T.C. Memo. 2005-119



                      UNITED STATES TAX COURT



                ROBERT E. CORRIGAN, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 3588-96.                 Filed May 23, 2005.



     Robert E. Corrigan, pro se.

     Margaret S. Rigg, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     GERBER, Chief Judge:     Petitioner seeks the redetermination

of respondent’s determinations contained in two separate notices

of deficiency.   Unless otherwise indicated, all section

references are to the Internal Revenue Code in effect for the

taxable years at issue.    All Rule references are to the Tax Court
                                       - 2 -

Rules of Practice and Procedure.              Respondent determined the

following income tax deficiencies, penalties, and additions to

tax for petitioner’s 1987 through 1991 taxable years:1

     Year:                    1987     1988      1989       1990       1991

     Deficiency:           $374,201   $86,517   $105,165   $173,542   $40,337

     Additions to tax
     and penalties
     under secs.:
       6651(a)(1)            58,840   11,931      8,710     41,598     5,997
       6653(a)(1)(A)         15,607     ---        ---        ---       ---
       6653(a)(1)              ---     3,755       ---        ---       ---
       6653(a)(1)(B)           ---1      ---        ---        ---       ---
       6653(b)(1)(A)         78,269     ---        ---        ---       ---
       6653(b)(1)              ---    10,573       ---        ---       ---
       6663                    ---      ---      13,786     21,190    10,240
       6653(b)(1)(B)           ---2      ---        ---        ---       ---
       6662(a)                 ---      ---      13,828     30,571     5,337
             1
                 50 percent of interest due on $280,318.
             2
                 50 percent of interest due on $62,059.

     After concessions by the parties, the issues remaining for

our consideration are:          (1) Whether petitioner’s debt that was

forgiven as part of a settlement agreement is includable in

petitioner’s 1990 income; (2) whether petitioner’s stock and

option trading activity was a trade or business entitling him to

claim ordinary losses and/or business deductions on a Schedule C,

Profit or Loss From Business; (3) whether petitioner’s capital

gains/losses for 1987, 1990, and 1991 were correctly reported;

(4) whether petitioner is entitled to deduct payments or



     1
       Respondent also determined substantial understatement and
negligence additions to tax under former secs. 6661 and 6653(a)
for 1987 and 1988, respectively, and under sec. 6662(a) for 1989
through 1991 as an alternative position if the fraud penalty were
not sustained under sec. 6653(b) or sec. 6663 as the case may be.
                               - 3 -

brokerage commission rebates claimed for 1987 and 1988; (5)

whether petitioner is entitled to defer gain realized from the

1987 sale of a residence under section 1034 and, if not, the

amount of gain to be recognized; (6) whether petitioner is

entitled to deduct losses from a horse breeding activity for 1987

through 1991; (7) whether petitioner has shown that respondent’s

determination that petitioner failed to report certain items of

income was in error; (8) whether petitioner is entitled to

itemized deductions for interest expenses, casualty losses, and

employee expenses in excess of the amounts allowed by respondent;

(9) whether petitioner is entitled to dependency deductions for

his children and/or a personal exemption for his former wife;

(10) whether petitioner is liable for additions to tax and

accuracy-related penalties for negligence for 1987 through 1991;

and (11) whether petitioner is liable for additions to tax and

penalties for substantial understatements.

                          FINDINGS OF FACT2

     Petitioner resided in Newport Beach, California, at the time

his petition was filed.   Petitioner’s Federal income tax returns

for 1987, 1988, 1989, 1990, and 1991 were filed on December 20,

1988, October 9, 1990, November 17, 1990, February 26, 1993, and




     2
       The parties’ stipulation of facts is incorporated by this
reference.
                                - 4 -

March 26, 1993, respectively.   Petitioner and respondent entered

into timely agreements extending the period for assessment for

each tax year in controversy.

     Petitioner married Jo Ann Corrigan (Mrs. Corrigan) during

1965, and they had four children.   Petitioner holds a master’s

degree in finance and in business administration and began

working as a stockbroker in southern California during 1970.

Beginning in 1976, petitioner began working as a stockbroker in

San Francisco, California.   Although petitioner and Mrs. Corrigan

legally separated during 1973, they moved to Walnut Creek,

California, and lived together in a home with their children.

Petitioner and Mrs. Corrigan jointly purchased the home in Walnut

Creek for $89,000.   They remodeled the Walnut Creek home and

added a barn and horse stables to the property at a cost of

approximately $70,000.   After the improvements, Mrs. Corrigan

began boarding, breeding, and showing horses.

     At the time of their 1973 separation, petitioner and Mrs.

Corrigan entered into a property settlement agreement providing

for child support, custody, and alimony.   Mrs. Corrigan was given

physical and legal custody of the four children under the

agreement.   On what purported to be joint returns for 1987

through 1991, petitioner claimed dependency exemptions for his

four children and a personal exemption for Mrs. Corrigan.

Respondent conceded that petitioner is entitled to file the
                               - 5 -

returns as head of household for 1987 through 1991.     Respondent

also conceded that petitioner is entitled to dependency

exemptions for David in 1987 through 1989, Erin in 1987 through

1991, Robert in 1987 and 1991, and Amy in 1991.

     After petitioner and Mrs. Corrigan’s divorce became final

during 1977, they continued to cohabit.     Petitioner left his

position in San Francisco during 1978 and accepted a new position

as a stockbroker with Smith Barney Harris Upham (Smith Barney) in

southern California.   Petitioner flew to the Smith Barney office

in San Francisco for business on Fridays, and spent most weekends

with his family at his Walnut Creek home that he continued to

maintain as his principal residence.

     Petitioner and Mrs. Corrigan purchased new residences and

left the Walnut Creek home during 1986.     The Walnut Creek home

was sold for $254,000 during 1987.     On the 1987 Federal income

tax return, petitioner reported the Walnut Creek home sale and

attempted to defer the gain by attaching a Form 2119, Sale or

Exchange of Principal Residence.   The Form 2119 reflected that

gain was realized from the Walnut Creek home sale and that the

recognition of the gain was to be deferred pursuant to former

section 1034.

     During 1986, petitioner and Mrs. Corrigan jointly purchased

real property in Chino, California, for $495,000.     Mrs. Corrigan

operated the property as a ranch, and her initials were used to
                                 - 6 -

name the ranch “JAC Ranch”.   Although the mortgage on the ranch

was in petitioner’s name alone, the deed to the property

reflected joint ownership by petitioner and Mrs. Corrigan.      Mrs.

Corrigan used JAC Ranch as her primary residence beginning in

1986.   Petitioner owned a home in Newport Beach, California,

which he used as his primary residence beginning in 1986.

Although petitioner and Mrs. Corrigan maintained separate

residences during the years in issue, they occasionally spent

time together in the same household.

