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

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## Record

- **Collection:** Supreme Court brief
- **Document type:** Petition for a Writ of Certiorari
- **Published:** January 1, 1965
- **Citation:** 379 U.S. 970

## Text

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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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.

---

Source: Frix Law Library, https://www.frixlaw.com/law-library/documents/brief%3Amicro_IA40385602_0253%3A2. Public record. Not legal advice.