Petition for a Writ of Certiorari — Ng Sui Sang v. Esperdy

Cftice-Supreme Court, Ua,

FILED

pte ov 5 1964

Supreme Court att the United States

JOHN : DAViS, CLERK

STANLEY S. Hersney and Rutuy HeErsHey,

Peiilioners.

VS.

COMMISSIONER OF INTERNAL REVENUE,

Respondent.

Petition for a Writ of Certiorari to the United States

Court of Appeals for the Ninth Circuit

BERNARD 5. LAVEN,

530 West Sixth Street,

Suite 1109,

Los Angeles 14, California,

Attorney for Petitioner.

Parker & Son, Inc., Law Printers, Los Angeles. Phone MA. 6-9171.

SUBJECT INDEX

Page

I Se or ]

PURPTRTINCRRCIIIL -DUUETIOINE oa snicerininccnttesewenicwienscinniconss 2

Questions presented ..............22--....0..-..-- decuabtascunis 2

Constitutional provisions, statutes and regulations

NN wi eh acca ain leaps ees las wad dae niuieeds ipa 3

ee <0 SO i a

Reasons for granting the petition -....00...00.2200.202000---- 8

Be Se Raia SSR TEES A Clete ee 13

Index to Appendices:

Appendix I. Memorandum findings of fact and

SR AE REID OS sip Sd 8 SE OEE App. p. 1

Appendix II. On petition for review of the deci-

sion of the tax court of the United States App. p. 34

TABLE OF AUTHORITIES CITED

Cases Page

Anson v. C. I. R., 328 F. 2¢ | EE ee 11

Clark v. Commissioner, 266 F ORD a eee! 12

Clark v. U. S., 211 F. 2q 100, cert. den., 348 U. S.

BOM laveeitheddi Meiceinste sn Se 9

Cohen vy. Commissioner, 266 F.2d 5 12

Gasper v. Commissioner, 225 F. | re 12

Harp v. Commissioner. a) 12

Helvering v. Taylor, 203 U. TM he 11, 12

Huntingion Securities Corp. v. Busey, 112 F. 2¢

cc Nc ann an ENTE SOO 1]

Peterson Produce Co. vy. U. S., 205 Fed. Supp. 229. 11

Polizzi y. Commissioner, 265 F. 2d OUP Scaseeceetadal ts. 11

Rudder vy. U. S., 226 F. ME tee. 1]

Tank Truck Rentals, Inc. v. C. 1. R., 356 U.S. 30. 9

Regulations

Regulation 111, Sec, 20: DN aire ee ....4, 10

Treasury Regulations 111, Sec. 29.23(a)-1 +

Treasury Regulations 111, Sec. 29.23(a)-5 +

Statutes

Internal Revenue Code of 99, See. 21 3

Internal Revenue Code of 1939, See. 2 ot a » »

Internal Revenue Code of 1939, Sec. 21(b) ............ 2, 9

internal Revenue Code of me, Se 2 3

internal Revenue Code of 1939, Sec. 41.2. 3. 9, 10, 11

Internal Revenue Code. cont ag Fo 9

Tinited States Code, Title 28. Sec. 1254 (1) 0. 2

United States Constitution, Fifth Amendment 2, 3, 9

IN THE

Supreme Court of the United States

October Term, 1964

BI a suniadiilece

STANLEY S. HersHeEY and RutH HERSHEY,

Petitioners,

US.

COMMISSIONER OF INTERNAL REVENUE,

Respondent.

Petition for a Writ of Certiorari to the United States

Court of Appeals for the Ninth Circuit

Petitioners by their counsel pray that a Writ ot

Certiorari issue to review the decision of the United

States Court of Appeals for the Ninth Circuit, which

affirmed the decision of the Tax Court of the United

States and opinion of the United States Court of Ap-

peals for the Ninth Circuit was filed and entered on

August 5, 1964.

Opinions Below.

The opinion of the United States Tax Court in sup-

port of its judgment is appended hereto and marked

“Appendix I”.

The opinion of the U. S. Court of Appeals for the

Ninth Circuit is appended hereto and marked “Appen-

dix IT’, which opinion is unreported.

—, om

Jurisdictional Statement.

The jurisdiction of the Supreme Court of the United

States is invoked pursuant to the terms and provisions

under 28 U. S. C. Section 1254, subdivision 1.

Questions Presented.

Was the Petitioner deprived of the right guaranteed

by the Fifth Amendment to the Censtitution of the

United States by means of the following proceedings by

the Commissioner of the Internal Revenue which was af-

firmed by the Tax Court of the United States and

the U.S. Court of Appeals for the Ninth Circuit ?

1. By the Commissioner arbitrarily assessing the

Petitioner with gross income instead of net income,

contrary to the provisions of the 1939 Internal Reve-

nue Code, Section 21(a) and (b), and the regulations

promulgated thereunder which provide that the cost

of goods are deductible in arriving at gross income.

ty

2. By the Commissioner arbitrarily disregarding the

net worth, bank deposits and percentage otf profit meth-

ods of determining additional income, contrary to Sec-

tion 41 of Internal Revenue Code of 1939.

3. By the Commissioner in making his assessment

arbitrarily disallowed the cost of goods by rejecting the

substantial uncontradicted evidence that 'the Petitioner

paid tor goods sold.

Whether the decision of an administrative agency

may be made which has the effect of taking property

contrary to the statutes and regulations which are clear

and unequivocal.

De RRR

ISR

xP

oe

Constitutional Provisions, Statutes and

Regulations Involved.

Fifth Amendment to the Constitution:

‘sk * * nor be deprived of life, liberty or property

without due process of law; * * *”

Section 21, Internal Revenue Code of 1939.

“(a) . . . ‘Net income’ means the gross income

computed under Section 22, less the deductions al-

lowed by Section 23.”

Section 23, Internal Revenue Code of 1939.

“In computing net income there shall be allowed

as deductions:

(a) Expenses.

(1) Trade or business expenses.

(A) In general—All the ordinary and

necessary expenses paid or incurred dur-

ing the taxable year in carrying on any

trade or business, including a reasonable

allowance for salaries or other compcn-

sation for personal services actually ren-

dered, ...”

e

Section 41 of the Internal Revenue Code of 1939.

“The net income shall be computed upon the basis

of the taxpayer’s annual accounting period (fisca:

year or calendar year as the case may be) in ac-

cordance with the method of accounting regularly

employed in keeping the books of such taxpayer,

but if no such method of accounting has been so

employed, or such method does not clearly reflect

the income, the computation shall be made in ac-

cordance with such method as in the opinion of

the Commissioner clearly reflects the income... .”

a

Treasury Regulations 111, Section 29.23(a)-1.

“Business expenses—In general. Business expenses

deductible from gross income include the ordinary

and necessary expenditures directly connected with

or pertaining to the taxpaye: s trade or business.

. . . The cost of goods purchased for resale, with

proper adjustment for opening and closing inven-

tories, is deducted from gross sales in comput.ag

gross income... .”

Treasury Regulations 111, Section 29.23(a)-5.

“Gross Income: In the case of a manufacturing,

merchandising, er mining business ‘gross income’

means the total sales less cost of goeds sold... .”

Regulation 111, Sec. 29; 54-1,

“Every person subject to the tax * * * shall

for the purpose of enabling the Commissioner to

determine the correct amount of income subject

to the tax, izeep such books of accounts or records,

including inventories, as are sufficient to establish

the amount of gross income, deductions, credits

and other matters required to be shown in any re-

turn.”

Statement of the Case.

This proceeding involves the Federal income tax li-

ability of tae Petitioner for the years 1950, 1951 and

1952.

Petitioner Stanley S. Hershey in the fall of 1950

commenced a business of collecting scrap metals and

selling it mainly to one scrap dealer, Alpert & Alpert,

and continued this business during the years of 1951

and 1952.

> eee eae ee

anne

In August of 1950 Alpert & Alpert set up a sep-

arate account under the name of H. Jackson under

which it is claimed that it paid the petitioner in cash

for part of the scrap delivered to it, receipts of which

monies were never signed for by the petitioner and were

in the handwriting of an employee of Alpert & Alpert.

The balance of petitioner’s deliveries of scrap metals

were recorded on tac books of Alpert and Alpert un-

der the name of S. S. Hesshey and were paid by its

check.

Petitioner filed income tax returns for the calendar

years of 1950, 1951 and 1952, which included to the

penny all monies received irom Alpert & Alpert under

the S. S. Hershey weight slips. An investigation was

commenced by the Commissioner of Internal Revenue

and a certified public accountant, employed by the pe-

titioner, advised that if amended retzrns were filed, pe-

titioner would be making a voluntary disclosure and

avoid criminal prosecution. The certified public ac-

countant filed amended reiurns for the years of 1950.

1951 and 1952, which included the gross receipts of

all of the weight slips under the name of H. Jackson

and S. S. Hershey, and deducted 5/7th on the aver-

age price of 7¢ per pound as cost of goods, based on

2¢ per pound which petitioner toid him was his profit

and supported by a letter dated September 15, 1952,

signed by National Tapered Wings [Ex. 9].

The testimony of the respondent’s own witness at

the Tax Court hearing, Mr. Hooykass, was that his

company (the main source of petitioner’s scrap metals)

received the entire amount which petitioner received,

less 2¢ a pound [R. 211, 511, 505-506}.

a oe

The permanent ledgers of Alpert & Alpert did not

show that it paid any cash to petitioner, although it

had a complete record of all checks paid [R. 288].

