Judges: MARVEL
Attorneys: John Allen Hatling and Kathleen Ann Hatling, Pro se. Christina L. Cook and John Schmittdiel , for respondent.
Filed: Oct. 22, 2012
Latest Update: Nov. 21, 2020
Summary: T.C. Memo. 2012-293 UNITED STATES TAX COURT JOHN ALLEN HATLING AND KATHLEEN ANN HATLING, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Docket No. 20709-10. Filed October 22, 2012. John Allen Hatling and Kathleen Ann Hatling, pro sese. Christina L. Cook and John Schmittdiel, for respondent. MEMORANDUM FINDINGS OF FACT AND OPINION MARVEL, Judge: In a notice of deficiency dated June 8, 2010, respondent determined deficiencies in petitioners’ Federal income tax of $15,665, $28,527, $40
Summary: T.C. Memo. 2012-293 UNITED STATES TAX COURT JOHN ALLEN HATLING AND KATHLEEN ANN HATLING, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Docket No. 20709-10. Filed October 22, 2012. John Allen Hatling and Kathleen Ann Hatling, pro sese. Christina L. Cook and John Schmittdiel, for respondent. MEMORANDUM FINDINGS OF FACT AND OPINION MARVEL, Judge: In a notice of deficiency dated June 8, 2010, respondent determined deficiencies in petitioners’ Federal income tax of $15,665, $28,527, $40,..
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T.C. Memo. 2012-293
UNITED STATES TAX COURT
JOHN ALLEN HATLING AND KATHLEEN ANN HATLING, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 20709-10. Filed October 22, 2012.
John Allen Hatling and Kathleen Ann Hatling, pro sese.
Christina L. Cook and John Schmittdiel, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
MARVEL, Judge: In a notice of deficiency dated June 8, 2010, respondent
determined deficiencies in petitioners’ Federal income tax of $15,665, $28,527,
$40,038, and $26,046 for 2001, 2002, 2003, and 2004, respectively. Respondent
-2-
[*2] also determined civil fraud penalties under section 6663(a)1 of $10,245,
$20,852, $30,028, and $15,097 for 2001, 2002, 2003, and 2004, respectively, with
respect to John Allen Hatling. After concessions,2 the sole issue for decision is
whether Mr. Hatling is liable for civil fraud penalties for 2001-03.
FINDINGS OF FACT
Some of the facts have been stipulated and are so found. The stipulation of
facts is incorporated herein by this reference. Petitioners resided in Minnesota when
they filed their petition.
I. Background
Mr. Hatling, a licensed attorney,3 has been practicing law in Minnesota for
approximately 25 years.4 During the years at issue Mr. Hatling operated his own
1
Unless otherwise indicated, section references are to the Internal Revenue
Code (Code) in effect for the years at issue, and Rule references are to the Tax
Court Rules of Practice and Procedure. Some monetary amounts have been rounded
to the nearest dollar.
2
Petitioners concede the deficiencies for 2001-04 as determined by
respondent in the notice of deficiency. Petitioners also concede the sec. 6663(a)
civil fraud penalty for 2004.
3
Mr. Hatling was suspended from the practice of law for a period of 45 days
as a result of his conviction for willfully failing to pay Minnesota State income tax
for 2003. See infra p. 3.
4
Mr. Hatling’s work includes estate planning, and he has attended at least one
seminar covering the representation of clients before the Internal Revenue Service
(continued...)
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[*3] law practice. Kathleen Hatling was not employed outside the home during the
years at issue.
In 2008 Mr. Hatling pleaded guilty to a felony charge for willfully failing to
pay Minnesota State income tax for 2003 in violation of Minnesota law.5 In his
guilty plea Mr. Hatling admitted that his State income tax return included a “claim
of right” deduction and that, because of this claimed deduction, he reported no
income tax owed on his 2003 State return.
II. Petitioners’ Tax Reporting
Mr. Hatling prepared petitioners’ Federal income tax return for each of the
years at issue. Petitioners filed Forms 1040, U.S. Individual Income Tax Return, for
2001-03. On each of their Forms 1040 they reported zero taxable income.
