Estate of Phillips v. Commissioner

Memorandum Findings of Fact and Opinion

OPPER, Judge: Respondent has determined deficiencies in income taxes and penalties as follows:

Findings of Fact

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

Decedent Albert D. Phillips died a resident of Bartow, Florida, on November 17, 1948. During the years involved in this proceeding he was engaged in growing citrus fruit, operating a poolroom, and carrying on an illegal gambling operation in Florida. Viola T. Phillips was appointed administratrix of his estate and, although she has since remarried and is now Viola T. Chartrand, she continues as the qualified*197 and acting administratrix by appointment of the County Judge's Court of Polk County, Florida. Federal income tax returns of decedent for the years 1946 and 1947 and the period January 1-November 17, 1948 were prepared by, or under the supervision of a certified public accountant, and were filed with the collector of internal revenue for the district of Florida. The income tax payments for each of the years 1946 through 1948 were made by checks drawn on the Albert D. Phillips grove account.

Decedent's 1946 and 1947 income tax returns were prepared by the accountant from double entry records submitted with respect to the grove operation and from summary information made available by decedent as to the poolroom and chance game operations. Decedent's 1948 income tax return was prepared by the accountant from summary information made available by decedent's bookkeeper with respect to income from the poolroom operation, from information furnished by Viola as to the gambling operation, and from the double entry records submitted with respect to the grove operation. The same method of accounting was used in determining decedent's income for each of the years 1942 through 1945 and in the*198 preparation of his income tax returns for such years. The returns for 1942 through 1945 were the subject of a prior examination by the Bureau of Internal Revenue, and, although this resulted in certain adjustments with respect to the income from the grove operation, no question was raised as to the method of accounting used by decedent with respect to his income from the poolroom and gambling operations.

The gambling operation was carried on by means of salesmen who secured bets and recorded them on pads. These pads were turned in by the salesmen and, after being kept about a week by decedent, were destroyed. Decedent's record of this gambling operation, prepared in most instances by Viola, consisted of a pad with columns representing Sales (gross bets), Commissions (commissions to the salesmen), Net (the difference between Sales and Commissions columns), and Hits (amounts paid out to winners). The records produced at the hearing did not cover the entire year of 1947 nor the entire period from January 1-November 17, 1948. In many cases no figure whatsoever has been entered in the Hits column; in other instances "OK" has been entered. The summary reports of this gambling operation*199 purported to show the gross amount of money taken in from the sale of chances in each week, and the amount of money paid out on winning numbers. The summary reports were made from weekly records. The income from gambling was in the form of cash and the payments were in cash. No bank account was maintained for the gambling business and decedent kept no written record showing how much cash he had on hand at any time. Income from decedent's gambling operations was retained in cash in a safe at his home and at times the cash on hand ranged from $70,000 to $80,000.

Sometimes when too much money had been bet on the same number, decedent would call another gambler and ask him to take over part of the bet. No record was kept of these transactions, although money received by decedent was entered on the weekly reports.

Florida law requires a taxpayer to make and file an intangibles tax return if he owns property of the required type. There is no exemption allowed and the penalty for failure to file such return is an additional 10 per cent of any tax found to be due. Cash on hand, checking accounts, savings accounts, stock and other items of intangible personal property are taxable under*200 the law and are to be returned for tax purposes. Decedent did not file an intangibles tax return for any of the years involved herein.

Decedent's assets, liabilities and net worth on December 31, 1945, December 31, 1946, December 31, 1947, and November 17, 1948, were as follows:

During these years decedent was married and had two sons who were away at school. He supported his mother and furnished over 50 per cent of the money used for support of the two boys, including their school tuition. He owned a home in Bartow, Florida, and a cottage on a lake. He gave Viola $75 per week to operate the home and buy food, though this was not the entire amount spent for that purpose. The cottage, equipped with running water and electricity, had a living room, dining room and kitchen downstairs and four bedrooms upstairs. Decedent liked to hunt and fish, and he owned equipment including a boat and motors. Decedent spent $10,000 for living expenses and miscellaneous nondeductible expenditures both in the calendar year 1947 and in the period January 1-November 17, 1948.

