T.C. Memo. 2009-34



                      UNITED STATES TAX COURT



                 GREGORY A. JUNG, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 7341-06.               Filed February 11, 2009.



     Gregory A. Fox, for petitioner.

     Stephen R. Takeuchi, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION

     SWIFT, Judge:   Respondent determined deficiencies, additions

to tax, and fraud penalties relating to petitioner’s Federal

income taxes as follows:
                                 - 2 -
                                   Additions to Tax    Penalties
     Year         Deficiency       Sec. 6651(a)(1)    Sec. 6663(a)

     1999         $55,695                $12,263       $41,772
     2000         148,390                 36,361       111,292
     2001          13,832                  3,560        10,374


     Unless otherwise indicated, all section references are to

the Internal Revenue Code in effect for the years in issue, and

all Rule references are to the Tax Court Rules of Practice and

Procedure.

     After settlement of some issues, the primary issues for

decision are whether funds petitioner received in 1999 and 2000

from trusts, from family members, and from a real estate

management company constitute income to petitioner and whether

petitioner is liable for the section 6663(a) fraud penalties.

For convenience, we set forth separately for each issue our

findings of fact and our analysis, and we first address the fraud

penalties.


Fraud Penalties

                            FINDINGS OF FACT

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

     At the time the petition was filed, petitioner resided in

Florida.

     After graduating from high school, petitioner attended

Tulane University in New Orleans.    During petitioner’s fourth

year of college, petitioner was involved in a car accident and
                                 - 3 -
suffered serious brain trauma.    As a result of the accident,

petitioner occasionally suffers from short- and long-term memory

loss, and occasionally petitioner still relies on family members

to manage some of his personal affairs.    After a year off because

of the accident, petitioner returned to Tulane University, and in

1984 petitioner received a bachelor’s degree in geology.

     After managing restaurants for a number of years, petitioner

entered graduate school, and in 1989 petitioner received a

master’s degree in hotel administration from Florida

International University.   Petitioner then worked as an assistant

manager and manager of several hotels in Florida, Texas, and

Costa Rica.

     In 1997 petitioner began working in Miami as an operations

manager for a large shipping company.    While working for the

shipping company, petitioner became interested in investing in

rental real estate and in trading securities on his own account.

In 1999 petitioner left his job at the shipping company, became a

real estate agent in Tampa, Florida, began investing in real

estate and in the stock market, and began managing rental real

estate.

     During 1999, 2000, and 2001 as a result of his rental real

estate and securities trading activities petitioner realized

substantial income.
                                - 4 -
     With regard to his rental real estate and securities trading

activities, petitioner occasionally received advice from his

parents, his brother, and his supervisor at the real estate

management company where he worked, and petitioner received loans

from his parents and brother.

     Petitioner’s father apparently was a successful business

consultant and worked for a large oil company.    After retiring,

petitioner’s father formed a holding company and established a

family trust to hold and manage family assets.    Petitioner and

his brother were named beneficiaries of the trust petitioner’s

father established.    Petitioner’s brother was an attorney in

Florida.

     In 1999 his supervisor at the real estate management company

where petitioner worked introduced petitioner to Gregory Mayer

(Mayer), an accountant and a promoter of abusive tax avoidance

trusts.    Petitioner hired Mayer to assist with bookkeeping

matters relating to petitioner’s rental real estate and

securities trading activity.    Petitioner also began receiving

advice from Mayer on the formation of tax avoidance trusts and on

the filing of his Federal income tax returns.

     With Mayer’s assistance, on January 4, 2000, petitioner

formed Aladdin Land Trust (ALT), and petitioner transferred to

ALT nominal ownership of three parcels of rental real estate.
                               - 5 -
Petitioner was the sole beneficiary of ALT, and Mayer was the

trustee.

     Mayer explained to petitioner the “section 861 theory” that

was the basis for Mayer’s tax avoidance advice (namely, that most

income derived from sources within the United States by a

resident U.S. citizen was not subject to Federal income taxes).1

On the basis of the section 861 theory, Mayer advised petitioner

that petitioner was not required to report on his Federal income

tax returns any of his income from U.S. sources and that

petitioner owed no taxes for 1999.

     Petitioner discussed the section 861 theory with his father,

his brother, and his supervisor, and they all advised petitioner

against relying on the section 861 theory in filing his 1999

individual Federal income tax return.   Petitioner did not seek

advice from any independent accountants, attorneys, or other

professionals regarding the section 861 theory.

     On March 7, 2001, petitioner late filed his 1999 individual

Federal income tax return, on which he reported zero income and

zero taxes due.   Attached to petitioner’s 1999 individual Federal

income tax return was a statement signed by petitioner stating

that he relied on the section 861 theory in the preparation of

his tax return.


