Thomas J. Francel v. Commissioner , 2019 T.C. Memo. 35 ( 2019 )

T.C. Memo. 2019-35
UNITED STATES TAX COURT
THOMAS J. FRANCEL, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 6560-17L. Filed April 10, 2019.
Charles A. James and Michael H. James, for petitioner.
Jessica R. Nolan and Philip Edward Blondin, for respondent.
CONTENTS
FINDINGS OF FACT . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Francel’s medical practice . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Francel’s wife diverts cash fees from the medical practice that are not reported as
income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
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[*2] The IRS searches the medical practice--Francel’s wife goes to
prison for tax evasion--Francel obtains a judgment of separation
from his wife--the medical practice obtains a judgment against her
for embezzlement . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
Francel’s wife is released from prison--she lives in a halfway house for
10 months--she then lives with her mother for about two years--she then
moves back in with Francel . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
Francel seeks innocent-spouse relief from the IRS . . . . . . . . . . . . . . . . . . . . . . . . 24
OPINION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28
1. Jurisdiction, standard of review, scope of review, and burden of
proof . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28
a. Background . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28
i. Definition of terms . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28
ii. Joint liability; relief from joint liability . . . . . . . . . . . . . . . . . 29
iii. Collection-due-process hearings; subsequent Tax Court
proceedings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32
iv. Deficiency procedure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34
v. Tax Court jurisdiction over innocent-spouse relief . . . . . . . . 34
b. Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35
2. Francel not entitled to relief from joint liabilities . . . . . . . . . . . . . . . . . . . . 41
a. Section 6015(b) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41
b. Section 6015(c) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45
c. Section 6015(f) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47
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[*3] MEMORANDUM FINDINGS OF FACT AND OPINION
MORRISON, Judge: The petitioner, Dr. Thomas J. Francel, filed joint
returns with his wife for tax years 2003, 2004, 2005, and 2006. His wife pleaded
guilty to evading tax for those years and made restitution to the United States. The
restitution payment was credited by the Internal Revenue Service (“IRS”) to
Francel and eliminated Francel’s deficiencies in tax for those years except for
$2,285 of the deficiency for the 2006 year. This $2,285 remains unpaid. Also
unpaid is over $142,000 of the interest on the deficiencies for all four years.
Francel filed with the IRS a Form 8857, “Request for Innocent Spouse Relief”,
seeking to be relieved of the unpaid liabilities for all four years under section
6015.1 The IRS mailed Francel a notice that it intended to levy to collect the
unpaid liabilities. In response to this notice, Francel requested and received a
collection-due-process hearing at the Office of Appeals. At the hearing he again
contended that he was entitled to innocent-spouse relief from the liabilities. In its
notice of determination following the hearing, the Office of Appeals denied
Francel’s request for innocent-spouse relief. Francel filed a timely petition for
1
Unless otherwise indicated, references to sections are to Internal Revenue
Code of 1986, as amended, at all relevant times. We refer to the respondent as the
IRS.
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[*4] review of the notice of determination. He contends that the Office of Appeals
erred in concluding that he was not entitled to innocent-spouse relief. We hold
that Francel is not entitled to innocent-spouse relief.
Francel resided in Missouri when he filed his petition. Therefore, the venue
for any appeal of our decision in this case is the U.S. Court of Appeals for the
Eighth Circuit, unless the parties stipulate another circuit. See sec. 7482(b)(1)(F),
(2). Under the rule laid down in Golsen v. Commissioner, 54 T.C. 742, 756-757
(1970), aff’d, 445 F.2d 985 (10th Cir. 1971), we abide by that court’s precedent.
FINDINGS OF FACT
Francel’s medical practice
Currently and during tax years 2003-06, Francel is the chief of plastic
surgery at Mercy Hospital in St. Louis, Missouri, and also has a plastic-surgery
practice that he operates through his wholly-owned S corporation. We refer to
Francel’s S corporation as the “medical practice”. Francel’s wife was the business
manager of the medical practice during those years at issue. Her then friend
Sharon Garlich was the office manager. All three--Francel, Francel’s wife, and
Garlich--were employees of the medical practice. There were other employees as
well, including a receptionist. Francel was the only doctor employed by the
medical practice.
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[*5] Francel’s wife diverts cash fees from the medical practice that are not
reported as income
A patient could pay the medical practice’s fees in three ways: currency,
cashier’s checks, or credit cards. The medical practice gave a discount to patients
who paid by currency or cashier’s checks. Those patients who paid by currency or
cashier’s checks were typically the patients who paid their fees without assistance
from health insurance. (Elsewhere, we use the term “cash” to mean both currency
and cashier’s checks.) All fee payments were initially received by the medical
practice’s receptionist.
The following types of fee payments were handled in a conventional way:
(1) currency payments that were relatively small (approximately $100 or less),
(2) payments by cashier’s check in amounts of $10,000 or greater, and
(3) payments by credit card. These payments were recorded in the medical
practice’s computerized accounting system, deposited into the medical practice’s
bank accounts, reported as income on the medical practice’s annual income-tax
returns, and reported as passthrough income on the Francels’ joint income-tax
return.
The other types of fee payments were handled unconventionally. These
were: (1) currency payments that were relatively large (above approximately
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[*6] $100) and (2) payments by a cashier’s check in amounts less than $10,000.
These payments were given by the receptionist to Garlich, who would then give
them directly to Francel’s wife. They were not deposited into the medical
practice’s bank accounts. Garlich would make a handwritten entry in a green
ledger showing the patient’s name, the amount of the payment, whether the
payment was by currency or cashier’s check, and the date the payment was
received. The green ledger is not in the record. The payments were not recorded
in the medical practice’s computerized accounting system. Nor were they reported
as income for tax purposes.
Garlich supplied information to the medical practice’s CPA (certified public
accountant) to assist the CPA in preparing the medical practice’s annual income-
tax returns. But Garlich never showed the CPA the green ledger in which the
payments were recorded or told the CPA about the payments. Nor did Garlich tell
the CPA that she was giving any cash directly to Francel’s wife. The CPA had
access to the medical practice’s computerized accounting system. (The system
was protected by a password; only Garlich and the CPA used the system or had
access to it.) Thus, the CPA could review the records in the system. However, the
system did not reflect any of the payments that Garlich gave to Francel’s wife. As
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[*7] a result, none of these payments were reported as income of the medical
practice. Nor were the payments reported on the Francels’ joint income-tax
returns.
