1981 U.S. Tax Ct. LEXIS 15">*15
H and W filed a joint Federal income tax return for 1974, reporting a loss on Schedule E attributable to X, a subch. S corporation owned by H. Respondent determined that X should have reported taxable income of $ 24,982.74, rather than the earlier claimed loss. Respondent therefore disallowed the loss claimed by H and W on their individual return, and further asserted a deficiency for the failure to report income of $ 24,982.74. W did not contest respondent's determination on the merits, but rather sought relief as an "innocent spouse."
77 T.C. 1204">*1204 Respondent determined a deficiency of $ 18,910 in 1981 U.S. Tax Ct. LEXIS 15">*18 petitioner's Federal income tax for the taxable year 1974. Respondent further determined that an addition to tax under
77 T.C. 1204">*1205 FINDINGS OF FACT
Some of the facts have been stipulated. The stipulation of facts and the attached exhibits are incorporated herein by this reference.
Susan L. Ketchum (hereafter referred to as Susan or petitioner) and Thomas B. Ketchum (hereafter referred to as Thomas) filed a joint Federal income tax return for the taxable year 1974. At the time this suit was commenced, Susan had her legal residence in New York, N.Y.
Susan and Thomas began filing joint returns as early as 1960 and did so continuously through 1975. From 1965 onward, Thomas, an attorney, prepared1981 U.S. Tax Ct. LEXIS 15">*19 their returns. Thomas was involved in several business endeavors, and prepared the joint returns in connection with his preparation of the returns of these various enterprises.
Susan's main role in the preparation of the couple's income tax returns was to furnish her husband with her W-2 statement. Susan never reviewed their returns in detail, and she never saw the returns from Thomas' business ventures.
In 1971, Thomas began traveling a lot and lived for awhile in England. In February of 1972, Susan and Thomas separated and never lived together again. Susan continued to live in New York with their children.
Susan's relationship with Thomas outwardly continued to be friendly. Susan never made any demands upon him for support since she did not believe that he had, or was earning, any money and because she was able to support herself and the children through her own employment.
The only real financial benefit she received from Thomas came about as a result of a settlement from a lawsuit concerning the distribution of money from one of Thomas' businesses which had been terminated. From this, Susan received $ 1,000 per month for a 1-year period, including part of 1974. This money1981 U.S. Tax Ct. LEXIS 15">*20 was intended to be used by Susan to support herself and the children. Except for this settlement and occasional small gifts for the children, Susan received no support from Thomas.
During 1974, Thomas was the president and sole shareholder of T. B. Ketchum & Son, Inc. (hereinafter referred to as Ketchum & Son), a corporation which had elected to be treated 77 T.C. 1204">*1206 as a "small business corporation" under the provisions of subchapter S of the Internal Revenue Code of 1954. Thomas timely filed a Form 1120S, U.S. Small Business Corporation Income Tax Return, on behalf of Ketchum & Son for the 1974 taxable year. This return showed a loss of $ 49,094. 2
Early in 1975, Thomas informed Susan that he was going to Hong Kong, but that he wished to file their 1974 Federal income tax return before1981 U.S. Tax Ct. LEXIS 15">*21 he left. Thomas subsequently brought to her a completed return. Susan did not review the return in detail, but rather examined it primarily with the view towards determining the correctness of the portions dealing with her own income. Thomas briefly discussed the return with her, relating the fact that Ketchum & Son had sustained a loss which was reflected on their joint return. Susan did not examine the remainder of the return to see if her husband was receiving any other income. Thomas did not bring with him the Ketchum & Son return. Beyond what has been described above, Susan's only other actions with respect to this return were to furnish Thomas with her W-2 Form and to sign the return.
The return, as filed, claimed an overpayment of $ 4,146.53, due primarily to the inclusion of the $ 49,094 business loss attributable to Ketchum & Son. This loss was shown on Form 1040, Schedule E, Part III (Income or Losses from Partnerships, Estates or Trusts, Small Business Corporations) by giving the name T. B. Ketchum & Son, Inc., checking the box labeled "small business corporation," entering the employer identification number, and recording a loss ($ 49,094). Susan received the refund1981 U.S. Tax Ct. LEXIS 15">*22 check, which she spent on support for the children. When Thomas returned from Hong Kong in the summer of 1975, he inquired of the refund check, told Susan 77 T.C. 1204">*1207 that he needed money, and she gave him approximately $ 1,500. They were divorced in 1977.
Susan never received any of the income from Ketchum & Son. She has no records of the corporation relating to the deductions claimed by Ketchum & Son on their 1974 return. Furthermore, she has no personal knowledge of the transactions or events which purportedly gave rise to the expenses claimed as deductions.