     During 1984, petitioner accepted a position as an account

executive at Prudential-Bache (Prudential).    At Prudential, the

position of account executive was the equivalent of a senior

stockbroker.   Petitioner was not a licensed stockbroker or dealer

in securities, and no license was required to act as a senior

stockbroker for Prudential.   During 1984, Prudential lent

petitioner $390,000, which was evidenced by petitioner’s

promissory note to Prudential.    Under the terms of the loan,

petitioner was required to make six annual $65,000 installments

with the first installment due July 1985.    Petitioner made one

$65,000 installment, leaving an unpaid balance of $325,000.

     Petitioner resigned his position at Prudential during August

1985 without repaying the outstanding $325,000 loan balance.

Prudential sought to collect the loan balance and submitted its

$325,000 claim to arbitration.    Petitioner asserted several
                                 - 7 -

grounds that related to his employment as counterclaims

against Prudential, including breach of contract, breach of the

covenant of good faith and fair employment, fraud, negligent

misrepresentation in petitioner’s hiring, and punitive damages.

During 1990, the arbitration proceeding was settled.       Under the

settlement, Prudential released petitioner from his obligation to

repay the $325,000 loan balance, and petitioner agreed to drop

his employment-related claims.    Petitioner’s attorney wrote

petitioner a letter stating that the $325,000 would be

reclassified by Prudential as punitive damages, but the attorney

did not provide any tax advice regarding this item.

     Prudential, in connection with the settlement and release of

the loan obligation, issued petitioner a Form 1099 MISC,

Miscellaneous Income, for 1990 reflecting $325,000 as nonemployee

compensation to petitioner.   Petitioner did not report the

settlement as income.

     During 1987, while petitioner’s dispute with Prudential was

ongoing, he transferred his interests in the JAC Ranch and the

Newport Beach residence to Mrs. Corrigan.       Mrs. Corrigan quit-

claimed the deeds for both properties back to petitioner once

the Prudential matter was settled.       At all pertinent times,

petitioner was the sole mortgagee and the only person obligated

to make mortgage payments with respect to the mortgage on the JAC

Ranch property.
                                - 8 -

     Mrs. Corrigan intended to use the JAC Ranch for the

breeding, sale, and showing of horses.    She had no source of

income or capital other than what she received from petitioner.

She used these funds to pay the operating expenses and mortgage

payments for JAC Ranch.   Mrs. Corrigan generally requested, and

petitioner advanced, approximately $10,000 per month for the

payment of expenses for hay and grain, breeding costs, hired

help, and the purchase, training, and showing of horses.    During

the time petitioner made these payments, he and Mrs. Corrigan

were legally divorced.

     Petitioner and Mrs. Corrigan did not enter into a joint

venture or profit and loss agreement with respect to the

operation of the JAC Ranch.    Petitioner and Mrs. Corrigan were

divorced when they filed what purported to be joint Federal

income tax returns and joint amended returns.    The purported

joint returns included claimed losses with respect to the

activities at the JAC Ranch.    Petitioner and Mrs. Corrigan were

not entitled to file joint income tax returns for the years under

consideration.

     Attached to the purported joint returns were Schedules C

reflecting Mrs. Corrigan as the operator and sole proprietor of

the ranch.   On separate Schedules C, petitioner, alone, was shown
                                 - 9 -

as the operator and sole proprietor of an activity in which he

claimed to be engaged in the trade or business of buying and

selling options and commodities.

     Petitioner claimed and respondent disallowed a theft loss of

$21,000 for 1987.    Petitioner’s claim was on the basis of a

report he filed with the local police reflecting a $21,000 theft

of cash from his Newport Beach home.     There was no evidence of

forced entry, and petitioner’s claimed theft was not solved or

verified by local authorities.    Petitioner did not seek

reimbursement of the claimed $21,000 loss from his homeowner’s

insurance company.

     During 1987 through 1991, petitioner was employed by Smith

Barney as an account executive in Newport Beach, California.     He

earned commissions of $1,081,313, $321,692, $527,900, $361,105,

and $205,064 for 1987, 1988, 1989, 1990, and 1991, respectively.

On his 1987 through 1991 returns, petitioner claimed and

respondent disallowed expenses for work-related travel as

itemized deductions on the Schedules A, Itemized Deductions,

attached to each return.

     Smith Barney, as a broker, and petitioner, as a Smith Barney

employee, dealt in syndicated stock offerings during 1987 and

1988, which differed from regular stock transactions in that the

underwriting of the stock involved risk to the broker.      Because

of the increased risk, the transaction commissions were
                               - 10 -

substantially larger and, on occasion, reductions in the amount

of commissions were negotiated.

     During 1987 and 1988, JLB Capital, which was owned by Jack

Bergman (Bergman), was a Smith Barney customer which was serviced

by petitioner.    Petitioner was the account executive for three

JLB Capital accounts.    JLB Capital was operated by Bergman as a

proprietorship during the years at issue.    In 1987 and 1988, JLB

Capital purchased syndicated stock offerings through petitioner,

who negotiated with Bergman to rebate a portion of the commission

petitioner received from Smith Barney for syndicated stock sales

to JLB Capital.    On his 1987 and 1988 tax returns, petitioner

claimed reductions in gross income for “rebates” of $289,926 and

$135,000, respectively.3   The rebates were paid out of the

commissions petitioner earned from Smith Barney.    Petitioner

issued Forms 1099 to JLB Capital with respect to the above-

described payments.4

     Petitioner managed a Smith Barney brokerage account in his

name and a second account held jointly with Mrs. Corrigan during


     3
       For 1988, petitioner also claimed a reduction in income of
$23,837 for an amount claimed to be paid to an Anitra Kalagian.
Petitioner concedes that this item is not proper to consider in
computing his tax liability.
     4
       For 1987 and 1988, petitioner was able to show, by means
of canceled checks, that he had paid rebates of $265,699 and
$115,000, respectively, to JLB Capital or Bergman. The Forms
1099 issued to JLB Capital and the canceled checks are the only
support petitioner provided for the rebates reported on his
returns.
                                  - 11 -

1987 through 1991.       A third Smith Barney account was held in Mrs.

Corrigan’s name only during the same period.      Petitioner was the

account executive for each of these three accounts.

     Petitioner purchased and sold options and commodities

through these accounts that resulted in both gains and losses.