For each year petitioners’ return included a Schedule C, Profit or Loss From
Business, with respect to Mr. Hatling’s law practice. On those Schedules C Mr.
Hatling reported gross receipts of $187,741, $261,448, and $173,278 for 2001,
4
(...continued)
(IRS) and the use of alternative payment options, such as offers-in-compromise.
5
Minn. Stat. Ann. sec. 289A.63(1)(b) (West 2007 & Supp. 2012) provides
that “[a] person required to pay or to collect and remit a tax, who willfully attempts
to evade or defeat a tax law by failing to do so when required, is guilty of a felony.”
-4-
[*4] 2002, and 2003, respectively. Mr. Hatling deducted various business
expenses totaling $185,047, $259,404, and $96,773 for 2001, 2002, and 2003,
respectively. The business expense deductions included other expenses of
$99,308, $116,724, and $39,950 for 2001, 2002, and 2003, respectively. Mr.
Hatling reported Schedule C net profits of $2,694, $2,044, and $924 for 2001,
2002, and 2003, respectively.
Mr. Hatling attached to each of petitioners’ returns a disclosure form--Form
8275, Disclosure Statement, for 2001, and Forms 8275-R, Regulation Disclosure
Statement, for 2002-03. On those Forms 8275 and 8275-R Mr. Hatling explained
that he deducted on his Schedules C expenses of $99,308, $91,726, and $39,950
for 2001, 2002, and 2003, respectively, as claim of right deductions for white
citizens.6 He further explained that the amounts deducted represented
“compensation for personal services actually rendered” pursuant to section
1341(a), that he claimed the deductions on the basis of “a common-law immunity
that renders any money earned from the right of accession immune from taxation”,
and that the Code “defined this immunity as a ‘white citizen’ right”. Although Mr.
Hatling testified he did not believe that there were any available favorable tax
6
In preparing petitioners’ tax returns Mr. Hatling claimed a claim of right
deduction for each year in the amount of gross income that was not offset by
business expense deductions.
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[*5] deductions that were based on race, he claimed these deductions on petitioners’
returns to delay the assessment and payment of petitioners’ correct Federal income
tax liabilities.
III. Notice of Deficiency
On June 8, 2010, respondent issued to petitioners the notice of deficiency for
2001-04. Using the bank deposits method of reconstructing income, respondent
determined that Mr. Hatling failed to report Schedule C gross receipts of $7,131 and
$62,059 for 2001 and 2003, respectively. Respondent also determined that Mr.
Hatling overreported his gross receipts by $1,577 for 2002. Respondent disallowed
$79,540, $143,679, and $32,0047 of Mr. Hatling’s claimed business expense
deductions for 2001, 2002, and 2003, respectively.8
7
For 2003 in addition to disallowing a claimed business expense deduction of
$32,004, respondent also disallowed $2,323 of claimed cost of goods sold.
8
On his 2001 Schedule C Mr. Hatling reported the following as other
expenses: “Education, Professional” expenses of $793, “Contributions” of $150,
“Dues & Subscriptions” of $2,376, “Banking & Credit Charges” of $672, “Legal
Library” expenses of $2,791, “Interest” expenses of $6, “Postage” expenses of
$1,599, “Telephone” expenses of $11,008, and expenses of $79,913 under an entry
entitled “See Line 48 Other Expenses”, for total other expenses of $99,308. On the
2001 Form 8275, however, Mr. Hatling purported to claim a claim of right
deduction of $99,308. In the notice of deficiency respondent determined that only
$79,913 of Mr. Hatling’s claimed other business expenses deduction, rather than the
entire amount, was attributable to his claim of right deduction. Respondent
(continued...)
-6-
[*6] Accordingly, respondent determined that Mr. Hatling had Schedule C net
profits of $89,365, $144,146, and $167,410 for 2001, 2002, and 2003,
respectively.9 Respondent also determined that Mr. Hatling was liable for civil
fraud penalties under section 6663(a) and that underpayments of $13,660, $27,803,
and $40,038 for 2001, 2002, and 2003, respectively, were due to fraud.