We now address what happened to these unreported cash fees after
Francel’s wife received them. Francel’s wife would sometimes tell Garlich how
she spent the cash. She spent it on (among other things) landscaping near the pool
at the Francels’ house, restoring an old car in the Francels’ garage, and
constructing iron gates in front of the Francels’ house. Francel learned later on
that his wife was a habitual drug user. She used some of the unreported cash fees
to buy drugs. None of those fees were deposited directly into bank accounts held
by Francel or jointly with his wife.
Since at least 2003, Garlich had helped Francel’s wife divert unreported
cash fees from the medical practice. Garlich eventually became concerned that the
scheme “was getting very sloppy” and that her involvement could expose her to
criminal liability. In 2007 she hired a lawyer, Tim Engelmeyer, who helped her
disclose the scheme to the U.S. Attorney’s Office and the IRS Criminal Division.
The U.S. Attorney’s Office and the IRS Criminal Division instructed her to
continue to work at the medical practice and not to reveal that she was cooperating
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[*8] with them. They asked her to wear a wire, but she refused to do so. They
immediately opened a criminal investigation of the Francels.
Thus, for a time Garlich was an undercover informant. This proved to be
stressful. In May 2007 Garlich began exhibiting strange behavior, alarming her
coworkers. Francel became convinced that Garlich was mentally ill. To deal with
Garlich, Francel relied on Hermann Praszkier, the medical practice’s outside
lawyer. Praszkier had been working for Francel and the medical practice since
2005. He had been handling not only legal work but also personnel issues and
irate patients.
Praszkier was already concerned about Garlich’s handling of insurance
billing, and he began to scrutinize Garlich’s work more closely. He directed
another employee to begin keeping a record of when Garlich was in the office so
he could compare it to Garlich’s own record of her hours. Eventually Praszkier
recommended to Francel that Garlich be fired. Praszkier gave a number of reasons
for firing Garlich: not showing up for work on time, failing to collect money from
insurance companies, and mental instability. Francel first spoke to Garlich’s
husband, who was his friend. Francel asked him whether he would get Garlich to
seek mental-health treatment, but Garlich’s husband did not agree to do so.
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[*9] Francel then told Praszkier to fire Garlich. Praszkier planned to fire Garlich
on September 28, 2007. Circumstances intervened.
The IRS searches the medical practice--Francel’s wife goes to prison for tax
evasion--Francel obtains a judgment of separation from his wife--the medical
practice obtains a judgment against her for embezzlement
On September 27, 2007, IRS special agents showed up at the office with a
search warrant and searched the medical practice. Garlich was at work that day,
but she had no warning that the search would occur. At the request of the special
agents she gave them the green ledger. They removed other records of the medical
practice.
Soon after the search warrant was executed, Praszkier began interviewing
the employees of the medical practice to determine the reasons for the IRS’s
investigation. Because Praszkier wanted to interview Garlich, he decided not to
fire her as he had originally planned.
On September 28, 2007, the day after the search, Praszkier sent a letter to
Garlich stating that she was suspended without pay pending an “investigation of
the office files”. Garlich never cooperated with Praszkier’s internal investigation.
Praszkier again resolved to fire her.
On October 10, 2007, Praszkier wrote a letter to Garlich firing her. The
letter stated:
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[*10] I have concluded that for cause termination is warranted by: paying
your self [sic] for days not worked, or paying your self [sic] for hours
not worked, untimely coding of bills, untimely coding of patient
billing or not even billing some patients or carriers, failing to pay
timely office bills, and failing to follow up on unpaid patient bills
which total in excess of $100,000.00, not keeping Thomas Francel
MD, PC advised or made aware of the status of accounts, payroll, or
bills even requiring you to contact him recently only twenty-four
hours after they left for vacation that money needed to be wired to the
office, and finally constant tardiness.
Praszkier hired a new office manager to replace Garlich and replaced the
medical practice’s CPA. Francel’s wife continued to be employed as the business
manager of the medical practice.
After Garlich was fired by the medical practice, she filed an application for
unemployment-compensation benefits with Missouri’s Division of Employment
Security. The medical practice contested her claim for unemployment benefits,
and her claim was denied. Garlich appealed the denial. On January 8, 2008, an
appeals referee held a hearing on the appeal. At the hearing Garlich was
represented by Engelmeyer, the lawyer who represented her in her dealings with
the U.S. Attorney’s Office and the IRS Criminal Division. Testifying under oath at
the hearing, Garlich suggested that she had been unable to pay the medical
practice’s bills on time in part because cash fees had been diverted from the
medical practice:
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[*11] Q As Business Manager of the office do--what were the reasons
for the cash flow problems?
A The cash flow problems were, you know, I mean everyone
knows that insurance claims take a long time to get payment
from. They’re--they’re known for stalling, saying they didn’t
receive it. They wanted additional information and so forth.
However we did acquire a lot of cash from patients and I was
not given that cash to use for making payments through the
business.
Q Where did the cash go?
A The cash went to primarily back to Dr. Francel’s wife and if
she was not there I would give it to Dr. Francel. It was kept in
a safe in my office until I could hand it over to them.
Garlich also testified at the hearing that Francel had advised her that the Francels
had decided to solve the cashflow problems by halving the amounts of the cash
fees that were being diverted:
I, you know, spoke with them [the Francels] numerous times about
how, you know, as a business person I can’t--I can’t do this job unless
I have money in the account. Dr. Francel said he would speak with
his wife. One of the solutions he came back with was he spoke to her
about the cash and he sat at the pool with her last night and they came
up with a solution that instead of keeping all of the cash for a while
they would just go ahead and put half of it into the business so that
it--it showed that there was payments being made and then she would
be able to or they would be able to keep just half the cash.
Praszkier, representing the medical practice, asked Garlich how many Forms 8300,
Report of Cash Payments Over $10,000 Received in a Trade or Business, she had
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[*12] filed with the IRS.2 Garlich said she did not and that she did not know what
a Form 8300 was. Praszkier asked Garlich if she thought she was terminated
because of the execution of the search warrant. She said she thought so. Praszkier
asked Garlich: “Can you tell me prior to September 27, 2007, did you have any
contact with the IRS?” Garlich answered: “No.” This was false, for Garlich had
been acting as an undercover informant for the IRS before the execution of the
search warrant on September 27, 2007. Praszkier asked Garlich if she had hired
her own lawyer on the day of the search. Garlich avoided the question. In the
closing argument at the hearing, Praszkier argued that the cashflow problems of
the medical practice were the result of Garlich’s failure to properly bill insurance
companies for fees. He asserted that the reason that there was an IRS
investigation was that Garlich had failed to file Forms 8300. As a result of the
appeal Garlich was awarded unemployment compensation.