The Commissioner exerted great effort in preparing a

net worth statement of the petitioner’s assets, which

was substantially less than the gross receipts on the

amended returns filed; nevertheless he arbitrarily chose

to disregard it [Ex. 48; R. 761-763, 809. 822, 922-

928], and assessed the petitioner on the basis of gross

receipts shown on the arnended returns [Exs. 4D-6F ].

The Commissioner through its reventie agent assumed

without any written receipts signed by petitioner that

he received the total amount represented by the H. Jack-

son weight slips [R. 866-869, 889-890, 896-897, 900,

903-908], even though it was the policy of the Com-

missioner to disallow cash expenditures where there

were not any signed receipts [R. 862].

In addition there was presented before the Tax Court

evidence of cost of goods purchased from California

Duplicating Company in the amounts of $132.60 for

1951 and $2,608.80 for 1952 [R. 58, 59, 702-746],

which were not deducted by the Commissioner or the

Tax Court. (Opin. p. 25, Appx. I.)

There was no testimony whatsoever that anyone of

Alpert & Alpert paid any cash whatsoever on the H.

Jackson weiht slips to the petitioner prior to Feb-

ruary 20, 1951 |R. 376-372]. This amounted to $12.-

167.78 [R. 349-356]. A number of weight slips in

November 1951 were in the handwriting of persons

who did not testify making anv payment to petitioner.

It was assumed this money was paid to petitiviier [ Ex.

23; R. 328-335], nevertheless the Commissioner and

Tax Court included this amount as gross receipts.

{

ae: ek

The Commissioner aiso included the gross receipts

contained in the amended returns under the H. Jackson

weight slips as additional income to the petitioner with-

out deducting a loan of $25,000.00 to Aircraft Tapered

Sheets on December 10, 1951, although the evidence

was that Aircraft Tapered Sheets received this loan

of $25,000.00 and no part of which was received by

the petitioner [Ex. 27; R. 292]. This loan was re-

paid by credits of scrap materials which were obtained

by petitioner from Aircraft Tapered Sheets and deliv-

ered to Alpert & Alpert on the weight slips under the

name of H. Jackson and was completely repaid on April

28, 1952 [R. 318]. On or about May 22, 1952, pe-

titioner negotiated another loan of $2*° 100 from

Alpert & Alpert and at his request Alpert & Alpert’s

check in this amount was issued to Aircraft Tapered

Sheets on May 22, 1952 [Ex. 38; R. 293]. Thi: lu: n

was repaid by credits similar to those made in repay-

ment of the prior $25,000.00 loan and this loan was

completely repaid by October 17, 1952 [R. 318].

Nevertheless, the Commissioner assessed the petitioner

with aGditional inconie in the statutory notice without

deducting anv amount fer cost of goods sold or allow-

ing credits and oftsets of the loan of the total amount

of $50,000.00 to Aircraft Tapered Sheets.

It was clearly demonstrated that the Commissioner’s

assessnient in statutory notice was net only incorrect

but impossible [Exs. “49, 50, 51, 52.] The Commis-

sioner’s calculations show a gross profit of $91,484.99

for 1951 [R. 752-755, 767-768], which would amount

co a receipt of approximately 10¢ per pound. In 1952

$115.694.99 for 1,099,790 Ibs. it would be in excess of

10¢ per pound [R. 769]. The exhibits clearly reflect

8

that the average gross amount received by petitioner

was approixmately 7¢ per pound [Exs. 49, 50, 51, 52].

The Commissioner assessed the deficiencies in ques-

tion on the basis of gross receipts instead of gross in-

come, without allowing for cost of goods, or any of

the other deductions heretofore set forth and in addition

assessed a 50% fraud’ penalty.

The petitioner promptly filed a petition with the Tax

Court of the United States, requesting a re-determina-

tion of the asserted deficiencies. Following trial of the

issues before the Tax Court of the United States, the

Tax Court sustai:.ed the Commissioner, except for some

minor adjustments for cost of goods sold, even though

it conciuded that ‘we believe the evidence reasonably

supports that petitioner made payments to suppliers in

cash and that the eviderice was not equally clear that

the entire amount shown on the H. Jackson weight

slips constituted an ad @ional income to petitioner

(Opin p. 25, Appx. I).

The petitioner filed a petition for review before the

United States Court of Appeals for the Ninth Circuit,

which atfirmed the Tax Court’s decision with any ref-

erence to any citation of applicable Federal decisions.

Reasons for Granting the Petition.

The Decision of the Tax Court of the United States

and the United States Court of Appeals for the Ninth

Circuit failed to recognize many basic fundamental is-

sues of law and denied your petitioners due process of

law guaranteed to them by the Constitution of the

United States.

Each and all of the questions sought to be reviewed

were raised by assignment of error, and were deter-

—

_

mined adverse to the petitioners, and resulted in a vio-

lation of the Fifth Amendment to the Constitution of

the United States in that it takes his property away

from them, arbitrarily, in complete disregard of Section

21 (a) and (b), and upon the assumption of the

Commissioner and an er © ous application of Section

41 of the 1939 Revenue Code and regulations there-

under.

The Courts below have construed the applicable stat-

utes and regulaticns in a manner inconsistent. with the

settled judicial interpretation.

The great principles and great issues involved here

are of such a nature that the impact of the Decision

upon the taxpayers will be severe and harsh and give

the Commissioner a license to arbitrarily assess tax-

payers on the basis of gross receipts without deducting

the cost of goods sold.

Both the Tax Court and the Ninth Circuit Court of

Appeals completely ignore and reiuse to follow the hold-

ings of the settled decisions that gross income and not

gross receipts is the foundation ot income tax liability,

and, manifestly, gross receipts cannot be called gross

income, ia so far as they consist of borrowings of

capital returns of capital, or any other items, which

Secticn 22 of the Internal Revenue Code 26 U.S. C. A.,

has excluded from gross income. Clark v. U. S., 211

F. 2d 100, 102 (Cert. Den.) ; 348 U. S. 911. Congress

intended the income tax laws to tax earnings and

profits. less expenses and losses, carrying out a broad

basic policy of taxing net, not gross income.

Tank Truck Rentals, Inc. v. C. 1. R., 356 V. S.

30, 33. |

_ oe

The importance of tne decision below is apparent

from the novel view it takes of the authority of the

Commissioner and from its practical impact on the ad-

ministration of Justice.

The Commissioner used affidavits to determine the

cost of goods and the schedules upon which he relied

was not admitted into evidence [Ex. “L”; R. 235-241].

The evidence was not only uncontradicted but substan-

tial that petitioner only received two cents per pound

for scrap which he hauled, end, therefore, the Tax

Court of the United States erroneously disallowed the

cost of goods sold in the amended returns which was

the sole basis of his assessment.

The presumption of regularity should attach to per-

manent books and records of Alpert & Alpert, which

do not show any disbursements of cash to petitioner

and there is no legal justification for the Commissioner

to arbitrarily reject these permanent records. It was

contrary to his own policy [R. 111; Sec. 29: 54-1].

The net worth computations prepared by the Com-

missioner do not substantiate the additional income

claimed. According where his method is based on as-

sumption and a disregard of the approved methods o*

proot of additional income such as net worth increase,

bank deposits and percentage of profit and uncontra-

dicted substantial evidence of cost of goods, then his

assessment is in violation not only of the Congressional

authority but Constitutional guaranty, and is not per-

missible under Section 41 of the 1939 Revenue Code.

It is 2 ‘tomatic that the Commissioner has no alterna-

tive in face of unequivocal expression of Congress but

to respect and apply the statutes as were intended by

Po | ae

Congress. Section 41 of the Internal Revenue Code of

1939 limits the authority of the Commissioner to com-

pute income by such method as in his opinion clearly

reflects income.

It was never intended that the Commissioner could

guess at income. The word clearly means just what

it says, plainly, honestly, straightforwardly and frank-

ly. Huntington Securities Corp. v. Busey, 112 F. 2d

368, 370. Income should be reflected with as much

accuracy as standard methods of accounting practices

permit; Peterson Produce Co. v. U. S., 205 Fed. Supp.

229, 244.

In the case of Anson v. C. I. R., 328 F. 2d 703,

705, it was held that income tax is not imposed upon

what income should be but upon what incorne actually

is.

In Polizsi v. Commissioner (Oth Cir.), 265. F.

2d 498, 501-502, it was held that a Commissioner’s

determination, based upon an assumption without proof

that the taxpayer actually received the money, was

insufficient to make an assessment of additional income.

Arbitrary action by an administrative agency is not

due precess, Rudder v. U. S., 226 F. 2d 51, 53.

This Court in Helvering v. Taylor, 293 U. S. 507,

at 515 declared

“But whereas in this case the taxpayers’ evi-

dence shows Commissioner's determinaiion to be

arbitrary and excessive, it not be reasonably held

that he is bound to pay a tax that he confessedly

does not owe, unless his evidence was sufficient to

establish the correct amount that may be lawful-

2. ly charged against him.”

pe See

The Ninth Circuit Court of Appeals disregarded its

own decision which held the Commissioner’s determina-

tion is invalid when it is arbitrary or capricious.

Cohen v. Commissioner, 266 F. 2d 5, 11 (1959)

Oth Circuit.

These decisions and policies ought to still be the law

and, if applied here, would require a different conclu-

sion from that reached by the Tax Court of the United

States. |

Even the Tax Court admitted that it was not clear

how much additional income the petitioner did receive,

and its decision wholly fails to establish the reason-

ableness or accuracy of the income taxed or the method

used to determine it.