Petitioner used the account in his name (account No. 06K-153400)

to buy and sell options and commodities during the years 1987

through 1989, and 1991.      Petitioner incurred the following net

gains and (losses) from trading in the account solely in his

name:

                  Year        Net Income/(Loss)

                  1987            $116,185
                  1988              (4,704)
                  1989              25,845
                  1991              27,375

        Petitioner bought and sold commodities and options through

the joint account (account No. 06K-151106) with Mrs. Corrigan

during 1987 and 1988.       Petitioner’s share of gains and (losses)

from the joint account were as follows:

                  Year        Net Income/(Loss)

                  1987              $7,243
                  1988             (22,163)

        Petitioner was the account executive for the third account

(account No. 06K-127531), which was solely in Mrs. Corrigan’s

name.     The transactions in that account and the amount of gains

and losses are not those of petitioner.
                                 - 12 -

     The number and frequency of the purchases and sales of

commodities and options in the above-described accounts are as

follows:

            Petitioner’s    Joint    Mrs. Corrigan’s   Total Sales
   Year       Account      Account       Account       or Purchases

   1987           23         5              51              79
   1988           39        37               4              80
   1989           19         0              22              41
   1990            0         0               3               3
   1991           11         0              21              32

     Petitioner claimed that his dealing in options and

commodities constituted a trade or business.

                                 OPINION5

     Petitioner challenged numerous adjustments determined by

respondent for 1987 through 1991.      After trial, petitioner

requested and was permitted several extensions of time for the

filing of his factual and/or legal arguments with the Court.

Ultimately, petitioner did not file a posttrial brief to assist

the Court in better understanding his position regarding the

errors that he alleged exist with respect to respondent’s

determinations.

     I.    Settlement and Release of $325,000 Debt

     During 1984 petitioner borrowed $390,000 from Prudential.

Petitioner repaid $65,000 and continued to owe $325,000 as of

1985, when he resigned his position with Prudential.      Prudential


     5
       Sec. 7491 does not apply because the audits for 1987
through 1991 occurred before 1998.
                              - 13 -

sought to collect petitioner’s $325,000 obligation and petitioner

asserted counterclaims for breach of contract, breach of the

covenant of good faith and fair employment, fraud, negligent

misrepresentation in petitioner’s hiring, and punitive damages.

     During 1990, petitioner and Prudential agreed to a mutual

release of all claims between them.    According to the terms of

the release, in exchange for petitioner’s release of all claims,

Prudential in turn released petitioner from all claims,

“including without limitation as to any and all promissory notes

by or [indebtedness] of Corrigan to Prudential-Bache.”

Correspondingly, petitioner released Prudential from all of the

asserted counterclaims.

     Petitioner contends that the settlement is to be excluded

from income under section 104(a)(2) because it was for a tortlike

personal injury and/or that it was to settle a claim for punitive

damages.   Respondent counters that petitioner has not shown that

the settlement was for tortlike injuries, and, even if the

settlement were for punitive damages, it would not be excludable

under section 104(a)(2).

     Section 61(a) provides that “all income from whatever source

derived” is gross income unless otherwise excluded by statute.

The definition of gross income includes income from the discharge

of indebtedness.   Sec. 61(a)(12); sec. 1.61-12(a), Income Tax

Regs.   Accordingly, receipt of funds by a taxpayer is presumed to
                                - 14 -

be gross income unless it can be demonstrated that the accession

to wealth is specifically excluded by law.   See Commissioner v.

Glenshaw Glass Co., 

, 431 (1955).

     Petitioner was relieved of his obligation to pay the

remaining $325,000 due on his promissory note to Prudential and,

therefore, realized income from the forgiveness of debt, unless

petitioner can show that the income may be excluded.6     Petitioner

contends that section 104(a)(2) should apply to exclude the

$325,000 from his income.   Section 104(a)(2) provides:

          SEC. 104(a). In General.-–Except in the case of
     amounts attributable to (and not in excess of)
     deductions allowed under section 213 (relating to
     medical, etc., expenses) for any prior taxable year,
     gross income does not include–-

              *     *       *     *      *   *     *

               (2) the amount of any damages received
          (whether by suit or agreement and whether as lump
          sums or as periodic payments) on account of
          personal injuries or sickness;

              *     *       *     *      *   *     *

     * * * Paragraph (2) shall not apply to any punitive
     damages in connection with a case not involving
     physical injury or physical sickness.

     The term “damages received”, as used in section 104(a)(2),

is defined as an amount received “through prosecution of a legal

suit or action based upon tort or tort type rights, or through a

settlement agreement entered into in lieu of such prosecution.”


     6
       The exclusions from gross income set forth in sec.
108(a)(1) are not applicable in this case.
                              - 15 -

Sec. 1.104-1(c), Income Tax Regs.   In the context of a settlement

agreement, the nature of the claim that was the basis for a

settlement controls as to the question of whether damages are

excludable under section 104(a)(2).    United States v. Burke, 

, 237 (1992).

     The determination of the nature of a claim is a question of

fact.   Robinson v. Commissioner, 

, 126 (1994), affd.

in part, revd. in part, and remanded on another issue 

(5th Cir. 1995).   When a settlement agreement explicitly

allocates settlement proceeds between damages for tort type

personal injuries and other types of damages, that allocation may

be respected if a Court finds that it was the product of arm’s-

length, adversarial, and good faith negotiations.

     However, where a taxpayer settles contract claims and tort

claims for a lump-sum amount and neither the agreement nor other

evidence provides a basis to allocate any portion to tort claims

for personal injuries, the courts have decided that they are not

in a position to be able to make allocations on the parties’

behalf.   See Taggi v. United States, 

, 96 (2d Cir.

1994); Reisman v. Commissioner, T.C. Memo. 2000-173, affd. 3 Fed.

Appx. 374 (6th Cir. 2001).   Under those circumstances, the

settlement proceeds have been held to be includable in a

recipient’s income.   See, e.g., Morabito v. Commissioner, T.C.

Memo. 1997-315.
                               - 16 -

     Petitioner relies upon a letter received from his attorney

stating that Prudential was willing to “reclassify the $390,000

dollars [sic] given to you in 1984 as a loan to a punitive damage

settlement award in your lawsuit.”      The release, however, states

that the settlement is for all claims that petitioner had

asserted in connection with his employment and his termination.

The release is silent with respect to any allocation to a

particular claim and/or punitive damages.

     For the $325,000 to be excluded under section 104(a)(2),

petitioner must meet a two-prong test and demonstrate:     (1) That

the underlying cause of action giving rise to recovery is based

upon tort or tort type rights, and (2) that the damages were

received on account of personal injuries.      Commissioner v.

Schleier, 

, 336-337 (1995).     Unless both prongs are

met, the payment is not excludable from gross income under

section 104(a)(2).

petitioner has not shown that the underlying

cause of action that gave rise to recovery was based upon tort or

tort type rights.    Most of petitioner’s claims appear to be on

the basis of contractual rights.    A tort is defined as a “‘civil

wrong, other than breach of contract, for which the court will

provide a remedy in the form of an action for damages.’”         United

States v. Burke, supra at 234 (quoting Keeton et al., Prosser &

Keeton on the Law of Torts 2 (5th ed. 1984)).     In the absence of
                               - 17 -

a general Federal common law of torts or controlling definitions

in the Internal Revenue Code, we look to State law to determine

the nature of the claim litigated.      United States v. Mitchell,

, 197 (1971); Erie R.R. v. Tompkins, 

, 78

(1938).