Meanwhile, the U.S. Attorney’s Office continued to investigate the
Francels. It interviewed the employees of the medical practice. During this
2
A Form 8300 must be filed by a business every time it receives currency in
an amount over $10,000. Sec. 6050I; sec. 1.6050I-1(c)(1)(ii), Income Tax Regs.;
United States v. Leventhal, 961 F.2d 936, 937 (11th Cir. 1992). The Form 8300
shows, among other things, the name of the person from whom the currency was
received; the amount of currency received; the date and nature of the transaction;
and the name, address, and taxpayer identification number of the business that
received the currency. Sec. 6050I(b).
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[*13] investigation each employee was represented by a separate lawyer. The
name of the original lawyer for Francel’s wife is not in the record. That lawyer
was eventually replaced with lawyers Richard Greenberg and David Niemeier.
Francel and the medical practice were represented by Praszkier and by lawyer
Kevin O’Malley.
In February 2011, more than three years after the IRS executed the search
warrant, Francel’s wife was indicted by the U.S. Attorney’s Office. The
indictment charged that in violation of section 7201 Francel’s wife willfully
attempted to evade or defeat federal income tax owed by her and Francel for tax
year 2003 by preparing and signing a false and fraudulent individual joint income
tax return that stated that the joint income of the couple was $640,700 and that the
tax owed was $199,618 even though she knew that the joint income was $896,337
and that the tax due was $289,091. The indictment charged similar behavior with
respect to tax years 2004-06 in different amounts. The table below shows the
amounts referred to in the indictment for all tax years in the indictment, i.e., 2003-
06:
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[*14] Actual income Actual tax
Tax Income minus income minus tax
year reported Tax reported Actual income Actual tax reported reported
2003 $640,700 $199,618 $896,337 $289,091 $255,637 $89,473
2004 581,408 178,274 846,464 271,043 265,056 92,769
2005 700,987 220,421 900,597 290,284 199,610 69,863
2006 700,882 218,930 963,793 310,949 262,911 92,019
In the table above, the last two columns contain computations we made
from the other columns. The last column, the difference between the actual tax
and the tax reported, shows the amount of the underpayment of tax alleged by the
indictment. The sums of these underpayments for all four years, 2003-06, is
$344,124.
Around August 20, 2011, Francel’s wife and her two lawyers (Greenberg
and Niemeier) met with Francel and Praszkier. At the meeting, Francel’s wife
stated that she took unreported cash fees from the medical practice and that she
would plead guilty to federal tax charges.
On August 30, 2011, Francel’s wife entered into a plea agreement with the
U.S. Attorney’s Office. Pursuant to the plea agreement, Francel’s wife agreed to
the following:
! she was guilty of violating section 7201;
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[*15] ! for tax years 2003, 2004, 2005, and 2006, she was given or had
access to certain cash fees paid by the medical practice’s patients;
! these cash fees were required to be reported on the medical practice’s
income-tax returns and on the Francels’ joint income-tax returns;
! Francel’s wife deliberately closed her eyes to the fact that these cash fees
were not reported;
! the failure to report the cash resulted in underpayments of tax on the
Francels’ joint income-tax returns; and
! the amounts of unreported fees and underpayments of taxes were:
Year Fees Tax underpayment
2003 $248,191 $89,473
2004 257,326 92,766
2005 193,796 69,863
2006 264,156 92,019
Total 963,469 344,121
In the table above, the amount of the underpayment for 2004 was $92,766.
The indictment stated that the actual tax was $271,043 and the tax reported was
$178,274, which corresponds to an underpayment of $92,769 for 2004. Thus the
amount of the underpayment in the plea agreement was three dollars less than the
comparable amount in the indictment.3
3
Other than 2004, the tax underpayment for each year as shown in the plea
agreement is identical to the difference between actual tax and the tax reported as
shown in the indictment. However, for each year the amount of the unreported
fees as shown in the plea agreement deviates from the difference between the
(continued...)
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[*16] On August 30, 2011, the U.S. Attorney’s Office wrote a letter stating that
Francel was no longer a target of the criminal investigation and that the medical
practice had never been a target of the investigation. The letter was written to
Greenberg and Niemeier, the lawyers for Francel’s wife, at the request of
Praszkier, who represented Francel and the medical practice.
On October 4, 2011, Garlich filed a claim with the IRS for a whistleblower
award for being an informant. In her claim, Garlich stated that she had served as
the main witness in the prosecution of Francel’s wife, who Garlich said was the
“mastermind” of the tax scheme. She did not assert that Francel knew of the tax
scheme. The claim is still pending.
In December 2011, Francel’s wife was sentenced by the U.S. District Court
to a year and a day in prison followed by two years of supervised release. As part
of her sentence, she was ordered to pay the IRS restitution of $344,124. The order
does not break down the $344,124 by year, but that amount equals the total of the
underpayments in the indictment. This amount is $3 more than the $344,121 sum
of the amounts of tax she admitted in the plea agreement that she had evaded.
In January 2012, Praszkier fired Francel’s wife from the medical practice.
3
(...continued)
actual income and income reported as shown in the indictment. We are unaware
of the reason for the deviations.
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[*17] On January 27, 2012, Francel filed for legal separation from his wife. He
was angry because he thought she had embezzled money from the medical
practice. Francel was represented by Michael H. James in the legal-separation
proceeding, and his wife was represented by Praszkier. Because Praszkier still
represented Francel in other matters, it was a conflict of interest for him to also
represent Francel’s wife. However, Praszkier received informed written consents
from Francel and his wife regarding the conflict of interest.
On the same day, January 27, 2012, the medical practice filed a lawsuit
against Francel’s wife in state court for embezzlement. The complaint alleged that
Francel’s wife, “in the course of her employment, diverted, acquired converted
and/or collected receipts and payments belonging to, remitted to or owed to” the
medical practice to her own “personal use.” The medical practice was represented
by Michael H. James in the lawsuit. Francel’s wife was represented by Praszkier.
