T.C. Memo. 2014-204



                         UNITED STATES TAX COURT



               GERALD WAYNE WHEELER, Petitioner v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



      Docket No. 9779-12.                        Filed October 6, 2014.



      Gerald Wayne Wheeler, pro se.

      G. C. Barton and H. Elizabeth H. Downs, for respondent.



            MEMORANDUM FINDINGS OF FACT AND OPINION


      NEGA, Judge: Respondent determined deficiencies and additions to tax

with respect to petitioner as follows:1



      1
        Unless otherwise indicated, all section references are to the Internal
Revenue Code in effect for the years at issue. All monetary amounts are rounded
to the nearest dollar.
                                            -2-

  [*2]                                       Additions to tax
  Year      Deficiency    Sec. 6651(a)(1)     Sec. 6651(a)(2)    Sec. 6654(a)
  2003       $113,925         $25,633             $28,481           $2,939
  2004          32,093           7,221              8,023               920

After concessions, the issues for decision are: (1) whether petitioner received

taxable income of $80,798 from Cabinet Door Shop for tax year 2003; (2) whether

RCC Capital Group should be disregarded as an entity separate from petitioner for

Federal tax purposes and its net income attributed to petitioner for the years at

issue; and (3) whether petitioner is liable for additions to tax for the years at issue.

                                 FINDINGS OF FACT

         Some of the facts have been stipulated and are so found. The stipulation of

facts and the attached exhibits are incorporated herein by this reference. Petitioner

resided in Arkansas when the petition was filed.

         Petitioner incorporated Specific Enterprises, an S corporation, in the late

1980s and conducted a cabinet door shop business using this entity until 2002

when it was liquidated and dissolved. Throughout this time, the corporation

operated its business in a factory building owned by petitioner and its assets

consisted primarily of equipment and inventory. After the corporation dissolved

in 2002, the business continued in the same location through a separate entity,
                                         -3-

[*3] Cabinet Door Shop, LLC (Cabinet Door Shop)--a company managed by one

of petitioner’s daughters. Petitioner received the corporation’s equipment and

inventory in liquidation.

      On December 3, 2002, an entity called RCC Capital Group (RCC)2 was

formed that purported to be a “PRIVATE, NON-STATUTORY, NON-

ASSOCIATED, CONTRACTUAL PURE TRUST (CPT)”.3 The trust was created

by Joseph N. Sweet, the “Creator”.4 Brad R. Scott, the “Exchanger”, transferred

$21 to the trust in exchange for 100 capital units in the trust.5 The “First Trustee”,

“Executive Secretary”, and “General Manager” of the trust was


      2
          RCC stood for Robin, Cindy, and Cathy--petitioner’s daughters.
      3
        Article 14 of the trust contract, titled “TAXATION IMMUNITY”, implies
that the entity was ostensibly intended to comport with sec. 301.7701-4(b),
Proced. & Admin. Regs., for “Business Trust[s]” and that “business trusts” are not
within the scope of the “Restatement of the Law of Trusts, 2d”. In citing the
Restatement, the trust contract states that “[t]he business trust is a special kind of
business association and can best be dealt with in connection with other business
associations.”
      4
       Mr. Sweet was later found guilty of conspiracy to defraud the United States
and corrupt interference with internal revenue laws under 18 U.S.C. sec. 371
(2000) and 26 U.S.C. sec. 7212(a) (2000), respectively.
      5
       The record indicates that Mr. Sweet and Mr. Scott were not involved in any
administration of the trust besides signing the trust contract, appointing a trustee,
and directing the capital units to petitioner’s relatives. Although petitioner met
with Mr. Sweet to initiate the trust, petitioner never met with Mr. Scott and did not
know him personally.
                                        -4-

[*4] John Henry Foster--a longtime family friend of petitioner and accountant for

petitioner, Specific Enterprises, and Cabinet Door Shop. Pursuant to the trust

contract Brad R. Scott directed the majority of the initial issuance of his 100

capital units to petitioner’s three daughters. The remaining capital units were

directed to other relatives of petitioner. The trust contract and records were kept

in a safe on the premises of Cabinet Door Shop.

      On January 2, 2003, petitioner and RCC entered into an “Asset Purchase

Option Contract” (drafted by petitioner) where petitioner purported to grant RCC

options to purchase petitioner’s factory building, the land upon which it was

located, and equipment. The exercise price for the contract was $1,650,000, and

petitioner accepted $21 (presumably the same $21 conveyed to RCC by Brad R.

Scott) plus two promissory notes valued at $700,000 and $950,000 in full

consideration of the deal. The contract was also contingent upon a separate rental

contract, the “Facility Production Contract”, between RCC and Cabinet Door Shop

for Cabinet Door Shop’s use of the factory building, land, and equipment.