It was the duty of the Tax Court to determine the

correct amount of additional income and 1.5 sustaining

of the 50% fraud on income which it has doubt be-

comes not only arbitrary but oppressive and should not

be allowed to stand.

Helvering v. Taylor, 293 U. S. 507, 515;

Clark uv. Commissioner, 266 F. 2d 698, 706, 715-

717 (9th C. A.);

Harp v. Commissioner, 263 F. 2d 139, 141-142

(6th C. A.);

Gasper v. Commissioner, 225 F. 2d 284, 287-288

(6th C. A.).

The questions presented in this case are of impor-

tance in the administration of the Federal income tax

law, and this precise issue of arbitrarily disallowing for

cost of goods is present in many thousand pending tax

nati Mines

investigation cases. Review by this Court would fur-

nish the rule for decision of the many proceedings in-

volving this issue and prevent years of litigation.

Conclusion.

For the foregoing reasons, the Petition for Certiorari

should be granted.

Respectfully submitted,

BERNARD B. LAVEN,

Attorney for Petitioner.

APPENDIX I.

Memorandum Findings of Fact and Opinion.

T. C. Memo. 1962-277

Tax Court of the United States

Stanley S. Hershey and Ruth Hershey, Petitioners, v.

Commissioner of Internal Revenue, Respondent.

Docket No. 80635.

Filed November 23, 1962.

Bernard B. Laven, Esq., tor the petitioners.

Alfred L. Margolis, Esq., and J. Earl Gardner, Esq.,

for the respondent.

SCOTT, Judge: Respondent determined deficiencies

in petitioners’ income taxes and additions to the tax

for the years 1950, 1951, and 1952 in the following

amounts :

Additions to Tax

Section Section Section

293(b) 294(d)(1) (A) 294(d) (2)

Year Deficiency I.R.C., 1939 I.R.C., 1939 _I.R.C., 1939

1951 $ 1,029.58 $ 514.79 $97.21 $ 681

1951 42,601.24 21,300.62 2,569.88

1952 57 627.66 28,813.83 3.521.91

$101,258.48 $30,629.24 $97.21 $6,156.60

Respondent concedes that he is in error in the asser-

tion of the addition to the tax in the amount of $64.81

under section 294(d)(2) of the Internal Revenue Code

of 1939 for the year 1950.

The issues for decision are:

(1 Whether vetitioners tor the years 1950, 1951, and

1952 filed false and fraudulent returns with intent to

evade income tax.

(2) Whether petitioners had unreported net business

income from the scrap metal business in the years 1950,

= em

195i, and 1952 in the respective amounts of $6,221.42,

$82,036.95, and $91,840.63 or any part thereof.

(3} Whether petitioners are liable for the addition

to tax provided in section 294(d)(1)(A) of the Inter-

nal Revenue Code of 1939 for the year 1950 and the

addition to tax provided in section 294(d)(2) of the

Internal Revenue Code of 1939 for the years 1951 and

1952.

FINDINGS OF FACT.

The stipulation of facts which identifies some of the

exhibits is incorporated herein by this reference.

Petitioners, Stanley S. Hershey and Ruth Hershey,

husband and wiie, filed joint Federal income tax returns

for the years 1950, 1951, and 1952 with the district

director of internal revenue at Los Angeles, Caiifornia.

During part of 1950 and for some time prior thereto,

Stanley S. Hershey (hereinafter referred to as _ peti-

tioner) worked as a taxicab driver, employed by the

Yellow Cab Company of California, and during a part

of 1950 he also worked as an employee of the U-Paint

Furniture Company.

In the fall of 1950 petitioner began a business of

collecting scrap metals and selling it to large scrap

dealzrs. During the years 1951 and 1952 petitioner

continued his business of collecting and selling scrap

metals.

Petitioners on their original 1950 income tax return

reported total wages received from U-Paint Furniture

Company and Yeilow Cab Company of California in

the amount of $1,331.49 and tips of 10 percent of

wages from the Yellow Cab Company in the amount of

$71.65. They reported as gross receipts from the scrap

pas ee

iron and metals business the amount of $1,997.23 and

net profits on that business of $1,115.23. This return

was prepared for petitioners by a public accountant

who also prepared petitioners’ 1951 and 1952 origi:.al

Federal income tax returns. This accountant’s wife

was a cousin of petitioner’s wife. The amount labeled

on petitioners’ 1950 return as “Gross Receipts” was

so labeled by the accountant who derived the amount

by subtracting from what he computed as the amount

received by petitioner in payment for scrap metals, the

amount he computed as the cost to petitioner of those

metals. and, therefore, this amount should more properly

Mave been labeled “Gross Profits.”

On their original Federal income tax return for the

year 1951 petitioners reported gross receipts from sales

of scrap iron and metals in the amount of $38,673.41,

cost of sales of scrap iron and metals of $32,274,

gross profit on sales of scrap iron and metals of

$6,399.41, commissions earned due to sale of materials

on exclusive sales arrangement of $3,048.60, total gross

income of $9,448.01, operating expenses of $4,218.50,

and net income from business of $5,229.51.

On their original Federal income tax return for the

year 1952 petitioners reported gross receipts from sales

of scrap iron and metals of $107 296.24, cost of sales

of $92,621.95, gross profit of $14,608.29, commissions

earned (cost of sales refund on exclusive materials sales

arrangement) of $11,270.64, total gross income of

25.938.93, total operating expenses of $16,209.01, net

operating income ot $9,729.92, income from rubbish

heuling of $1,950, total income from business of

$11,679.92, gross salary from California Duplicating

Company, Los Angeles, California, of:$5,700 less com-

ro

missions paid to Sophie Levin of $2,850, with a result-

ing net total wages from California Duplicatin: Com-

pany of $2,850 making a total net income of $14,529.92.

Or. each of the original Federal income tax returns

for the years 1950, 1951, and 1952, petitioner showed

his occupation as “Scrap Iron.”

Petitioners did not show the accountant who prepared

their original 1950, 1951, and 1952 income tax returns

any regular books of account of their business opera-

tion. Petitioner provided this accountant with some

weight slips and adding machine tapes, some cancelled

checks and miscellaneous memceranda from which to

prepare each of these returns. At the time of preparing

the tax return for the year 19FO the accountant asked

petitioner if he had books of account and _ petitioner

replied that there were none, and in repty to the

accountant’s suggestion that petitioner should keep

books and records of his business, which the accountant

suggested that he would set up, petitioner said that

he did not desire to have this done.

Sometime in the latter part of 1953, after an in-

vestigation by the Internal Revenue Service of peti-

tioners’ income tax returns for the years 1950, 1951,

and 1952 had been commenced, petitioner and the

accouirtant who had prepared the original returns for

these years called upon the accountant’s father who

was a certified public accountant admitted to practice

before the Treasury Department, requesting that he

take over and prepare amended returns for petitioners.

The certified public accountant discussed with petition- ,

er what he considered to be the position of the Internal

Revenue Service on voluntary disclosure. Petitioner

—

Stated to the certified public accountant that tnere was

undisclosed income in the original returns.

The certified public accountant inquired of petitioner

whether he had books and records. Petitioner replied

that he had noae. The certified public accountant

ascertained from petitioner that his sales were made

to Alpert and Alpert Iron & Metal Company (here-

inafter referred to as Alpert) and received per-

mission from petitioner to visit the offices of Alpert

and make lists of the sales or weight slips which he

found there. The certified public accountant asked pe-

titioner if he had done busitiess under a name other

than his own and petitioner replied that he had used

the name of H. Jackson. The certified public account-

art visited Alpert and made an analysis of weight slips.

He then suggested to petitioner that since he had no

books and records, cost of the goods sold might be

obtained by going to petitioner's several sources of

supply of the scrap metals and determining from their

records the amount that peiitioner had paid to them for

such scrap metais. The certified public accountant re-

quested permission from petitioner to go to his various

suppliers, but petitioner told him not to go to these

sources since if he did so, petitioner would probably

lose the sources of supply, which he was in no position

to do.

Petitioner told the certified public accountant that he

received approximately 2 cents a pound profit from

scrap metals and showed che accountant an agreement

between him and Nationa! Tapered Wings, Inc., in the

form of a letter to petitioner by that company, acknowl-

edged and agreed to by petitioner. This letter dated

December 19, 1952, states:

allie

Reterence is made to our letter of Agreement

dated May 30, 1952 concerning maintenance and

transportation services to be performed by your

organization at our Plant No. 1, 3001 E. 11th

Street, Los Angeles 23, California.

Since our Plant No. 2 is now in operation at

4906 Aicoa Avenue, Vernon, it is proposed that

your organization extend the same maintenance

and transportation services, as in the past, to the

new Vernon facility, and under the same general

terms and conditions as our prior letier of Agree-

ment.

However, since it is now recognized that the vol-

ume of aluminum scrap generated (both plants

combined), will constitute a recovery factor of def-

ipite value over and above accumulation, segrega-

tion, and transportation expenses, it is proposed

that provisions be initiated te isolate aluminum

scrap produced from that of other metals: and

that such aluminum scrap be cleaned, weighed and

sold for our account at the going-market rate of

record for such aluminum scrap, and that we be

reimbursed in the amount of such sales, less a

handling allowance in the amount of 2 cents per

Ib. On this basis, we will require a sales receipt

for each transaction, evidencing certified weight,

etc., for our files, together with the covering re-

mittances in each case.