It is not clear from our trial record whether Praszkier received informed written
consents from Francel and Francel’s wife to undertake this representation.
On January 31, 2012, Francel’s wife began serving her sentence at the
Federal Medical Center in Lexington, Kentucky.
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[*18] In January 2012, Francel’s wife paid the IRS the entire restitution amount of
$344,124. To make the restitution payment, she took money from a section 401(k)
account that she owned.
The IRS asserted and assessed civil-fraud penalties under section 6663
against Francel’s wife for the years 2003-06. These penalties remain unpaid. The
IRS did not assert or assess civil-fraud penalties under section 6663 against
Francel.
The IRS credited the restitution payment to Francel’s account, and the
following balances remain for the years 2003-06:
2003 $27,303.08
2004 51,876.31
2005 31,249.10
2006 33,985.39
We explain how these amounts were computed below.
For tax year 2003, the IRS assessed $89,473 of tax against Francel and gave
him an $89,473 credit for the restitution payment from his wife. Beginning in
March 2015 and continuing every month since then the IRS has levied an amount
from the Social Security benefits that Francel’s wife has been receiving and
applied the levied amounts against the interest on the deficiency for 2003. The
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[*19] monthly levy amount collected by the IRS is approximately $1,000. The
$27,303.08 unpaid balance for 2003 consists entirely of interest.
For tax year 2004, the IRS assessed $92,766 of tax against Francel and gave
him a $92,766 credit for the restitution payment from his wife. The $51,876.31
unpaid balance for 2004 consists entirely of interest.
For tax year 2005, the IRS assessed $69,863 of tax against Francel and gave
him a $69,863 credit for the restitution payment from his wife. The $31,249.10
unpaid balance for 2005 consists entirely of interest.
For tax year 2006, the IRS assessed $94,304 of tax against Francel and
credited him $92,019 for the restitution payment from his wife. (This assessment
took place on September 1, 2014. On October 21, 2013, the IRS had assessed
Francel’s wife $92,109 for tax year 2006. The record does not reveal why the
assessments against Francel and his wife are in different amounts.) The
$33,985.39 unpaid balance for tax year 2006 for Francel consists of (a) an unpaid
tax of $2,285 (the difference between $94,304 and $92,019) and (b) interest.
In April 2012 Praszkier had a heart attack. He began scaling back his law
practice.
On September 12, 2012, the medical practice received a judgment against
Francel’s wife in its embezzlement lawsuit. The judgment was the result of the
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[*20] court’s granting the medical practice’s motion for summary judgment. The
motion had been opposed by Praszkier as the lawyer for Francel’s wife. The
amount of the judgment, $1,588,680.46, was equal to $963,469 plus prejudgment
interest of $625,211.46. The medical practice has not collected the judgment.
On November 8, 2012, nearly 10 months after having filed suit for legal
separation, Francel received a judgment of separation from his wife. The
judgment of separation stated that the division of property between the Francels
was set forth in the separation agreement attached to the judgment, that the
division of property was fair and equitable, and that the Francels had to comply
with the terms of the separation agreement. The separation agreement had been
signed by Francel on October 23, 2012, and by his wife on November 6, 2012.
According to the separation agreement, the Francels’ marital property consisted of
the following assets:
! The couple’s family house.
! A second house in which Francel’s wife’s mother lived. (Both the family
house and the second house had been held by the Francels as tenancies by
the entirety, according to the separation agreement.)
! A Vanguard section 401(k) account in the name of Francel’s wife. (It is
unclear whether this is the same section 401(k) account from which she paid
the restitution.)
! A Morgan Stanley Brokerage account in the name of Francel’s wife.
! A Vanguard money market account in the name of the Francels.
! Custodial/dependent accounts.
! Life insurance policies insuring Francel’s life.
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[*21] ! A Fidelity IRA in the name of Francel’s wife.
! A Lincoln IRA in the name of Francel.
! Three Vanguard section 401(k) accounts in the name of Francel.
! A Janus section 401(k) account in the name of Francel.
! A Morgan Stanley IRA in the name of Francel.
! A Morgan Stanley IRA in the name of Francel’s wife.
! A 2004 Volvo XC90.
! A 1991 Volvo 740.
! A 1999 Ford Explorer.
! A 1989 Mercedes Benz 500SL.
! A 1974 Triumph. (It is likely this was the car that Francel’s wife spent part
of the diverted payments on.)
! Francel’s wife’s clothing.
! Francel’s clothing, jewelry, and personal effects.
! All furnishings, fixtures, equipment, jewelry, appliances, furniture,
household goods, utensils, and cookware, including the contents of the two
houses.
Of the above-listed marital property, the separation agreement awarded Francel’s
wife only her clothing and the Vanguard section 401(k) account that had been in
her name. The separation agreement awarded to Francel all other marital property
and all rights to the medical practice. Francel’s wife did not give up her rights in
marital property as shown in the separation agreement in payment of, or settlement
of, the judgment granted to the medical practice. Section 5 of the separation
agreement provided that Francel would be solely responsible and liable for any
taxes incurred by him and that Francel’s wife would be solely responsible and
liable for any taxes incurred by her.
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[*22] On November 8, 2012, Francel’s wife transferred to Francel her claim to the
family house and to the second house that her mother lived in.
Francel did not initially visit his wife in prison and did so only after the
couple’s three adult children convinced him to do so.
Francel’s wife is released from prison--she lives in a halfway house for 10 months
--she then lives with her mother for about two years--she then moves back in with
Francel
In late November 2012, after almost 10 months in prison, Francel’s wife
was released from prison to a halfway house in downtown St. Louis.
In January 2013, Garlich filed a wrongful-termination lawsuit against three
defendants: the medical practice, Francel, and Francel’s wife. Our trial record
does not reveal who represented Garlich in the lawsuit--but it was probably
Engelmeyer. Francel and the medical practice were represented by lawyer Paul
Venker in the lawsuit. Venker had begun to replace Praszkier in representing
Francel and the medical practice in various matters. Praszkier represented
Francel’s wife in the wrongful-termination lawsuit. Praszkier obtained written
informed consents to allow him to represent her. In her lawsuit, Garlich claimed
that she was fired by the medical practice because she had informed the U.S.