8
(...continued)
categorized the remainder, $19,395, as other business expenses and disallowed
$2,539 of this amount.
On his 2002 Schedule C Mr. Hatling reported the following as other
expenses: “Education, Professional” expenses of $897, “Contributions” of $922,
“Dues & Subscriptions” of $2,223, “Banking & Credit Charges” of $688, “Legal
Library” expenses of $6,272, “Interest” expenses of $5,702, “Postage” expenses of
$1,322, “Telephone” expenses of $6,972, and expenses of $91,726 under an entry
entitled “Claim of Right Pursuant to IRC 1341(a)(5)(B) See Form 8275 attached”,
for total other expenses of $116,724. In the notice of deficiency respondent
determined that Mr. Hatling deducted $91,726 as a claim of right deduction.
Respondent categorized the remainder, $24,998, as other business expenses and
disallowed $6,624 of this amount.
On his 2003 Schedule C Mr. Hatling reported other expenses of $39,950
under an entry entitled “Claim of right pursuant to IRC § 1341(a)(5)(B). See Form
8275 attached”. Respondent disallowed the entire amount of the claimed other
expenses Mr. Hatling deducted.
9
For 2001 respondent also determined that petitioners failed to report $2,820
in gross profits from rents and $80 of dividend income. For 2002 respondent also
determined that petitioners failed to report $27,166 in gross profits from rents, $23
of dividend income, and $376 of capital gain. For 2003 respondent also determined
that petitioners failed to report $6,759 in gross profits from rents, $63 of dividend
income, and $159 of capital gain.
-7-
[*7] OPINION
If any part of an underpayment on a return is due to fraud, section 6663(a)
imposes on the taxpayer filing the return a penalty equal to 75% of the part of the
underpayment attributable to fraud. To prove that a taxpayer is liable for the
penalty, the Commissioner must prove by clear and convincing evidence that (1) an
underpayment of tax exists, and (2) some part of the underpayment is attributable to
fraud. See secs. 6663(a), 7454(a); Rule 142(b); DiLeo v. Commissioner,
96 T.C.
858, 873 (1991), aff’d,
959 F.2d 16 (2d Cir. 1992). If the Commissioner proves
that any part of an underpayment is attributable to fraud, then the entire
underpayment shall be treated as attributable to fraud unless the taxpayer shows by
a preponderance of the evidence that a part was not so attributable.10 See sec.
6663(b).
I. Underpayment of Tax
In the notice of deficiency respondent determined deficiencies in
petitioners’ joint 2001, 2002, and 2003 Federal income tax of $15,665, $28,527,
and $40,038, respectively. Petitioners have conceded that they underpaid their tax
by these amounts, and we so find. See Norris v. Commissioner, T.C. Memo.
10
In the case of a joint return the sec. 6663(a) penalty does not apply with
respect to a spouse unless some portion of the underpayment is due to the fraud of
that spouse. See sec. 6663(c).
-8-
[*8] 2011-161, slip op. at 11-12; Payne v. Commissioner, T.C. Memo. 2005-130,
slip op. at 10-11, aff’d, 211 Fed. Appx. 541 (8th Cir. 2007).
II. Fraudulent Intent
A. Introduction
If fraud is determined for multiple taxable years, the Commissioner’s burden
“applies separately for each of the years.” Temple v. Commissioner, T.C. Memo.
2000-337, slip op. at 24-25, aff’d, 62 Fed. Appx. 605 (6th Cir. 2003). The
Commissioner satisfies this burden by showing that “the taxpayer intended to evade
taxes known to be owing by conduct intended to conceal, mislead or otherwise
prevent the collection of taxes.” DiLeo v. Commissioner, 96 T.C. at 874; see also
Morse v. Commissioner,
419 F.3d 829, 832 (8th Cir. 2005), aff’g T.C. Memo.
2003-332. Fraud “does not include negligence, carelessness, misunderstanding or
unintentional understatement of income.” United States v. Pechenik,
236 F.2d 844,
846 (3d Cir. 1956).
The existence of fraud is a question of fact to be resolved upon
consideration of the entire record. See DiLeo v. Commissioner, 96 T.C. at 874.
