T.C. Memo. 2020-70



                   UNITED STATES TAX COURT



DANIEL E. LARKIN AND CHRISTINE L. LARKIN, Petitioners v.
  COMMISSIONER OF INTERNAL REVENUE, Respondent



Docket No. 6345-14.                           Filed May 28, 2020.



       In 2008, 2009, and 2010 Ps, an attorney and a homemaker who
were U.S. nonresident citizens, owned interests in various entities and
real properties in the United States and Europe. Ps’ joint Federal
income tax returns for 2008, 2009, and 2010 claimed Schedule A
deductions, Schedule E losses, self-employed health insurance
deductions, and foreign tax credits.

       By notice of deficiency issued in 2013, R disallowed some of
Ps’ deductions and Schedule E losses, and the foreign tax credits. R
also determined that Ps are liable for accuracy-related penalties and
additions to tax.

     Held: Ps failed to substantiate their Schedule A deductions
beyond the amounts that R already allowed.

       Held, further, Ps do not qualify as real estate professionals and
are therefore prohibited from deducting their Schedule E rental real
estate losses after the passive activity loss limitation.
                                         -2-

[*2]         Held, further, Ps are not entitled to the additional self-
       employed health insurance deductions beyond the amounts that R
       allowed for 2009 and 2010.

             Held, further, Ps are not entitled to a foreign tax credit
       carryover to 2009.

              Held, further, Ps are liable for the I.R.C. sec. 6662(a)
       accuracy-related penalties for 2009 and 2010 and are liable for the
       addition to tax under I.R.C. sec. 6651(a)(1) for 2008, 2009, and 2010.



       Gerald Edward Kubasiak, Steven J. Rotunno, and Daniel F. Cullen, for

petitioners.

       Mayah Solh-Cade, for respondent.



               MEMORANDUM FINDINGS OF FACT AND OPINION


       GUSTAFSON, Judge: The Internal Revenue Service (“IRS”) issued to

petitioners, Daniel E. Larkin and Christine L. Larkin, a statutory notice of

deficiency (“SNOD”) pursuant to section 62121 on November 15, 2013, for the

Larkins’ 2008, 2009, and 2010 tax years. This case arises from the Larkins’


       1
       Unless otherwise indicated, all citations of sections refer to the Internal
Revenue Code of 1986 (26 U.S.C.; “the Code”), as amended as in effect at all
relevant times, and all Rule references are to the Tax Court Rules of Practice and
Procedure. Dollar amounts are rounded to the nearest dollar.
                                         -3-

[*3] timely petition pursuant to section 6213 for redetermination of the

deficiencies, additions to tax, and accuracy-related penalties2 determined by the

IRS. After stipulations and concessions by the parties, the issues for decision are:

      (1) whether the Larkins are entitled to additional itemized deductions

claimed on Schedule A, “Itemized Deductions”, for the years at issue (we hold that

they are not);

      (2) whether the Larkins are entitled to a rental real estate loss deduction

claimed on Schedule E, “Supplemental Income and Loss”, after passive limitation,

for the years at issue (we hold that they are not);

      (3) whether the Larkins are entitled to additional self-employed health

insurance deductions for tax years 2009 and 2010 (we hold that they are not);

      (4) whether the Larkins are entitled to a foreign tax credit (“FTC”) (or to an

FTC carryover) for 2009 (we hold that they are not);

      (5) whether the Larkins are liable for additions to tax pursuant to

section 6651(a)(1) for the years at issue (we hold that they are); and




      2
       The SNOD determined the accuracy-related penalties on alternative
grounds; but the Commissioner has conceded all such grounds except negligence
under section 6662(a) and (b)(1), so we do not further discuss the alternative
grounds.
                                           -4-

[*4] (6) whether the Larkins are liable for accuracy-related penalties pursuant to

section 6662(a) for the years at issue (we hold that they are not liable for 2008 but

that they are liable for 2009 and 2010).

                               FINDINGS OF FACT

      At the time they filed their petition, Mr. and Mrs. Larkin resided in Surrey,

England, in the United Kingdom (“U.K.”). The Larkins were married U.S. citizens

and resided in England at all times during the relevant years.

Daniel E. Larkin

      Mr. Larkin is a highly educated attorney with more than 20 years’

experience dealing in a variety of complex transactional matters. For all relevant

years, Mr. Larkin was a partner at Squire, Sanders & Dempsey, LLP (“SSD”),

which was based in Cleveland, Ohio. He previously worked for

PricewaterhouseCoopers LLP and at the time of trial was employed by another

multinational law firm. Mr. Larkin testified that he advises institutional clients on

legal and financial matters.

Christine L. Larkin

      Mrs. Larkin is a “homemaker”, as the Larkins reported on their income tax

returns. The Larkins claim that Mrs. Larkin is a real estate professional (for the

purposes of qualifying for Schedule E rental real estate deductions), but we find
                                           -5-

[*5] that in the years at issue Mrs. Larkin did not spend as much as 750 hours per

year in real property trades or businesses.

Mr. Larkin’s U.K. income

      In each of the years at issue, Mr. Larkin received from SSD guaranteed

payments and a distributive share of ordinary income, which constituted most of

the Larkins’ income. We are unable to find that, as of 2008, Mr. Larkin had paid

U.K. income tax in prior years for which an FTC had not been allowed that might

be carried over into the years at issue.

Home mortgage interest

      In 2001 the Larkins purchased a plot of land in the outskirts of London.

They divided it into two lots and built their residence on one of them. (The second

lot is discussed below.) In the years at issue, the Larkins still owned that house in

England and paid interest on a mortgage loan secured by that house, for which the

balance due in 2008 was $2,432,152. In 2008 they paid mortgage interest of

$24,270 (an amount reported by third-party payees and allowed by the IRS as a

Schedule A deduction). On their 2009 return the Larkins reported mortgage

interest of $17,000, which the IRS allowed as a Schedule A deduction along with

an additional $7,223, totaling $24,223 (presumably reported by third-party

payees). Despite the Larkins’ contentions that they could deduct additional
                                          -6-

[*6] mortgage interest paid in 2008, 2009 and 2010, the amounts for 2008 and

2009 are not at issue. We find that they have not substantiated additional

mortgage interest payments in 2010.

Real estate interests

        The Larkins assert that during the relevant period, they maintained

ownership interests in four properties as part of a rental real estate activity:

        Denton Homes lot. The second of the two lots outside London that the

Larkins acquired in 2001 is referred to as the “Denton Homes lot”. They sold it to

a developer in 2007. We find that in the years at issue they did not retain an

interest in, nor conduct any substantial activity in connection with, the Denton

Homes lot.

        Belmont property. In 2007 the Larkins purchased a condominium

apartment in Chicago that they refer to as “the Belmont property”. The Larkins’

daughters lived at the Belmont property during at least some part of the years at

issue. We do not find that any paying tenants lived at the Belmont property during

these years or that the Larkins owned any interest in the Belmont property after

2008.

        France property. The Larkins allege that during the years at issue they co-

owned a property in France along with Mrs. Larkin’s sister and brother that they
                                        -7-

[*7] periodically rented to third parties as a large vacation home. In the absence of

proof, we find that they did not establish that they owned such a property.

      Lake house. The Larkins consider a house in Wisconsin (“the lake house”)

to be their “second home”. They purchased the lake house along with another

couple, and the two couples own their interests indirectly through Treetops LLC,

an entity that they formed to purchase and hold the lake house, the sole asset of

Treetops LLC. The Larkins owned their share of Treetops LLC through another

entity, Larmodt LLC. During 2009 and 2010, the Larkins each owned 35%--

totaling 70%--of Larmodt LLC,3 and two of the Larkins’ daughters each owned

10% of Larmodt LLC. (The evidence does not show who owned the remaining

10% or whether that owner was an individual.) In 2008 Larmodt LLC owned 50%

of Treetops LLC, but we have no evidence as to the Larkins’ precise equity




      3
       The evidence of the ownership of Larmodt LLC is its Schedules K-1,
“Partner’s Share of Income, Deductions, Credits, etc.”, for 2009 and 2010, though
the record does not contain Schedules K-1 sufficient to account for 100% of
Larmodt LLC’s ownership for either of these years. No 2008 Schedules K-1 for
Larmodt LLC are in evidence. (In their prior case, “[t]he record does not further
identify Larmodt, L.L.C., or its owners”, Larkin v. Commissioner (“Larkin I”),
T.C. Memo. 2017-54, at *26 n.19, aff’d in part, rev’d in part, Larkin v.
Commissioner (“Larkin II”), No. 17-1252, 

(D.C. Cir. Apr. 21,
2020), but we decide this case on its own evidence.)
                                       -8-

[*8] interest in Larmodt LLC.4 We find that the lake house was not rented out

during any of the years at issue.

Investment interest

      In the SNOD the IRS conceded that the Larkins paid deductible investment

interest in the years at issue--$6,310 in 2008, $5,278 in 2009, and $6,150 in 2010--

and the parties have stipulated that “the Schedule A--Investment Interest already

      4
        The evidence of the ownership of Treetops LLC is the Schedule K-1 for
2008 issued by Treetops LLC to Larmodt LLC reflecting a 50% equity interest.
(In Larkin I we found that in the years 2003-06 the Larkins’ equity interest in
Treetops LLC was 65%, see Larkin I, at *8-*9, but our opinion in this case
involves different years and is based on different evidence.) In Larkin I there was
no evidence about the ownership of Larmodt LLC or the assets it owned, and we
determined that Treetops LLC was a “small partnership” within the meaning of
section 6231(a)(1)(B) because the record established that it had at most two
partners (each married couple treated as a single partner). Therefore items on the
Schedules K-1 for Treetops LLC in Larkin I were subject to redetermination in
that case rather than requiring partnership-level proceedings under the unified
audit and litigation procedures of the Tax Equity and Fiscal Responsibility Act of
1982 (“TEFRA”). See

For the years now at issue it appears that
Treetops LLC was not a “small partnership” within the meaning of section
6231(a)(1)(B) because one of its owners, Larmodt LLC, was not “an individual
(other than a nonresident alien), a C corporation, or an estate of a deceased
partner.” The evidence is insufficient to determine whether Larmodt LLC itself
would be subject to TEFRA; it shows that 90% of Larmodt LLC was owned by
individuals in the Larkin family, but for all we know the owner of the remaining
10% was a nonresident alien, a partnership, or an LLC, in which case Larmodt
LLC, too, was not a “small partnership” but was instead subject to TEFRA. We
accept the status and ownership of Larmodt LLC and Treetops LLC as shown by
the Schedules K-1; we assume correct the Larkins’ allegations about ownership of
the LLCs where Schedules K-1 are missing; and we do not attempt to redetermine
any partnership items in this proceeding.
                                          -9-

[*9] allowed on the notice of deficiency, in the amounts of $5,278 and $6,150, for

tax years 2009 and 2010, respectively, was from Larmodt, LLC”. We do not

disturb the IRS’s concessions in the SNOD. We find that the Larkins have not

substantiated additional amounts of investment interest that they allege they paid

to four other entities in 2009 and 2010. (Investment interest is not at issue for

2008. See infra part I.B.1.)

State income tax and personal property tax

      Mr. Larkin’s law firm SSD withheld and paid over State and local income

tax for Mr. Larkin in amounts no greater than $7,136 for 2008, $6,015 for 2010,

and $2,305 for 2010. The Larkins also paid $300 in personal property tax in 2009.