Attorney’s Office that the medical practice and the Francels were committing tax
fraud.
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[*23] In February 2013, Garlich moved for dismissal of her wrongful-termination
lawsuit.
In July 2013, Garlich refiled the wrongful-termination lawsuit. This time
she named as defendants only the medical practice and Francel, not Francel’s wife.
Garlich’s legal theories in the refiled lawsuit were the same as in the original
lawsuit. Michael H. James represented the medical practice and Francel. The
lawsuit is still pending.
In December 2013, Francel’s wife was released from the halfway house.
Francel had still not forgiven his wife for embezzling from the medical practice;
consequently, he did not want to live with her. She moved in with her mother,
who lived in the second house owned by Francel. Her mother had been living in
this house since 2000.
In July 2014, Praszkier suffered another heart attack and stopped practicing
law altogether.
In late 2015, Francel’s wife moved back to the family home with Francel.
Francel had changed his mind about divorcing his wife because of the welfare of
their three adult children, one of whom lives in the family home.
Francel pays the mortgage and utilities. Francel’s wife does not pay these
bills. Nor does she pay him rent. She occasionally drives a car that is leased to
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[*24] the medical practice. The Francels are still married. Since their legal
separation in 2012, the Francels have continued to file joint income-tax returns.
They filed joint returns for tax years 2012-16. (They had also filed joint returns
for tax years 2003-11.) For tax years 2012-16, Francel paid the tax due with the
returns.
Francel’s wife has resumed work in the medical practice part time. Her
work schedule is about five days a month. She is unpaid. She sells skin-care
products and administers chemical peels. She is listed under the “About Us”
section of the medical practice’s website.
Francel seeks innocent-spouse relief from the IRS
On May 18, 2015, Francel filed his request for innocent-spouse relief with
the IRS on Form 8857. He sought to be relieved of the unpaid income-tax
liabilities for 2003, 2004, 2005, and 2006. His claim was assigned to Appeals
Officer Carol Miller.
On September 22, 2015, the IRS mailed Francel a notice that it intended to
levy to collect the income-tax liabilities for 2003, 2004, 2005, and 2006. The
formal title of the notice was “Letter 1058--Final Notice of Intent to Levy and
Notice of Your Right to a Hearing”. We refer to it here as the notice of intent to
-25-
[*25] levy. The notice of intent to levy gave Francel the right to request a
collection-due-process hearing with the Office of Appeals. See sec.
6330(a)(3)(B).
On October 2, 2015, Francel requested a collection-due-process hearing on
Form 12153, “Request for a Collection Due Process or Equivalent Hearing”,
stating that he disagreed with the levy because he was entitled to innocent-spouse
relief. Appeals Officer Martin Engelbrecht of the Office of Appeals was assigned
to handle Francel’s collection-due-process hearing.
Sometime after December 1, 2015, Appeals Officer Engelbrecht decided
that he would await the decision of the Appeals officer who had been assigned to
evaluate Francel’s May 2015 innocent-spouse claim, Carol Miller.
Around November 2016, Appeals Officer Engelbrecht received the
“decision made by Appeals Officer Carol Miller.” The decision, a document
entitled “Appeals Case Memorandum”, discussed whether Francel is entitled to
innocent-spouse relief under section 6015(b), (c), or (f) for tax years 2003-06. It
concluded: “Appeals determination: I recommend the denial of relief in full.” It
stated that “relief is not available under any provisions of IRC 6015.” It was not
signed or dated. After review, Appeals Officer Engelbrecht adopted Appeals
Officer Miller’s decision in full.
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[*26] Appeals Officer Engelbrecht had a telephone conference with lawyer
Charles A. James, who represented Francel in the collection-due-process hearing.
Charles A. James is the brother of Michael H. James, the lawyer who represented
Francel in his legal-separation proceeding against his wife. Appeals Officer
Engelbrecht confirmed to Charles A. James that the innocent-spouse request “was
being denied.”
On February 14, 2017, the IRS mailed Francel the notice of determination
following the collection-due-process hearing. The notice of determination, which
was signed by Appeals Team Manager Paul Mazan, stated that the notice of intent
to levy was sustained. Attached to and incorporated in the notice was a document
prepared by Appeals Officer Engelbrecht that stated some of the facts we have just
related; i.e., that sometime after December 1, 2015, Appeals Officer Engelbrecht
decided that he would await the decision of the Appeals officer who had been
assigned to evaluate Francel’s May 2015 innocent-spouse claim, that around
November 2016 Appeals Officer Engelbrecht received the “decision made by
Appeals Officer Carol Miller” rejecting Francel’s innocent-spouse claim, that
Appeals Officer Engelbrecht reviewed Appeals Officer Miller’s decision and
adopted it in full, and that in November 2016 Appeals Officer Engelbrecht had had
a telephone conference with Francel’s representative and confirmed that the
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[*27] innocent-spouse request “was being denied.” The attachment stated that
“you requested innocent spouse relief” and “[your] request for relief was
considered and denied.” The attachment stated that Francel would receive a
separate letter entitled “Final Appeals Notice” regarding the denial of his request
for innocent-spouse relief. The attachment stated that a “Final Appeals Notice”
would explain to Francel how he could file a Tax Court petition regarding the
“innocent spouse decision”. The “Final Appeals Notice” promised in the
attachment to Francel’s notice of determination was never sent.
On March 14, 2017, Francel filed his Tax Court petition. In the petition he
requested review of the February 14, 2017 notice of determination by the Office of
Appeals and averred that the Office of Appeals erred in denying him innocent-
spouse relief. Francel’s wife intervened in the case shortly after Francel filed his
petition. In her capacity as intervenor, Francel’s wife supported his request for
innocent-spouse relief. She was living with Francel at this time.
At the trial Francel called Praszkier as a witness. Praszkier testified that he
had obtained waivers of attorney-client privilege from Francel, Francel’s wife, and
the medical practice with respect to his testimony. The IRS cross-examined
Praszkier. Francel also testified. Francel’s wife did not attend the trial despite
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[*28] being a party to the case--i.e., the intervenor. On the day of trial, the Court
dismissed her as a party to the case because she had failed to prosecute the case.