Fraud is never presumed and must be established by independent evidence of
fraudulent intent. See Baumgardner v. Commissioner,
251 F.2d 311, 322 (9th Cir.
1957), aff’g T.C. Memo. 1956-112. Fraud may be shown by circumstantial
-9-
[*9] evidence because direct evidence of the taxpayer’s fraudulent intent is seldom
available. See Petzoldt v. Commissioner,
92 T.C. 661, 699 (1989); Gajewski v.
Commissioner,
67 T.C. 181, 199-200 (1976), aff’d without published opinion,
578
F.2d 1383 (8th Cir. 1978). The taxpayer’s entire course of conduct may establish
the requisite fraudulent intent. See Stone v. Commissioner,
56 T.C. 213, 223-224
(1971). Any conduct likely to mislead or conceal may constitute an affirmative act
of evasion, see Spies v. United States,
317 U.S. 492, 499 (1943), and an intent to
mislead may be inferred from a pattern of such conduct, see Webb v.
Commissioner,
394 F.2d 366, 379 (5th Cir. 1968), aff’g T.C. Memo. 1966-81.
However, fraud is not proven when a court is left with only a suspicion of fraud, and
even a strong suspicion is not sufficient to establish a taxpayer’s liability for the
fraud penalty. See Olinger v. Commissioner,
234 F.2d 823, 824 (5th Cir. 1956),
aff’g in part, rev’g in part on another ground T.C. Memo. 1955-9; Davis v.
Commissioner,
184 F.2d 86, 87 (10th Cir. 1950); Green v. Commissioner,
66 T.C.
538, 550 (1976).
B. Badges of Fraud
Because it is difficult to prove fraudulent intent by direct evidence, the
Commissioner may establish fraud by circumstantial evidence, which includes
various “badges of fraud” (hereinafter, factors) on which the courts often rely. See
- 10 -
[*10] Bradford v. Commissioner,
796 F.2d 303, 307 (9th Cir. 1986), aff’g T.C.
Memo. 1984-601; DiLeo v. Commissioner, 96 T.C. at 875. These factors focus on
whether the taxpayer engaged in certain conduct that is indicative of fraudulent
intent, such as: (1) understating income; (2) failing to maintain adequate records;
(3) offering implausible or inconsistent explanations; (4) concealing income or
assets; (5) failing to cooperate with tax authorities; (6) engaging in illegal
activities; (7) providing incomplete or misleading information to the taxpayer’s tax
return preparer; (8) offering false or incredible testimony; (9) filing false
documents, including filing false income tax returns; (10) failing to file tax returns;
and (11) engaging in extensive dealings in cash.11 See Bradford v. Commissioner,
796 F.2d at 307-308; Parks v. Commissioner,
94 T.C. 654, 664-665 (1990);
Recklitis v. Commissioner,
91 T.C. 874, 910 (1988); Lipsitz v. Commissioner,
21
T.C. 917 (1954), aff’d,
220 F.2d 871 (4th Cir. 1955); see also Morse v.
Commissioner, T.C. Memo. 2003-332, slip op. at 8-9. The existence of any one
factor is not dispositive, but the existence of several factors is persuasive
circumstantial evidence of fraud. See Niedringhaus v. Commissioner,
99 T.C. 202,
211 (1992); Petzoldt v. Commissioner, 92 T.C. at 700. We may also consider
11
These factors are not exclusive. See Niedringhaus v. Commissioner,
99
T.C. 202, 211 (1992).
- 11 -
[*11] a taxpayer’s intelligence, education, and tax expertise in deciding whether the
taxpayer acted with fraudulent intent. Iley v. Commissioner,
19 T.C. 631, 635
(1952).
Respondent determined that Mr. Hatling’s underpayments of $13,660,
$27,803, and $40,038 for 2001, 2002, and 2003, respectively, were due to fraud.
Respondent contends that Mr. Hatling has admitted his fraudulent intent with
respect to these underpayments by virtue of petitioners’ stipulation that Mr. Hatling
claimed the claim of right deductions on petitioners’ joint returns to delay the
assessment and payment of Federal income tax, despite his knowledge that no claim
of right deduction was available. Mr. Hatling’s testimony corroborated petitioners’
stipulation.