     Although petitioner’s claims for fraud and negligent

misrepresentation may sound in tort, such claims generally

involve economic loss rather than personal injury.7     In that

regard, petitioner testified that his claim against Prudential

arose from lost commissions.     He did not offer any alternate

reasons for his dispute and counterclaims with Prudential.

     Finally, concerning petitioner’s claim that the settlement

was for punitive damages, section 104(a) as in effect for the

year in issue specifically states that amounts received on

account of personal injuries or sickness “shall not apply to any

punitive damages in connection with a case not involving physical

injury or physical sickness.”8    There is no indication that

petitioner’s settlement was based on physical injury or physical


     7
         See Prosser, Law of Torts 5, at 683-684 (4th ed. 1971).
     8
       The 1989 amendment adding this provision is effective for
amounts received after July 10, 1989, unless received (A) under a
written agreement, court decree, or mediation award in effect, or
issued on or before, July 10, 1989, or (B) pursuant to any suit
filed on or before July 10, 1989. Omnibus Budget Reconciliation
Act of 1989, Pub. L. 101-239, sec. 7641, 103 Stat. 2379. Because
the discharge of indebtedness occurred after July 10, 1989, and
was pursuant to an arbitration claim rather than the filing of a
suit, the amendment applies to the discharge of indebtedness.
                               - 18 -

sickness, even if it were for punitive damages.     Accordingly, we

hold that petitioner has not shown that he is entitled to exclude

the $325,000 settlement from his gross income.

     II.    Commodity and Option Trading Activity

     During the years under consideration, petitioner was a

successful stockbroker earning annual commissions ranging from

$200,000 to in excess of $1 million.    In addition, during the

years under consideration, petitioner claimed to be in the trade

or business of trading options and commodities.     Substantially

all of the transactions reported from this activity consisted of

option trading in three separate stock brokerage trading

accounts.    The three accounts included one in petitioner’s name,

one held jointly with Mrs. Corrigan, and one in Mrs. Corrigan’s

name.   Likewise, the cost of goods sold reflected on the

Schedules C was, in substantial part, the purchase price of the

options that had been sold.    In addition to the cost of goods

sold, petitioner claimed deductions for various expenses.     The

activity was reported on the Schedules C under the name “Corrigan

Enterprises”, and losses were claimed for 1987, 1988, 1989, and

1991 of $96,098, $25,774, $124,073, and $34,907, respectively.

     Respondent determined that this activity produced capital

rather than ordinary gains and losses.    In addition, respondent

allocated the gains and losses between petitioner and Mrs.

Corrigan in accord with their ownership of the accounts,
                                - 19 -

allocating to petitioner all the gains and losses from the

account in his name only and one-half of the gains and losses

from the joint account held with Mrs. Corrigan.     Respondent also

determined that the gains and losses were short-term.     Finally,

respondent determined that petitioner had not substantiated the

deductions claimed on the Schedules C.

          A.    Substantiation of Schedule C Deductions

     Even if petitioner shows that he was engaged in a trade or

business, he is obligated to show that deductions of expenses in

controversy are ordinary and necessary and were paid during the

year of deduction.

     Petitioner did not introduce evidence showing that the

expenses deducted were ordinary and necessary and/or were paid

during the year of deduction.    Therefore, petitioner is not

entitled to the deductions for expenses claimed on the Schedules

C for Corrigan Enterprises.

          B.    Dealer, Trader, or Investor

     Generally, for Federal tax purposes, individuals who

purchase and sell securities have been characterized into one of

three categories:    Dealers, traders, and investors.   See Estate

of Yaeger v. Commissioner, T.C. Memo. 1988-264, affd. on this

issue 

(2d Cir. 1989).    Petitioner concedes that he is

not a dealer, so any gains and losses would be capital in nature,

not ordinary.   See sec. 1221(a)(6).     The parties dispute whether
                              - 20 -

petitioner is a trader or investor only because the expenses

petitioner claimed for Corrigan Enterprises would not be trade or

business expenses if petitioner were an investor.   Having found

that petitioner is not entitled to the deductions he claimed for

Corrigan Enterprises, we need not determine whether petitioner is

a trader or investor.

     III.   Capital Gains and Losses

     Although petitioner attempted to file joint Federal income

tax returns, he was not entitled to do so because he and Mrs.

Corrigan were divorced at the time he attempted to file.   Had

petitioner and Mrs. Corrigan been entitled to file joint returns,

it would not matter that the gains and losses from the joint

account and Mrs. Corrigan’s account were netted with the gains

and losses in petitioner’s account.    Because petitioner and Mrs.

Corrigan were not entitled to file joint returns, we must decide

whether petitioner was entitled to report the gains or losses

from each of the three accounts.

     When transacted through a brokerage account, gains and

losses from the sale of stock and options are reportable by the

owner of the account in the absence of any evidence demonstrating

that another person is the true or equitable owner.   See Ruth v.

Commissioner, 

(9th Cir. 1992), affg. without

published opinion T.C. Memo. 1991-30.
                                - 21 -

     The gains and losses in the three brokerage accounts were

allocated by respondent according to which person owned the

account.     At trial, petitioner testified that he was the sole

owner of all three accounts and was entitled to all the claimed

losses.     His testimony, however, was inconsistent with the

allegations in his petition alleging a joint venture with Mrs.

Corrigan on the accounts.     To some extent, petitioner’s testimony

on this point was inconsistent.     For example, he contradicted

himself as to whether the proceeds of sales in the account in

Mrs. Corrigan’s name were remitted to her.     Petitioner did not

provide any corroborating testimony or evidence supporting his

claim that the account ownership, in substance, differed from the

form.

     Accordingly, we sustain respondent’s allocations of the

capital gains and/or losses from the three accounts.

     IV. Deduction of Payments Claimed as Brokerage Commission
     Rebates

        While employed as a stockbroker during 1987 and 1988,

petitioner was responsible for servicing Smith Barney customers,

including JLB Capital, a sole proprietorship owned by Bergman.

Petitioner earned $1,081,313 and $321,692 in commissions from

that activity during 1987 and 1988, respectively.     Also for 1987

and 1988, petitioner claimed reductions in income for “rebates”
                               - 22 -

to JLB Capital of $289,926 and $135,000, respectively.9

Petitioner contends that he rebated the amounts to JLB Capital to

induce the purchases of certain syndicated stock offerings during

1987 and 1988.

     It was not unusual for brokerage firms that offered

syndicated stock to accept reduced commissions.     That is on the

basis of the fact that commissions for syndicated stock

transactions were generally larger than those for other stock

transactions.    Petitioner reported the gross commission income

received from Smith Barney for his sales of syndicated stock to

JLB Capital.    He reduced the amount reported as income by the

rebates or payments made to JLB Capital as an inducement to trade

with him.