It is further proposed that the afore-mentioned

handling charge of 2 ce::ts per Ib. be considered

applicabie to the sale of aluminum scrap only and

shall be considered as a fee over and above the

pm Ne

established maintenance charge of $12.50 per work-

ing day as negotiated under our prior agreement

dated May 30, 1952.

Your acceptance of this proposed Amendment to

our prior Agreement*is respectfully requested. We

are most sincerely appreciative of the excellent

services which have been offered by your people

in the past and trust that conditions will permit

the continuance of such assistance throughout the

coming year.

From this letter and petitioner’s statement as to the

profit received by him, the certified public accountant

concluded that petitioner received a 2 cents a pound

profit. He determined from the weight slips examined

that petitioner's average sales price of scrap metals was

7 cents a pound. This accountant then decided that he

would use a ratio, for determining cost of goods sold,

to be used in the amended returns of five-sevenths of

the sales price which he had computed.

The certified public accountant prepared amended

Federal income tax returns of petitioner’s income jor

the years 1950, 1951, and 1952. These returns were

shown to petitioner, signed by petitioners, and filed

with the district director of internal revenue at Los

Angeles, California on January 12, 1954.

In the amended return fer 1950 the salaries paid

by Yellow Cab Company of California and U-Paint

Furniture Company to petitioner were the same as re-

ported in the original 1950 return, and the amount of

tips received was the same. The amended return for

1950 showed, under income from scrap business, gross

receipts from Alpert or $6,503.62. On a handwritten

ca ae

schedule attached appeared the notation, “Alpert and

Alpert (Frances Brody)” and two columns of figures,

each under the title “S. Hershey’, the first having

figures after dates ranging from August 29, 1950,

through November 29, 1950, totaling $4,120.62, “and

the second, figures opposite dates from December 5,

1950, through December 29, 1950, totaling $2,383, pro-

ducing a total for the two columns of $6,503.62. This

return showed cost of sales as five-seventiis of receipts

which resulted in the amount of $4,045.44 leaving a

gross profit of $1,858.18. This return showed total

business expenses of $894 and net income of $2,367.32.

The amended return for 1951 showed gross receipts

from scrap business in the amount of $111,276.83

listed as gross receipts from Alpert, S. Hershey $43,-

708.69, and H. Jackson $67,568.14; cost of sales, five-

sevenths of receipts, of $79,483.45; gross profit of

$31,793.38; and net income of $27,574.88. This veturn

also had attached handwritten sheets showing dates and

amounts ef payments, one schedule being headed “S.

Hershey” and the other ‘““H. Jackson,’ each schedule

totaling the amouni of receipts under the respective

‘

name shown on the amended return.

The amended return for 1952 showed gross receipts

from Alpert iu the amount of $172,561.78 divided un-

der S. Hershey $117,151.95, and H. Jackson $55.409.83,

_ cost of sales (tive-sevenths of receipts) in the amount of

$123,258.41, gross profit of $49,303.37, expenses of

$16,209.01, net operating ‘income of $33,094.36, income

from rubbish hauling of $1,950, and income from sal-

ary from California Duplicating Company, Inc., the

same as reported in the original return making a total

income of $37,894.36. This amended return also had

attached handwri-ten schedules with dates and amounts

under the name of “S. Hershey in a/c with Alpert &

Alpert” and “H. Jackson in a/c with Alpert & Alpert.”

On November 30, 1953, petitioner swore to the fol-

lowing statement :

I Stanley S. Hershey solemnley [sic] swear that

the statements set forth below are true and correct.

1. As of Dec. 31, 1952 to the best of my knowl-

edge and belief had about 2 hundred dollars.

2. The cost and expenses of operating the S. S.

Hershey Co. which is my solely owned junk busi-

ness is to my belief correctly set forth upon my

income tax- returns as tiled for the years 1950,

1951, 1952 and there are no additional expenses

that I have failed to include thereon.

3. I have never transacted any business under

any fictitious names or acted as agent for any one

else in the collection of monies.

On October 29, 1957. petitioner was convicted, upon

his plea of nolo contendere, in the United States Dis-

trict Court for the Southern Wistrict of California of

the offense of making a false and fraudulent income

tax return for himself and wife for the year 1951,

and making a false and fraudulent affidavit relating

to doing business unde# a fictitious name in violation

of 26 USC 145(b) and 18 USC 1°91, and sentence

was imposed.

During the course of the investigation of his income

tax returns for 1950, 1951, and 1952 petitioner stated

to the examining agents of the Internal Revenue Serv-

ice that he had never sold scrap metals to anyone other

than Alpert.

oe

Petitioner sold scrap metals to Golden West Salvage

Company in the years 1950 and 1951 in the respective

amounts of $1,218.02 and $484.86. During the years

here in issue petitioner owned two trucks with which

he picked up scrap metals from approximately nine

places, and, except for relatively small amounts of such

metals delivered in 1950 and 1951 to Golden West

Salvage Company, delivered the metals to the yard of

Alpert. Most of the metal which petitioner delivered

to Alpert was aluminum scrap but he did deliver some

other metals such as cast iron.

When one of petitioner’s trucks arrived at the Alpert

yard it was weighed on a large truck scale as it entered

the yard and was again weighed on this scale when it

left the yard and the difference in these weights was

considered to be the weight of the scrap metals de-

livered in that truck. Commencing about the first of

March 1951 the weighing of the trucks was done at

times by Frances Brody (hereinafter referred to as

Brody) who during the years here involved was office

manager of Alpert, but generally this wetghing was

done by another employee of Alpert. A weight slip

would be made out at the time the truck was weighed

by Brody or the other employee of Alpert who weighed

the trucks showing the date, the name S. Hershey,

the kind of metal delivered, and the number of pounds

of metal delivered.

Petitioner was usually in the office of Alpert during

1951 and 1952 at least once each day und sometimes

more often and at times would look at these weight’

slips. However, the weight slips during the years 1951

and 1952.would be accumulated for a period of approxi-

mately 10 days without payment. When petitioner came

oe

to Alpert’s office during the period from March 1951

throughout 1952 for a settlement of the accumulated

weight slips, he generally dealt with Brody. She would

bring out all the slips on which payment had not been

made, and petitioner and Brody would check together

the original weight slips, and petitioner would decide

which ones he wanted rewritten and the weight slips

would be rewritten as petitioner instructed, generally by

Brody. Some of the slips would be rewritten to place

a portion of the poundage to be paid for on slips in

the name of S. Hershey and the balance of such pound-

age would be placed on slips written in the name of

H. Jackson. The name of a supplier designated by pe-

titioner would be written on many of the new weight

slips in the name of S. Hershey, but no supplier’s

name was written on the Jackso1. slips. It was not the

custom in the scrap metal business to use a fictitious

business name.

In some instances, particularly with respect to alumi-

num borings, where a weight slip was rewritten, a part

of the poundages delivered would be listed on the S.

Hershey slip at a price of from 1 to 1% cents per

pound under the price which petitioner was to receive

from Alpert for the metal and a portion of the pound-

age would be listed on the slip under the name of H.

Jackson, either at the full price to be received for the

metal or the lesser price. Then a third slip under the

name of H. Jackson would be written listing a poundage

of metal of a type not actually delivered to Alpert by

petitioner in a total amount equal to that listed on the

other slips at a price less than the price to be received

by petitioner at a price of 1 cent or 1% cents per

pound, or a slip showing “price adjustment” of this

a ee

amount per pound under either the name of S. Hershey

or H. jackson would be written to bring the actual price

of the metal listed on the S. Hershey slip or the com-

bined S. Hershey and H. Jackson slips to the actual

price to be paid to petitioner. During 1951 and part

of 1952 the price shown on the slips which listed the

metals actually delivered would be the OPS allowed

price without consideration of quantity bonuses allowed

under OPS regulations. While there was some varia-

tion in the method of rewriting the slips, this was the

general procedure followed in 1951 and 1952.

After the writing of the new weight slips was com-

pleted, the original slips would be destroyed promptly

by petitioner, or by Brody. No original weight

slips were left undestroyed. The new weight slips were

written in duplicate, one copy given to Hershey, and

the other kept by Brody for Alpert’s records. Hershey,

while still in Alpert’s office, destroyed his copy of the

new slips bearing the name, “H. Jackson,” but left Al-

pert’s office with the rewritten copy of the weight

slips bearing the name, ‘‘S. Hershey.”’

Petitioner was paid by checks or credit to his loan

accounts vith Alpert for the amounts shown as due

him on the Hershey weight slips and was paid by cash

or credit to his loan accounts with the amounts shown

on the Jackson weight slips. The total amounts re-

ceived by petitioner from Alpert as reflected on the

weight slips as rewritten under the names of S. Her-

shey and H. Jackson were as follows in the years 1951

and 1952:

1951 1952

S. Hershey $ 44,345.42 $119,764.84

H. Jacksor 70,942.54 65,521.31

Total $135,287.96 $185,286.15

et ee

The first weight slip in the records of Alpert in the

name of H. Jackson is dated in January 1951. This

slip was not written or paid by Brody. From Au-

gust 20, 1950, until February 20, 1951, Brody was

away from Alpert’s office on a trip. She had no deal-

ings with petitioner prior to February 20, 1951. Short-

ly after she returned to work on February 20, 1951, she

was informed by one of the Alperts who was a part-

ner in the business that weight slips were being rewrit-

ten for petitioner and that some of the rewritten slips

were under the name, “S. Hershey” and others under

the name, “H. Jackson.” Brody is now, and has been |

for a number of years, a partner in Alpert, but dur-

ing the years 1950 through 1952 she was not a part-

ner but only an employee. She had been employed by

Alpert from 1930. At the time she was first em-

ployed by Alpert she was a bookheeper and has since

that time done work involving at least in part the keep-

ing of Alpert’s books.