Petitioner drafted the rental contract and determined the lease price. The contract

provided for an initial term of two years ending on December 31, 2004. The

contract also provided for remedies in the event of default by Cabinet Door Shop

or RCC. Neither representatives of Cabinet Door Shop nor representatives of
                                        -5-

[*5] RCC negotiated the terms of the rental contract, and RCC’s trustee never took

action to enforce the contract because it was a family matter. At the behest of

petitioner, RCC did not file income tax returns.

      Pursuant to the “Facility Production Contract”, dated January 3, 2003,

Cabinet Door Shop made total rental payments of $273,000 and $126,000 to RCC

for 2003 and 2004, respectively, although RCC did not exercise the option to

purchase the factory building, land, and equipment from petitioner until some time

around March 10, 2004. After receiving these rental payments RCC made total

payments to petitioner in the exact same amounts: $273,000 in 2003 and

$126,000 in 2004.

      In 2003 as part of a separate transaction Cabinet Door Shop made monthly

installment payments to petitioner totaling $80,798 for the sale of inventory.

      Cabinet Door Shop stopped making rental payments to RCC in June 2004,

and RCC, in turn, stopped making payments to petitioner.6 Petitioner testified that

the remaining payments owed to him under the “Asset Purchase Option Contract”


      6
        The only income generated by RCC was from the assets it acquired through
the “Asset Purchase Option Contract”. Foster, acting as executive trustee of RCC,
testified that he had a very limited role as manager of the trust, stating that “the
trust wasn’t set up with a lot of latitude. The trust was set up specifically to
address the equipment purchase, the building purchase, hold it in the trust and
lease it to the Cabinet Door Shop.”
                                         -6-

[*6] were a gift to RCC. Cabinet Door Shop continues to use the same equipment,

factory building, and land associated with the “Facility Production Contract” to

this day.

      Petitioner failed to file tax returns for 2003 and 2004, and respondent

prepared substitutes for returns (SFRs) for these years pursuant to section 6020(b).

Petitioner did not pay taxes or estimated taxes for the years at issue.

                                      OPINION

I.    Petitioner’s Tax Liability

      Petitioner argues that he owes no tax from the sale of assets to Cabinet Door

Shop and RCC in 2003 and 2004, respectively, because his cost bases in the assets

offset the proceeds from the sales. Respondent contends that the entire amount

realized upon the sale of inventory to Cabinet Door Shop in 2003 should be

recognized as taxable income to petitioner. Respondent also contends that

petitioner’s sale of the factory building, land, and equipment to RCC in 2004

should be disregarded because RCC was a sham entity and that lease payments

from Cabinet Door Shop to RCC for these assets were merely lease payments to

petitioner. We examine the two transactions separately starting with the sale of

inventory to Cabinet Door Shop in 2003.
                                         -7-

[*7] A.      Sale of Inventory to Cabinet Door Shop in 2003

      Petitioner asserts that his basis in the inventory sold to Cabinet Door Shop

offsets the proceeds from that sale. For the reasons set forth below, we conclude

that petitioner has failed to satisfy his burden of proof on the issue.

      A taxpayer must establish his cost or adjusted basis for the purpose of

determining gain or loss that he must recognize on a sale of property. O’Neill v.

Commissioner, 

, 50 (9th Cir. 1959), aff’g T.C. Memo. 1957-193;

Brodsky v. Commissioner, T.C. Memo. 2001-240; Schaeffer v. Commissioner,

T.C. Memo. 1994-206. Proof of the cost or adjusted basis is necessary because

recovery of an amount in excess of cost constitutes income. Cullins v.

Commissioner, 

, 328 (1955). In certain circumstances, we may use the

Cohan rule to estimate a taxpayer’s basis in an asset at the time of transfer. Cohan

v. Commissioner, 

(2d Cir. 1930); Grp. Admin. Premium Servs., Inc.

v. Commissioner, T.C. Memo. 1996-451. In order for the Court to estimate basis,

the taxpayer must provide some “reasonable evidentiary basis” for the estimate.

Grp. Admin. Premium Servs., Inc. v. Commissioner, T.C. Memo. 1996-451 (citing

Polyak v. Commissioner, 

, 345-346 (1990), and Vanicek v.

Commissioner, 

, 743 (1985)).
                                        -8-

[*8] Petitioner has not provided any facts or details that permit a reasonable

estimate of his basis in the inventory. Although petitioner provided respondent

with his personal tax returns and tax returns for Specific Enterprises one day

before trial, these returns are mere admissions; and we are unwilling to attach

significance to them in the absence of corroborating evidence as to petitioner’s

basis in his assets. The record does not establish the cost basis of the inventory.