While we give some weight to Mr. Hatling’s stipulation in our analysis, we
do not rely exclusively on the stipulation in deciding whether the fraud penalty
should apply. Respondent also contends that the following factors are present in
this case: (1) Mr. Hatling underreported petitioners’ income for 2001-04; (2) Mr.
Hatling failed to maintain adequate records for 2001-03; and (3) Mr. Hatling filed
false return documents for 2001-03. Additionally, respondent contends that Mr.
Hatling’s conviction for willfully failing to pay Minnesota income tax provides
- 12 -
[*12] evidence of fraud. Because we decide the existence of fraudulent intent on
the basis of the entire record, we analyze each factor below.
1. Understating Income
A pattern of substantially underreporting income for several years is strong
evidence of fraud, particularly if the understatement is not satisfactorily explained or
is not due to innocent mistake. See Holland v. United States,
348 U.S. 121, 137-
139 (1954); Spies, 317 U.S. at 499; Webb v. Commissioner, 394 F.2d at 379;
Kurnick v. Commissioner,
232 F.2d 678, 681 (6th Cir. 1956), aff’g T.C. Memo.
1955-31; Morse v. Commissioner, slip op. at 9. As this Court has stated: “[i]t is
well settled that a fraudulent understatement of income can be accomplished by
means of an overstatement of deductions.” Drobny v. Commissioner,
86 T.C. 1326,
1349 (1986), aff’d,
113 F.3d 670 (7th Cir. 1997); see also Foxworthy, Inc. v.
Commissioner, T.C. Memo. 2009-203, slip op. at 49.
On petitioners’ tax returns for 2001-03 Mr. Hatling reported zero taxable
income. Respondent also introduced into evidence petitioners’ 2004 Federal
income tax return, on which Mr. Hatling reported zero taxable income. Mr. Hatling
underreported petitioners’ taxable income by $38,814, $82,543, $127,788, and
$91,121 for 2001, 2002, 2003, and 2004, respectively.
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[*13] Petitioners contend that Mr. Hatling did not understate petitioners’ income for
the years at issue because he accurately reported gross receipts with respect to his
law practice on the relevant Schedules C. Petitioners correctly contend that Mr.
Hatling reported a substantial portion of the gross receipts reflected on the law
practice’s profit and loss statements for the years at issue.12 However, Mr. Hatling
also claimed significant business expense deductions, including the claim of right
deductions. Mr. Hatling has admitted that he knew he was not entitled to the
deductions he claimed under his claim of right theory and that he claimed the
deductions to delay payment of Federal income tax. Thus the record not only
establishes that Mr. Hatling did not incur expenses to the extent claimed but also
that Mr. Hatling deliberately claimed false deductions to delay payment of his
12
For each of the years at issue the record contains two versions of profit and
loss statements with respect to Mr. Hatling’s law practice: a copy petitioners
provided during the audit process (audit P&L statement) and a copy they provided
during formal discovery (discovery P&L statement). Petitioners reported gross
receipts with respect to Mr. Hatling’s law practice on the documents as follows:
Year Audit P&L statement Discovery P&L statement Return
2001 $187,627 $187,741 $187,741
2002 261,448 146,796 261,448
2003 188,940 191,836 173,278
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[*14] tax.13 In claiming substantial deductions that he knew to be false, Mr.
Hatling deliberately understated petitioners’ income for the years at issue.
Compare Ochs v. Commissioner, T.C. Memo. 1986-595 (finding fraudulent intent
where a taxpayer claimed dependency exemptions for his nonexistent children)
with Porter v. Commissioner, T.C. Memo. 1986-70 (finding no fraudulent intent
13
Petitioners also appear to contend the claim of right deductions were not
fraudulent because the deductions clearly were impermissible and therefore Mr.
Hatling could not have been attempting to conceal his income. We reject
petitioners’ contention for several reasons. First, the Code provides that taxpayers
may deduct from income an amount received under a claim of right. See sec. 1341.