Real estate tax

      For 2009 and 2010 the Larkins did not prove that they paid--and we find

that they did not pay--any additional amounts of income tax or property tax. (Real

estate tax is not at issue for 2008. See infra part I.B.1.)

Self-employed health insurance

      The Larkins purchased health insurance for themselves in 2008 (which is

not in dispute), 2009, and 2010. For their health insurance premiums, the parties

have stipulated that “[p]etitioners are entitled to Self-Employed Health Insurance

deductions limited to the amount of $15,511 for tax year 2008.” For the
                                        - 10 -

[*10] subsequent years, we find that the Larkins paid no more than $7,178 in 2009

and $2,192 in 2010.

Tax returns

      Mr. Larkin himself prepared petitioners’ joint Forms 1040, “U.S. Individual

Income Tax Return”, for the years at issue.

      2008 Form 1040

      The Larkins requested and were granted an extension to file their 2008 tax

return on or before December 15, 2009, but failed to file the 2008 return by the

extended deadline. The IRS received third-party information regarding the

Larkins’ income for 2008 and filed a substitute for return (“SFR”) on June 14,

2011. (The 2008 SFR is not in the record; however, the Larkins never contested

its existence or validity.) The adjustments in the SNOD for 2008 are based in part

on the SFR.

      An FTC was claimed on the Form 1040 that Mr. Larkin prepared (but did

not file) for 2008. (No FTC is at issue for 2008, see infra part I.B.3, but the

Larkins’ 2008 reporting is relevant to their claim of an FTC carryover into 2009.)

The Form 1116, “Foreign Tax Credit”, for 2008 showed that the Larkins’ claim of

an FTC of $16,785, of which $578 was credited against their tax for 2008, was
                                        - 11 -

[*11] based on a “carryback or carryover”, but a detailed computation of the

carried FTC was not attached to the form.

      Mr. Larkin prepared a Form 1040 for 2008 and submitted it to a revenue

agent on August 23, 2012. It appears that the Commissioner considered some of

the information from that Form 1040 in preparing the SNOD. However, we find

(as the Commissioner contends) that the Larkins did not file a return for 2008. See

infra part VII.A.

      2009 return

      The Larkins requested and were granted an extension to file their 2009 tax

return on or before October 15, 2010. The Larkins filed their 2009 tax return more

than a year late on November 8, 2011.

      The Larkins claimed an FTC sufficient to cover their U.S. income tax due

on their return for 2009. Mr. Larkin attached to the Form 1040 a Form 1116,

claiming an FTC “carryback or carryover” of $16,307, of which $4,014 was

applied against their tax for 2009. But a detailed computation of the carried FTC

was not attached.

      The IRS found that the Larkins’ self-prepared 2009 return contained

mathematical errors and claims of credits exceeding those allowed by the Code.

The IRS adjusted the totals of income and tax as reported on the returns, resulting
                                         - 12 -

[*12] in a correct adjusted gross income of $160,869 and taxable income of

$54,471, assessed tax of zero after application of a reported foreign tax credit, and

issued the Larkins a refund of $140 for tax year 2009.

        2010 return

        The Larkins requested and were granted an extension to file their 2010 tax

return on or before October 15, 2011, which was a Saturday, so that the return

would have been timely if filed Monday, October 17, 2011. The Larkins did not

meet this deadline but filed their 2010 return almost a month late on November 16,

2011.

        The IRS found that the Larkins’ self-prepared 2010 return contained

mathematical errors and claims of credits exceeding those allowed by the Code.

The IRS adjusted the totals of income and tax as reported on the return, resulting

in an adjusted gross income of $64,955, taxable income of zero, and an

overpayment of tax of $2,356 for 2010.

The Larkins’ record-keeping

        Mr. Larkin took responsibility for the Larkins’ tax return preparation, which

included consulting with tax professionals at his various places of work--in this

case, SSD. His testimony suggested that he could back up the positions taken on

the Larkins’ returns by, inter alia, tracing alleged investment interest to specific
                                        - 13 -

[*13] eligible investments proffered in his exhibits and pointing to specific items

in the proffered exhibits, such as the Schedules K-1, which would supposedly

explain the figures reported on the returns. However, when pressed, he was

unable to explain reporting positions he had taken on the returns. Many of the

exhibits the Larkins have offered are standard tax forms that are used to prepare

income tax returns (i.e., information returns such as the Schedules K-1 for their

interests in various closely held entities), and yet many of these documents are

incomplete and fail to fully support the extent of the Larkins’ claimed ownership

in a given year or the continuity of ownership over the course of the years at issue.

Records that the Larkins have submitted to substantiate payment of expenses for

which they claim deductions, such as credit card statements, do not segregate

deductible expenses from those that are not deductible. Despite the Larkins’

assertion that they engaged in significant rental real estate activity, they have

submitted not one document evidencing a contract for rental or lease of any of

their properties to a third party. The only lease the Larkins offered into evidence

showed Mr. Larkin as lessee and was admitted in support of their claim for a

housing exclusion. Overall, there is a dearth of records to support the Larkins’

disputed return positions.
                                            - 14 -

[*14] The Larkins imply nonetheless that such records exist, asserting that “they

were never submitted to the IRS because they were not requested”. This

explanation is not a valid excuse for their failure to substantiate their deductible

expenses at trial, as we explain below in part I.C.2.

SNOD and petition

      The IRS conducted an examination for the Larkins’ years 2008, 2009, and

2010. Revenue Agent Sabrina Thorne determined to disallow the deductions

discussed herein. In addition, she initially determined that accuracy-related

penalties should be asserted “under IRC 6662(c)”, i.e., for “negligence”; and her

immediate supervisor approved her penalty determination in writing on

January 15, 2013. Ten months later the IRS issued the SNOD on November 15,

2013, disallowing deductions and determining additions to tax and accuracy-

related penalties for all years at issue.

      Mr. and Mrs. Larkin timely filed their petition on March 19, 2014.

Pretrial proceedings

      Trial was scheduled for January 5, 2015. At the Larkins’ request the case

was continued, and trial was rescheduled for June 1, 2015. The Larkins again

requested a continuance, their request was granted, and trial was rescheduled for

October 19, 2015--nine months after the originally scheduled trial date in January
                                          - 15 -

[*15] 2015, 17 months after the Larkins filed their petition in March 2014,

23 months after the issuance of the SNOD in November 2013, and almost four

years after the Larkins’ filing of the return for the latest year at issue (i.e., the 2010

return filed in November 2011).

      We issued our standing pretrial order on May 19, 2015. That order required

each of the parties to file a pretrial memorandum. The Larkins did not do so, but

the Commissioner did.

      On October 13, 2015, the Court held a telephone conference with

respondent’s counsel and the Larkins (who at that time represented themselves).

During that conference Mr. Larkin requested a third continuance. The Court

pointed out to him that he was making that request less than 30 days before the

trial session, which under Rule 133 is presumptively dilatory. The Court stated

that it saw no grounds warranting a continuance and denied the request.

      The Larkins did not appear personally at the calendar call on October 19,

2015, but sent a newly retained attorney (who said he was not available to try the

case that week) to appear for them and move for another continuance. We denied

the continuance and scheduled the case for trial the next day, on October 20, 2015.

      At the Larkins’ counsel’s request we recalled the case in the afternoon of

October 19, 2015. The new counsel who had appeared that morning moved to
                                         - 16 -

[*16] withdraw from the case (a motion we granted), and newer counsel filed an

entry of appearance and again moved for a continuance. We denied the motion

and tried the case as scheduled.

The Larkins’ motions to supplement the record

      At the conclusion of trial, petitioners’ counsel requested that the Court leave

the trial record open for 30 to 45 days so that the Larkins could add to the trial

record additional exhibits they hoped to be able to find. The Court stated:

      I’m going to deny your very broad motion to leave the record open so
      that you can bring in anything that relates to any deduction already at
      issue in the case.

              However, I am going to do so without prejudice to your
      renewing that motion when you have specific documents that you
      wish to offer. * * * You are free to file whatever motion you wish.
      I will tell you that a motion filed after 45 days [i.e., after December 4,
      2015], when Respondent[’s counsel] begins to work on her brief and
      invests time in it, and then you would be changing the ground
      underneath her, that would not be just.

On December 2, 2015, the Larkins moved to supplement the record with

additional documents, and the Commissioner did not object. The Court deferred

the parties’ filing of post-trial briefs so that they could attempt additional

stipulations, which they filed June 6 and July 27, 2016, and which rendered moot

the Larkins’ motion to supplement the record.
                                       - 17 -

[*17] The Court directed the parties to propose a briefing schedule as to the

remaining issues, but on August 3, 2016--more than nine months after the

conclusion of the trial--the Larkins filed a second motion to supplement the trial

record, to which the Commissioner objected; but at the Court’s instruction the

parties attempted and were able to file a second supplemental stipulation of facts

that rendered moot the Larkins’ second motion (to the extent they did not concede

the motion). The Court denied as moot or as conceded the two motions to

supplement, and the Court then set a briefing schedule, calling for an opening brief

by the Larkins, an answering brief by the Commissioner, and a reply brief by the

Larkins.

      However, when the Larkins filed their reply brief on April 28, 2017, they

also filed on that same date--more than 18 months after the conclusion of trial--a

third motion to supplement the record with proposed exhibits (not admitted at trial

or thereafter) that they cited in their reply brief. The Commissioner objected to the

third motion and moved to strike from the Larkins’ reply brief all references to the

proposed new exhibits. For the reasons explained below in part I.D, we will deny

the Larkins’ third motion to supplement the record and will grant the

Commissioner’s motion to strike.
                                         - 18 -

[*18] Graev v. Commissioner

      On December 20, 2017, after the parties had filed their briefs in this case,

this Court issued its Opinion in Graev v. Commissioner, 

(2017),

supplementing and overruling in part 

(2016), addressing the effect of

section 6751(b)(1) on penalty liabilities. By order of February 8, 2018, we set in

motion a procedure for addressing the application of Graev to this case, and that

process concluded with the parties’ filing on March 22, 2018, a supplemental

stipulation that sets out the facts stated above concerning supervisory approval of

penalties, and their filing supplemental briefs in April and May 2018.

Related cases

      Before filing their petition in this case, the Larkins had commenced two

other cases (docket Nos. 14886-08 and 19940-09) that concern their taxable years

2003 through 2006. On April 3, 2017, during the time when the Larkins were

preparing to file their reply brief in this case, the Court issued its opinion in those

earlier consolidated cases--Larkin v. Commissioner (“Larkin I”), T.C. Memo.

2017-54. On October 31, 2017, the Larkins filed notices of appeal in those cases

in the U.S. Court of Appeals for the District of Columbia Circuit, Docket

No. 17-1252, which issued its unpublished opinion on April 21, 2020, ordering

Larkin I affirmed in part and (as to issues the Commissioner had conceded)
                                        - 19 -

[*19] vacated and remanded in part. Larkin v. Commissioner (“Larkin II”), No.

17-1252, 

(Apr. 21, 2020).

      Some issues for the years 2003 through 2006 in those related cases are

similar to some of the issues in this case for the years 2008 through 2010.