     Respondent contends that such payments are not deductible

from petitioner’s gross income and, if allowable would, at very

most, be unreimbursed employee expenses that may or may not be

deductible as itemized deductions.      Respondent also contends that

these payments may be in violation of California securities law

and that rebates of commissions may result in disciplinary action

or suspension by the New York Stock Exchange.     Respondent did not



     9
       Even though petitioner could not substantiate the entire
amount reported on his tax returns, petitioner was able to
substantiate 85 percent of the claimed amounts by means of
canceled checks. Petitioner’s proffered evidence is sufficient
to show that the amounts claimed were paid. See Cohan v.
Commissioner, 

(2d Cir. 1930).
                               - 23 -

argue, however, that such payments would not be deductible as

being illegal.    See sec. 162(c)(2).   Finally, respondent argued

that the payments are not deductible as a rebate or price

reduction because JLB Capital paid the commissions for its stock

purchases to Smith Barney under their customer-broker business

relationship.

     The question we consider focuses upon whether petitioner is

entitled to reduce the gross commission income received from

Smith Barney or whether the payments he made to JLB Capital are

deductible as employee business itemized deductions from adjusted

gross income.    We agree with respondent that in these

circumstances petitioner is not entitled to reduce gross income

by the payments made to JLB Capital.    See Alex v. Commissioner,

(1978), affd. 

(9th Cir. 1980); see

also Pittsburgh Milk Co. v. Commissioner, 

(1956) (in

which such a reduction of income was permitted in a two-party

transaction).    Here, petitioner is an agent or employee of Smith

Barney with whom JLB Capital and Bergman have contractual

relationships regarding stock trading and commissions.    The

commissions received by petitioner in his role as a Smith Barney

employee and the payments made to JLB Capital are not reductions

or rebates of the customer’s commission payments to Smith Barney.
                               - 24 -

Therefore, the payments are “three cornered”, and petitioner is

not entitled to a reduction from gross income.    Alex v.

at 1224-1225.

     Rebates may be allowable under section 162 as business

expenses if they are ordinary and necessary.   The payments in

Alex v. 

, were not deductible because of the

prohibition against illegal deduction in section 162(c)(2).     The

payments made by petitioner here were not “illegal” within the

meaning of section 162(c) and are ordinary and necessary expenses

incurred in petitioner’s trade or business of being an employee.

     As to respondent’s argument that petitioner could have

sought reimbursement for rebate-like payments to Smith Barney

customers, the record does not support a conclusion that the

payments were reimbursable.    Respondent’s arguments on this point

are internally inconsistent.   Respondent, on one hand, points out

that the payment may have violated California law and/or the

rules of the New York Stock Exchange.   On the other, respondent

contends that these payments would be reimbursable.   The possible

impropriety of the payments would seem to dictate that such

amount would not be reimbursable.   Further, it is obvious from

petitioner’s testimony, and we find on the record before us, that

the payments were not reimbursable.

     Petitioner is entitled to deduct the amounts paid to JLB

Capital.   The deduction however is not from gross income because
                              - 25 -

section 62(a)(1) provides that such deductions, being

attributable to petitioner’s employment, are allowable as

itemized deductions from adjusted gross income.   See sec. 63(a).

     Accordingly, we find that subject to certain limitations,

petitioner is entitled to deduct itemized employee deductions on

Schedules A of $289,926 for 1987 and $135,000 for 1988.

     V.   Sale of Residence

     Under former section 1034,10 which was in effect for

petitioner’s 1987 tax year, taxpayers were able to defer gain

realized from the sale of their principal residence if they

purchased a replacement residence and met certain other

conditions.   Section 1034, in pertinent part, provided:

          SEC. 1034(a). Nonrecognition of Gain.–-If
     property (in this section called “old residence”) used
     by the taxpayer as his principal residence is sold by
     him and, within a period beginning 2 years before the
     date of such sale and ending 2 years after such date,
     property (in this section called “new residence”) is
     purchased and used by the taxpayer as his principal
     residence, gain (if any) from such sale shall be
     recognized only to the extent that the taxpayer’s
     adjusted sales price (as defined in subsection (b)) of
     the old residence exceeds the taxpayer’s cost of
     purchasing the new residence.

     Respondent’s sole contention with regard to the sale of

petitioner’s residence is that if petitioner abandoned the Walnut

Creek residence and had a new “principal residence” before the



     10
       Sec. 1034 was repealed in connection with the Taxpayer
Relief Act of 1997, Pub. L. 105-34, sec. 312(a) and (b), 111
Stat. 836, 839.
                               - 26 -

time of the sale, section 1034 does not apply to defer any gain

from sale.   Respondent relies on Perry v. Commissioner, 

(9th Cir. 1996), affg. T.C. Memo. 1994-247.    Accordingly, the

sole question we consider is whether the Walnut Creek residence

was petitioner’s “principal residence” for purposes of section

1034.   In the Perry case, the taxpayer had, because of a divorce,

left the home in question approximately 3 years before its sale.

In that case, the Court of Appeals for the Ninth Circuit held

that the home was not the taxpayer’s principal residence because

he had left it several years before it was placed for sale and

sold.   In other words, the taxpayer had ceased to “physically

occupy and live in the house” long before it was intended to be

sold.

  On the basis of that reasoning in Perry, it

appears that the taxpayer would not have met the 2-year before

and after rule of section 1034.

     In this case, petitioner and Mrs. Corrigan used the Walnut

Creek home as their principal residence until some time in 1986

when they decided to sell it and each of them moved to new

residences, one of which was jointly purchased by petitioner and

Mrs. Corrigan.    Unlike the taxpayer in Perry, petitioner did not

cease using the Walnut Creek home as his principal residence

several years before and then decide to sell it and reinvest in

another home.    Petitioner and Mrs. Corrigan moved to new

residences and sold the Walnut Creek property within a relatively
                                - 27 -

short time (well within the 2-year requirement of section 1034).

Thus, petitioner did not have more than one “principal

residence”.    Sec. 1.1034-1(c)(3), Income Tax Regs.

     Considering the above principles and the record in this

case, the Walnut Creek property was petitioner’s principal

residence.    Respondent does not contend that any other

requirement of section 1034 was not satisfied.     Accordingly,

petitioner was entitled to defer any gain realized on the 1987

sale of that property.

     VI.    Deduction of Losses From Horse Breeding Activity

     Petitioner claimed losses for 1987 through 1991 of $88,047,

$40,811, $65,647, $116,737, and $27,351, respectively, from the

operation of the JAC Ranch.     The losses were claimed on what

purported to be joint returns filed by petitioner and Mrs.

