.C. 223, 249 (2019), aff’d, 990 F.3d 1296 (11th Cir. 2021), however, this

Court held that written supervisory approval may be required by a date

earlier than the issuance of a notice of deficiency (and analogously, an

FPAA) if there is an earlier formal communication to the taxpayer

advising him of the penalty determination and of his right to appeal.

Regardless, the “initial determination” for purposes of section 6751(b)(1)

must reflect, in a formal writing, that the IRS Examination Division

“completed its work and made an unequivocal decision to assert

penalties.” See Belair Woods, LLC v. Commissioner, 154 T.C. 1, 15

(2020) (rejecting the taxpayer’s argument that a Letter 1807

communicating proposed penalties constituted the initial determination

for purposes of section 6751(b)(1)). Moreover, notwithstanding the

Court’s holding in Clay, conferral of appeal rights is not the sine qua non

of an initial determination, although it may be an indication of it. See

Beland v. Commissioner, 156 T.C. 80, 89 (2021).

Respondent argues that for purposes of section 6751(b)(1), the

FPAAs issued on April 9, 2015, constitute the initial determination.

Conversely, Mr. Tung asserts that the Letter 1807 issued on February

20, 2015, constitutes the initial determination.

We conclude that the initial determination is embodied in the

FPAAs issued on April 9, 2015, as they collectively constitute the first

formal communication advising Genecure of the penalty determinations

at issue and of its right to appeal such determinations. See Beland, 156

T.C. at 89; Clay, 152 T.C. at 249. The Letter 1807 in this case cannot

constitute the “initial determination” for the same reason the Court in

Belair Woods found a similar Letter 1807 insufficient. That is, the

Letter 1807 (dated February 20, 2015) merely communicated proposed

penalties the ultimate imposition of which was subject to further

discussion and consideration (at the closing conference). Consequently,

it did not indicate that the Examination Division had completed its work

and that an unequivocal decision to assert penalties had been made. See

Belair Woods, LLC, 154 T.C. at 11–15. Thus, in order to satisfy section

6751(b)(1), written supervisory approval had to be obtained on or before

April 9, 2015.

[*36]

Approval in Writing

There is no singular form on which written supervisory approval

must be recorded for purposes of section 6751(b)(1) as long as the writing

manifests the immediate supervisor’s intent to approve the penalty at

issue. See Tribune Media Co. v. Commissioner, T.C. Memo. 2020-2,

at *20–21. This Court has found the written supervisory approval

requirement satisfied by several forms of documentation that were

timely signed by an immediate supervisor, including (1) a Civil Penalty

Approval Form, see, e.g., Belair Woods, LLC, 154 T.C. at 16–17, and (2) a

Form 11661, see Benavides & Co., P.C. v. Commissioner, T.C. Memo.

2019-115, at *45.

In this case, both a Civil Penalty Approval Form and a Form

11661 were signed before the issuance of the FPAAs on April 9, 2015.

Nonetheless, Mr. Tung argues that these signed forms fail to satisfy the

written supervisory approval requirement. With respect to the Civil

Penalty Approval Form, he argues that the approval relates to the

assertion of the section 6663 penalties against himself and Mrs. Tung

individually rather than against Genecure. With respect to the Form

11661, he argues that Ms. Fontanes was not the immediate supervisor

of RA White. 74 We address each form in turn.

Civil Penalty Approval Form

The Civil Penalty Approval Form consists of two pages and was

signed by Ms. Smith on March 19, 2015. An “x” is marked for a box to

assert the section 6663 fraud penalty. An “x” is also marked next to a

box containing the following text: “Deficiency Case (Explanation

required when adjustments made and penalties are not asserted. The

applicable exceptions to the penalty must be documented.).” On the top

of both pages are identical headers indicating Mr. and Mrs. Tung in the

field for “Taxpayer Name”; a taxpayer identification number (TIN);75

1040 in the field for “Tax Form”; and 2009–12 in the field for “Tax

Year(s).” The form also includes narrative entries by RA White and RA

74 The Form 11661 at issue references only taxable years 2009–11.

Respondent

conceded that it does not provide supervisory approval as to taxable year 2012.

75 The TINs disclosed on the headers do not match the Employer Identification

Number (EIN) for Genecure disclosed elsewhere throughout the record; however, they

do match the TINs for Mr. and Mrs. Tung. To the extent the record includes

inadvertent disclosure of sensitive taxpayer information (that the Court is aware of),

we ordered on May 5, 2022, that the parties file redacted versions of certain filings in

accordance with Rule 27(a).

[*37] Kittrell which refer to both Genecure and Mr. and Mrs. Tung. In

weighing these various aspects of the document, we cannot conclude

that this form manifests Ms. Smith’s intent to approve the assertion of

the section 6663 penalties against Genecure.