However, neither party has raised the issue of collateral estoppel,5 see

Commissioner v. Sunnen, 

, 598-599 (1948), which is a “special

matter” that Rule 39 would require to be pleaded; and we decide the disputed

issues in this case on the basis of the evidence admitted in this case.

                                  Issues in dispute

      After stipulations and concessions by the parties, the following issues

remain in dispute:6




      5
       The pendency of the appeal in Larkin I while this case was being briefed
would not have precluded the invocation of collateral estoppel. See Martin v.
Malhoyt, 

, 264 (D.C. Cir. 1987) (noting that for purposes of applying
the doctrine of collateral estoppel, the pendency of an appeal does not
automatically diminish the preclusive effects of a prior adjudication).
      6
        Pursuant to Rule 91(a) the parties stipulated the inclusion of $5 of taxable
interest for 2009; however, it is clear to the Court that the parties intended to
stipulate the inclusion of $5 of taxable interest for 2010, the year indicated on the
SNOD for that adjustment.
                                          - 20 -

[*20] Schedule A itemized deductions

      In Schedules A submitted with their 2009 and 2010 tax returns (and with

their untimely Form 1040 for 2008), the Larkins originally claimed deductions of

certain amounts. In the SNOD the IRS allowed Schedule A deductions of lesser

amounts. In their briefs7 the Larkins argue that they are entitled to additional

Schedule A deductions as follows for 2008, 2009, and 2010:

                                 Mortgage          Investment
                   Year           interest           interest Taxes

                   2008          $28,667             $4,023   $3,465

                   2009             -0-              4,882    6,015

                   2010            6,673             9,311    5,400

For the reasons explained below in part I.B.1, Schedule A deductions for 2008 are

not properly at issue. The Commissioner contends that the Larkins are entitled to

no additional Schedule A deductions.




      7
       Some of the amounts of deductions claimed in the Larkins’ opening brief
are increased in their reply brief, but there are inconsistencies in the reply brief
where they appear to have copied smaller amounts from their opening brief. We
assume that the Larkins argue for the amounts in the reply brief, except that we
assume they claim for 2008 the larger amount of mortgage interest stated in their
opening brief, though their reply brief argues for “at least” a smaller amount.
                                        - 21 -

[*21] Schedule E real estate expenses

      As to the four property interests described above, the Larkins argue that

they are entitled to deduct Schedule E rental real estate losses, not reduced by the

passive loss limitation of section 469, in the full amounts that they reported on

their Forms 1040 and that were disallowed in the SNOD--i.e., $35,591 for 2008,

$42,810 for 2009, and $28,240 for 2010. For the reasons explained below in

part I.B.2, Schedule E deductions for 2008 are not properly at issue. The

Commissioner contends that the Larkins’ loss deductions are foreclosed by

section 469.

Self-employed health insurance

      The Larkins claim they are entitled to deductions for self-employed health

insurance of $15,700 for 2009 and $12,700 for 2010. The Commissioner

conceded that the Larkins substantiated deductions of $7,178 for 2009 and $2,192

for 2010, and the differences between the claimed amounts and the conceded

amounts remain at issue.

Foreign tax credit

      In the SNOD the Commissioner disallowed the FTC claimed for 2009. The

Larkins disputed that disallowance in their petition. For the reasons explained

below in part I.B.3, an FTC for 2008 is not properly at issue.
                                         - 22 -

[*22] Penalties and additions to tax

      For each of the years at issue, the Commissioner contends that petitioners

are liable for an accuracy-related penalty under section 6662(a) and for an addition

to tax under section 6651(a)(1) for failure to timely file their return.

                                       OPINION

I.    General principles

      A.     Abandoned issues

      The Larkins’ opening brief challenges some (but not all) of the IRS’s

determinations in the SNOD. We consider any issue or argument that the Larkins

did not advance on brief as having been abandoned. See Mendes v.

Commissioner, 

, 312-313 (2003); Nicklaus v. Commissioner, 

, 120 n.4 (2001); Rybak v. Commissioner, 

, 566 n.19 (1988).

We decide only the issues that the Larkins pleaded, addressed on brief, and did not

concede.

      B.     Issues not pleaded or tried by consent for 2008

      A petition for redetermination of a deficiency determined in an SNOD

“shall be complete, so as to enable ascertainment of the issues intended to be

presented.” Rule 34(a)(1). The petition shall, among other things, contain “[c]lear

and concise assignments of each and every error which the petitioner alleges to
                                         - 23 -

[*23] have been committed by the Commissioner in the determination of the

deficiency * * * . * * * Any issue not raised in the assignments of error shall be

deemed to be conceded.” Rule 34(b)(4); see also Foley Mach. Co. v.

Commissioner, 

, 441 (1988) (holding that the Court does not consider

issues which are not raised by the pleadings). In certain circumstances, an issue

not raised by the pleadings may be “tried by express or implied consent of the

parties, * * * [and] treated in all respects as if they had been raised in the

pleadings.” Rule 41(b)(1). But we have held that when a party is not aware of an

issue at trial, he cannot be held to have expressly or impliedly consented to the

trial of that issue, as required for application of Rule 41(b). See Markwardt v.

Commissioner, 

, 998 (1975).

      In their reply brief, the Larkins attempt to raise new issues related to 2008,

but we do not entertain them because we find that none of these issues was

properly pleaded or tried by consent.

             1.     Schedule A deductions for 2008

      We hold that Schedule A deductions--mortgage interest, investment interest,

and State and local tax deductions--for 2008 are not at issue. The petition

disputed the disallowance of investment interest and real estate tax deductions for
                                       - 24 -

[*24] 2009 and 2010 and disputed the disallowance of mortgage interest for 2010

but was silent as to any Schedule A deductions for 2008.

      The Commissioner’s pretrial memorandum reflected his understanding that

itemized deductions were in dispute (as issue “8”) “for tax years 2009 and 2010”

and was silent as to 2008. (As we have noted, the Larkins did not file the required

pretrial memorandum.) At the beginning of trial the Court undertook to confirm

explicitly the issues to be decided. The Commissioner gave his list of issues,

which were fewer than the list in his pretrial memorandum but which did include

his issue “8” (i.e., itemized deductions for 2009 and 2010). In response to the

Court’s query, petitioner’s counsel assented to the Commissioner’s list and agreed

that there were “[n]o extra issues raised by either party.” The Larkins gave no

testimony as to deductions for investment interest or mortgage interest for 2008.

The only testimony the Larkins offered regarding real estate taxes for 2008

pertained to their residence in England, and Mr. Larkin’s discussion of those taxes

was to distinguish them from the other items offered in the Exhibit 5 that he

proffered in support of his housing exclusion (an issue later conceded by the

Commissioner). The Larkins’ first contention that they should be allowed

additional Schedule A deductions for 2008 (other than those allowed in the

SNOD) was in their post-trial brief. For substantiation of real estate taxes and
                                        - 25 -

[*25] investment interest, the brief cites only the 2008 Schedule K-1 for

Treetops LLC, but at trial this document was not proffered to substantiate

investment interest or real estate tax deductions. Rather, Mr. Larkin’s only

testimony about this Schedule K-1 was nonspecific. He testified generally about

the process of preparing the Schedules K-1 for Larmodt LLC and Treetops LLC

during the years at issue (e.g., as part of a narrative answer regarding the real

estate activities in which he and his wife participated); about the fact that the

distributive shares of items from Treetops LLC that petitioners claimed were

“rolled up through the Larmodt LLC K-1” before being reported on their

individual tax return; and about the “fact” that “every year * * * [they] would

attach a Treetops [LLC Schedule] K-1 along with a Larmodt [LLC

Schedule] K-1”--an assertion not otherwise supported by the record. The post-trial

contentions as to Schedule A deductions for 2008 were neither pleaded nor tried

by consent, so they are not properly in the case.

             2.     Schedule E deductions for 2008

      We hold that losses allegedly sustained for rental real estate activity that

were reported on the Larkins’ Schedule E for 2008 are not properly at issue. As

we have noted, the Larkins did not file an income tax return for 2008, but they did

submit a Form 1040 (prepared by Mr. Larkin) to a revenue agent during an audit
                                        - 26 -

[*26] and before the issuance of the SNOD, which was evidently prepared using

information considered in audit from that Form 1040. The petition that the

Larkins filed after receiving the SNOD disputed the “proposed reductions to

[Schedule E] losses claimed in 2009 and 2010”, but it raised no issues regarding

and made no reference to Schedule E losses for 2008.

      The Commissioner’s pretrial memorandum reflected his understanding that

Schedule E rental real estate losses were in dispute (as issue “9”) “for tax years

2009 and 2010” and was silent as to 2008. Again, the Larkins did not file a

pretrial memorandum; and at trial the Larkins confirmed, through counsel, that

there were no “extra issues raised by either party.”

      At trial Mr. Larkin testified (consistent with the Form 1040 he prepared)

that the only property for which he reported rental real estate activity on

Schedule E for 2008 was the Belmont property; and he gave this testimony as part

of his explanation for why he had taken a “capital write-down” for the property on

Schedule D, “Capital Gains and Losses”, after changing the manner in which he

reported his activity on that property from Schedule C, “Profit or Loss From

Business”, of his return for 2007 to Schedule E for 2008. This testimony did not

raise the issue of Schedule E losses for 2008, and the issue was not tried by
                                          - 27 -

[*27] consent. Again, the first time the Larkins raised Schedule E losses for 2008

was in their post-trial brief--too late to try the issue in this case.

              3.     FTC for 2008

       An FTC is properly at issue only for 2009, and not for 2008. The only FTC

adjustment in the SNOD was for 2009. The only FTC contention in the petition--

and thus the only such claim in the pleadings in this case--was: “The Service

proposes to disallow FTC claimed for 2009. This represents carryforward FTC”.

       The Commissioner’s pretrial memorandum reflected his understanding that

the only FTC issue in this case (issue “12”) is “[w]hether the Larkins are entitled

to a Foreign Tax Credit in the amount of $16,207 for tax year 2009”; the Larkins

did not file the required pretrial memorandum; and at trial they confirmed, through

counsel, that there were “no extra issues raised by either party.” During

Mr. Larkin’s testimony, the Court asked petitioners’ counsel: “Is the dispute about

foreign tax credit for 2009 only?” Counsel replied: “Yes, Your Honor.” To the

same effect, the Larkins’ first post-trial filing--a motion to supplement the record--

stated: “This issue is whether Petitioners are entitled to a foreign tax credit for the

payment of taxes to the United Kingdom in 2009.”

       In their post-trial briefs, however, the Larkins attempted to change course:

Their opening brief purported to add a contention as to an FTC for 2008, but we
                                         - 28 -

[*28] will not entertain this contention since it conflicts with their statements at

trial and the pleadings upon which the case is based.

      The Larkins’ opening brief was equivocal about whether their FTC claim

was for U.K. taxes paid in the years at issue (we find that no such taxes were paid)

or arose instead from carryovers from prior years. But the Larkins’ reply brief

stated that “[t]he issue is not if Petitioners had any income or if they paid any

foreign taxes during the years 2008-2010, the issue is whether they properly used a

foreign tax credit carryover from prior years.”

      We therefore address the FTC only as to 2009 and only as to carryovers

from pre-petition years--i.e., in the words of the petition, “FTC claimed for 2009”

as “carryforward FTC”--and we treat as conceded any other FTC claims.