National Tapered Wings, Inc., was one of petition-

er’s sources of supply of scrap metals in 1951 and

1952. Under date of May 30, 1952, that company, by

Frank E. Hooykaas, its vice president, wrote a letter

to petitioner, acknowledged and agreed to by petitioner,

which stated as follows:

This letter will serve to confirm our recent discus-

sion, at which time it was agreed that your or-

ganization will, for a fee of $12.50 per work-day

(not to exceed a total of $325.00 per month) per-

form the following maintenance and transportation

services as required, until further notice:

Clean-up and maintenance of all yard and park-

ing areas, including accumulation, removal and/

"a

or disposal of all surplus wood, papers, tubing,

scrap-metals, used cils or other fluids and other

refuse; and including the occasional temporary

use of your trucks, by appointment arrange-

ments, for transporting within the Los Angeles

area, either incoming raw materials or out-go-

ing finished machine parts to or from our local

customers during periods of overload in our own

shipping departrnent.

It is further understood that your organization

will provide the truck-driver as required az.d that

necessary insurance covering both truck and

driver will be carried by you.

Your acceptance of this Agreement by acknowl-

edgement hereto is respectfully requested.

Prior to July i, 1964, National Tapered Wings, Inc.,

kept no control over the amount of scrap which it

generated and which was sold to petitioner but relied

on the weight slips presented by petitioner as indicat-

ing the amount of scrap sold by it to petitioner.

Hooykaas, vice president of National Tapered Wings,

was associated with petitioner in a partnership which

was dissolved in 1952 when its business was incorpo-

rated under the name, “California Duplicating Cotn-

pany.” The father of Frank E. Hooykaas ov.ned a

capital interest in the partnership and stock in thie cor-

poration.

Sophie Levin, referred to on petitioner’s income tax

returns as receiving commissions from him in connec-

tion with the California Duplicating Company, was a

sister of Frances Brody.

On May 1, 1952, petitioner, Bert Johnson, and Frank

A. Heoykaas, the father of Frank E. Hooykaas, en-

a

tered into an agreement to dissolve the partnership of

California Duplicating Company which then existed

between them and to organize a corporation in which

it was agreed that 3714 percent of the stock would be

purchased by each Frank A. Hooykaas and Johnson

and 25 percent by petitioner.

In April 1952 Brody advanced to petitioner $20,-

000. She obtained $10,000 of the amount advanced

to petitioner from Alpert and entered the advance on

Alpert’s books as a loan to petitioner under date of April

28, 1952. A signature, “Sophie Levin” appears on a

document which states:

THiS AGREEMENT is entered into at Los

Angeles, California, this .... day of April, 1952, by

and between S. S. HERSHEY, hereinafter re-

ferred to as “Hershey”, and SOPHIE LEVIN,

hereinafter referred to as “Mrs. Levin.”

WHEREIN it is mutually agreed as follows:

1. Mrs. Levin hereby transfers to Hershey the

sum of Twenty Thousand Dollars ($20,000.00)

for the uses and purposes hereinafter set forth.

2. Hershey agrees to purchase in his own name

from existing stockholders shares of stock of the

California Duplicating Company, 3228 Union Pa-

cific, Los Angeles, a California Corporation, with

the Twenty Thousand Dollars ($20,000.00) here-

in received, which shares of stock Hershey war-

rants will represent a twenty-five per cent (25%)

interest in the said corporation.

3. Hershey agrees to hold fifty per cent (50%

of the said shares of stock purchased -with the

aforesaid Twenty Thousand Dollars ($20,000.00)

in trust for Mrs. Levin.

=e

4. Hershey acknowledges and agrees that the

sum of Ten Thousar] Dollars ($10,000.00) of the

money received from Mrs. Levin represents a loan

from her to him, and Hershey agrees to repay to

Mrs. Levin the said sum of Ten Thousand Dollars

($10,000.00), without interest, within six months

from the date hereof.

5. In consideration of the execution of this

agreement, Hershey agrees to turn over and trans-

fer to Mrs. Levin, immediately upon his receipt

thereof, fifty per cent (50%) of all income of

every nature whatsoever which he receives from or

through the stock purchased with the aforesaid

Twenty Thousand Dollars ($20,000.00) whether

said income be in the form of profits, dividends,

emoluments, accumulations, distributions or any

other form.

Hershey further agrees to give to Mrs. Levin,

upon receipt, fifty per cent (50%) of an; assets

of the California Duplicating Corp. received by

him, whether such assets represent a aistribution

of capital assets to stockholders on disso'ution or

otherwise.

6. It is understood that immediately upon

Hershey’s purchase of stock giving him a twenty-

five per cent (25%) interest in the California

Duplicating Company, he will commence to receive

a weekly compensation for services rendered on

behalf of said company. In further consideration

of the exectition of this agreement, Hershey agrees

to give to Mrs. Levin one-half (14) of al! salary

and/or other compensation received by him from

the California Duplicating Company.

a: aan J

IN WITNESS WHEREOF, the parties have

caused this agreement to be executed the day and

year first above written.

The $10,000 loan to petitioner was repaid to Alpert

by credits to the loan account on Alpert’s books from

amounts shown as due to petitioner on either S. Hershey

or H. Jackson weight slips.

About 80 percent of the business of California Du-

plicating Company during the years here involved,

both as a partnership and as a corporation, was doing

subcontracting work for National Tapered Wings, Inc.

The scrap metals generated from the work performed

by California Duplicating Company for National Ta-

pered Wings, Inc., were considered to belong to National

Tapered Wings, Inc. Sometime in 1951 petitioner paid

approximately $7,000 to place a blower to assist in

collecting scrap metals from National Tapered W ings,

Inc., at the »'ant of that company with the understand-

ing that in some manner he would be reimbursed for

this expenditure.

Petitioner made payments to National Tapered Wings,

Inc., for scrap metals throughout the year 1952 but the

books of account of that cornpany show no such pay-

ments listed as such after September 25, 1952. The

payment to petitioner for the use of his trucks and

. rubbish hauling was made by some form of credit to

the amounts which were due from petitioner to Na-

tional Tapered Wings, Inc. Petitioner has continued

from the years here involved until the date of trial

to haul scrap metals for National Tapered Wings, Inc.,

but the arrangements for his compensation for this

work were changed as of July 1, 1954.

=

On a ledger sheet in Alpert’s records an account

entitled, “Frank E. Hooykaas and S. Hershey (National

Tapered Wings)” was set up on January 5, 1953, with

a charge thereto of $25,000, which amount was shown

to have credits against it discharging ‘t in full by

April 6, 1953.

Bardwell & McAilister was another source of supply

of scrap metals used by petitioner in 1951 and 1952.

The records of this company showed that petitioner

paid to it $732.29 for scrap metals in 1951 and $339.02

for scrap metals in 1952. The records for 1952 did not

show a payment of $80.89 by check on March 25, 1952.

A check under that date from petitioner to Bardwell

& McAllister was deposited in the bank account of

that company.

Another of petitioner’s sources of scrap metals in

1951 and 1952 was Aircraft Tapered Sheets. About

December 10, 1951, petitioner negotiated a loan of

$25,000 from Alpert and at his request Alpert’s check

for this amount was issued to Aircraft Tapered Sheets

on Lecember 10, 1951. This loas' was repaid by

credits thereto of amounts due to petitioner from

Alpert for scrap metals listed on weight slips under

the name of either S. Hershey or H. Jackson and

was completely repaid by April 28, 1952. About May

22, 1952, petitioner negotiate? another loan of $25,000

from Alpert and at his request Alpert’s check in this

amount was issued to Aircraft Tapered Sheets on May

22, 1952. Petitioner gave Alpert his personal note for

this $25,000 loan. This loan was repaid by credits

similar to those made in repayment of the prior

$25,000 loan and this loan had been completely repaid

by October 17, 1952.

=—

In addition to the two $25,000 loans and the $10,000

loan in connection with the California Dupncating

Company stock purchase, Alpert made other loans to

petitioner which were repaid by credits of amounts

shown as due petitioner on weight slips in the name

of either S. Hershey or H. Jackson. The first of

such loans by Alpert to petitioner was on April 17, 1951.

There were produced at the trial by petitioner in

response to respondent’s subpoena two bound books,

one marked “1951” and the other “1952” with entries

therein on the bound pages mostly in ink, but sometimes

in pencil. These books contained fieures listed as re-

ceipts and under the names of the varivi's suppliers of

scrap metals to petitioner showed weights, gross dollar

amounts, and net dollar amounts with notations of

“paid by check” followed bry an amount, “paid by cash

check” followed by an amount, and “paid by cash”

followed by an amount. The gross dollar amounts of

receipts shown in these books coincided substantially

with the payments by Alpert by check to petitioner.

Some checks drawn by petitioner payable to cash and

cashed by officers ef companies from which petitioner

purchased scrap meials reconciled with entries in these

books.

Prior to the week before the trial of this case these

books had not been shown to any agents of the Internal

Revenue Service or to the representatives of respondent.