     1
        For a discussion and rejection of Mayer’s sec. 861
theory, see Williams v. Commissioner, 

(2000), and
IRS Notice 2001-40, 2001-1 C.B. 1355.
                              - 6 -
     On audit, petitioner’s 1999 individual Federal income tax

return was referred to respondent’s Frivolous Claims Unit.    On

review, respondent’s audit was expanded to include petitioner’s

2000 and 2001 Federal income taxes as petitioner had not yet

filed tax returns for those years.    On Mayer’s advice, during

respondent’s audit petitioner ignored respondent’s requests for

financial information and documentation relating to his 1999,

2000, and 2001 income.

     Unable to obtain information from petitioner, respondent

issued summonses to third parties requesting bank deposit

records, brokerage statements, and other information relating to

petitioner’s 1999, 2000, and 2001 income.    Using deposit

information relating to petitioner’s bank accounts and sales and

basis information relating to petitioner’s brokerage accounts,

which respondent obtained from third parties, respondent

reconstructed petitioner’s 1999, 2000, and 2001 income using the

bank deposits and cash expenditures methods of proof.

     On January 21, 2003, a meeting was held with petitioner,

petitioner’s brother, Mayer, and respondent’s audit examiner.      At

the meeting, respondent’s audit examiner explained that the

section 861 theory was not valid.    Respondent’s audit examiner

gave to petitioner, to petitioner’s brother, and to Mayer copies

of IRS Notice 2001-40, 2001-1 C.B. 1355, and also copies of

several judicial opinions in which the courts held that the

section 861 theory constituted a frivolous tax-protester
                                - 7 -
argument.    Respondent’s audit examiner also encouraged petitioner

to abandon the section 861 theory, to file a proper amended 1999

Federal income tax return reporting his income and the taxes due

thereon, and to file proper 2000 and 2001 Federal income tax

returns.    At the meeting, petitioner was disruptive and

uncooperative and refused to answer the examiner’s questions.

     Shortly after the above meeting, petitioner’s brother

reviewed the IRS Notice and the judicial opinions given to him

and advised petitioner to terminate his association with Mayer,

to abandon the section 861 theory, and to file proper Federal

income tax returns for 1999, 2000, and 2001.

     On January 27, 2003, petitioner late filed his 2000

individual Federal income tax return on which he reported zero

income and zero taxes due.    Attached to petitioner’s 2000 tax

return was a statement signed by petitioner stating that in

reporting no income he relied on the section 861 theory.

     On February 8, October 7, and October 12, 2004,

respectively, petitioner filed with respondent amended Federal

income tax returns for 1999 and 2000 and an original Federal

income tax return for 2001.    By this time respondent had summoned

third-party records, and respondent had reconstructed

petitioner’s income for 1999, 2000, and 2001.    On these tax

returns petitioner did not use the section 861 theory, but

petitioner did not fully report income relating to his rental

real estate and to his securities trading activities.
                               - 8 -
     In 2004 respondent sought an injunction action against Mayer

for, among other things, preparing abusive tax returns and

promoting sham trusts.   On March 10, 2005, the U.S. District

Court for the Middle District of Florida enjoined Mayer from

preparing frivolous tax returns and representing taxpayers before

the Commissioner.   Mayer discontinued representing petitioner,

but Mayer recommended that petitioner retain Joe Izen (Izen),

Mayer’s attorney.   Petitioner consulted with Izen, who advised

petitioner not to give up on the section 861 theory and to ignore

respondent’s requests for information.

     On January 10, 2006, respondent mailed to petitioner a

notice of deficiency in which respondent determined that

petitioner had substantially underreported his income and that

petitioner had deficiencies in his 1999, 2000, and 2001 Federal

income taxes of $55,695, $148,390, and $13,832, respectively.

Respondent also determined that the underpayments were due to

petitioner’s fraud and therefore that petitioner was liable for

the section 6663(a) 75-percent civil fraud penalty on the entire

deficiency for each year.

     The schedule below reflects the various income and expense

adjustments which respondent made in the notice of deficiency and

which petitioner and respondent now agree to:
                                  - 9 -

                     Agreed Adjustments             Total Increase
 Year             Income/Expense        Amount      in P’s Income

 1999         Rental income            $19,203
              Other income              19,042
              Capital gain income       40,220
              Miscellaneous expenses   (19,256)         $59,209

 2000         Rental income             12,683
              Capital gain income      128,531
              Miscellaneous expenses    35,398          176,612

 2001         Rental income             15,431
              Other income              36,594
              Dividend/wage income       2,894
              Miscellaneous expenses   (18,358)          36,561


        The next schedule below reflects the adjustments respondent

made to petitioner’s reported income for 1999 and 2000 which

remain in dispute:2

                                                     Increase to
 Year               Disputed Adjustments             P’s Income

 1999              Distribution from trust            $110,000
                   Other income                          2,500