      C.     Burden of proof

             1.     General rule

      The IRS’s determinations are presumed correct, and taxpayers generally

bear the burden to prove their entitlement to any deductions they claim. Rule

142(a); Welch v. Helvering, 

, 115 (1933). Taxpayers must satisfy the

specific requirements for any deduction claimed. INDOPCO, Inc. v.

Commissioner, 

, 84 (1992).
                                        - 29 -

[*29] The taxpayer must carry his burden of proof with evidence offered at trial,

to which his brief should refer.8 Where the evidence presented at trial is

insufficient to support a finding that a particular expense is deductible, we must

sustain the IRS’s determinations and disallow the deduction.

             2.     Record-keeping

      Section 6001 requires that “[e]very person liable for any tax imposed by this

title, or for the collection thereof, shall keep such records, render such statements,

make such returns, and comply with such rules and regulations as the Secretary

may from time to time prescribe.” (Emphasis added.) A taxpayer is thus required

to keep sufficient records to substantiate his gross income, deductions, credits, and

other tax attributes. See also 26 C.F.R. sec. 1.6001-1(a), Income Tax Regs.9


      8
        See Rule 151(e)(3) (“All briefs * * * shall contain * * * [p]roposed
findings of fact * * * based on the evidence * * *. * * * [T]here shall be inserted
references to the pages of the transcript or the exhibits or other sources relied upon
to support the statement.”); Adeyemo v. Commissioner, T.C. Memo. 2014-1, at
*28; D’Errico v. Commissioner, T.C. Memo. 2012-149, slip op. at 19 (“We need
not (and will not) undertake the work of sorting through every piece of evidence
petitioners have provided in an attempt to find support for petitioners’ ultimate
legal positions taken in this case”).
      9
       See also 26 C.F.R. sec. 1.446-1(a)(4), Income Tax Regs. (“Each taxpayer is
required to make a return of his taxable income for each taxable year and must
maintain such accounting records as will enable him to file a correct return. See
section 6001 and the regulations thereunder. Accounting records include the
taxpayer’s regular books of account and such other records and data as may be
                                                                       (continued...)
                                       - 30 -

[*30] The regulations implementing that statute include 26 C.F.R. section

1.6001-1(a), Income Tax Regs., which provides: “[A]ny person required to file a

return of information with respect to income, shall keep such permanent books of

account or records * * * as are sufficient to establish the amount of gross income,

deductions, credits, or other matters required to be shown by such person in any

return of such tax”.

      Taxpayers are required to retain their books and records as long as they may

become material:

      Retention of records.--The books or records required by this section
      shall be kept at all times available for inspection by authorized
      internal revenue officers or employees, and shall be retained so long
      as the contents thereof may become material in the administration of
      any internal revenue law. [26 C.F.R. sec. 1.6001-1(e), Income Tax
      Regs.]

             3.    The Cohan rule

      The Code’s substantiation rules are subject to some flexibility. When a

taxpayer adequately establishes that a deductible expense was paid or incurred but

does not establish the precise amount, the Court may in some instances estimate

the allowable deduction, bearing heavily against the taxpayer whose inexactitude


      9
       (...continued)
necessary to support the entries on his books of account and on his return, as for
example, a reconciliation of any differences between such books and his return”).
                                          - 31 -

[*31] is of his own making. Cohan v. Commissioner, 

, 543-544 (2d

Cir. 1930). There must, however, be sufficient evidence in the record to provide a

basis upon which an estimate may be made and to permit the Court to conclude

that a deductible expense, rather than a nondeductible personal expense, was

incurred in at least the amount allowed. Vanicek v. Commissioner, 

,

743 (1985). We must have some basis on which such an estimate may be made.

v. United States, 

(5th Cir. 1957)).

             4.     Witness credibility

      At trial Mr. Larkin was the sole witness for petitioners. We observe the

candor, sincerity, and demeanor of a witness in order to evaluate his testimony.

The mere fact that Mr. Larkin’s testimony was unopposed does not mean that we

will make findings consistent with it. We will not accept the testimony of a

witness at face value to the extent it is implausible or not credible in view of the

totality of the surrounding circumstances. Neonatology Assocs., P.A. v.

Commissioner, 

, 84 (2000), aff’d, 

(3d Cir. 2002).

      In general, Mr. Larkin’s testimony on contested matters was not convincing.

Accordingly, we generally do not rely on his testimony to support the Larkins’

positions, except to the extent his testimony is corroborated by reliable

documentary evidence.
                                          - 32 -

[*32]         5.     Shifting the burden of proof

        Section 7491(a) provides an exception that shifts the burden of proof to the

Commissioner as to any factual issue relevant to a taxpayer’s liability for income

tax if: (1) the taxpayer introduces credible evidence with respect to the issue and

(2) the taxpayer has satisfied certain other conditions, including that he has

complied with the substantiation requirements for any item set forth in the Code

and has maintained all records required by the Code. See sec. 7491(a)(1) and (2).

A taxpayer bears the burden of proving that he has met the requirements of

section 7491(a). Rolfs v. Commissioner, 

, 483 (2010), aff’d, 

(7th Cir. 2012).

        Such “credible evidence” is evidence of a quality that, after critical analysis,

a court would find sufficient upon which to base a decision on the issue if no

contrary evidence were submitted. A taxpayer who provides only self-serving10

        10
        As we recently observed in Keels v. Commissioner, T.C. Memo. 2020-25,
at *15-*16:

        Witness testimony could almost always be said to be “self-serving”,
        but that factor alone is not a reason to automatically reject the
        evidence as unreliable. * * * We decide whether a witness’ testimony
        is credible by relying on objective facts, the reasonableness of the
        testimony, the consistency of the witness’ statements, and the
        witness’ demeanor. * * * We may discount testimony which we find
        to be unworthy of belief, * * * but we may not arbitrarily disregard
                                                                          (continued...)
                                        - 33 -

[*33] testimony and inconclusive documentation fails to provide credible

evidence. See Higbee v. Commissioner, 

, 442-446 (2001); see also

Blodgett v. Commissioner, 

, 1035-1039 (8th Cir. 2005) (holding the

same), aff’g T.C. Memo. 2003-212.

      The Larkins argue that the documentary evidence they submitted, combined

with Mr. Larkin’s testimony at trial, is sufficient to shift the burden of proof. We

disagree. As we show below, the Larkins’ documentary evidence is lacking on

almost every issue, and their testimonial evidence--consisting solely of

Mr. Larkin’s testimony--was not convincing enough to prove any facts without

significant corroborating evidence (which is largely absent). The Larkins have not

persuaded us that section 7491(a) applies to shift the burden of proof to the

Commissioner. We conclude that the Larkins bear the burden of proof as to the

deficiencies determined.




      10
        (...continued)
      testimony that is competent, relevant, and uncontradicted * * *.
                                         - 34 -

[*34] D.     Evidence submitted after trial

             1.     The Larkins’ motion to supplement the record

      The documents we must address in connection with the Larkins’ third

motion to supplement the record11 all pertain to their claimed foreign tax credit

carryover. The documents are: (1) a letter from the IRS to the Larkins dated

December 15, 2015, regarding their Form 1040 for 2007 and enclosing a Form

4549, “Income Tax Examination Changes”, reflecting that the IRS “will fully

reduce the tax shown above, along with any related penalties and interest”; (2) the

SNODs issued to the Larkins in April 2008 and March 2009, covering their tax

years 2003 through 2006; and (3) the Larkins’ answering brief before us in

Larkin I.

      The Larkins argue that the IRS’s letter and Form 4549 support their position

“that the tax returns filed in 2008 (and 2009 and 2010) were filed in good faith and

to the best of Petitioners’ ability given the fact that they did not have the ‘final’

return for 2007.” They assert with respect to the SNODs and answering brief that

“one cannot say or argue that Petitioners were negligent in preparing their 2008


      11
        Two of the documents the Larkins offered--a form from HM Revenue &
Customs and a letter from PriceWaterhouseCoopers LLC--pertain to an issue that
the Commissioner has conceded. As for these documents, the motion to reopen
the record is now moot and we do not address them further.
                                       - 35 -

[*35] tax returns when they did not know the precise amount of Foreign Tax

Credits that were available when their 2008 tax return was filed * * * [and that

these documents] put[] in context Petitioners [sic] belief as to the Foreign Tax

Credit that was available to them for 2008.” The Larkins acknowledge that they

filed a 2007 tax return that “sought a Foreign Tax Credit, and the Credit was

allowed.” As reflected in the Form 4549, the amount of FTC allowed was

$135,411, an amount that corresponded exactly with the amount of the Larkins’

reduced tax liability. The recomputation of the Larkins’ tax liability for 2007

detailed in the form does not show the reasons for the adjustments, the

computation of the FTC applied to their tax liability for 2007, or whether any FTC

remains to carry forward.

      Whether to reopen the record to receive additional evidence is a matter

within the discretion of the trial court. Zenith Radio Corp. v. Hazeltine Research,

Inc., 

, 331 (1971); Butler v. Commissioner, 

(2000),

abrogated on other grounds by Porter v. Commissioner, 

, 206-208

(2009). A motion to reopen the record will not be granted unless, among other

requirements, the evidence relied on: is not merely cumulative or impeaching, is

material to the issues involved, and probably would change the outcome of the

case. Butler. v. Commissioner, 

. We also take into account other
                                           - 36 -

[*36] factors, such as “the character of the additional * * * [evidence] and the

effect of granting the motion”. See Purvis v. Commissioner, T.C. Memo. 2020-13,

at *30 (quoting SEC v. Rogers, 

, 1460 (9th Cir. 1986)). For the

following reasons, we will deny the Larkins’ motion.

             2.    Delay

      The Larkins were granted two continuances of their trial. After trial they

moved to reopen the record, and the Court directed the Commissioner to cooperate

with the Larkins, resulting in the filing of a supplemental stipulation. They filed a

second motion to reopen the record, with an equivalent result. The Larkins’ third

motion to supplement the record was filed simultaneously with their reply brief--

when the Commissioner’s opportunity to respond to such evidence under the

existing briefing schedule was foreclosed. The Larkins have been given

remarkable latitude for preparing and presenting their case. This final additional

request is well past the breaking point.

      In their motion the Larkins seem to argue, in effect, that they were surprised

by a new contention made by the Commissioner in his post-trial answering brief

(and that they ought therefore to be allowed to put on evidence to counter that

contention). The new contention supposedly raised by the Commissioner was that

the absence in this case of evidence regarding the Larkins’ earlier tax years
                                        - 37 -

[*37] (involved in Larkin I) results in the Larkins’ having failed to substantiate the

foreign tax credit carryover calculated for those earlier years and therefore having

failed to demonstrate the carryover available for 2009. The Larkins argue that the

Commissioner changed course and “is essentially taking the position that the

information about the prior tax years is relevant” to the foreign tax credit issue

with respect to the deficiency for each year as well as the applicable penalties.