These books had not been shown to petitioner’s account-

ants who prepared the original returns or the amended

returns for the years here involved. These books show

as cost of goods sold in 1951 and 1952 the following:

—20—

By Cash

Name of Vendor By Check Check By Cash Total

1951

Pasadena Air Products $1,109.15 $ $ 809.33 $ 1,918.48

National Tapered Wings 2,807.00 215.20 4,272.04 7,294.24

Aircraft Tapered Sheets 14,262.64 14,262.64

Taken by Alpert against loan 4,344.45 - 4,344.45

- Com-Air Products, Inc. 1,128.64 1,680.90 2,809.54

Bardwell-McAI"ster 732.29: 732.29

Paramount Engineering, Inc. 513.06 513.06

California Duplicating Co.,

Inc. 132.60 132.60

Aero- Machine 247.57 247.57

Aeromatic 66.25 66.25

Dix Manufacturing Company —U—- —0—

Coast Spar Milling, Inc. —0O— _ ae

Totals $25,211.05 $ 215.20 $ 6,894.87 $32,321.12

1952

Pasadena Air Products $ $3,670.35 $ 2,268.70 $ 5,938.95

National Tapered Wings 8,559.00 ‘19,833.00 28,392.00

Aircraft Tapered Sheets 44,574.29 44,574.29

Cent-Air Products, Inc. 3,533.25 609.25 4,142.50

Bardwel!-McAllister 419.93 419.93

Paramount Engineering, Inc. 202.20 151.20 376.42 729.82

California Duplicating Co.,

Inc. 2,608.80 2,608.80

Aero- Machine 353.07 355.07

Mercury Enginecring 1,397.03 1,397.03

Forge-Screw 170.76 170.76

Air-Ways 3,302.40 3,302.40

Dix Manufacturing Company —(--

Coast Spar Milling om —)—

Totals $57,812.50 $3,821.55 $30,395.56 $92,029.55

By rewriting weight slips to show metals received

that actualiy had not been delivered, Alpert’s inventory

was somewhat. distorted and was not accurately kept

as required by OPS. Alpert, during the time OPS

regulations were in efiect during 1951 and 1952,

charged over OPS ceiling prices for metals sold to

one of its customers. Brody knew that the showing

on weight slips of metals not delivered caused a dis-

tortion in Alpert’s inventory and of the prices over

OPS ceiling charged to one customer.

?

t

:

=

The cost of goods sold as shown in the statutory

notice of deficiency was determined by respondent’s

agents from examining records of petitioner’s suppliers.

Petitioner told the examining agents of seven sources

of scrap supply and the agents found nine. The cost

of goods sold as computed by respondent’s agents and

used in the statutory notice of deficiency was $800.20

for 1950, $24,287.86 for 1951, and $71,401.58 for

1952. Petitioner’s gross receipts from salvage sales to

Alpert as used in the notice of deficiency were $7,800.83

for 1950, $115,287.96 for 1951, and $185,286.15 for

1952. ;

Respondent, in his notice of deficiency, determined

that petitioiiers had unreported business income in the

years 1950, 1951, and 1952 in the amounts of $6,221.42,

$82,036.95, and $91,840.63 which was arrived at by

adding to the receipts from sales to Alpert in 1950

and 1951, the receipts by petitioner from sales to

Golden West Salvage Company.and adding to receipts

from the Alpert sales in 1952 the amount of $3,894.99

he desginated as other sales and in each year subtracting :

from the tetal sales, the total cost of goods sold as

ccinputed by respondent, the operating expenses as

shown on petitioner’s original returns, and the income

from the scrap metal business as shown on petitioner’s

original returns. ‘Respondent determined an addition to

the tax under section 293(b) of the Internal Revenue

Code of 1939 for each of the years here involved, an

addition to the tax under both sections 294(d)(1)(A)

and 294(d)(2) of the Internal Revenue Code of 1939

for the year 1950, and additions to the tax for the

years 1951 and 1952 under section 294(d)(2) of the

Internal Revenue Code of 1939.

a, a

ULTIMATE FACTS.

Respondent has not established by clear and convinc-

ing evidence that petitioners’ income tax return for

tae year 1950 was false and fraudulem. Petitioner

has failed to show error in the deficiency for 1950

as determined by respondent, and respondent has failed

to show that any part of such deficiency is due to

fraud with intent to evade tax.

Petitioners filed false and fraudulent income tax

returns for the years 1951 and 1952 with intent to

evade tax.

There is a deficiency in income tax for each of the

years 1951 and 1952 due from petitiorers, part of

which is due to fraud with intent to evade tax.

OPINION.

The first issue that will be considered in this case

is whether petitioners’ income tax returns for the years

1950, 1951, and 1952 were false and fraudulent with

inteni to evade tax.

It appears from the record that on March 24, 1959,

when the deficiency notice in this case was issued,

the time within which the respondent might make an

assessment of tax for the year 1950 had not expired

because of consents executed by petitioners and re

spondent extending the period within which such as-

sessment might be made until June 30, 1959, and pe-

titioner does not contend to the contrary.

From the evidence, it appears that for the years 1951

and 1952, the period within which the respondent might

make an assessment had expired on March 24, 1959,

when the notice of deficiency was issued unless the pe-

riod of limitation provided in section 275(a) of the

| —23—

' ¢

Internal Revenue Code of 1939 was inapplicabie under

the provisions of section 276(a) of the Internal Revenue

Code of 1939 which provides that in the case of a

false and fraudulent return with intent to evade tax,

the tax may be assessed at any time. Petitioners

alleged in their petition that the deficiencies for 1951

and 1952 were barred by the statute of limitations.

The only defense to this allegation in respondent’s

answer is that petitioners’ returns for these years were

false and fraudulent with intent to evade tax.

The only evidence in this case with respect to the

year 1950 tending to show affirmatively any omis-

sion of income from petitioners’ original income tax re-

turn is with respect to the amount of $1,218.02 shown

to have been received by petitioners from the Golden

West Salvage Company in that year. Since only gross

profits were shown in petitioners’ original return for

1950, it is not clear that this amount was not included

in the income reported on their income tax return. The

evidence affirmatively shows that no payments under

the name, “EH. Jackson,” appear from the records of

Alpert produced at the trial as having been made in

1950. The first sales slip produced under this name

was one dated in January 1951, and the only witness

who testified with respect to payments to petitioner on

slips made in the name of H. Jackson did not herself

make ary such payments until March 8. 1951. In fact,

the evidence shows that this witness was away from

Alperi’s from August 20, 1950, until February 20,

1951. The evidence creates some suspicion that there

was a knowing and intentional omission of income

from petitioners’ 1950 income tax return, but suspi-

cions cannot substitute for the clear and convincing

Se

evidence rt quired to prove that a taxpayer filed a false

and fraudulent return with intent to evade tax. We

have, therefore, found as an ultimate fact and so hold

that petitioners did not file a false and fraudulent 1n-

come tax return for 1950.

The evidence with respect to the years 1951 and

1952 is clear and convincing that petitioner tailed to re-

port substantial amounts of income received. The

testimony of the witness, Brody, supported by records

of Alpert produced at the trial, was clear that pay-

ments in substantial amounts were made to petitioner

on weight slips made out in the name of H. Jackson.

The evidence that the winess, Brody, rewrote origi-

nai weight slips -to place some under the name of S.

Hershey and others under the naine of H. Jackson and

destroyed some original weight slips discredits her

testimony that the sole reason tor making some slips

under the name of H. Jackson was to accommodate

petitioner. The evidence also shows other transactions

between petitioner and Brody which tend to discredit her

testimony thet she received no personal benefit and Al-

pert received no benefit trom rewriting of any of these

weight slips. However, after considering this evi-

dence, we are convinced that her testimony with respect

to the payments of large amounts of cash to petitioner

on weight slips listed in the name of H. Jackson is true.

This testimony of Brody is supported by other clear

and convincing evidence in the record. It is supported

by the amended returns for 1951 and 1952, signed and

filed by the petitioners on January 12, 1954, in which

petitioner listed receipts in the amounts of $67,568.14

and 355,409.83, respectively, under the name of H. Jack-

son. It is supported by the testimony of the certified

nim

public accountant who made out petitioners’ amended

returns for 195i and i952 that petitioner stated to him

that he had income in those years which was noi re-

ported and that in those years he was doing business

under the name of H. Jackson. The evidence is equally

clear that the gross receipts from the saie of scrap met-

als as shown on petitioners’ original returns did not

include any amounts petitioner received in cash on

weight slips made out in the name of H. Jackson.

While the evidence is not equally as clear that the en-

tire amounts shown on the H. Jackson slips constituted

additional income to petitioner, the evidence is com-

pletely clear and convincing that a very substantial

portion of these amcunts did constitute additional in-

come to petitioner.

We are also convinced from the evidence that omis-

sion of such sizeable amounts from income could not

have been an oversight on the part of petitioner but

was with a willful intent to evade income tax on such

receipts. Ci. MW. Rea Gano, 19 B.T.A. 518 (1930).

Respondent places considerable stress on the fact

that petitioner did not testify at the trial in an effort

to refute the testimony o: the witness called by re-

spondent to establish that petitioners’ returns were false

and fraudulent and that there was some deficiency in

tax for the years 1951 and 1952 which was in part due

to fraud with intent to evade tax. We have not con-

sidered the failure of petitioner to testify in arriving

at our conclusion that petitioners’ returns for the years

1951 and 1952 were false and fraudulent with intent

to evade tax and that there are deficiencies in these

years due in part to fraud with intent to evade tax,

since the evidence in the record is clear and convinc-

aan,” ae

ing. We have considered petitioner’s conviction on a

plea of nolo contendere in 1951 only as a part of the

general background of the case. Cf. Lillian Kilpatrick,

22 T.C. 446 (1954), affd. 227 F. 2d 240 (CA. 5,

1955). We have found as an ultimate fact, and so

hold, that petitioners’ income tax returns for the years

1951 and 1952 were false and fraudulent with intent

to evade tax and that there are deficiencies in those

years due in part to fraud with intent to evade tax.