Corrigan.     Because the horse breeding activity to which these

claimed losses are attributable was operated by and in the name

of Mrs. Corrigan, and because petitioner was not entitled to file

a joint return, he now contends that he and Mrs. Corrigan

operated the activity as a joint venture, and that he is entitled

to claim all of the losses reflected on the purported joint

returns for 1987 through 1991.

     Respondent disallowed the losses in their entirety, and the

parties’ dispute concerns the question of whether petitioner was

entitled, as a joint venturer, to all of the losses for the horse
                                - 28 -

breeding activity at the JAC Ranch.      The parties have not

addressed the question of whether the losses are correct in

amount or whether the activity was operated with the intent to

make a profit.   Respondent’s position that petitioner was not a

joint venturer is based upon the record and certain other

factors.   We agree with respondent that petitioner has failed to

show that the horse breeding activity was a joint venture between

petitioner and Mrs. Corrigan.

     Initially, we note that the purported joint returns reflect

that the horse breeding activity was operated by Mrs. Corrigan as

a sole proprietorship.   Her name alone was reflected on the

Schedules C.   By contrast, petitioner’s name was the only one

reflected with respect to his claimed option trading activity.

This is a potent indication that Mrs. Corrigan was the sole

operator and proprietor of the horse breeding activity.

     Respondent also points out that for a partnership or joint

venture to exist there should be (1) an agreement to share profit

and losses, (2) a community of interest in the undertaking, and

(3) a right of control over the activity.      See, e.g., Joe

Balestrieri & Co. v. Commissioner, 

, 871 (9th Cir.

1949) (similar Federal statutory requirements exist), affg. a

Memorandum Opinion of this Court; see also sec. 7701(b).

     In that regard, petitioner has not shown that he had a right

to participate in management or to control the activities at the
                                 - 29 -

JAC Ranch.   Although petitioner did provide funding to Mrs.

Corrigan for the operation of the activity, there is no showing

that the character of these advances was debt or equity.    Even if

the advances constituted an equity interest, that would not

necessarily entitle petitioner to share in profits and losses.

     Petitioner has alleged that there was a written agreement

between him and Mrs. Corrigan regarding the sharing of profits

and losses, etc.   No such agreement was produced, and no

corroborating evidence was provided in support of petitioner’s

self-serving allegations.

     In view of the foregoing, we hold that petitioner has not

shown that he is entitled to claim losses from the horse breeding

activity.

     VII.    Unreported Income

     Respondent determined that petitioner failed to report

various items of income, including dividends, interest, State

income tax refunds, and royalties during the years in issue.

With the exception of a $1,902 adjustment that respondent now

concedes was in error, petitioner has failed to present any

evidence to show that respondent’s determination was in error.

The net amounts of unreported income for 1987, 1989, 1990, and

1991 are $44, $5,587, $15, and $26, respectively.   For 1988,

respondent determined that petitioner overstated the various

items of income by a net amount of $539.
                                   - 30 -

     Generally, petitioner is obligated to show that respondent’s

determination is in error.       There are exceptions to that rule,

one of which may concern the determination that there is

unreported income.       Under the holdings of the Court of Appeals

for the Ninth Circuit (to which an appeal would normally lie for

petitioner), the Commissioner is required to make a threshold

evidentiary foundation to support a determination of unreported

income.   See Weimerskirch v. Commissioner, 

(9th Cir.

1979), revg. 

(1977).        Respondent has made a

sufficient showing to shift to petitioner the obligation to show

that respondent’s determination is in error, which petitioner has

failed to do.       Wherefore, respondent’s determination of

unreported or overstated miscellaneous income items is sustained.

     VIII.        Itemized Deductions

             A.     Mortgage Interest

     Respondent made determinations regarding petitioner’s

itemized deductions for mortgage interest for the years under

consideration.       Respondent has conceded that petitioner is

entitled to mortgage interest deductions of $33,799, $21,308.24,

$36,816.24, and $35,558.04 for 1988, 1989, 1990, and 1991,

respectively.       Petitioner appears to have contested the 1987

mortgage interest deduction for the Telegraph Avenue property.

In that regard, respondent conceded that petitioner is entitled

to $24,824.63 of mortgage interest attributable to the Telegraph
                                 - 31 -

Avenue property for 1987.     The remaining mortgage interest

deductions for 1987 is not conceded, and petitioner has provided

no evidence or argument to show entitlement to mortgage interest

deductions in excess of those allowed or conceded by respondent.

Accordingly, petitioner is not entitled to mortgage interest

deductions in excess of those allowed by respondent.

          B.   Casualty Losses

     Petitioner claimed casualty losses attributable to theft of

$21,000 and $31,860 for 1987 and 1991, respectively.      Section

165(a) permits a deduction for losses not compensated for by

insurance or otherwise.     The loss for a casualty, however, is

subject to limitations.     The loss may be allowable for 1987 to

the extent that it exceeds $100.     Sec. 165(h)(1).   In addition,

the loss is deductible only to the extent that it also exceeds 10

percent of a taxpayer’s adjusted gross income.      Sec. 165(h)(2).

     Applying those rules to petitioner’s $21,000 claimed

casualty loss for 1987, the amount would not exceed the statutory

thresholds or limitations.     First, the claim is limited to

$20,900 ($21,000, less the $100 threshold).      Second, because

petitioner’s adjusted gross income was approximately $495,000,

the 10-percent limitation would preclude any deduction for a

casualty loss of less than $49,500.       Accordingly, petitioner is

not entitled to an itemized casualty loss deduction for 1987.
                                - 32 -

     With respect to petitioner’s $31,860 casualty loss that he

claimed for 1991, he testified that this was Mrs. Corrigan’s loss

and that there was an insurance recovery.      Accordingly,

petitioner is not entitled to any part of the $31,860 casualty

loss that he claimed for 1991.

            C.   Employee Expenses

     Petitioner claimed deductions for each year at issue in

connection with his employment.      The deductions concerned travel,

meals, and other employee-type expenses.

     A taxpayer may deduct ordinary and necessary business

expenses incurred in conducting a trade or business.      Sec.

162(a).   The term “trade or business” includes the trade or

business of being an employee.       Primuth v. Commissioner, 

, 377 (1970).    Section 274, however, limits deductions for

entertainment and recreation that would otherwise be allowable

unless it is established that the expenditures were directly

related to or preceding a bona fide business discussion and were

associated with the active conduct of a taxpayer’s trade or

business.    See sec. 274(a)(1)(A).    A deduction is allowed for

meals only if such expenses are not lavish and the taxpayer is

present when such meals are furnished.      Sec. 274(k)(1).   In

addition, section 274(d) limits such deductions to those that can

be substantiated by adequate records or other evidence

corroborating the amount of the expenditure, the time and place
                               - 33 -

of the travel, entertainment, etc., the business purpose, and the

business relationship of persons being entertained.