      In fact, the Commissioner’s pretrial memorandum, filed more than two

weeks before trial, had stated succinctly: “[T]he materials that have been provided

by the petitioners to the respondent are incomplete and unclear in showing the

payment history of claimed foreign tax payments.” (Emphasis added.) And even

if the Commissioner had not so stated, it remains true (as we explain below in

part V) that a taxpayer claiming a carryover of a foreign tax credit must establish

both the existence of the credit and the amount of any credit that remains (after

application to previous years) to be carried over to the year at issue. Inherent in

the Larkins’ own claim of a credit carryforward--whatever the Commissioner may

or may not have stated before trial--is the Larkins’ obligation to prove that the

credit arose in past years and was not entirely applied in past years. They cannot

have been surprised or prejudiced when the Commissioner argued that they had

failed to do so.
                                        - 38 -

[*38] Before any audit or litigation, the Larkins had a duty to maintain records to

substantiate their return positions. See 26 C.F.R. sec. 1.6001-1(e), Income Tax

Regs. (“books or records * * * shall be retained so long as the contents thereof

may become material in the administration of any internal revenue law”); see also

Bailey v. Commissioner, T.C. Memo. 2012-96, 

, at *17 (“There

is no provision in section 6001 or the regulations thereunder that excuses

taxpayers from retaining their records if the IRS fails to notify them of an

imminent challenge”), aff’d, No. 13-1455, 

(1st Cir. 2014). The

presence of the FTC carryforward issue in this case from its onset belies the

Larkins’ assertion that the presence or absence of documentation to substantiate

the carryforward (or an alleged excuse for the lack thereof) is somehow newly

relevant. They present no valid justification for their delay in offering evidence.

      To allow the Larkins to supplement the record with these documents at this

juncture would not serve the interests of justice. Cf. Fiedziuszko v.

Commissioner, T.C. Memo. 2018-75, at *26 (finding justice by reopening the

record to address a section 6751(b) issue when the state of the law on that issue

had changed after the record closed and neither party had notice of or raised the

issue during the proceedings), aff’d, 796 F. App’x 947 (9th Cir. 2020). The effect

of granting the motion would be unfair to the Commissioner, since it would allow
                                       - 39 -

[*39] these documents to come into the record after he litigated an entire case

through trial and post-trial briefing. See Purvis v. Commissioner, T.C. Memo.

2020-13, at *30-*31.

              3.   Materiality

      Even if the Larkins could show that their need for evidence related to the

FTC carryforward was not apparent before trial, we would deny their motion. We

should reopen the record only where the proffered evidence is material rather than

cumulative or impeaching, see Butler v. Commissioner, 

;

reopening the record is generally not warranted unless the evidence offered will

have a probable impact on the outcome of the case. Relevancy alone is not

enough to meet the materiality standard to reopen the record; rather, the Court

“will not grant a motion to reopen the record unless * * * the evidence probably

would change the outcome of the case.”

The Larkins have not

shown the materiality that is required before we could grant their request to reopen

the record.

      The documents the Larkins now ask us to admit do not add anything

material to whether they are entitled to an FTC carryover or should be liable for

any penalty arising from claiming an FTC carryover. The SNODs are simply

cumulative of Mr. Larkin’s testimony that the earlier years were under
                                       - 40 -

[*40] examination, which (he says) left him in an uncertain position in the

preparation of his returns for the years at issue. We address this argument below

in part VII and show that, as a matter of law, it is unavailing. Moreover, as a

matter of fact the contention that when the return was due Mr. Larkin could not

compute his FTC carryover is self-contradicted, because he unequivocally took the

position at trial that the FTC carryover to 2009 could be calculated using the

information from his 2007 and 2008 returns and Schedules K-1 from SSD for the

years at issue. Therefore the Larkins cannot persuasively argue that uncertainty in

their allowable foreign tax credit for years before 2007 prevented them from

making a claim, on the basis of the information available to them at the time they

prepared their returns for the years at issue, for an FTC carryover to 2009--

particularly when they did in fact make such a claim.

      The IRS Form 4549 showing that $135,411 of FTC was used and allowed in

2007 likewise has little bearing on this case; it shows that the Larkins apparently

had sufficient information to claim an FTC for 2007 that was ultimately allowed.

They now argue that to claim the FTC for a later year was impossible and yet that

they are entitled to it. Because the Form 4549 contains no information about the

computation of the FTC or whether any remains to carry forward, see 26 C.F.R.
                                         - 41 -

[*41] sec. 1.905-2(a)(2), Income Tax Regs., this document cannot serve the

purpose of substantiating the credit.

      The information offered does not justify reopening the record under the

considerations set forth in Butler v. Commissioner, 

. For these

reasons we will deny the Larkins’ third motion to supplement the record and will

grant the Commissioner’s motion to strike any references in the Larkins’ reply

brief to the material that was the subject of the motion.

II.   Schedule A deductions

      Taxpayers who itemize their deductions are allowed to deduct interest paid

during the taxable year with respect to certain types of indebtedness. Sec. 163.

      A.     Mortgage interest12

             1.     General principles

      Section 163(h)(3) provides that interest on a qualified residence is

deductible by non-corporate taxpayers. Qualified residence interest encompasses

interest payments on two types of debt: acquisition indebtedness and home equity

indebtedness. Sec. 163(h)(3)(A). “Acquisition indebtedness” generally means

debt incurred in, or that results from the refinancing of debt incurred in,

      12
        Cf. Larkin I, at *62-*64 (holding that home mortgage interest deducted for
the years 2003-06 was not substantiated); Larkin II, 

, at *1
(affirming).
                                       - 42 -

[*42] “acquiring, constructing, or substantially improving” a qualified residence.

Sec. 163(h)(3)(B)(i). “Home equity indebtedness” generally means indebtedness,

other than acquisition indebtedness, that is secured by a qualified residence and

that does not exceed the difference between the home’s fair market value and the

amount of acquisition indebtedness. Sec. 163(h)(3)(C)(i).

      The deduction for interest on a qualified residence is subject to a $1 million

limit for “[t]he aggregate amount treated as acquisition indebtedness for any

period” and a $100,000 limit for “[t]he aggregate amount treated as home equity

indebtedness for any period”. Secs. 163(h)(3)(B)(ii), (C)(ii).

             2.    Analysis

      The Larkins contend that they are entitled to additional mortgage interest

deductions for 2008 and 2010.

                   a.     2008

      For 2008 the SNOD allowed interest payment deductions for $24,270, an

amount reported by third parties. The Larkins argue they are entitled to an
                                        - 43 -

[*43] additional mortgage interest deduction in the amount of $28,667.13 The

mortgage interest deduction for 2008 is not properly at issue. 

part I.B.1.

                   b.     2010

      The Larkins claim they are entitled to deduct $6,673 of mortgage interest for

2010. However, the account statements lack sufficient details to prove the interest

paid was for acquisition indebtedness or home equity on a qualified residence, and

therefore the Larkins are not entitled to a deduction.

      B.     Investment interest14

      Personal interest is nondeductible unless it falls under one of the exceptions

enumerated in section 163(h)(2), which allows for the deduction of “investment


      13
         The Larkins attempt to substantiate their position by documentary
evidence consisting of a letter with an interest payment schedule and several bank
statements from Bank Leumi. Though the letter refers to the loan as a “mortgage
loan”, there is no evidence to indicate whether the underlying debt is the type of
debt allowed--i.e., acquisition indebtedness or home equity indebtedness. The
evidence the Larkins provided also fails to establish that the loan is for a qualified
residence within the meaning of section 163. (Contrary to their argument, the
bank’s action of addressing the letter to their “home address” does not substantiate
this point.) Moreover, the Larkins improperly attempt to deduct 100% of the
interest payments from the loan even though the amount of indebtedness--i.e.,
$2.43 million, after applying the stipulated exchange rate--is over the $1 million
limit provided by section 163(h)(3). See sec. 163(h)(3)(B)(ii), (C)(ii); sec.
1.163-10T, Temporary Income Tax Regs., 52 Fed. Reg. 48410 (Dec. 22, 1987).
      14
        Cf. Larkin I, at *56 (holding that investment interest claimed for each of
the years 2003-06 was not substantiated); Larkin II, 

, at *1
(affirming).
                                           - 44 -

[*44] interest”. Investment interest is defined as interest which is paid or accrued

on indebtedness properly allocable to property held for investment. See sec.

163(d)(3). An individual’s deduction for investment interest expenses cannot

exceed his net investment income. Sec. 163(d)(1).

             1.     The Larkins’ brief vs. the Larkins’ “Table 1”

      After conceding some of what they reported on their returns, the Larkins

contend in their post-trial brief “that the entities to whom they did make payments

of investment interest are Bank of America, Blackhorse, Coutts and Fidelity

(IRA). These amounts total $15,760, $25,730 and $24,875 for the years 2008,

2009 and 2010 respectively.” However, the Larkins’ own chart setting out their

alleged investment interest (in “Table 1” attached to the same brief) says radically

otherwise. The chart does list amounts of interest allegedly attributable to those

four named entities (and to Larmodt LLC and Treetops LLC); however, the yearly

totals are not as the Larkins state in their briefs but instead are much lower--i.e.,

$10,333, $10,160, and $15,461. The larger amounts in the brief are unexplained

and unsubstantiated, and we consider further only the smaller amounts in Table 1--

and only the amounts for 2009 and 2010, since investment interest for 2008 is not

properly at issue. 

part I.B.1.
                                          - 45 -

[*45]         2.    Interest paid via Larmodt LLC and Treetops LLC

        The Larkins’ chart of investment interest on Table 1 includes their shares of

the interest payments by Larmodt LLC, which account for $5,278 for 2009 and

$6,150 for 2010. These are the amounts that were allowed in the SNOD and that

the parties have stipulated are attributable to the Larkins’ ownership interests in

Larmodt LLC. Accordingly, regarding these items there is no dispute that we are

called upon to resolve.

              3.    Four other entities

        As we noted above, the Larkins’ chart of investment interest on Table 1

includes alleged payments to four other entities (although some of the amounts are

described on that chart as interest “charged”, not “paid”). The substantiation that

the Larkins proffer for the investment interest claimed as paid to the other four

entities consists of monthly statements from those entities. While the Court

accepts that the Larkins may have made payments to these financial institutions,

the Larkins did not prove that the payments were within the exception set forth in

section 163(h)(2)(B), i.e., “investment interest (within the meaning of

subsection (d))”. The Larkins admit in their post-trial reply brief that “Petitioners

did not provide a detailed tracking of the borrowed money to a particular

investment” and instead rely on Mr. Larkin’s testimony to substantiate their
                                        - 46 -

[*46] deduction. His testimony was not convincing; and accordingly, the Larkins

failed to substantiate any investment interest deductions claimed in excess of the

amounts respondent already allowed for 2009 and 2010.