In 1946, payments of $21,349.38 were made on Federal income taxes and $681.81*202 was received as a refund of 1945 income taxes. In 1947, payments of $29,108.32 were made on Federal income taxes. In 1948, payments of $5,108.46 were made on Federal income taxes, and $4,438.71 was received as a refund of 1947 income taxes. On March 29, 1949, a refund of decedent's 1948 income taxes was made in the amount of $5,108.46. On August 23, 1949, $6,608.75 was refunded on decedent's income taxes for 1946.

Decedent made charitable contributions of $235 and $30, respectively, in 1947 and 1948. Excess depreciation on groves in the amounts of $814.85, $814.85 and $746.95, respectively, was claimed in 1946, 1947 and the period January 1-November 17, 1948. He spent $627 for ordinary repairs to buildings in 1946 and spent $1,021.73 on capital expenditures in 1947. He was entitled to depreciation on the capital expenditures in the amounts of $25.54 and $46.83, respectively, in 1947 and the period January 1-November 17, 1948.

The totals of the entries made for 1947 in decedent's weekly record on gambling are as follows: ^*

*203 On his 1947 Federal income tax return, decedent reported income from chance game activity in the amount of $117,715.20 and chance game premium payments in the amount of $96,483.10. In the schedule submitted to the accountant and used in preparing decedent's 1948 income tax return the following appears:

Decedent's Federal income tax returns for 1946, 1947*204 and the period January 1-November 17, 1948, disclosed income as follows:

*205 In determining decedent's taxable income for 1946, respondent made adjustments for excessive depreciation claimed on citrus trees and for certain expenditures deducted as ordinary repairs and disallowed a claimed net operating loss carry-back from the taxable period beginning January 1, 1948 and ending November 17, 1948. In determining decedent's taxable income for 1947 and for the period January 1-November 17, 1948, respondent used the increase in net worth plus personal expenditures method and made changes in each taxable period for excessive depreciation claimed on citrus trees. A further change was made in 1947 to capitalize certain expenditures that had been deducted on the return as ordinary repairs.

The cash which was deposited in the grove bank account subsequent to 1945 is reflected in the deposit slips kept by decedent in connection with the grove operation. Decedent advanced the following amounts of cash to the grove account operations during the years 1946, 1947 and the period from January 1-November 17, 1948:

1946 - $25,000, all advanced during the months of January and February 1946.

1947 - $37,005, of which $19,000 was advanced during the month of January 1947.

*206 1948 - $28,735, and in addition thereto $17,000 of cash funds were advanced for the purchase of property in Bartow, Florida.

Decedent's records for the taxable year 1947 and the period January 1-November 17, 1948, were inaccurate and incomplete and did not properly and accurately reflect his taxable income.

Opinion

Petitioner has wholly failed to sustain its burden of proving that respondent was not justified in resorting to the net worth method in computing decedent's income. Decedent's participation in a concededly illegal business may readily explain the failure to produce adequate books and records from which his income could be determined. But such an excuse does not take the place of the records themselves. And in their absence respondent was justified in resorting to the best method available to reconstruct decedent's presumptive income. Carmack v. Commissioner, (C.A. 5) 183 Fed. (2d) 1, certiorari denied 340 U.S. 875.

The increase in net worth is established ¹ and respondent's computation of petitioner's decedent's living expenses seems to us amply supported by the evidence. * We have accordingly found the ultimate facts in accordance*207 with the determination and this, of course, disposes of the issue.

When it comes to the negligence penalty, however, respondent's action does not seem to us to be warranted. It is apparently grounded in the premise that decedent's records were so inadequate, his knowledge of that fact so certain, that the resulting understatement of income must be viewed as the result of lack of due care. ² But the testimony is uncontradicted that the same records, inadequate though they may have been, were in use for a number of previous years, that decedent's returns had been examined and that no exception was taken at the time to his procedure in*208 arriving at the figures set forth in the return. While of course respondent is not estopped to claim here that the records were inadequate, it is quite different to say that decedent was negligent in pursuing the same course that respondent had already tacitly approved. We regard the evidence produced by petitioner on this issue as prima facie sufficient to rebut the correctness of respondent's determination and place the burden of going forward upon him. This burden he has not sustained. To the extent of the negligence penalties, the deficiency is disapproved.

Decision will be entered under Rule 50.