     Petitioner claimed to have logs and other documentary

evidence regarding these claimed expenses, but he did not produce

them or offer them into evidence.   Because of the rigorous

requirements for substantiation for expenses of this variety, his

uncorroborated testimony will not suffice, and we accordingly

sustain respondent’s determination disallowing petitioner’s

travel, entertainment, and related expenses.

     IX.   Dependency and/or Personal Exemptions

     On his 1987 through 1991 returns, petitioner claimed

dependency exemptions for his four children and a personal

exemption for Mrs. Corrigan.   Respondent conceded that petitioner

was entitled to file his returns as head of household for 1987

through 1991, and that petitioner was entitled to dependency

exemptions for David in 1987 through 1989, Erin in 1987 through

1991, Robert in 1987 and 1991, and Amy in 1991.    All other

dependency exemptions and the personal exemptions have not been

conceded and were determined not allowable by respondent.

     Section 151(c) provides for a deduction for each dependent

(as defined in section 152).   A “dependent”, among others, can be

a son or daughter “over half of whose support, for the calendar
                               - 34 -

year in which the taxable year of the taxpayer begins, was

received from the taxpayer (or is treated under subsection (c) or

(e) as received from the taxpayer)”.    Sec. 152(a).

     The circumstances of this case are such that petitioner

provided all the support to his children and Mrs. Corrigan, who

had no source of income and was dependent upon petitioner for the

children’s expenses and those of her horse breeding activity.

During the years in question, petitioner was divorced and Mrs.

Corrigan was awarded custody of the children who had not reached

majority.   Petitioner’s son Robert was 19 in 1988, resided with

petitioner, and attended school for at least 5 months during each

of the years in controversy.   Amy was a minor and resided with

Mrs. Corrigan.

     In addition, Mrs. Corrigan, who had no other source of

income, subscribed to the joint returns in which dependency

exemptions were claimed for all of the children.    This act by

Mrs. Corrigan is tantamount to her consent in allowing petitioner

to claim the exemptions.   These circumstances conform to the

substance of Form 8332, Release of Claim to Exemption for Child

of Divorced or Separated Parents, and meet the requirements for a

noncustodial parent claiming dependency exemptions under section

1.152-4T(a), Q&A-3, Temporary Income Tax Regs., 49 Fed. Reg.
                               - 35 -

34459 (Aug. 31, 1984).   Cf. Miller v. Commissioner, 

,

188-189 (2000), affd. on other grounds sub nom. Lovejoy v.

Commissioner, 

(10th Cir. 2002).

     Accordingly, petitioner is entitled to claim dependency

exemptions for Amy in 1987 through 1991 and for Robert in all

years including 1988, 1989, and 1990 (the years denied by

respondent).

     With respect to Mrs. Corrigan, petitioner is not entitled to

claim a personal or dependency exemption because they were

divorced, and she did not reside in his household.   Secs. 151(b),

152(a)(9).

     X. Negligence Additions to Tax and Accuracy-Related
Penalties

     For 1987 and 1988, respondent determined that petitioner was

liable for an addition to tax for negligence under section

6653(a)(1) equal to 5 percent of the underpayment.   For 1987,

respondent also determined that petitioner was liable under

section 6653(a)(1)(B) for an amount equal to 50 percent of the

interest payable on the portion of the underpayment attributable

to negligence.   For 1989 through 1991, respondent determined that

petitioner was liable for a 20-percent accuracy-related penalty

under section 6662(a) due to negligence or intentional disregard

of the rules or regulations.   The standards and principles
                                 - 36 -

regarding these penalties are substantially similar, and,

accordingly, we combine our discussion of whether respondent’s

determination should be sustained.

     Negligence has been defined as “the lack of due care or the

failure to do what a reasonable and prudent person would do under

similar circumstances.”     Allen v. Commissioner, 

, 353

(9th Cir. 1991), affg. 

(1989); Zmuda v. Commissioner,

, 1422 (9th Cir. 1984), affg. 

(1982).

Negligence includes the “failure to make a reasonable attempt to

comply with the provisions [of the Internal Revenue Code]” and/or

to exercise ordinary and reasonable care in the preparation of a

tax return.   Secs. 6653(a)(3), 6662(c); sec. 1.6662-3(b)(1),

Income Tax Regs.   “Disregard” includes any careless, reckless, or

intentional disregard.    Secs. 6653(a)(3), 6662(c); sec. 1.6662-

3(b)(2), Income Tax Regs.

     The accuracy-related penalty under section 6662 does not

apply with respect to any portion of an underpayment for which

there was reasonable cause and the taxpayer acted in good faith.

Sec. 6664(c)(1).   Whether a taxpayer acted with reasonable cause

depends on the facts and circumstances.     Sec. 1.6664-4(b)(1),

Income Tax Regs.   The most important factor to be considered is

the extent of the taxpayer’s efforts to determine the proper

income tax liability.

1987 and 1988,

section 6653(a)(1) provides that the 5-percent addition to tax
                              - 37 -

applies to the entire underpayment if any part of the

underpayment is due to negligence or disregard of rules or

regulations.

     Respondent contends that petitioner’s failure to maintain

adequate books and records and to provide them to respondent

supports the determination that petitioner was negligent.      See

sec. 1.6662-3(b)(1), Income Tax Regs.    We agree with respondent

that petitioner failed to maintain and to provide respondent or

the Court adequate records with respect to the claimed deductions

in connection with his option trading, travel, entertainment, and

meals.   In addition, respondent contends that petitioner was

negligent in connection with the exclusion of the amount received

in settlement of his relationship with Prudential.    Finally,

negligence has been asserted with respect to petitioner’s

claiming ordinary losses in connection with his option trading.

     With respect to the exclusion of the settlement, petitioner

contends that he relied on his attorney’s advice that the

settlement was for punitive damages.    The attorney’s letter,

however, merely advised petitioner of the characterization of the

settlement, not of the tax consequences.    In addition, the

relevant law for the year in issue provided that punitive damages

were excludable from gross income only if arising from physical

injuries or physical sickness.   Accordingly, it was not
                              - 38 -

reasonable for petitioner to exclude the settlement on the basis

of his attorney’s characterization of the settlement as for

punitive damages.

     With respect to the disallowed deductions, the negligence

penalty or addition to tax applies, and petitioner has not shown

reasonable cause.   His negligence is on the basis of his failure

to maintain records and failure to comply with rules or

regulations.   As to petitioner’s claim of ordinary loss status

for his option trading activity, his business experience as a

stockbroker and educational background placed petitioner in a

position where he knew or should have known that his activity was

not entitled to ordinary loss treatment.   See, e.g., Walker v.

Commissioner, T.C. Memo. 1990-609.