      C.     Taxes15

      Section 164(a)(1) allows a deduction for “State and local, and foreign, real

property taxes” paid within the taxable year; and section 164(a)(3) allows a

deduction for “State and local, and foreign, income * * * taxes.” The Larkins

claim they are entitled to additional itemized deductions for taxes paid in the

amounts of $3,465 for 2008, $2,508 for 2009, and $2,060 for 2010. The tax

deduction for 2008 is not properly at issue. 

part I.B.1.16 For the reasons

discussed here, we hold the Larkins are not entitled to additional deductions for

taxes for 2009 and 2010:




      15
        Cf. Larkin I, at *64-*65 (holding that local real estate taxes reported for
2003 and 2004 were substantiated); Larkin II, 

, at *3
(affirming).
      16
        Documentation generated by SSD (an entity in which Mr. Larkin was a
partner but which we do not assume he controlled) showing tax payments it made
for 2008 supports the Larkins’ position that they paid State and local taxes of
$7,136, and we find that they did pay this amount as withheld and paid over by
SSD. However, this amount is less than the $8,876 deduction for taxes that was
allowed in the SNOD.
                                         - 47 -

[*47]         1.     2009

        In their opening post-trial brief the Larkins claimed a total of $8,927 in

deductible taxes for 2009. On audit respondent had allowed a deduction of only

$6,419 for taxes paid by the Larkins--consisting of $6,119 in State and local taxes

(which we find substantiated by an SSD document reporting $6,015, which the

Larkins describe as “Squire Sanders 2009 Tax Return Schedule 4 State and

Municipal Non-Resident Taxes Withheld on behalf of D. Larkin” (emphasis

added)) and $300 in personal property tax. The Larkins claimed they were entitled

to an additional deduction for the difference, i.e., an additional $2,508 for taxes

paid. Their Table 1 listed this additional amount as “Squire Sanders 2009 Tax

Return Schedule 6 Municipal Tax paid and charged to D. Larkin.” (Emphasis

added.) As the Commissioner points out in his answering brief, the documentation

on which the Larkins rely explicitly states that the amount was “to be used for city

resident tax credit purposes only and do[es] not represent federal income tax

deductions.” In their reply brief, the Larkins attempt a different approach:

        Petitioners have put forth support for an additional “income tax”
        deduction of $6,015, not additional real estate taxes. (Ex. 7-P #263).
        Petitioners concede the nondeductibility of the additional $2,912 of
        income taxes previously claimed. As a result, this Court should allow
        the additional $6,015 of income taxes, plus the amount of $6,119 in
        real estate taxes previously allowed for a total of $12,134.
                                       - 48 -

[*48] But their proof for this supposed “additional ‘income tax’ deduction” is the

only visible proof that supported the IRS’s allowance in the SNOD.17 The Larkins

have no additional proof of any further income tax deduction, and we allow

nothing more than the SNOD allowed.

             2.    2010

      On Schedule A of their Form 1040 for 2010, the Larkins claimed a

deduction for State and local taxes of $2,305, which the SNOD did not disallow,

and which the Commissioner concedes. Table 1 in their opening brief shows that,

as for 2009, this deductible amount corresponds to “Squire Sanders 2010 Tax

Return Schedule 4 State and Municipal Non-Resident Taxes withheld on behalf of

D. Larkin”. (Emphasis added.) However, the Larkins also claimed on their 2010

return a real estate tax deduction of $5,400, which was disallowed in the SNOD

and as to which “Petitioners concede that they have no additional documentation

to support the $5,400 of real estate taxes claimed.”

      Instead, the Larkins now attempt to claim an additional $2,060 deduction

for income tax by referring (as they originally did for 2009, before conceding it) to

      17
         The Larkins’ current attempted characterization of the $6,119 deduction is
contradicted by their own Schedule A. The $6,119 deduction that the IRS allowed
is clearly placed beside “state and local taxes” on Schedule A, rather than “real
estate taxes” (a section filled in with the amount of $5,400, which was
disallowed), as the Larkins now claim.
                                        - 49 -

[*49] a “Squire Sanders 2010 Tax Return Schedule 6 Total Allocable Taxes paid

by firm and charged to D. Larkin.” (Emphasis added.) The Commissioner’s

answering brief demonstrated (as it did for 2009) that the 2010 documentation on

which the Larkins relied for that argument explicitly states that the amount was “to

be used for city resident tax credit purposes only and do[es] not represent federal

income tax deductions. See Schedule 4 for state and municipal taxes that are

deductible for federal income tax purposes.”

      In their reply brief, the Larkins fall silent as to reliance on the SSD

“Schedule 6” for an additional income tax deduction and seem to attempt to revive

a deduction for real estate tax of $5,400--acknowledging again that they lack

documentation for that amount but stating simply that they “believe that it is

consistent with real estate taxes for prior years.” They do not actually point to any

such amounts claimed for prior years; but even if they could do so, they would not

thereby substantiate a claim of real estate taxes paid in 2010.

      The Larkins did not show entitlement to any deduction for income taxes or

real estate taxes beyond what the IRS allowed in the SNOD.
                                        - 50 -

[*50] III.   Schedule E rental real estate expenses18

      A.     Lack of substantiation

      Sections 162 and 212 generally permit taxpayers to deduct ordinary and

necessary expenses paid or incurred in carrying on a trade or business or for the

production of income. The Larkins engaged in rental real estate activities, though

the quantum of those activities was extremely modest. They did not offer into

evidence documentation in the form of leases, rental agreements, receipts,

communications with tenants, depreciation calculations, or any type of records

substantiating expenses incurred in rental real estate activity for any of their

properties (the Belmont condominium in Chicago,19 the lake house in Wisconsin,20



      18
        Cf. Larkin I, at *61 (holding that rental expenses reported for 2003 were
not substantiated because no evidence showed such expenses were incurred and
paid or were attributable to property held for the production of income); Larkin II,

, at *1-*2 (affirming). In Larkin I no issue was raised with
respect to the applicability of section 469.
      19
        The only residents of the Belmont property whom the Larkins identified
were their daughters. Moreover, on their untimely 2008 Form 1040 submitted to
the IRS, they reported a loss of $75,000 on the supposed sale of the Belmont
property, though they now assert that they did not sell the property in 2008.
      20
        The Larkins admit that they personally used the lake house--their “second
home”--for at least four to six weeks during each of the years at issue and that they
do not like to rent it out. They offered no evidence identifying any tenant; and
they allege only that they rented out the lake house for, “at most”, three weeks a
year.
                                       - 51 -

[*51] a property in France, and a financial interest in the Denton Homes lot in

England21).

      The Larkins did offer 2009 and 2010 Schedules K-1 for Larmodt LLC

issued to both Mr. and Mrs. Larkin, showing deductible expenses totaling $9,078

for 2009 and $11,116 for 2010. The parties have stipulated that the amounts of

“interest expense” reported by Larmodt LLC on these Schedules K-1 were the

amounts that the Commissioner did not disallow as investment interest for 2009

and 2010. We assume that the remainder of these amounts on the Schedules K-1

for Larmodt LLC was expended for the rental activities and was properly

reportable on Schedule E.22


      21
         The Larkins claim that after selling the Denton Homes lot in 2007 they
nonetheless retained an interest in the property and that they still hold a note on
the lot, which (they contend) “was part of Petitioners’ ‘real property, trades or
businesses’ pursuant to Internal Revenue Code Section * * * 469(c)(7)(C).”
However, on the untimely 2008 Form 1040 that they submitted to the IRS, they
reported a loss of $235,000 on the supposed sale of a “note from Denton Homes.”
      22
        The reporting of an item on a return does not substantiate that item. See
Lawinger v. Commissioner, 

, 438 (1994) (“Tax returns do not
establish the truth of the facts stated therein”). However, because the evidence
does not show the identity or nature of the fifth unnamed partner of Larmodt LLC,
we cannot tell definitively whether it was a “small partnership” under section
6231(a)(1)(B), see supra note 4, or whether instead it might have been a TEFRA
partnership whose items we could not adjust in this deficiency case. Neither party
has made any contention nor put on any evidence as to whether TEFRA would bar
our disallowance of the deductions reported on the Schedules K-1 and claimed by
                                                                       (continued...)
                                         - 52 -

[*52] B.     Section 469

      However, even assuming that the Schedules K-1 substantiated expenses

related to those rental real estate activities, the Larkins’ claim of deductible losses

from those activities would founder on section 469: In the case of an individual or

entity listed in section 469(a)(2), section 469 disallows any current deduction for a

passive activity loss. Sec. 469(a)(1), (b). A passive activity loss is equal to the

aggregate losses from all of the taxpayer’s passive activities minus the aggregate

income from all passive activities. Sec. 469(d)(1). Generally, a passive activity is

any trade or business in which the taxpayer does not materially participate, see sec.

469(a)(1), (c)(1); and rental activity (i.e., any activity where payments are




      22
         (...continued)
the Larkins at trial. One approach we might take is simply to impose on the
Larkins--who are the proponents of the Schedules K-1--the burden of showing the
facts that, under TEFRA, would require us to honor Larmodt LLC’s apparent
reporting of these items. Since they failed to do so, we could find that TEFRA
does not apply and could simply disallow the deductions as unsubstantiated. Cf.
Larkin II, 

, at *1 (“The Larkins also assert various conclusory
legal positions without citing any source of law, as when they claim, without
support, that * * * their rental cost deduction is ‘a large partnership item entitled to
deference’”). However, we instead effectively assume (in part III.A) that
Larmodt LLC was a TEFRA partnership, and that these amounts constitute
partnership items, the reporting of which we cannot adjust in this deficiency case;
but we find (infra part III.B) that even if we honor Larmodt LLC’s reporting on its
Schedules K-1, the items when passed through to the Larkins are not deductible
for them at the individual partner level.
                                           - 53 -

[*53] principally for the use of tangible property, sec. 469(j)(8)) is generally a per

se passive activity, see sec. 469(c)(2).

      An exception to that general rule is found in section 469(c)(7), which

exempts the rental activity of the taxpayer from the definition of passive activity

under section 469(c)(2) but continues to treat rental real estate activity as a trade

or business subject to the material participation requirements of section 469(c)(1).

The taxpayer will qualify for this exception (as a “real estate professional”, in the

non-statutory lingo of the caselaw) if: (1) more than one-half of the personal

services performed in trades or businesses by the taxpayer during the taxable year

is performed in real property trades or businesses in which she materially

participates and (2) the taxpayer performs more than 750 hours of services during

the taxable year in real property trades or businesses in which the taxpayer

materially participates. Sec. 469(c)(7)(B). A taxpayer materially participates in an

activity “only if the taxpayer is involved in the operations of the activity on a basis

which is--(A) regular, (B) continuous, and (C) substantial.” Sec. 469(h)(1).

      With respect to the evidence that may be used to establish hours of

participation, 26 C.F.R. section 1.469-5T(f)(4), Temporary Income Tax Regs., 53

Fed. Reg. 5727 (Feb. 25, 1988), provides:
                                         - 54 -

[*54] The extent of an individual’s participation in an activity may be
      established by any reasonable means. Contemporaneous daily time
      reports, logs, or similar documents are not required if the extent of
      such participation may be established by other reasonable means.
      Reasonable means for purposes of this paragraph may include but are
      not limited to the identification of services performed over a period of
      time and the approximate number of hours spent performing such
      services during such period, based on appointment books, calendars,
      or narrative summaries.

The regulation quoted above does not allow a party to rely on a post-event

“ballpark guesstimate” or unverified, undocumented testimony. See Moss v.

Commissioner, 

, 369 (2010); Lum v. Commissioner, T.C. Memo.

2012-103, 

, at *4.

      Petitioners argue that Mrs. Larkin is a “real estate professional” who

qualifies for the material participation exception applicable to the passive activity

loss limitation for rental real estate activity as defined in section 469(c)(7)(B).

Although she identified herself as a “homemaker” on their tax return for each of

the years at issue, petitioners contend that Mrs. Larkin devoted a substantial

amount of time to managing the aforementioned properties, that this time

constituted more than half of her professional services, that she materially

participated in the management of the property, and that the time devoted to the

real estate activity exceeded 750 hours--nearly 15 hours per week--for each of the

years at issue. Remarkably, Mrs. Larkin did not testify about her supposed
                                        - 55 -

[*55] engagement in this activity. Rather, to support their claim, petitioners rely

on Mr. Larkin’s testimony and a non-contemporaneous summary time log23

prepared for purposes of trial.