For the year 1950 the burden is upon petitioners to

establish error in respondent’s determination df the

deficiencies asserted in the notice of deficiency. Peti-

tioners argue with respect to the year 1950 that re-

spondent’s determination was arbitrary and for this rea-

son it is not incumbent upon them to show the correct

amount of deficiency but that this burden rests upon re-

spondent.

We have set forth in some detail the method used

by respondent to compute the deficiency for 1950 and

the lack of cooperation he received from petitioner in

this undertaking. We think that respondent’s method

of computing the deficienc’ for 1950 was reasonable

in view of these circumstances and since there is no

evidence in the record showing error in respondent’s

determination for 1950, we sustain the deficiency as

determined by him for that year. Respondent has

failed, however, to show that any par: of this defi-

ciency for 1950 was due to fraud with intent to evade

tax.

Petitioners argue that respondent not only has the

burden for 1951 and 1952 to show that their returns

for those years were false and fraudulent and that

there was some deficiency a part of which was due

pon. ee

to fraud with intent to evade tax, but also contend

that respondent has the burden to show the amount of

the tax since his determination was arbitrary. Once re-

spondent has estavlished that petitioners’ returns were

false and fraudulent and that there were deficiencies

a part of which was due to fraud with intent to evade

tax, it is incumbent upon petitioners to show error in

respondent’s determination of deficiencies. Estate of

W. Y. Brame, 25 T.C. 824, 831 (1956), affirmed per

curiam 256 F. 2d 343 (C.A. 5, 1958). Cf. Avery v.

Commissioner, 22 F. 2d 6 (C.A. 5, 1957), affirming

5 B.T.A. 872 (1926). If a taxpayer shows that the

Commissioner’s determination is arbitrary and invalid,

then he is not required to show the correct amount of

tax due. Helvering v. Taylor, 293 U.S. 507 (1935).

However, where there is no showing that the Com-

missioner’s determination is arbitrary, since a taxpayer

has the burden of proof. only such adjustments in the

Commissioner’s determination as he shows to be in er-

ror are properly made. Petitioners in the instant case

argue that they have shown that respondent’s deter-

mination was arbitrary and invalid. We do not agree.

The evidence shows that an internal revenue agent

and a special agent obtained from records of Alpert

and Golden West Salvage Company information as to

payments made to petitioner and that they obtained

from records of petitioner's suppliers amounts paid by

petitioner for the scrap metals he sold. The evidence

shows that petitioner was not cooperative in assisting

the agents in their investigation in that he did not

furnish the agents with the names of all the persons

from whom he obtained scrap and did not inform the

agents of any sales to Golden West Salvage Company.

= fh

The agents obtained their information as to suppliers

other than those names given to them by petitioner

from notations on records at Alpert. The evidence

shows that petitioner informed the agents that he had

no books of account. If in fact the books petitioner

produced at the trial were books kept in the ordinary

course of business by petitioner, which is not shown

by the evidence to be a fact, their existence was not

disclosed to respondent until shortly before the trial.

Under these circumstances respondent cannot be said

to have been arbitrary in failing to use these books

in making his determination.

The manner in which respondent obtained the infor-

mation as to receipts and cost of goods was a com-

pletely reasonable approach to a computation of income

with the limited information furnished to respondent

by petitioner. We, therefore, hold that respondent’s

computation ‘is not arbitrary and the burden is upon

petitioner to show to what extent his income is less

than that as determined by respondent.

Petitioner relies to a large extent in his argumen‘*

that respondent’s determination is arbitrary on the net

worth statement which was prepared by one of respond-

ent’s agents during the course of his examination of

petitioner's returns which shows by a determination of

increase in net worth during each of the years 1950,

1951, and 1952, plus estimated living expenses, that

petitioner’s estimated income as so computed was only

$2,938.68, $4,862.10, and $2,080.04 for the years 1950,

1951, and 1952, respectively, in excess of the income

as reported by petitioners on their original income tax

returns for those years. On this statement is written:

—29—

The figures set forth above are true and correct

to the best of my knowledge.

S. S. Hershey

Subscribed & sworn before me this 30th day of

of November 1953.

Martin D. Lipman.

There is also a notation on this net worth statement

as follows:

In 1951 Mr. Hershey purchased an interest in The

California Duplicating Co., Inc., for $10,000.00.

The money used in this transaction was borrowed

as explainted in the accompanying report. Since

the inclusion of this would result in a contra entry

it was not done.

The evidence in the record made at the trial shows

that in fact petitioner borrowed the money for invest-

ment in California Duplicating Company in 1952 aad

that by the end of 1952 substantial repayment of this

lean had been made.

There was also testimony by Brody that at one point

in 1952 petitioner asked her to keep for him, and she

did for a few days keep icr him, $95,000 cash. The

net worth statement does not comtain any asset of

cash. While, as petitioners contend. there have been

numerous instances in which respondent’s computation

of a taxpayer’s income on the basis of increase iti

net worth plus estimated living expenses, has been sus-

tained as reasonable, rcspondent may use other methods

of computing a taxpayer's income where such sources

are available to him. Cf. George M. Still, Inc., 19

T. C. 1072 (1953), affirmed per curiam 218 F. 2d

639 (C.A. 2, 1955).

a

For the vears 1951 and 1952, petitioner contends

both that he did not receive the full amount of receipts

which respondent has included :n his income and that

his costs of scrap metals were greater than respondent

has shown. Petitioners contend that the amounts rep-

resented by the price adjustments of 1 or 1% cents a

pound on aluminum borings were reported by them

in 1951 as commissions earned due to sale of material

on exclusive sales arrangement in the amount of

$3,048.60 and for the year 1952 as commissions earned

(cost of sales refund on exclusive material sales ar-

rangement) in the amount oi $11,270.64. Under re-

spondent’s method of deterimiuing business income as

adjusted and subtracting thereform business income

as reported on the original return he has not duplicated

an inclusion of these amounts even if they were a »art

of petitioner’s gross receipts from Alpert since these

amounts were reported on pctitioners’ income tax return

as part of business income. The evidence shows that

in the year 1952 petitioner made a payment of cash

to Brody of $3,000 consisting of one payment of $2,500

and one payment of $500 which was listed by her as

part of “our share’ from California Duplicating Com-

pany. This cash payment appears to be in addition

to regular payments made by petitioner of one-half

of the salary which he drew from California Dupli-

cating Company. The record is not completely clear

as to the nature of this item. However, the books

produced at the trial show cost of purchases from

California Duplicating Company in the amounts of

$132.60 for 1951 and $2,608.80 for 1952 made by

cash which were not included in respondent’s compu-

tation of cost of sales.

ha 1 NI A cane seat 8

pa le

Petitioner’s next argument is in connection with the

crediting of amounts shown on the H. Jackson slips

against loan accounts on Alpert’s books shown as made

to petitioner. The evidence does show that these loans

were repaid by petitioner to some extent with credits

from slips made in the name of H. Jackson. How-

ever, the evidence is reasonably clear that the money

advanced on loans to petitioner in 1951 and 1952 other

than the two $25,000 loans where the checks were made

to Aircraft Tapered Sheets, was for his own use, and,

therefore, the crediting of amounts from the H. Jack-

son slips for the repayment of these loans was in ef-

fect a payment of this amount to petitioner. It, there-

fore, does not appear that there is any error in respond-

ent’s determination for failure to giv2 recognition to

these credits.

Petitioner contends that costs of sales are grossly

understated in respondent’s computation and that the

computation of such costs on the basis of five-sevenths

of sales price is a fair and reasonable basis aid should

be accepted in lieu of respondent’s specific computation.

Petitioner argues that respondent’s co:nputation does

not completely include all amounts which petitioner

paid to obtain metals for which he received payment

under the name of S. Hershey and that it does not

include any amount paid for metals listed on slips un-

der the name of H. Jackson. Petitioner relies upon the

books that were produced at the trial to show an un-

derstatement for items shown en the weight slips under

the name, “S. Hershey” of approximately $8,000 in

1951 and ‘$20,000 in 1952. These books can be checked

with respondent’s computaticn with reasonable+ accu-

racy except as to amounts listed thereon as payments

oe

in cash and part of the amounts shown as payments

by credit to the loans made by petitioner with the checks

issued to Aircraft Tapered Sheets and te some ex-

tent, the difference between respondent’s computation

of cost and that on the books produced by petitione:

at the trial with respect to paymeriis on this loan is a

difference in years of application of such payments.

We believe the evidence reasonably supports that peti-

tioner made payments in cash that were not included

by respondent in his computation of cost of goods sold

of approximately the amounts shown in the books pro-

duced at the trial. On the basis of the evidence as a

whole we find that petitioner s cost of sales is as shown

in these books which is $32,321.12 for 1951 and $92,-

029.55 for 1952. The evidence fails to show any fur-

ther omitted costs in respondent’s determination. In

fact the evidence indicates that petitioner, prior to De-

cember 1952, was obtaining some scrap metals from

National Tapered Wings, Inc., for which he made no

payment except the service of hauling. There is no

evidence of any payment made for scrap metals listed

on H. Jackson slips except for such credits as may

have been applied on the Aircraft Tapered Sheets ad-

vance for which full credit is siven by accepting the

amounts shown on the books produced at the trial.