OPINION
1. Jurisdiction, standard of review, scope of review, and burden of proof
In this part of the opinion, we explain that (1) our jurisdiction to review the
February 14, 2007 determination of the Office of Appeals regarding innocent-
spouse relief rests on sections 6330(d)(1) and 6015(e)(1), (2) the standard of
review is de novo, (3) the scope of review is de novo, and (4) Francel has the
burden of proof.
a. Background
i. Definition of terms
Jurisdiction is the power of a court to resolve a case. Lightfoot v. Cendant
Mortg. Corp., 580 U.S. ___, ___, 137 S. Ct. 553, 562 (2017). Like other federal
courts, the Tax Court is a court of limited jurisdiction. See Kokkonen v. Guardian
Life Ins. Co. of Am., 511 U.S. 375, 377 (1994); Naftel v. Commissioner, 85 T.C.
527, 529 (1985). That means that the Court’s power to resolve cases is limited to
the power conferred on it by statute. See Naftel v. Commissioner, 85 T.C. 529;
see also sec. 7442. The standard of review refers to the degree of deference given
to an agency when a court reviews the agency’s decision. See Citizens’ Comm. to
-29-
[*29] Save Our Canyons v. U.S. Forest Serv., 297 F.3d 1012, 1021 (10th Cir.
2002). The scope of review refers to the scope of the record on which judicial
review should take place. See Robinette v. Commissioner, 439 F.3d 455, 459 (8th
Cir. 2006), rev’g 123 T.C. 85 (2004).
ii. Joint liability; relief from joint liability
A married couple may file a joint income-tax return. Sec. 6013(a). If they
do, they are jointly liable for the tax. Sec. 6013(d)(3). This tax can be collected
from either spouse. Id.; Kovitch v. Commissioner, 128 T.C. 108, 110 (2007). Tax
includes interest for this purpose. Sec. 6601(e)(1). The circumstances under
which a taxpayer can be relieved of joint liability are found in section 6015. See
sec. 6015(a), (f). Section 6015 provides three potential roads to innocent-spouse
relief: subsections (b), (c), and (f).
In order to be entitled to relief under section 6015(b), the spouse who
requests relief must satisfy the following five conditions: (1) a joint return has
been made for a taxable year; (2) on that return there is an understatement of tax
attributable to erroneous items of the nonrequesting spouse; (3) the requesting
spouse did not know and had no reason to know of the understatement at the time
the return was signed; (4) taking into account all facts and circumstances, it is
inequitable to hold the requesting spouse liable for that year’s deficiency in tax
-30-
[*30] attributable to the understatement; and (5) the requesting spouse elected
relief under section 6015(b) within two years after the IRS began collection
actions against the spouse requesting relief. Sec. 6015(b)(1).
Section 6015(c) permits an individual who filed a joint return to elect to
limit his or her liability to the portion of the deficiency that is allocable to him or
her under section 6015(d). Sec. 6015(c)(1). Under section 6015(d) a portion of
the deficiency is allocable to the electing spouse if the erroneously reported items
giving rise to that portion of the deficiency are allocable to the electing spouse.
Sec. 6015(d)(1); see also sec. 1.6015-3(d)(2), Income Tax Regs. An item is
allocated to the individuals filing the joint return “in the same manner as it would
have been allocated if the individuals had filed separate returns for the taxable
year.” Sec. 6015(d)(3)(A). The election to limit liability under section 6015(c) is
effective only if the requesting spouse made a joint return for the taxable year.
Sec. 6015(c)(1). To be eligible to make an election under section 6015(c), the
requesting spouse must have either (1) been legally separated or divorced from the
nonrequesting spouse at the time of the election, sec. 6015(c)(3)(A)(i)(I), or
(2) not been a member of the same household as the nonrequesting spouse at any
time during the 12-month period ending on the date of the election, sec.
6015(c)(3)(A)(i)(II). The request for relief under section 6015(c) must be made
-31-
[*31] within two years after the IRS began collection actions against the
requesting spouse. Sec. 6015(c)(3)(B). Furthermore, if the IRS demonstrates that
the requesting spouse had actual knowledge, at the time of signing the return, of
erroneous items that are allocable to the nonrequesting spouse and that give rise to
the deficiency (or portion thereof), then the requesting spouse is generally not
entitled to relief under section 6015(c) with respect to that deficiency (or portion
thereof). Sec. 6015(c)(3)(C). Furthermore, the portion of the deficiency for which
a requesting spouse is liable is increased by the value of any “disqualified asset”
transferred to the requesting spouse. Sec. 6015(c)(4)(A).
Where relief is not available under section 6015(b) or (c), section 6015(f)
grants the IRS the discretion to relieve a requesting spouse of joint liability if,
under procedures prescribed by the IRS, and taking into account all the facts and
circumstances, it would be inequitable to hold the requesting spouse liable for the
unpaid tax or deficiency or any portion thereof. Rev. Proc. 2013-34, 2013-43
I.R.B. 397, modifying and superseding Rev. Proc. 2003-61, 2003-2 C.B. 296,
prescribes the procedures under which the IRS will consider whether equitable
relief is appropriate.
Section 6015(e)(1)(A) provides that, “[i]n addition to any other remedy
provided by law,” a taxpayer may file a Tax Court petition to determine the
-32-
[*32] appropriate relief available to the taxpayer under section 6015. The
taxpayer must be either (1) an individual against whom a deficiency has been
asserted and who elected to have section 6015(b) or (c) apply or (2) an individual
who requested relief under section 6015(f). Sec. 6015(e)(1). Section
6015(e)(1)(A) provides that the petition must be filed (a) within 90 days after the
IRS’s mailing of a notice of its final determination of relief to the taxpayer or (b) if
the IRS has not yet mailed such a notice, at any time after six months have passed
since the taxpayer’s election for relief was “filed” (in the case of section 6015(b)
and (c)) or the request for relief was “made” (in the case of section 6015(f)). In
resolving cases brought under section 6015(e)(1), the Tax Court employs a de
novo standard of review and a de novo scope of review. Porter v. Commissioner,
132 T.C. 203, 210 (2009).
iii. Collection-due-process hearings; subsequent Tax Court
proceedings
Section 6330(a) provides that the IRS cannot levy to collect tax unless it
first issues a notice offering the taxpayer a collection-due-process hearing with its
Office of Appeals. Section 6330(c)(2)(A) provides that at the hearing the taxpayer
can raise any issue relevant to the unpaid tax or the proposed levy. This includes
appropriate spousal defenses such as claims for innocent-spouse relief. Sec.