In his statutory notice of deficiency, respondent disallowed $ 74,076.74 of the deductions claimed by Ketchum & Son, resulting in an increase in the corporation's undistributed taxable income. 31981 U.S. Tax Ct. LEXIS 15">*23 This in turn resulted in an increase to Thomas and Susan's 1974 taxable income. 4
OPINION
Generally, where a husband and wife file a joint return, the tax is computed on the couple's aggregate income and their liability with respect to the tax becomes joint and several.
The parties have stipulated that petitioner has no records of Ketchum & Son relating to the deductions claimed on the corporation's 1974 income tax return, and, further, that petitioner has no personal knowledge of the transactions or events which purportedly gave rise to the expenses claimed as deductions. At trial, petitioner offered no evidence or testimony concerning the propriety of the questioned1981 U.S. Tax Ct. LEXIS 15">*24 deductions. Nor 77 T.C. 1204">*1208 was she able to show that the deficiency was not due to negligence or intentional disregard for the rules and regulations or that, if it was, such conduct was excusable. See
Instead, petitioner seeks refuge in
(1) In general. Under regulations prescribed by the Secretary or his delegate, if -- (A) a joint return1981 U.S. Tax Ct. LEXIS 15">*25 has been made under this section for a taxable year and on such return there was omitted from gross income an amount properly includable therein which is attributable to one spouse and which is in excess of 25 percent of the amount of gross income stated in the return, (B) the other spouse establishes that in signing the return he or she did not know of, and had no reason to know of, such omission, and (C) taking into account whether or not the other spouse significantly benefited directly or indirectly from the items omitted from gross income and taking into account all other facts and circumstances, it is inequitable to hold the other spouse liable for the deficiency in tax for such taxable year attributable to such omission, then the other spouse shall be relieved of liability for tax (including interest, penalties, and other amounts) for such taxable year to the extent that such liability is attributable to such omission from gross income.
In applying the gross income test,
* * * * (B) the amount omitted from gross income shall be determined in the manner provided by
(1) Income taxes. -- In the case of any tax imposed by subtitle A -- (A) General rule. -- If the taxpayer omits from gross income an amount properly includible therein which is in excess of 25 percent of the amount of gross income stated in the return, the tax may be assessed, or a proceeding in court for the collection of such tax may be begun without assessment, at any time within 6 years after the return was filed. For purposes of this subparagraph -- (i) In the case of a trade or business, the term "gross income" means the total of the amounts received or accrued from the sale of goods or services (if such amounts are required to be shown on the return) prior to diminution by the cost of such sales or services; and (ii) In determining the amount omitted from gross income, 1981 U.S. Tax Ct. LEXIS 15">*28 there shall not be taken into account any amount which is omitted from gross income stated in the return if such amount is disclosed in the return, or in a statement attached to the return, in a manner 77 T.C. 1204">*1210 adequate to apprise the Secretary or his delegate of the nature and amount of such item.
We agree with respondent that there was a disclosure either in the return or in a statement attached to the return. In
We held that there was no omission from gross income because the capital gain from the sale of the hotel was disclosed in the individual return. We first decided the computational schedule qualified as a "statement attached to the return," in this case, the subchapter S return. Next we held that the subchapter S return had been "incorporated by reference in petitioners' individual return."
The Eighth Circuit followed our approach in
The congressional directive to apply the law of
We confront a long line of cases clearly stating that references in an individual return to a partnership or subchapter S return incorporate those returns for purposes of
We recognize that
1981 U.S. Tax Ct. LEXIS 15">*35
1. All section references are to the Internal Revenue Code of 1954 as amended and in effect during the year in issue.↩
2. This figure was computed on the return as follows:
| Gross receipts | $ 30,841.59 |
| Less: Cost of goods sold | 46,967.00 |
| Gross profit (loss) | (16,126.00) |
| Less: Other deductions | 32,968.00 |
| Taxable income (loss) | (49,094.00) |
3. A subch. S corporation is not subject to tax on its corporate income.
4. Viewed another way, the respondent disallowed the $ 49,094 loss deduction claimed on the joint return, and further increased taxable income by $ 24,982.74 reflecting income from the corporation which should have been reported in the first instance.↩
5. The requirement that there be a 25-percent or greater omission from gross income in order to gain innocent spouse status has been much criticized. Many commentators question the wisdom in cutting off those spouses who, although truly innocent in an equitable sense, jointly signed a return omitting less than the requisite percentage. See e.g., Emory, "New law alleviates innocent spouse-joint return problem on omitted income," 34 J. of Tax. 154 (1971); Zahn, "The Innocent Spouse Rule,"