The Civil Penalty Approval Form’s headers establish a clear and

unambiguous context by identifying the Tungs individually by name and

by TIN. The reference to Form 1040 (the IRS form for individual

returns) is consistent with the identification of the Tungs as the subject

of the form rather than Genecure (which filed partnership returns on

Form 1065). The “x” marked for the box referring to “Deficiency Case”

also supports the conclusion that the context for this form is the

examination of individual returns; the examination of partnership

returns does not result in income tax deficiency determinations as

partnerships are not subject to federal income tax. See §§ 701, 6211(a).

To the extent the narrative entries reference Genecure, they do not

explicitly state that the penalties should be asserted against it. When

contextualized against the headers and other details on the Form, they

appear to be surplusage in explaining the applicability of the penalties

as to Mr. and Mrs. Tung. Consequently, we hold that the Civil Penalty

Approval Form does not manifest Ms. Smith’s intent to approve section

6663 penalties against Genecure. See Tribune Media Co., T.C. Memo.

2020-2, at *20–21. It therefore does not satisfy the written approval

requirement. 76 See id.

Form 11661

The Form 11661 consists of two pages and was signed by Ms.

Fontanes on August 7, 2012. Genecure is listed in the field “Business

Name” within the broader field for “Assigned Taxpayer.” 77 Under the

field for “Taxpayer Identification Number” is a redacted entry within the

subfield “EIN.” 78 The form indicates that the relevant returns under

examination are Forms 1065 for taxable years 2009–11. Within the field

76 We note that the headers provide an essential context not only as to the

identity of the subject taxpayers but also as to the relevant taxable years. There is no

indication of the taxable years to which the penalty assertion is being made other than

the headers. If the Court ignores the context the headers establish as to the identity

of the subject taxpayers, logic would similarly compel us to ignore them as to the

relevant taxable years to which the penalty assertion relates.

77 The other subfields within “Assigned Taxpayer” are “Last Name” and “First

Name”; both subfields were left blank.

78 The other subfield within “Taxpayer Identification Number” is “SSN,” which

was left blank.

[*38] for “FTA Recommendation,” 79 there is no “x” marked next to the

box “Assert CFP/FFTFP/impose 10-year EITC Ban”; a footnote on the

form indicates that “CFP” stands for civil fraud penalty. The only

reference to penalties on this form is the aforementioned footnote.

Lastly, in the two fields available for narrative entries, there is no

statement reflecting a determination that the section 6663 penalties

should be asserted against Genecure. In weighing these aspects of the

Form 11661, we also cannot conclude that this writing manifests an

intent to approve the imposition of any section 6663 penalty. See

Tribune Media Co., T.C. Memo. 2020-2, at *20–21.

A Form 11661 is used to document the investigation of potential

fraud. See IRM 25.1.2.2 (Oct. 30, 2009). It does not necessarily reflect

a determination that fraud exists or that any fraud-related penalty or

addition to tax should be imposed against the target taxpayer. See id.

Although this Court found the written approval requirement

satisfied by Forms 11661 with respect to an individual and corporate

taxpayer in Benavides & Co., P.C., T.C. Memo. 2019-115, at *45, that

consolidated case is distinguishable. 80 The Court determined as a

finding of fact that the Form 11661 for the individual taxpayer evinced

the examining agent’s recommendation that civil fraud penalties should

be asserted, and the Court noted that the “Plan of Action” therein stated

that a 30-day letter would be prepared that included the civil fraud

penalty. Id. at *11, *45–47. The Court found that the Form 11661 for

the corporate taxpayer similarly evinced supervisory approval of the

examining agent’s recommendation to assert civil fraud penalties. Id.

at *46.

The Form 11661 in the present action contains none of the same

characteristics, and to the extent there is any mention of penalties, such

a reference was solely for the purpose of disclosing the meaning of an

abbreviation on the underlying form.

As we find no indication that this form (as completed)

recommended the assertion of the section 6663 penalty against

79 “FTA” stands for fraud

(IRM) 25.1.1.1(6) (Dec. 16, 2011).

technical advisor. See Internal Revenue Manual

80 Also at issue was a civil fraud penalty determination against a third

taxpayer; however, the Court did not address whether the IRS complied with section

6751(b)(1) with respect to her because it concluded that the government did not carry

its burden of establishing that she had fraudulent intent. See Benavides & Co., P.C.,

T.C. Memo. 2019-115, at *45–46.

[*39] Genecure, we hold that it does not satisfy the written supervisory

approval requirement of section 6751(b)(1). 81

In sum, we hold that neither the Civil Penalty Approval Form nor

the Form 11661 at issue satisfies the written supervisory approval

requirement for purposes of section 6751(b)(1). Consequently, the

section 6663 civil fraud penalties are not applicable against Genecure at

the partnership level. See § 6751(b)(1).

IX.