Except for the adjustments set out above, we sus-

tain the deficiencies as deterriined by respondent and

also sustain the additions to the tax under section 293

(b) of the Internai Revenue Code of 1939 for the

years 1951 and 1952 since a part of the deficiency for

each of these years was due to fraud with intent to

evade tax, and we sustain the addition to tax for 1950

determined by respondent under section 294(d)(1)(A)

et

~s

a

of the Internal Revere Code of 1939 for failure of

proof by petitioners that such addition is not due. The

additions to tax under section 294(d)(2) of the In-

ternai Revenue Code of 1939 for the years 1951 and

1952, recomptted on the income for these years as de-

termined herein, are also sustained for failure of proof

on the part of petitioners that such additions to the

tax are not due.

Decision will be entered under

Rule 50.

ae

APPENDIX II.

On Petition for Review of the Decision of the Tax

Court of the United States.

United Sates Court of Appeals, for the Ninth Circuit.

Stanley S. Hershey and Ruth Hershey, Petitioners,

vs. Commissioner of Iuternal Revenue, Respondent. No.

18,842.

[ Aug. 5, 1964]

Before: Barnes, Hamley, and Browning, Circuit

Judges.

Browning, Circuit Judge:

We have examined the record before the Tax Court,

and conclude that the court’s findings are adequately

supported by the evidence. Our reasons, in summary

form, are as follows:

I. Determination of Deficiency

A. Income

i. The Tax Court's determination that the amounts

due on the H. Jackson weight slips reflected income to

petitioner was directly supported by the unequivocal and

uncontradicted “testimony of tae witness Brody that

these amounts were in fact paid to petitioner in cash,

and aisc by the amended returns re, srting sums at-

tributable to this source as income to petitioner. Sig-

nificant secondary support was afforded by the testi-

mony of Groger and Lipman that petitioner stated he

had done business under the name of H. Jackson dur-

ing the years in question, and by the testimony of

Groger that petitioner admitted receiving income not

reported in his original return.

Petitioner’s attack upon the Tax Court’s conclusion

falls far short of demonstrating that it is clearly er-

roneous:

ee tas eS

—_-e ee eee, - OR RI Ak MEP EAP RAD BP Li WY Dor >

—35—

(1) The credibility of Brody was for the Tax Court

to determine, and its conclusion that she was telling

the truth cannot be rejected as mistaken.

(2) Petitioner's contention that his amended returns

falsely exaggerated his income are rightly suspect, par-

ticularly when advanced in a proceeding to determine

civil liability after criminal liability has been disposed of.

(3) As the Tax Court pointed out, the failure of

the government’s net worth calculation to establish re-

ceipt of unreported income may be explained by the

fact that a $10,000 loan was mistakenly excluded from

the computation although it was largely repaid by peti-

tioner during the years in question, and also by Brody’s

testimony that during this period petitioner had suh-

stantial sums of cash not included in the government’s

calculation.

(4) Petitioner's argument that the total poundage

reflected in Exhibit 50 is too small to support the Com-

missioner’s calculation of income is refuted by Brody’s

testimony that although the total amount of money

paid petitioner for a particular delivery of scrap was

accurately stated on the weight slips relating to that

delivery, the poundage of scrap delivered was not.

-(5) Deficiencies in the Alpert records. such as fail-

ure to identify the recipients of particular cash dis-

bursements, does not tend to prove that petitioner was

not such a recipient.

(6) It is true, as petitioner points out, that Brody

testified she did not write fictitious weight slips prior

to February 20, 1951, and did not write certain of the

November 1952 slips, but she also testified that in writ-

ing slips after February 20, 1951, she simply contin-1ed

eins

a pre-existing practice, and that other employees par-

ticipated in this practice both before and after the indi-

cated date.

(7) Peiitioner’s statement to Lipman that the money

petitioner received under the name of H. Jackson was

not petitioner’s conflicted with his earlier statement that

he had never acted as an agent in the collection of

money.

(&) Lipman’s testimony that he did not attempt to

reconcile the amount of cash paid under the H. Jackson

account with the Alpert cash disbursement journais, and

that he could not be certain that the amounts reflected

in the H. Jackson weight slips were received by peti-

tioner (rather thin by Brody or some other person in

the Alpert organization) seem to us to be of little sig-

nificance.

2. There is some support for petitioner’s contention

that weight slips credited to the repayment of two $25,-

000 loans made by Alpert should not have been included

in petitioner’s income because the loans were made di-

rectly to (and repaid by) Aircraft Tapered Sheets, Al-

pert checks reflecting the loans were made out to Air-

craft Tapered Sheets, the loans appeared in Alpert’s

ledger as cliarges to Aircraft Tapered Sheets’ account,

and an arguable inference might be drawn that scrap

credited to the payment of these ioans was collected

directly from Aircraft Tapered Sheets by Alpert trucks.

Nonetheiess, we think the Tax Court’s finding was

justified. Petitioner gave his personal note for one of

the two loans. Brody testified that both loans were ac-

tually made to petitioner, that petitioner was looked to

for repayment, and that he did in fact repay the loans:

by directing that amounts due him for deliveries of

“eases

ee Sk Ye ee

SNe OE SSL ae ee ee ESE

vedi

scrap be applied to their payment. Petitioner’s amei.ded

returns reported as income to him amounts applied on

these loans by Alpert. To the extent that it was shown

that as between petitioner and Aircraft Tapered Sheets

these loans represented payment for scrap, petitioner

was allowed appropriate additions to his cost of goods

sold. See 1.B.3., below.

5. Since petitioner's gross receipts from Alpert were

determined by totaling the amounts due on weight slips

drawn in the names of S. Hershey and H. Jackson,

payments made by petitiouer on Alpert’s $10,000 loan

to petitioner would be included in his income only to

the extent that those payments consisted of amounts

due him under these weight slips.

4. The so-called “commissions” were not duplicated

in determining the amount of petitioner’s deficiency.

They were included in the total income which petitioner

reported in his amended returns. In arriving at the

amount of the deficiency, the Commissioner subtracted

the total income reported in the amended returns (in-

cluding the “commissions”) from petitioner’s total in-

come as calculated by the Commissioner.

B. Cost of Goods Sold and Other Business Ex-

penses

1. The Commissioner was not required to compute

the cost of goods sold on the basis of petitioner's esti-

mates of his average cost-profit ratio, as opposed to

ascertaining actual costs from the records of petition-

er’s suppliers. The Commissioner could properly con-

clude that petitioner's statement of income in his

amended returns was essentially accurate, without being

bound by petitioner's inaccurate calculation of his costs

in the same return.

a

2. Hooykaas’ testimony that petitioner’s margin on

purchases from his company was two cents per pound

was based upon the witness’s erroneous supposition that

the weights and prices which petitioner reported to his

suppliers were accurate. The evidence justified the con-

clusion that petitioner showed his suppliers only the S.

Hershey weight slips, having destroyed the weight slips

issued in the name of H. Jackson, and that the weights

and prices shown on S. Hershey’s slips were lower than

the actual weights delivered and prices received by peti-

tioner. Thus, on weights not reported to suppliers,

petitioner paid suppliers nothing; on reported weights

his actual margin exceeded the two cents margin which

suppliers assumed they were paying. This conclusion

is supported by suppliers’ testimony that their income

from scrap increased markedly when they ceased selling

to petitioner.

3. To the extent that records produced by petitioner

warranted an increase in the Commissioner’s computa-

tion of cost of goods sold, the Tax Court made an

appropriate adjustment. For example, the Tax Court

added to the cost of goods sold those credits which

petitioner’s records showed he had received from Air-

craft Tapered Sheets in payment of the loan to the lat-

ter of the $50,000 which petitioner had borrowed from

Alpert. See I.A.2., above.

4. As we read the record, the Tax Court recognized

the cost of items paid to California Duplicating Com-

pany as deductible. There was no adequate proof of

additional unallowed costs.

5. The only evidence bearing upon whether the $7,-

000 advanced for the blower installed at the plant of

Nationai Tapered Wings was an expense of petitioner’s

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catty a

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business was the meager and inconclusive testimony of

the witness Hooykaas. Nevertheless, the burden of

proof rested upon petitioner, and the Tax Court did |

not err in concluding that the burden was not met.

Il. Fraudulent Intent

The finding that petitioner's returns for 1951 and

1952 were false and fraudulent with intent to evade

tax was clearly and convincingly supported by the fol-

lowing evidence: Petitioner’s participation in the prep-

aration of weight slips containing false data and in

the name of a fictitious person, and in the destruction

of the origina! weight slips; petitioner’s false statements

that he had not transacted business under a fictitious

name; the receipt of large sums of cash not reported

as income; admissions to the witness Groger and in

amended returns that petitioner had failed to report

substantial amounts of income in two successive years;

petitioner's failure to inform revenue agents of his sales

to Golden West Salvage Company, and to identify all

of his suppliers; and petitioner’s false statement ‘hat

he kept no books of account.

Affirmed.

The court has unanimously concluded that since the

foregoing opinion relates solely to factual questions it

has no value as precedent and its inclusion in the pub-

lished law reports would serve no public purpose. It

therefore directs the clerk that this opinion not be sub-

mitted fer such publication.