      This evidence is insufficient to satisfy the requirements of section 469. The

time log, created in response to discussions with respondent, was allegedly the

result of Mr. Larkin’s review of emails, notes of board meetings, and other

primary sources. Yet the Larkins did not offer into evidence those underlying

documents. The time log did not qualify as a record of a regularly conducted

activity for purposes of Rule 803(6) of the Federal Rules of Evidence, nor as a

summary of those alleged underlying documents for purposes of Rule 1006.

Rather, the log was admitted into evidence only for demonstrative purposes. We

find that this evidence is exactly the type of post-event “ballpark guesstimate” that

we disapproved in Moss v. Commissioner, 

(“the regulations do

not allow a post-event ‘ballpark guesstimate’”).




      23
        Petitioners’ time log, which was admitted solely as a demonstrative
exhibit, summarizes the hours that the Larkins allegedly spent managing their
investments and indicates that the time Mrs. Larkin spent managing petitioners’
four property interests totaled 764 hours in 2008, 792 hours in 2009, and 772 in
2010. The “log” contains no description of how these hours were spent, allocating
only a certain number of hours per property per month. Its information is bare and
devoid of detail, as was Mr. Larkin’s testimony on this issue.
                                          - 56 -

[*56]         Since Mrs. Larkin fails to meet the 750-hour requirement, it is not

necessary to address the “more than one-half of personal services” requirement or

to discuss the subsequent analysis of material participation in the light of the

Larkins’ failure to make the election to treat all of their real estate activities as one

activity. See sec. 469(c)(7)(A); sec. 1.469-9(e)(1), (g), Income Tax Regs. Even if

the Court performed this analysis, we would find the evidence the Larkins

provided deficient for the reasons discussed above.

        For all of these reasons, petitioners failed to shift the burden to respondent,

and their rental real estate activities must be treated as passive under

section 469(c)(2). See sec. 469(c)(7)(B)(ii). Therefore, they are not entitled to

deduct the losses for those real estate activities shown on their Schedules E in

2008, 2009, and 2010.

IV.     Self-employed health insurance

        A self-employed taxpayer may deduct health insurance costs paid for

medical care for himself and his family, subject to the special rules of

section 162(l). Pursuant to section 162(l), the deduction may not exceed the

“taxpayer’s earned income (within the meaning of section 401(c)) derived by the

taxpayer from the trade or business with respect to which the plan providing the

medical care coverage is established.” Sec. 162(1)(2)(A).
                                       - 57 -

[*57] The Larkins claim deductions for health insurance premiums of $15,700 for

2009 and $12,700 for 2010. (Respondent conceded that the Larkins are entitled to

self-employed health insurance deductions for 2008 in the amount they claimed

and, for the other years, in the amounts for which the Larkins proffered receipts

showing payment--i.e., $7,178 for 2009 and $2,192 for 2010.) The Larkins admit

they lack records that reflect the full amounts of their claimed deductions for 2009

and 2010. However, without specifically citing Cohan, they argue that Court

should allow in full the deductions claimed since (the Larkins contend) they

proved that they spent some amounts on health insurance and the deductions they

seek are reasonable.

      We find that the Larkins did not prove that they spent the amounts on health

insurance claimed. While Cohan does allow the Court to estimate an otherwise

allowable deduction for self-employed health insurance, the Larkins’ receipts did

not indicate consistent payments and did not show coverage during the entire year,

and the Larkins did not provide a sufficient explanation for how they calculated

the amounts they reported for 2009 and 2010. We hold that, even under the more

flexible standard provided by Cohan, the Larkins failed to present sufficient

evidence to substantiate the amounts reported. See 

.
                                       - 58 -

[*58] V.     Foreign tax credit24

      Section 901(a) generally allows a taxpayer FTCs for foreign income taxes

paid, subject to the limitation imposed by section 904, which in turn limits the

credit to the amount of U.S. tax on foreign income. See generally secs. 901, 904.

An FTC is allowed only to the extent that the taxpayer can prove it was “paid or

accrued” with respect to income from sources without the United States. Section

905(b)(1) and (2). Even if a taxpayer proves payment of foreign tax, a credit for

the tax for a particular year may be limited by section 904(a); however, a taxpayer

may carry back to the first preceding taxable year or carry forward to any of the

first 10 succeeding taxable years any excess foreign tax paid or accrued for the

year at issue. Sec. 904(c). The Larkins’ only claim in this case as to an FTC is

that for 2009 they are entitled to a carryforward credit of $16,207 arising from an

alleged carryover from prior years. On this issue, the Larkins rely on Mr. Larkin’s


      24
        In Larkin I, at *71-*73, the Commissioner conceded that the Larkins “paid
income taxes to the U.K. aggregating £218,914 during FYE March 31, 2000,
2001, and 2002.” However, we found in that case that the Larkins failed to
substantiate the existence of a credit that could be carried over to the subsequent
years 2003, 2004, 2005 and 2006.

(“A taxpayer claiming a
carryover of a credit must establish both the existence of the credit and the amount
of any credit that may be carried over to a subsequent year”); cf. Larkin II, 

, at *1-*3 (affirming). There, as here, the only substantiation offered
with respect to an FTC carryover was the Larkins’ uncorroborated assertion that
the tax was paid in a past year and they should receive a carryover credit.
                                        - 59 -

[*59] testimony for the proposition that using the 2007 and 2008 returns, along

with the 2008 Schedule K-1 for SSD, the FTC “can be calculated”.

      The Larkins suggest that unresolved issues from prior years at the alleged

time of filing, combined with Mr. Larkin’s status as a partner in a business doing

business overseas and the method of SSD’s payment of foreign income taxes,

makes it “reasonable to conclude that [p]etitioners paid foreign income taxes and

that the amount claimed is reasonable.” However, mere “reasonable[ness]” in a

party’s contentions is not the standard for substantiating FTCs (nor the standard

for shifting the burden of proof to the Commissioner). A taxpayer claiming an

FTC carryover must establish both the existence of the credit and the amount of

any credit that remains (after application to previous years) to be carried over to

the year at issue. See Rule 142(a)(1); Segel v. Commissioner, 

, 842

(1987); cf. Keith v. Commissioner, 

, 621 (2000). Such credit shall be

allowed “only if the taxpayer establishes to the satisfaction of the Secretary--(1)

the total amount of [non-U.S. sourced] income * * * , (2) the amount of [non-U.S.

sourced] income derived from each country, [and] the tax paid or accrued to which

is claimed as a credit * * * , and (3) all other information necessary for the

verification and computation of such credits.” Sec. 905(b).
                                         - 60 -

[*60] The “[c]onditions [imposed by the Secretary] of allowance of credit”

pursuant to section 905 are, in relevant part:

      [T]o claim the benefits of the foreign tax credit, the claim for credit
      shall be accompanied by Form 1116 in the case of an individual * * *.

      * * * The form must be carefully filled in with all the information
      called for and with the calculations of credits indicated. Except
      where it is established to the satisfaction of the district director that it
      is impossible for the taxpayer to furnish such evidence, the taxpayer
      must provide upon request the receipt for each such tax payment if
      credit is sought for taxes already paid * * * .

26 C.F.R. sec. 1.905-2(a), Income Tax Regs. (emphasis added). Other than the

Forms 1116 submitted with the Larkins’ tax returns for 2008 and 2009, which are

devoid of any information as to how the FTCs claimed for those years were

calculated, there is no information in our record that might bear on the Larkins’

claim of an FTC carryover for 2009.

      We find that the Larkins failed to substantiate the existence and amount of

the FTC with credible evidence. The documents that they advance in support of

their position fail to provide any specific amounts of foreign taxes that were paid

(and, relevant to the application of the limitation at section 904(d), fail to provide

any characterization of the income on which they were paid) in the relevant years.

The Larkins’ 2007 return is not in evidence, so we are unable to ascertain what

amount of credit was allowed for that year or how it was computed (nor is there
                                       - 61 -

[*61] any other evidence to that effect).25 The Larkins’ Form 1040 for 2008,

though purporting to claim a credit of $16,785 and indicating on the attached

Form 1116 a “carryover” of credit, omits the “detailed computation” that the form

requires. Lastly, the Schedules K-1 from SSD for 2008, 2009, and 2010 shed little

light on whether the Larkins paid any amount of foreign tax for which they could

claim a carryover of credit for 2009. Instead, the Schedules K-1 contain the

following statement with respect to foreign taxes:

      The Firm deducts foreign taxes in computing DNI, but they are not a
      deduction in the computation of Ordinary Income and are required to
      be stated separately. Depending on the individual partner’s tax
      circumstances you may be able to claim a tax credit for this amount
      (Form 1116). Any amount not creditable this year may be carried
      back one year and forward for ten years.

Mr. Larkin’s Schedule K-1 for 2009 from SSD contains only a few items in Part II,

“Partner’s Share of Current Year Income, Deductions, Credits and Other Items”:

i.e., guaranteed payments of $372,149; self-employment earnings of $372,149;

distributions of $374,750; and, in the box for “foreign transactions”, the word

“various”. We find no indication as to any amounts that SSD actually paid for

foreign taxes on behalf of Mr. Larkin. (And the paragraph relating to foreign

      25
          Nor do the documents substantiate the amount(s) of the Larkins’ U.S. tax
liabilities for those years, another element necessary to show that they were
entitled to carry over specific amounts of FTC. See Larkin II, 

,
at *3.
                                           - 62 -

[*62] taxes suggests that if Mr. Larkin paid them through SSD, they should appear

as a separately stated item on his Schedule K-1.)

          The Larkins’ claim that a previous year’s unresolved issue was to blame for

any unclarity, or that the Court should allow a carryover simply because it was

allowed in a prior year, is unavailing. Each tax year stands on its own and must be

separately considered, and the Commissioner is not bound for any given year to

allow a deduction permitted for a prior year. See United States v. Skelly Oil Co.,

, 684 (1969); Pekar v. Commissioner, 

, 166 (1999).

          Petitioners did not provide sufficient documentation, calculations, or

evidence that substantiates the FTC carryover claimed for 2009. Because they

failed to prove they are entitled to an FTC, we will sustain the disallowance of this

credit.

VI.       Section 6651(a)(1) additions to tax

          Section 6651(a)(1) imposes an addition to tax for failure to file a return by

its due date unless the taxpayer demonstrates that the failure to file was due to

reasonable cause and not due to willful neglect. The addition to tax equals 5% of

the amount of tax required to be shown on the return, less any tax actually paid

(i.e., the amount of the tax that is due and not paid) for each month (or fraction

thereof) that the return is late, but may not exceed 25% in total. See sec.
                                        - 63 -

[*63] 6651(a)(1), (b)(1). Thus, the maximum addition to tax is reached when a

return is five months late. Reasonable cause may exist if a taxpayer exercised

ordinary business care and prudence and was nonetheless unable to file a return

within the time prescribed by law. See 26 C.F.R. sec. 301.6651-1(c)(1), Proced. &

Admin. Regs. Willful neglect connotes “a conscious, intentional failure or

reckless indifference” with respect to timely filing. United States v. Boyle, 

, 245 (1985). Respondent determined that the Larkins are liable for

additions to tax pursuant to section 6651(a)(1) for 2008, 2009, and 2010 for failure

to file timely.