Respondent’s Untimely Opening Capital Account Balance and

Outside Basis Argument

At trial, respondent raised as an issue for the first time

Genecure’s opening tax-basis capital account balances reported for

taxable year 2009. 82 Respondent further articulates on brief that

because Mr. Tung cannot substantiate the opening tax-basis capital

account balances reported on Genecure’s returns, each partner’s outside

basis must be deemed to be zero for purposes of applying the section 704

loss limitation rule. 83

The opening tax-basis capital account balance and outside basis

issue was not raised in the FPAA for taxable year 2009 or in

respondent’s Answer. Similarly, respondent’s Pretrial Memorandum

made no mention of this issue. Consequently, Mr. Tung had no notice

or reason to prepare evidence for trial that would substantiate the

partners’ opening tax-basis capital account balances or outside bases

(the latter of which is not a return item reported on Form 1065 or

associated Schedule(s) K–1). We will not entertain respondent’s

argument as to this issue given the lack of notice and consequent

prejudice. This Court has held on multiple occasions that we will not

consider an issue raised for the first time at trial (or on brief) for this

very reason. See, e.g., Estate of Mandels v. Commissioner, 64 T.C. 61,

73 (1975); Friedman v. Commissioner, T.C. Memo. 1992-588, 1992 Tax

Ct. Memo LEXIS 606, at *10–12, aff’d without published opinion, 48

81 We decline to address Mr. Tung’s argument that Ms. Fontanes was not RA

White’s immediate supervisor for purposes of section 6751(b)(1), as this holding

renders it moot.

82 As best we understand respondent’s overall argument, his issue lies with the

opening capital account balances reported on the Schedules K–1, which Genecure

indicated therein were tax-basis figures.

83 Section 704(d) limits the deductibility of a passed-through loss to a partner’s

adjusted basis in his partnership interest (i.e., outside basis) at taxable yearend.

[*40] F.3d 535 (11th Cir. 1995); Energy Res. Ltd. P’ship v.

Commissioner, T.C. Memo. 1990-240, 1990 Tax Ct. Memo LEXIS 248,

at *6.

To the extent respondent may claim that Mr. Tung was placed on

notice of this issue by language in the 2009 FPAA stating that Genecure

failed to provide support to verify capital contributions made during

taxable year 2009 that would increase basis, we disagree. 84 A capital

contribution made during a taxable year is distinct from a capital

account balance entering the same year, and substantiating each would

require wholly separate bodies of evidence. Moreover, although the

FPAA language references the word “basis,” the determination itself is

not that the partners’ outside bases should be zero.

Notwithstanding our conclusion that this issue was not timely

raised, respondent’s argument fails on the merits as it is predicated on

his apparent conflation of a partner’s tax-basis capital account with such

partner’s outside basis in a partnership. A partner’s outside basis is

defined under section 705(a), and Treasury Regulation § 1.705-1(a)(1)

explicitly provides that it is determined without regard to any amount

shown in a partnership’s books as the partner’s capital account. While

related concepts, they are not synonymous. 85 See William S. McKee et

al., Federal Taxation of Partnerships and Partners ¶ 6.04 (2022).

Moreover, this Court lacks subject matter jurisdiction to

determine a partner’s outside basis in a partnership-level proceeding.

See Woods, 571 U.S. at 42 (holding that outside basis is not a

partnership item for purposes of section 6226(f)); see also Logan Tr. v.

Commissioner, 616 F. App’x 426, 429 (D.C. Cir. 2015), aff’g in part, rev’g

in part, and remanding Tigers Eye Trading, LLC v. Commissioner, 138

T.C. 67 (2012).

84 Respondent conceded this determination at trial stating that “[t]here are no

capital contributions reported on Gene[c]ure’s 2009 Form 1065.” See supra note 7.

85 Although (1) a partner’s outside basis can generally be calculated by adding

his share of partnership liabilities to his tax-basis capital account, see Markell Co. v.

Commissioner, T.C. Memo. 2014-86, at *3 n.3, and (2) we previously concluded that

Mr. Tung failed to substantiate a purported $200,000 loan from Mrs. Tung (the only

liability reported as of taxable yearend 2009) to Genecure, see supra Opinion Part VII,

respondent’s argument also assumes without explanation that there were no

adjustments to the tax-basis capital accounts between the start and end of the taxable

year (such as one attributable to an allocation of partnership income or loss).

[*41] X.

Conclusion

In conclusion, the Court holds: (1) that Genecure had unreported

income of $6,000; $21,578; and $7,000 in taxable years 2009–11,

respectively, (2) that Mr. Tung largely failed to establish Genecure’s

entitlement to deductions for various business expenses reported for

each of the taxable years at issue, (3) that Genecure is subject to a

$230,979 recapture tax with respect to its taxable year 2010 for excess

amounts received as a QTDP grant, (4) that Mr. Tung failed to

substantiate a $200,000 loan to Genecure from Mrs. Tung in taxable

year 2009, (5) that Mr. Tung failed to substantiate a $100,000 capital

contribution to Genecure from Mrs. Tung in taxable year 2011, and

(6) that Genecure is not liable for section 6663 civil fraud penalties at

the partnership level for any of the taxable years at issue.

We have considered all of the arguments made by the parties, and

to the extent not mentioned above, we conclude that they are moot,

irrelevant, or without merit. To reflect the foregoing,

Decision will be entered under Rule 155.

This is a copy of a public record, reproduced as it was published. It is not legal advice, and it may not be the version a court would rely on. Check the official source before you cite it.