Petitioners have failed to convince us that simply by including the claim of right
deductions on their returns, they disclosed that the deductions they were claiming
were clearly improper. Second, while the U.S. Court of Appeals for the Eighth
Circuit, to which an appeal in this case would lie absent a stipulation to the contrary,
see sec. 7482(b)(1)(A), (2), has not addressed the issue of whether a taxpayer’s
disclosure may preclude a finding of fraudulent intent, at least two other Courts of
Appeals, as well as this Court, have held that disclosure does not preclude a finding
of fraudulent intent, see Edelson v. Commissioner,
829 F.2d 828, 832-833 (9th Cir.
1987), aff’g T.C. Memo. 1986-223; Granado v. Commissioner,
792 F.2d 91, 93-94
(7th Cir. 1986), aff’g T.C. Memo. 1985-237; Price v. Commissioner, T.C. Memo.
1996-204; Cloutier v. Commissioner, T.C. Memo. 1994-558. But see Zell v.
Commissioner,
763 F.2d 1139, 1144 (10th Cir. 1985) (“Clearly, where the taxpayer
has informed the IRS of his refusal to file or to pay, and of the reasons for that
refusal, the government has not been deceived. In addition, the disclosure clearly
negates any intent to deceive.”), aff’g T.C. Memo. 1984-152; Raley v.
Commissioner,
676 F.2d 980, 983-984 (3d Cir. 1982) (holding that a taxpayer did
not act with fraudulent intent because he “went out of his way to inform every
person involved in the collection process that he was not going to pay any federal
income taxes”), rev’g T.C. Memo. 1980-571. Third, petitioners deducted the claim
of right deductions with the intent of underreporting their taxable income and
evading their obligation to pay their proper income tax liabilities when due.
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[*15] where a taxpayer overstated his deductions but introduced sufficient evidence
to show that he incurred substantial deductible expenses).
Accordingly, we find that Mr. Hatling substantially underreported petitioners’
income for 2001-04. Given the substantial amounts underreported, Mr. Hatling’s
pattern of underreporting income, and the lack of any credible explanation for the
underreporting, Mr. Hatling’s understatements are persuasive evidence of fraudulent
intent. See, e.g., Morse v. Commissioner, 419 F.3d at 832.
2. Failing To Maintain Adequate Records
The failure to maintain adequate business records supports a finding of fraud.
See Truesdell v. Commissioner,
89 T.C. 1280, 1302-1303 (1987); see also
Grosshandler v. Commissioner,
75 T.C. 1, 20 (1980). “Inadequate or non-existent
records are also a badge of fraud.” Lollis v. Commissioner,
595 F.2d 1189, 1192
(9th Cir. 1979), aff’g T.C. Memo. 1976-15.
Mrs. Hatling testified that Mr. Hatling and his office manager prepared annual
profit and loss statements for Mr. Hatling’s law practice. The record contains
copies of profit and loss statements with respect to Mr. Hatling’s law practice for
2001-03. The audit P&L statements bear the following dates in the upper left-hand
corner: for 2001, March 25, 2002; for 2002, October 23, 2003; and for 2003,
March 23, 2004.
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[*16] For 2001-03 the amounts of gross receipts shown on the profit and loss
statements closely correspond with the amounts of gross receipts Mr. Hatling
reported on his Schedules C. See supra note 11.14 Additionally, the amounts of
expenses shown on the profit and loss statements closely correspond with the
amounts of other business expenses (other than the claim of right deductions) that
Mr. Hatling reported on his Schedules C. See supra note 7. Respondent allowed a
significant amount of Mr. Hatling’s other business expenses.
The record supports a finding that in the course of operating his law practice
Mr. Hatling maintained records of his business income and expenses. Respondent
has failed to produce sufficient evidence to convince us that Mr. Hatling’s business
records were inadequate. Accordingly, we decline to find that Mr. Hatling failed to
maintain adequate records.
14
With respect to 2002 the gross receipts shown on the audit P&L statement,
$261,448, equal the gross receipts Mr. Hatling reported on the 2002 Schedule C.