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[*33] 6330(c)(2)(A)(i). Section 6330(c)(2)(B) provides that the taxpayer may also
raise challenges to the existence or amount of the underlying tax liability if the
taxpayer has not had a prior opportunity to do so. The issues raised by the
taxpayer must be taken into account by the Office of Appeals when it makes its
determination. Sec. 6330(c)(3). Section 6330(d)(1) provides that a taxpayer who
disagrees with the determination may file a petition with the Tax Court within 30
days of the determination and that the Tax Court will have jurisdiction over the
matter.
The standard of review applied by the Tax Court in reviewing collection-
due-process determinations depends on the types of issues involved. Sego v.
Commissioner, 114 T.C. 604, 609-610 (2000). For issues relating to the
underlying tax liability, the Tax Court employs a de novo standard of review. Id.
For all other issues, the Tax Court employs an abuse-of-discretion standard of
review. Id.
The scope of review when reviewing collection-due-process determinations
is de novo, according to Tax Court precedent. Robinette v. Commissioner, 123
T.C. 94-101. A de novo scope of review means that the Court’s review is not
confined to evidence in the administrative record. See Kreit Mech. Assocs., Inc. v.
Commissioner, 137 T.C. 123, 130 (2011). However, the U.S. Court of Appeals for
-34-
[*34] the Eighth Circuit has held that judicial review of collection-due-process
determinations should be limited to the administrative record--at least for issues
other than the underlying tax liability. Robinette v. Commissioner, 439 F.3d at
459-462 (rejecting the Tax Court’s view that “the Tax Court may receive new
evidence in the course of reviewing whether an appeals officer abused his
discretion in denying relief during a collection due process hearing”); see also
Jordan v. Commissioner, 134 T.C. 1, 9 (2010), supplemented by T.C. Memo.
2011-243.
iv. Deficiency procedure
Thus far we have described two types of proceedings that can come before
the Tax Court: innocent-spouse cases under section 6015(e)(1) and collection-
due-process cases under section 6330(d)(1). A third type of case that can come
before the Tax Court is a so-called deficiency proceeding. A deficiency is the
amount of unreported tax (with some exceptions). Sec. 6211(a). The IRS is
generally prohibited from assessing a deficiency until after it mails a notice of
deficiency to the taxpayer. Sec. 6213(a). Under section 6213(a), the mailing of
the notice of deficiency gives the taxpayer the right to file a petition with the Tax
Court. The Tax Court then has jurisdiction to redetermine the correct amount of
the deficiency. Sec. 6214(a).
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[*35] v. Tax Court jurisdiction over innocent-spouse relief
There are three jurisdictional bases for the Tax Court to review a taxpayer’s
entitlement to innocent-spouse relief. See Maier v. Commissioner, 119 T.C. 267,
270-271 (2002), aff’d, 360 F.3d 361 (2d Cir. 2004). First, a spouse can file a
petition pursuant to section 6015(e)(1). See Maier v. Commissioner, 119 T.C.
270-271. Second, the Court can review the claim in the context of a collection-
due-process case under section 6330(d)(1). See secs. 6330(c)(2)(A)(i), (d),
6320(c); Maier v. Commissioner, 119 T.C. 271. Third, the claim can be
asserted by a spouse as an affirmative defense in a proceeding to redetermine a
deficiency pursuant to section 6213(a). See Maier v. Commissioner, 119 T.C.
270.
b. Analysis
Francel argued his entitlement to innocent-spouse relief at the collection-
due-process hearing with the Office of Appeals, an argument he was permitted to
make at the hearing by section 6330(c)(2)(A). The Office of Appeals considered
and denied his claim for innocent-spouse relief in its February 14, 2017 notice of
determination. On March 14, 2017, Francel timely filed his petition within 30
days of the notice. See sec. 6330(d)(1). We are authorized by section 6330(d)(1)
-36-
[*36] to review the February 14, 2017 notice of determination, including the
denial of innocent-spouse relief.
We also have jurisdiction under section 6015(e)(1) to review the denial of
innocent-spouse relief by the Office of Appeals as part of its February 14, 2017
determination. In Raymond v. Commissioner, 119 T.C. 191, 193 & n.3, 194
(2002), a taxpayer raised a claim for innocent-spouse relief at a collection-due-
process hearing, the claim was denied in the Office of Appeals’ post-hearing
notice of determination, and 34 days later the taxpayer filed a Tax Court petition.
We held in Raymond that although the Court did not have jurisdiction over the
denial of innocent-spouse relief under section 6330(d)(1) (because the taxpayer
had filed the petition more than 30 days after the notice of determination),
jurisdiction was proper under section 6015(e)(1) because the innocent-spouse
claim had been raised at the hearing and rejected in the notice of determination.
Id. at 193-194. In Kaufman v. Commissioner, T.C. Memo. 2010-89, slip op. at 3-
5, a taxpayer raised a claim for innocent-spouse relief at a collection-due-process
hearing, the claim was denied in the Office of Appeals’ notice of determination,
and within 30 days of the notice of determination the taxpayer filed a petition in
which she challenged the denial of innocent-spouse relief. The tax at issue had
been fully paid. Id., slip op. at 3. A collection-due-process case that involves a
-37-
[*37] fully paid tax is moot and must be dismissed. See Greene-Thapedi v.
Commissioner, 126 T.C. 1, 7 (2006). We held in Kaufman that because the notice
of determination addressed the taxpayer’s request for innocent-spouse relief, the
notice “was respondent’s final determination regarding petitioner’s entitlement to
innocent spouse relief.” T.C. Memo. 2010-89, slip op. at 4 (citing Wright v.
Commissioner, 571 F.3d 215, 220 (2d Cir. 2009), vacating and remanding T.C.
Memo. 2006-273). Kaufman therefore treated the taxpayer’s petition as one filed
under section 6015(e)(1). Kaufman v. Commissioner, slip op. at 4-5. Kaufman
did not dismiss the case for mootness, id., slip op at 5, as it would have done had
jurisdiction been founded on section 6330(d)(1). Here, as in Raymond and
Kaufman, Francel raised his claim to innocent-spouse relief at the collection-due-
process hearing, the notice of determination discussed his claim to innocent-
spouse relief, and his petition assigned error to the notice of determination’s
rejection of innocent-spouse relief. Francel’s petition is (in part) a petition under
section 6015(e)(1). Furthermore, as such, it is timely. This requires some
explanation.