 2000              Distribution from trust              79,541
                   Other income                        190,384


                                 OPINION

        Under section 6663(a), where the Commissioner establishes

that an underpayment of tax, or a portion thereof, required to be

shown on a return is attributable to the taxpayer’s fraud, the

Commissioner may add to the tax a penalty equal to 75 percent of

the underpayment.      To prove a taxpayer’s fraud, respondent has


        2
            No income adjustments remain in dispute for 2001.
                               - 10 -
the burden of establishing by clear and convincing evidence both

the existence of an underpayment and the taxpayer’s fraudulent

intent.    Sec. 7454(a); Rule 142(b); Korecky v. Commissioner, 

, 1568 (11th Cir. 1986), affg. T.C. Memo. 1985-63; Parks

v. Commissioner, 

, 660-661 (1990).

     If respondent establishes by clear and convincing evidence

that any portion of an underpayment is attributable to fraud, the

entire underpayment for a year is to be treated as attributable

to fraud, except with respect to so much of the underpayment as

results from adjustments which the taxpayer establishes by a

preponderance of the evidence is not attributable to fraud.      Sec.

6663(b).    As stated, respondent contends that the 75-percent

civil fraud penalty should apply to all of the positive

adjustments to petitioner’s income.

     Fraudulent intent is defined as “‘actual, intentional

wrongdoing, and the intent required is the specific purpose to

evade a tax believed to be owing.’”     Estate of Temple v.

Commissioner, 

, 159 (1976) (quoting Mitchell v.

Commissioner 

, 310 (5th Cir. 1941), revg. 

(1939)).

     Whether petitioner’s fraudulent intent has been established

is to be analyzed on the basis of all of the facts and

circumstances in evidence, Korecky v. Commissioner, supra at

1568, including petitioner’s experience and education,
                             - 11 -
Niedringhaus v. Commissioner, 

, 211 (1992),

Grosshandler v. Commissioner, 

, 19-20 (1980).

     Courts have developed several objective “badges” of fraud,

of which three are particularly relevant in this case:

(1) Substantial understatements of income; (2) failure to

maintain or submit adequate books and records; and (3) failure to

cooperate with tax authorities.   Bradford v. Commissioner, 

, 307-308 (9th Cir. 1986), affg. T.C. Memo. 1984-601;

Clayton v. Commissioner, 

, 647 (1994).

     Petitioner now agrees that he underreported his income and

his tax liabilities for 1999, 2000, and 2001.   Thus, to sustain

fraud in this case, we need only decide whether petitioner’s

underpayments were due to fraudulent intent.

     Petitioner claims that it was the advice and influence of

Mayer and petitioner’s impaired memory and judgment, rather than

fraudulent intent, that caused petitioner to rely on the section

861 theory, to file zero returns for 1999 and 2000, and to

underreport his income and his tax liabilities.   Petitioner also

claims that because he did not file a zero return for 2001, he

did not fraudulently underreport his tax liability for 2001.

     With respect to petitioner’s 1999, 2000, and 2001 individual

Federal income tax returns, the evidence establishes petitioner’s

fraudulent intent.

     Certainly petitioner’s college accident may have impaired

his cognitive abilities and judgment.   However, after the
                              - 12 -
accident, petitioner earned a bachelor’s degree in geology and a

master’s degree in hotel administration, was a manager at hotels,

restaurants, and a shipping company, and conducted sophisticated

business activities, such as owning and managing rental real

estate and trading securities.   Petitioner has not submitted

medical or other documentation showing that during any of the

years pertinent to this case he suffered from a medical condition

which in any substantial way affected his judgment.

     At the time he filed his 1999 and 2000 zero tax returns,

petitioner was aware of his obligation to report and to pay taxes

on his income.   At the January 21, 2003, meeting, respondent’s

audit examiner informed petitioner that the section 861 theory

was frivolous, warned petitioner of the consequences of filing

frivolous tax returns, and provided petitioner with the

opportunity to avoid those consequences by submitting to

respondent information relating to his actual income for 1999.

Petitioner appears to have ignored the advice of respondent, his

father, his brother (an attorney), and his supervisor, and he

also failed to seek the advice of an independent accountant,

attorney, or other professional.

     On audit petitioner was uncooperative, and petitioner

ignored respondent’s telephone and letter requests for records

and financial information relating to 1999, 2000, and 2001.

     Further, the statements attached to petitioner’s 1999 and

2000 zero Federal income tax returns do not disclose wage and
                             - 13 -
income information relating to petitioner’s employment and other

income-producing activity for 1999 and 2000.