However, the gross receipts shown on the discovery P&L statement for 2002 are
$146,796. The difference is attributed to the fact that on the audit P&L statement,
Mr. Halting reported fee income of $261,448, but on the discovery P&L statement,
he reported fee income of only $103,130. Petitioners have not introduced any
evidence to explain this discrepancy. While this discrepancy is suspect, we note
that the audit P&L statement appears accurate and the expense amounts on the
discovery P&L statement are generally consistent with the expense amounts shown
on the audit P&L statement and Mr. Hatling’s Schedule C. Accordingly, this
discrepancy does not compel us to find that petitioners failed to maintain adequate
books and records.
- 17 -
[*17] 3. Filing False Documents
Fraudulent intent may be inferred when a taxpayer files a tax return intending
to conceal, mislead, or prevent the collection of tax. See Spies, 317 U.S. at 499.
Filing false documents with the IRS constitutes “an ‘affirmative act’ of
misrepresentation sufficient to justify the fraud penalty.” Zell v. Commissioner,
763
F.2d 1139, 1146 (10th Cir. 1985), aff’g T.C. Memo. 1984-152; see also Ernle v.
Commissioner, T.C. Memo. 2010-237, slip op. at 9.
Mr. Hatling prepared and filed petitioners’ tax returns for 2001-03. On each
of the Schedules C attached to petitioners returns he claimed a substantial claim of
right deduction. He has admitted that he knew he was not entitled to the claim of
right deductions and that he claimed them to delay the assessment and collection of
petitioners’ Federal income tax. Accordingly, Mr. Hatling’s filing of false income
tax returns supports a finding of fraud.
4. Mr. Hatling’s State Tax Conviction
While a taxpayer’s conviction of a State income tax violation does not, by
itself, establish fraudulent intent, such a conviction provides “evidence of a
propensity to defraud.” Lee v. Commissioner, T.C. Memo. 1995-597; see also
Petzoldt v. Commissioner, 92 T.C. at 701-702. Mr. Hatling pleaded guilty to
willfully attempting to evade or defeat payment of his State income tax for 2003.
- 18 -
[*18] Mr. Hatling’s guilty plea and subsequent conviction supports a finding of
fraud in this case.
III. Conclusion
Respondent has proven by clear and convincing evidence that Mr. Hatling
underpaid his joint tax liabilities for 2001-03. Mr. Hatling’s pattern of understating
income, his filing of false documents, and his State tax conviction, when coupled
with his stipulation and testimony regarding his intention to delay payment of his
Federal income tax, provides clear and convincing evidence that part of the
underpayment for each year was due to Mr. Hatling’s fraud. Therefore, petitioners
bear the burden of showing by a preponderance of the evidence what portion of
each underpayment, if any, is not attributable to fraud. See sec. 6663(b).
Petitioners appear to contend that the portions of the underpayments arising
from Mr. Hatling’s claim of right deductions are not attributable to fraud because
section 1341 provides for a claim of right deduction, and Mr. Hatling claimed the
deductions in good faith. Mr. Hatling testified, however, that he knew the
deductions were impermissible and that, at the time of filing petitioners’ returns, he
expected the IRS to disallow the claim of right deductions and assess petitioners’
tax and appropriate penalties.
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[*19] Given Mr. Hatling’s legal education and experience, we reject petitioners’
argument that Mr. Hatling claimed the claim of right deductions in good faith. We
also note that this Court and other courts have held similar claim of right arguments
to be frivolous and groundless. See Pugh v. Commissioner, T.C. Memo. 2009-138;
Sumter v. United States,
61 Fed. Cl. 517, 523-524 (2004); United States v. Pugh,
717 F. Supp. 2d 271 (E.D.N.Y. 2010). We find that petitioners have failed to
introduce any credible evidence to prove that any specific portion of any
underpayment was not attributable to fraud. The record overwhelmingly establishes
that Mr. Hatling acted with fraudulent intent. Accordingly, we hold that Mr. Hatling
is liable for the section 6663(a) fraud penalties as respondent determined.
We have considered all the other arguments made by the parties, and to the
extent not discussed above, find those arguments to be irrelevant, moot, or without
merit.
To reflect the foregoing,
Decision will be entered for
respondent.