The record indicates only that Cabinet Door Shop paid $80,798 to petitioner for

the inventory. Whether this amount was full payment for the inventory or only a

partial payment cannot be determined. The Cohan rule is inapplicable when the

taxpayer presents “no evidence at all that would permit an informed estimate of”

basis. Estate of Reinke v. Commissioner, 

, 764 (8th Cir. 1995), aff’g

T.C. Memo. 1993-197. Because petitioner has not provided any pertinent

information that would help us estimate his basis in the inventory, the Cohan rule

does not apply. Consequently, the entire amount paid by Cabinet Door Shop for

petitioner’s inventory is includable in petitioner’s gross income for the 2003

taxable year.

      B.        Sale of Factory Building, Land, and Equipment to RCC

      Respondent argues that petitioner is the true earner of the income received

by RCC. We agree.
                                        -9-

[*9] Section 61(a) defines gross income as “all income from whatever source

derived”. A fundamental principle of income taxation is that income is taxable to

the person who earns it. Lucas v. Earl, 

, 114-115 (1930). The “true

earner” of income is the person or entity who controls the earning that such

income, and not necessarily the person or entity who receives the income. Barmes

v. Commissioner, T.C. Memo. 2001-155. “‘The crucial question * * * [is] whether

the assignor retains sufficient power and control over the assigned property or

over receipt of the income to make it reasonable to treat him as the recipient of the

income for tax purposes.’”

Sunnen, 

,

604 (1948)). An anticipatory assignment of income from a true income earner to

another entity by means of a contractual arrangement does not relieve the true

income earner from tax and is not effective for Federal income tax purposes

regardless of whether the contract is valid under State law. See Vercio v.

Commissioner, 

, 1253 (1980). A taxpayer has the legal right to

minimize his taxes or avoid them totally by any means which the law permits, but

this right does not bestow upon the taxpayer the right to structure a paper entity to

avoid tax when that entity does not stand on the solid foundation of economic

reality. Zmuda v. Commissioner, 

, 719 (1982), aff’d, 

(9th Cir. 1984).
                                         - 10 -

[*10] Petitioner is the true earner of the rental income paid from Cabinet Door

Shop to RCC under the Facility Production Contract for three reasons. First,

petitioner owned the assets that RCC leased to Cabinet Door Shop under the

contract throughout the years at issue up until March 15, 2004, when he deeded

the assets to RCC. Therefore, at a minimum, Cabinet Door Shop’s 2003 rental

payments and its first few 2004 rental payments were properly allocable to

petitioner as the owner of that property.

      Second, RCC acted as a mere conduit for the flow of income from Cabinet

Door Shop to petitioner. RCC received income attributable to petitioner’s assets

and subsequently paid petitioner the same amounts it received from Cabinet Door

Shop. When Cabinet Door Shop suspended rental payments to RCC in mid-June

2004, RCC ceased making payments to petitioner. RCC’s sole trustee testified to

his limited role as manager of the trust, stating that the “trust was set up

specifically to address the equipment purchase, the building purchase, hold it in

the trust and lease it to the Cabinet Door Shop.”

      Finally, there was no separation of trust administration from the operation of

Cabinet Door Shop, and petitioner retained substantive control over RCC.

Petitioner drafted the contract between RCC and Cabinet Door Shop. Neither

RCC nor Cabinet Door Shop negotiated the terms of the contract, and petitioner
                                        - 11 -

[*11] set the price for the lease. At the insistence of petitioner, RCC did not file

income tax returns. When Cabinet Door Shop ceased its rental payments, RCC

did not take any action to enforce the Facility Production Contract because the

trustee felt that it was a “family matter” and he could not take action. Similarly,

petitioner testified that the remaining payments owed to him under the Asset

Purchase Option Contract were a “gift” to RCC. Petitioner failed to provide

persuasive evidence that the Asset Purchase Option Contract and the Facility

Production Contract were entered into in good faith and that the parties to these

contracts intended to be bound by their respective agreements and expected to

have to honor them. Instead, we believe that the agreements are shams.

      Because petitioner had sufficient power and control over RCC’s receipt of

income from Cabinet Door Shop, he is the true earner of this income. As the

payments were rental payments to petitioner in substance, petitioner may not use

the alleged bases he had in the assets to offset this income. Consequently, the

rental income paid by Cabinet Door Shop to RCC is taxable to petitioner in its

entirety.
                                          - 12 -

[*12] II.     Additions to Tax

       A.     Failure To Timely File a Tax Return

       Section 6651(a)(1) provides for an addition to tax of 5% of the tax required

to be shown on a return for each month, or fraction thereof, for which there is a

failure to file the return, not to exceed 25% in the aggregate. Respondent’s

introduction into evidence of account transcripts showing that petitioner has not

filed tax returns for the years at issue is sufficient to meet respondent’s burden of

production for the section 6651(a)(1) failure to timely file penalty. Holmes v.