     Although petitioner in 2004 filed amended returns for 1999

and 2000 and an original return for 2001 reporting some of his

income in each year, petitioner did so only after respondent’s

audit, examination, and repeated notices, warnings, and requests.

     We conclude that petitioner’s agreed understatements of

income of $59,209, $176,612, and $36,561 for 1999, 2000, and

2001, respectively, and the underpayments of tax relating

thereto, are attributable to petitioner’s fraudulent intent.


Disputed Adjustments

                        FINDINGS OF FACT

     With regard to respondent’s positive $110,000 adjustment for

1999 relating to a distribution from a trust, on December 16,

1999, petitioner’s mother gave him a $10,000 gift.    On

December 17, 1999, petitioner’s parents lent ALT $100,000,

secured by a mortgage note dated December 22, 1999.    As evidence

of the $10,000 gift and the $100,000 loan, petitioner submitted a

$10,000 canceled check dated December 17, 1999, from his parents

to him, a canceled $100,000 check dated December 17, 1999, from

his parents to ALT, and a mortgage note dated December 22, 1999,

reflecting ALT’s $100,000 debt obligation in favor of his

parents.
                              - 14 -
     With regard to respondent’s $2,500 adjustment for 1999

relating to other income, in 1999 petitioner’s brother repaid to

petitioner a $2,500 loan petitioner had made to his brother.

This loan repayment was verified by 1999 bank statements

reflecting two check deposits totaling $2,500 from petitioner’s

brother.

     With regard to the $79,541 petitioner received in 2000 from

his father’s trust, the evidence indicates that on October 6,

2000, his father lent $79,541 nominally to ALT.   The loan was

verified by a $79,541 canceled check dated October 6, 2000, from

petitioner’s father’s trust nominally to ALT and a letter dated

November 8, 2000, from petitioner’s father to petitioner

describing the loan.   On September 2, 2005, petitioner repaid his

father the $79,541 loan.

     With regard to respondent’s $190,384 adjustment for 2000

relating to other income, on February 29, 2000, and on October 4,

2000, petitioner’s parents lent nominally to ALT $18,500 and

$81,469, respectively.   These loans were verified by an $18,500

canceled check dated February 29, 2000, from petitioner’s parents

nominally to ALT, by bank statements for 2000 reflecting a wire

transfer of $81,469 from petitioner’s father nominally to ALT,

and by the above November 8, 2000, letter from petitioner’s

father to petitioner describing the loans.   It is unclear from

the record whether petitioner repaid his father the February 29,
                              - 15 -
2000, $18,500 loan, but on September 2, 2005, petitioner repaid

his father the October 4, 2000, $81,469 loan.

     Also, in 2000 petitioner made a $50,000 deposit on the

purchase of a property owned by the real estate management

company at which he worked, and on April 28, 2000, the real

estate management company returned to petitioner the $50,000

deposit.   The April 28, 2000, return of petitioner’s $50,000

deposit was verified by a $50,000 canceled check dated April 28,

2000, from the real estate management company to petitioner.


                              OPINION

     Generally, as to the proper calculation of a taxpayer’s

income, the taxpayer bears the burden of proof, and the

Commissioner’s determination of a taxpayer’s income and tax

liabilities are entitled to a presumption of correctness.    Rule

142(a); Welch v. Helvering, 

, 115 (1933); Feldman v.

Commissioner, 

, 1132 (11th Cir. 1994), affg. T.C.

Memo. 1993-17.3

     Petitioner has met his burden of proof with regard to the

two disputed adjustments for 1999.     We conclude that the $110,000

and the $2,500 do not constitute income to petitioner, and we




     3
        Because we find that petitioner failed to adequately
cooperate with respondent’s reasonable requests for information
relating to petitioner’s income for 1999, 2000, and 2001,
petitioner does not qualify for a shift in the burden of proof
under sec. 7491(a).
                             - 16 -
disallow respondent’s positive 1999 income adjustments relating

thereto.

     Petitioner also has met his burden of proof with regard to

the nontaxable nature of the $79,541 received from his father’s

trust and with regard to $149,969 of the total $190,384 other

income in dispute ($18,500 and $81,469 loans from petitioner’s

parents and $50,000 deposit refund equals $149,969).   We conclude

that the $79,541 disputed adjustment and $149,969 of the other

income disputed adjustment for 2000 do not constitute income to

petitioner.

     However, petitioner has not submitted evidence, and

therefore has not met his burden of proof, with regard to the

remaining $40,415 of the other income disputed adjustment for

2000, and we sustain a $40,415 increase in petitioner’s other

income for 2000.

     As stated, because of petitioner’s failure to meet his

burden of proof under section 6663(b) as to the nonfraudulent

nature of the adjustments we sustain, the fraud penalty also

attaches thereto.

     To reflect the foregoing,


                                      Decision will be entered

                                 under Rule 155.