       The Commissioner bears the burden of production with respect to the

addition to tax under section 6651(a)(1). See sec. 7491(c); Higbee v.

Commissioner, 

. To meet this burden, he must produce

sufficient evidence that it is appropriate to impose the addition to tax. Once the

Commissioner has met his burden, the burden of proof as to reasonable cause or

other mitigating factors shifts to the taxpayer. See Higbee v. Commissioner, 

.

       Even if the Larkins’ 2008 return, due December 2009, was (contrary to our

finding) filed in June 2011 on the date the Larkins allege it was mailed (i.e., about

18 months late), the maximum addition to tax had been reached well before that
                                          - 64 -

[*64] date, at the time it was five months late. The Larkins’ 2009 return, due on

October 15, 2010, was filed on November 8, 2011 (more than 12 months late).

The Larkins’ 2010 return, due on Monday, October 17, 2011, was filed on

November 16, 2011 (one month late). Accordingly, respondent has met his burden

of production with respect to the additions to tax.

      The Larkins argue that they are not liable for the additions to tax because

they had reasonable cause--i.e., their returns for previous years were under

examination by the IRS on the respective due dates for their 2008, 2009, and 2010

returns. But as the Larkins acknowledge, this Court has not found that open years

constitute a sufficient reason for finding reasonable cause for late filing. Accord

Denenburg v. United States, 

, 306 n.10 (5th Cir. 1991) (stating that

an audit of a prior tax year was not sufficient to establish reasonable cause for late

filing of a subsequent affected year); see Estate of Duttenhofer v. Commissioner,

(1967) (holding that taxpayer did not establish reasonable cause to

excuse late filing where there was pending estate litigation that might affect tax

liability at issue), aff’d, 

(6th Cir. 1969); Namakian v. Commissioner,

T.C. Memo. 2018-200, at *12 (“the pendency of litigation, even where the

decision for an earlier year may affect the determination of a taxpayer’s liability

for a later year, is not reasonable cause for failure to timely file”).
                                          - 65 -

[*65] We hold that the Larkins did not have reasonable cause for the untimely

filing of their returns, and we sustain respondent’s determination that they are

liable for additions to tax under section 6651(a)(1) for 2008, 2009, and 2010.

VII. Accuracy-related penalty

         Section 6662 imposes an “accuracy-related penalty” of 20% of the portion

of an underpayment of tax attributable to (among other things) the taxpayer’s

negligence or disregard of rules or regulations. Sec. 6662(a), (b)(1), (c).

         A.    2008

         Section 6664(b) provides: “The penalties provided in this part [i.e., title 26,

subtitle F, chapter 68, subchapter A, part II (“Accuracy-Related and Fraud

Penalties”, secs. 6662-6664)] shall apply only in cases where a return of tax is

filed”. The principal penalty for not filing a return is the addition to tax under

section 6651(a)(1) (discussed above). When a taxpayer fails to file a return, the

accuracy-related penalties (such as the negligence penalty at issue here) do not

apply.

         Though the evidence is equivocal, we have found--as the Commissioner

contends--that the Larkins did not file a return for 2008. The Larkins contend that

they filed their return for 2008 around the same time they filed their other returns

at issue, “within about two weeks at the end of November, maybe into the first few
                                        - 66 -

[*66] days of December, 2011.” The copy of the 2008 Form 1040 in evidence

reflects a handwritten date of “28 Oct 2011” but no conclusive indication on the

face of the document that it was submitted to or received by the IRS.26 The

Commissioner has submitted in evidence a Form 4340, “Certificate of

Assessments and Payments”, that reflects several entries commencing in

November 2011, that indicate an “amended return filed” for 2008; but the

Commissioner nonetheless repeatedly maintains in his brief that “[p]etitioners

failed to file a tax return (Form 1040) for tax year 2008.” The Commissioner

refers to the Form 4340 as evidence that the Larkins did not file a return for 2008,

and we accept his statement as to the meaning of the entries in his records. The

resolution of this issue bears only on the application of the accuracy-related

penalty determined by the Commissioner, an issue on which he bears the burden of

production under section 7491(c) and for which the non-filing of the 2008 return

is favorable to the Larkins. Having found, as the Commissioner insists, that the

Larkins did not file a return for 2008, we cannot sustain a negligence penalty for

2008.




        26
         Faded handwriting across the top of the return indicates “delinq. return
* * * [illegible] 8-23-12”.
                                        - 67 -

[*67] B.     2009 and 2010

             1.    The Commissioner’s burden of production

      Under section 7491(c), the Commissioner bears the burden of production

and must produce sufficient evidence that the imposition of the penalty is

appropriate in a given case--in this case, evidence that the underpayment is

attributable to negligence. Once the IRS meets this burden, the taxpayer must

come forward with persuasive evidence that the IRS’s determination is incorrect.

Rule 142(a); Higbee v. Commissioner, 

.

                   a.     Showing of negligence

      Negligence can be either the lack of due care or the failure to act reasonably

under the circumstances. See Neely v. Commissioner, 

, 947 (1985).

Negligence “includes any failure to make a reasonable attempt to comply with

* * * [the internal revenue laws]”, sec. 6662(c), including any failure by the

taxpayer to keep adequate books and records or to substantiate items properly, 26

C.F.R. sec. 1.6662-3(b)(1), Income Tax Regs. We find that the Larkins’

record-keeping was in disarray--to an extent that suggests either that they do not

keep adequate records to substantiate their income tax positions, or that such

records, if available, were not offered. The records that were offered, such as the

“log” of Mrs. Larkin’s time allegedly spent managing the Larkins’ real estate
                                        - 68 -

[*68] interests, are grossly inadequate to substantiate their contentions. In short,

the Larkins failed to timely report large amounts of income, and they claimed

substantial deductions for which they had either insufficient proof or no proof at

all. We find that they were negligent in the preparation of their returns for the

years for which the section 6662 accuracy-related penalty has been properly

determined--i.e., 2009 and 2010.

                   b.     Supervisory approval

      The Commissioner’s burden of production under section 7491(c) also

requires him to show that, in compliance with section 6751(b)(1), the immediate

supervisor of the individual IRS employee who made the “initial determination” of

the penalty approved that penalty in writing. See Graev v Commissioner, 

. In this case the parties have stipulated that the supervisor gave his approval

10 months before the issuance of the SNOD; and the Larkins made no contention

that anyone in the IRS made any communication to them of an initial

determination before that approval. The Commissioner has therefore carried his

burden of production as to section 6751(b)(1). See Frost v. Commissioner,

154 T.C. ___, ___ (slip op. at 23) (Jan. 7, 2020).

      The Larkins contend that the supervisor’s approval did not satisfy

section 6751(b)(1). They argue: “The clear implication under section 6751(b)(1)
                                        - 69 -

[*69] requiring the ‘immediate supervisor’ to have ‘personally approved (in

writing)’ the initial determination of the assessment of a penalty, is that the

supervisor actually have knowledge of facts to support a basis for the penalty”--

but in this instance (the Larkins maintain) it appears that the supervisor lacked

information and made unwarranted conclusions. That is, they would undermine

the penalty approval by showing that it was granted inappropriately.

      However, the question under section 6751(b)(1) is simply whether the

supervisor in fact approved the penalty, not “the propriety of the Commissioner’s

administrative policy or procedure underlying his penalty determinations”,

Raifman v. Commissioner, T.C. Memo. 2018-101, at *61, nor whether the

supervisor “adequately contemplated the * * * [Larkins’] reasonable cause

defense”,

nor any other aspect of the merits of the penalty

determination. The Larkins can make such merits challenges as a part of their

case, but not as a means of invalidating the IRS’s compliance with

section 6751(b)(1).

             2.     Reasonable cause and good faith

                    a.    Standards

      The section 6662(a) penalty is not imposed if a taxpayer can demonstrate:

(1) that he had reasonable cause for the underpayment and (2) that he acted in
                                        - 70 -

[*70] good faith. Sec. 6664(c)(1). Whether a taxpayer acted with reasonable

cause and in good faith is a facts-and-circumstances decision, and the most

important factor is the extent of the taxpayer’s efforts to assess his proper tax

liability. 26 C.F.R. sec. 1.6664-4(b)(1), Income Tax Regs. Also important is the

taxpayer’s knowledge and experience.

that Mr. Larkin’s professional

experience as an attorney who has spent a significant amount of his time in the

financial sector weighs against him in this regard.

      A taxpayer may establish reasonable cause and good faith by demonstrating

reasonable reliance on the advice of an independent, competent professional

adviser as to the tax treatment of an item. See Neonatology Associates, P.A. v.

Commissioner, 

. To prevail on this defense, a taxpayer must

establish that: (1) the adviser was a competent professional who had sufficient

expertise to justify reliance; (2) the taxpayer provided necessary and accurate

information to the adviser; and (3) the taxpayer actually relied in good faith on the

adviser’s judgment.

                    b.    The Larkins’ contentions

      The Larkins contend that issues from previous years, misunderstandings

about the qualifications for certain deductions, their supposedly good-faith belief

that Mrs. Larkin qualified as a “real estate professional”, and the complexity of the
                                        - 71 -

[*71] Code combine to create sufficient reason to find reasonable cause for their

underpayments. Finally, the Larkins claim they sought the advice of

professionals.

                   c.     Analysis

      The Larkins did not make a plausible showing of reasonable cause and good

faith. Their record-keeping was in disarray; they failed to timely report large

amounts of income; they claimed substantial deductions for which they had no

proof at all and others for which their proof was insufficient.

      The Larkins are sophisticated business people. Mr. Larkin is a highly

educated attorney with more than 20 years’ experience dealing in a variety of

complex transactional matters. He was certainly capable of keeping appropriate,

contemporaneous records, preparing detailed notes, and distinguishing personal

from business expenses, yet the evidence he used to substantiate their deductions

shows that he failed to make these efforts. Mr. Larkin disregarded instructions for

properly completing his returns, as evidenced by his failure to attach underlying

documents and the forms and calculations required to claim certain loss

deductions. Such inaccurate and misleading income tax reporting does not reflect

a reasonable attempt to comply with the Code.
                                       - 72 -

[*72] There is no evidence besides Mr. Larkin’s testimony that the Larkins sought

advice in the preparation of their returns. The evidence shows that Mr. Larkin did

little more than briefly consult with individuals at his place of employ; and he did

not say who those individuals were, what information the Larkins provided to

them, or what specific advice they supposedly gave. Moreover, Mr. Larkin clearly

assumed the ultimate responsibility for the preparation of his returns. Because the

Larkins have not met their burden to establish the relevant facts under

Neonatology Assocs., P.A. v. Commissioner, 

, we conclude that

their return positions were a product of Mr. Larkin’s decisions rather than those of

informed tax counsel.

      We find the Larkins neither had reasonable cause nor acted in good faith

with regard to the positions they maintained on their returns. To the extent we

sustain respondent’s determinations, we also hold that the Larkins are liable for

the accuracy-related penalties for 2009 and 2010.
                                        - 73 -

[*73]                                Conclusion

        The determinations in the IRS’s SNOD are sustained in part, as explained

above. So that the liabilities for the years at issue can be computed in light of this

opinion and of the parties’ concessions,


                                                       An appropriate order will be

                                                 issued, and decision will be entered

                                                 under Rule 155.