     XI.   Substantial Understatement Liabilities11

     Section 6661, as applicable for 1987 and 1988,12 provides

for a 25-percent addition to tax for substantial understatements

of tax liability.   See Pallottini v. Commissioner, 

,




     11
       Respondent had determined that the fraud penalty applied
for each of the taxable years. As an alternative, respondent
determined that the substantial understatement penalty applied in
each year. Respondent conceded that the fraud penalty does not
apply.
     12
       Sec. 6661 was repealed for years with return due dates
after Dec. 31, 1989, and recodified in sec. 6662.
                              - 39 -

503 (1988).   Section 6662(a) provides for a 20-percent addition

to tax for tax years with return due dates after December 31,

1989.13

     Petitioner bears the burden of showing that respondent’s

imposition of these additions to tax is erroneous.    Rule 142(a);

Tweeddale v. Commissioner, 

, 506 (1989).    Section 7491

is not applicable in this case because the audit of petitioner’s

returns began before July 22, 1998.

     An understatement is “substantial” if the amount of the

understatement for the applicable year exceeds the greater of 10

percent of the tax required to be shown on the return or $5,000.

Sec. 6661(b)(1)(A).   Under section 6661, an “understatement” is

defined as the excess of the tax required to be shown on the

return over the amount of tax that is shown on the return reduced

by any rebate within the meaning of section 6211(b)(2).   Sec.

6661(b)(2)(A).

     The amount of the understatement is reduced by the portion

of the understatement attributable to the tax treatment of any

item if there is or was substantial authority for the treatment,

or if there was adequate disclosure of the relevant facts




     13
       Because the sec. 6662 penalty applies to negligence and
substantial understatements, and we have found that petitioner
was negligent with respect to all improperly reported items, we
need not discuss sec. 6662 any further.
                               - 40 -

affecting the treatment of the item in the return or a statement

attached to it.    See sec. 6661(b)(2)(B); sec. 1.6661-3(a)(1),

Income Tax Regs., T.D. 8017, 1985-1 C.B. 379.

     Petitioner did not file a brief or provide at trial any

authority (substantial or otherwise) regarding any of the

adjustments by respondent for the taxable years under

consideration.    Accordingly, we consider whether petitioner’s

return contained adequate disclosure with respect to any of the

adjustments by respondent.    The adequate disclosure requirement

under the regulations applicable for 1987 and 1988 is that the

disclosure must show, inter alia:    “The facts affecting the tax

treatment of the item (or group of similar items) that reasonably

may be expected to apprise the Internal Revenue Service of the

nature of the potential controversy concerning the tax treatment

of the item (or items).”    Sec. 1.6661-4(b)(1)(iv), Income Tax

Regs., T.D. 8017, 1985-1 C.B. 382.14

     Concerning the claimed ordinary business deductions or

losses from stock trading activity, petitioner reported that he

was in the trade or business of buying and selling options, but




     14
       We decide these items on an item-by-item basis and,
ultimately, the parties’ Rule 155 computation will be necessary
to finally decide whether the threshold for application of the
substantial understatement addition applies in any of the years
under consideration.
                              - 41 -

he was not and he failed to disclose that he was a broker or

dealer in options.   See, e.g., Little v. Commissioner, T.C. Memo.

1993-281, affd. 

(9th Cir. 1997).

     In conjunction with the option trading question, we

allocated between petitioner and Mrs. Corrigan the capital

gains/losses from three separate accounts for 1987, 1990, and

1991.   We note that of the three accounts in question, one was in

petitioner’s name, one in Mrs. Corrigan’s, and one was jointly

held between petitioner and Mrs. Corrigan.   Petitioner and Mrs.

Corrigan (from whom he was divorced at all pertinent times)

attempted to file joint returns for 1987 through 1991.    As a

matter of law, they were not entitled to do so.   Accordingly, we

held that petitioner was not entitled to combine the gains and

losses of the three accounts for reporting purposes.     There was,

however, no disclosure made on the returns indicating that

petitioner and Mrs. Corrigan were divorced or that they were

otherwise justified in filing a joint return.    Likewise, it was

not reasonable to claim joint filing status at a time when

petitioner knew he was divorced.   There was therefore no adequate

disclosure or reasonable cause for the position reported by

petitioner.   We accordingly hold that the substantial

understatement addition is applicable with respect to this

adjustment for 1987.
                              - 42 -

     Next, we consider the brokerage commission rebates that

petitioner failed to include in gross income for 1987 and 1988.

The question we consider with respect to those adjustments is

whether there was adequate disclosure of such reductions from

gross income.   Petitioner disclosed on his returns that he was

reducing his income by the amount of the rebates reflected on the

Forms 1099 he issued and thus adequately disclosed his position.

Accordingly, petitioner is not subject to the substantial

understatement additions to tax for 1987 and 1988 with respect to

the understatement attributable to the rebate determination.

     The adjustment concerning petitioner’s claim that he is

entitled to deduct all of the losses from the horse breeding

activity at JAC Ranch for 1987 through 1991 is one that likewise

was dependent as a threshold matter upon petitioner’s being able

to file a joint return with Mrs. Corrigan.   As already explained,

there was no disclosure on the returns that petitioner and Mrs.

Corrigan were divorced and, therefore, not entitled to file a

joint return.   Likewise, it was not reasonable to claim joint

filing status at a time when petitioner knew he was divorced.

Accordingly, petitioner may be subject to the substantial

understatement additions to tax for 1987 and 1988 as to the

losses claimed from the JAC Ranch.
                              - 43 -

     We have found that petitioner failed to report certain items

of income, including interest and tax refunds.   These amounts

were not disclosed on the return, and it was not reasonable for

petitioner to fail to report these items, especially in light of

the fact that Forms 1099 were issued with respect to them.     We

therefore hold that the substantial understatement addition to

tax may be applicable with respect to these income adjustments

for 1987 and 1988.

     Petitioner claimed various itemized deductions including

mortgage interest, employee expenses, and casualty losses.

Respondent has agreed that petitioner is entitled to mortgage

interest deductions in each year in amounts that are less than

the amount claimed by petitioner.   Respondent also disallowed

casualty losses in 2 years due to failure to exceed the statutory

threshold and failure to substantiate.   Finally, respondent

disallowed petitioner’s claimed employee business expenses for

travel, entertainment, and meals.   With respect to each category,

petitioner failed to substantiate amounts in excess of those

allowed by respondent or failed to adequately substantiate any

amount with respect to the employee business expenses and the

casualty losses.   Petitioner has not shown a reasonable basis or

adequate disclosure for those items, and, accordingly, to the
                             - 44 -

extent that a substantial understatement exists, the addition to

tax or penalty applies with respect to these items for 1987 and

1988.

     As to whether petitioner adequately disclosed or had a

reasonable basis for claiming Mrs. Corrigan’s personal exemption,

it is clear that he did not and that the substantial

understatement penalty may apply for this item for 1987 and 1988.

     To reflect the foregoing,


                                        Decision will be entered

                                   under Rule 155.