Commissioner, T.C. Memo. 2011-31. Respondent produced IRS transcripts of

petitioner’s account showing that he did not file returns for 2003 and 2004, and

petitioner testified at trial that he did not file tax returns for these years.

Furthermore, petitioner presented no evidence suggesting that his failure to pay

was due to reasonable cause. See Higbee v. Commissioner, 

, 446-

447 (2001). Accordingly, we sustain respondent’s determination of the additions

to tax for failure to file tax returns for tax years 2003 and 2004.

       B.     Failure To Timely Pay Tax

       Section 6651(a)(2) provides for an addition to tax when a taxpayer fails to

timely pay the tax shown on a return unless the taxpayer proves that the failure

was due to reasonable cause and not due to willful neglect. Respondent has
                                         - 13 -

[*13] satisfied his burden of production with respect to the additions to tax under

section 6651(a)(2). Respondent prepared SFRs in accordance with section

6020(b), and petitioner did not pay the amount shown as due. See Cabirac v.

Commissioner, 

, 170-173 (2003). As a result, respondent’s burden of

producing evidence that supports an addition to tax under section 6651(a)(2) for

failure to timely pay tax due is satisfied. Petitioner testified that he did not make

any tax payments for 2003 and 2004. Petitioner presented no evidence suggesting

that his failure to pay was due to reasonable cause. See Higbee v. Commissioner,

. We accordingly sustain the section 6651(a)(2) additions to

tax.

       C.    Failure To Pay Estimated Tax

       Respondent determined that petitioner is liable for additions to tax under

section 6654. In a proceeding before this Court, the Commissioner’s obligation

under section 7491(c) initially to come forward with evidence that it is appropriate

to apply a particular addition to tax against a taxpayer is conditioned upon the

taxpayer’s assigning error to the Commissioner’s determination. Because

petitioner contested his liability for the additions to tax in his petition and

respondent was put on notice that petitioner’s liability for the additions to tax

under section 6654 was an issue, we conclude that petitioner assigned error to the
                                        - 14 -

[*14] additions to tax under section 6654. See Wheeler v. Commissioner, 

, 207 (2006), aff’d, 

(10th Cir. 2008). Therefore, we must

review the record with respect to the additions to tax under section 6654 to

ascertain whether respondent met his burden of production.

      Section 6654(a) and (b) provides for an addition to tax in the event of a

taxpayer’s underpayment of a required installment of estimated tax. As it relates

to this case, each required installment of estimated tax is equal to 25% of the

“required annual payment”, which in turn is equal to the lesser of (1) 90% of the

tax shown on the taxpayer’s return for that year (or, if no return is filed, 90% of his

or her tax for such year), or (2) 100% of the tax shown on the taxpayer’s return for

the immediately preceding taxable year. Sec. 6654(d)(1)(A) and (B).

      Respondent introduced evidence to prove that petitioner was required to file

Federal income tax returns for 2003 and 2004, that petitioner did not file returns

for 2003 and 2004, and that petitioner did not make estimated tax payments for

2003 and 2004. However, respondent did not introduce evidence sufficient to

prove that petitioner had an obligation to make any estimated tax payments for

2003. See Wheeler v. Commissioner, 

. Specifically, respondent’s

burden of production under section 7491(c) required him to produce sufficient
                                         - 15 -

[*15] evidence that petitioner had a required annual payment for 2003 under

section 6654(d), and respondent failed to do so.

      Instead, respondent produced a document attached to petitioner’s notice of

deficiency titled “EXPLANATION OF THE ESTIMATED TAX PENALTY”.

Among other things, it showed that: (1) petitioner’s 2003 tax liability was

$113,925, (2) 90% of that amount was $102,533, and (3) petitioner’s prior year

(2002) tax liability was zero. The document then determined that the smaller of

(2) and (3) “(as adjusted)” was $102,533. No explanation was given of any

adjustment that would account for that conclusion. We can only infer that

respondent made an adjustment because petitioner failed to file a return for 2002.

However, petitioner’s account transcript for tax year 2002 (offered into evidence

by respondent) indicates otherwise. Specifically, the account transcript indicates

that petitioner filed a late return for 2002. Nevertheless, petitioner filed a return

for 2002, before respondent issued a notice of deficiency, and the required annual

payment for 2003 is limited to 100% of the tax shown on the 2002 return, i.e.,

zero. See Mendes v. Commissioner, 

, 324 (2003). Accordingly,

petitioner is not liable for an addition to tax under section 6654 for 2003.

      Petitioner did not file a return for the 2004 tax year or for the 2003 tax year

(the immediately preceding year), and he did not pay estimated tax in those years.
                                        - 16 -

[*16] Therefore, petitioner is liable for the addition to tax under section 6654 for

2004 calculated with respect to the required annual payment--90% of the tax due

for that year.

      To reflect the foregoing,


                                                 An appropriate decision will be

                                       entered.