A petition under section 6015(e)(1) must be filed (a) within 90 days after
the IRS’s mailing of a notice of its final determination of relief to the taxpayer or
(b) if the IRS has not yet mailed such a notice, at any time after six months have
-38-
[*38] passed since the taxpayer’s election for relief was “filed” (in the case of
section 6015(b) and (c)) or request for relief was “made” (in the case of section
6015(f)). Sec. 6015(e)(1)(A). Here, there are two possible views of how to
determine the timeliness of Francel’s petition, depending on whether one thinks
that the IRS mailed Francel a notice of final determination of innocent-spouse
relief under section 6015(e)(1). Under each view, Francel’s petition is timely.
One possible view is that the IRS never mailed Francel a notice of final
determination of innocent-spouse relief. Although the February 14, 2017 notice of
determination stated that a “Final Appeals Notice” would later be issued regarding
innocent-spouse relief and that this “Final Appeals Notice” would direct him how
to file a Tax Court petition regarding innocent-spouse relief, the Office of Appeals
never issued such a “Final Appeals Notice”. Because the “Final Appeals Notice”
was never issued, one could argue that there was never a final determination of
innocent-spouse relief. If this argument is correct, then the timeliness of Francel’s
petition depends on whether it was filed more than six months after he filed his
Form 8857. See sec. 6015(e)(1)(A). Francel filed his Form 8857 on May 18,
2015. His petition was filed on March 14, 2017, more than six months after he
filed the Form 8857. Under the first view, his petition was timely.
-39-
[*39] The second possible view is that the February 14, 2017 notice of
determination should be considered the final determination of innocent-spouse
relief under section 6015(e)(1). This view is arguably supported by section
1.6015-5(c)(1), Income Tax Regs., which provides that with respect to each
request for relief there is only one final administrative determination of relief. The
February 14, 2017 notice of determination stated that the Office of Appeals denied
Francel’s claim for innocent-spouse relief. It did not suggest that its conclusions
were tentative, preliminary, or subject to further administrative review. Therefore,
the February 14, 2017 notice of determination could be viewed as the one
administrative determination of relief under section 6015(e)(1). Under this view
Francel’s petition, which was filed March 14, 2017, is a timely contesting of the
final determination for relief under section 6015(e)(1). It was filed within 90 days
of the February 14, 2017 notice of determination.
In summary, we have described two alternative views of how the February
14, 2017 notice of determination should be treated under section 6015(e)(1).
Either (1) there was no final determination within the meaning of section
6015(e)(1) or (2) the February 14, 2017 notice of determination constituted a final
determination under section 6015(e)(1). Under either view, Francel’s Tax Court
petition met the timing requirements for the filing of a section 6015(e)(1) petition.
-40-
[*40] Thus, we conclude that we have jurisdiction to resolve Francel’s entitlement
to innocent-spouse relief under section 6015(e)(1). As we explain below, this
conclusion affects not only jurisdiction, but also the standard and scope of review
to be applied by the Court.
The IRS argues that the standard of review to be employed in this case is
abuse of discretion. In reviewing aspects of collection-due-process determinations
other than the underlying tax liability we employ the abuse-of-discretion standard
of review. See Sego v. Commissioner, 114 T.C. 609-610.
The IRS also argues that the scope of review is limited to the administrative
record. The U.S. Court of Appeals for the Eighth Circuit has held that for judicial
review of a collection-due-process determination, as to matters other than the
underlying tax liability, the scope of review is limited to the administrative record.
Robinette v. Commissioner, 439 F.3d at 459-462. The law of the Eighth Circuit is
binding in this case.
Viewing this case as a collection-due-process case, the IRS contends that
(1) the relevant standard of review should be abuse-of-discretion and (2) the scope
of review should be limited to the administrative record.
However, in cases arising under section 6015(e)(1), the Court employs a de
novo standard of review and a de novo scope of review. Porter v. Commissioner,
-41-
[*41] 132 T.C. 210. This case arises under section 6015(e)(1). Therefore we
employ a de novo standard and scope of review. See Santa v. Commissioner, T.C.
Memo. 2013-178, at *12.
There is one other procedural matter to address. That is the burden of proof.
As the petitioner, Francel bears the burden of proof. See Tax Ct. R. Pract. & Proc.
142(a); see also sec. 6015(c)(2); sec. 1.6015-3(d)(3), Income Tax Regs.
2. Francel not entitled to relief from joint liabilities
Francel argues that he is entitled to innocent-spouse relief under either
section 6015(b), (c), or (f). We hold that he is not entitled to relief under any of
these three subsections.
a. Section 6015(b)
We initially address relief under section 6015(b).
The first requirement for section 6015(b) relief is that joint returns were
filed for 2003-06. See sec. 6015(b)(1)(A). It is uncontested that this requirement
is met.
The second requirement is that on each joint return there was an
understatement of tax attributable to erroneous items of Francel’s wife. See sec.
6015(b)(1)(B). The parties disagree on whether this requirement is met. Francel
argues that this requirement is met because the unreported cash fees were the
-42-
[*42] embezzlement income of his wife and that she failed to include it on their
joint return. The IRS disagrees. It contends that the unreported cash fees were the
income of the medical practice and were includable in the Francels’ gross income
as passthrough income.
We need not determine whether the unreported cash fees could be
characterized as the embezzlement income of Francel’s wife. Even if the
unreported cash fees were the embezzlement income of Francel’s wife, this does
not preclude the fees’ also being income to the medical practice. When an
employer earns income and an employee embezzles the proceeds of the income,
both the employer and the employee face income inclusions. The employer may
deduct any loss that it realizes from the embezzlement. Sec. 165(a), (e); sec.
1.165-8(a)(1), (d), Income Tax Regs. This deduction is allowed for the year in
which the employer discovers the loss, sec. 165(e), or, if in the year of discovery
the employer has a claim for reimbursement that has a reasonable prospect for
recovery, the year in which it can be ascertained with reasonable certainty whether
the reimbursement will be received, secs. 1.165-1(d)(3), 1.165-8(a)(2), Income
Tax Regs.
The medical practice earned the unreported cash fees because it provided
the services that generated the fees and received those fees for those services. See,
-43-
[*43] e.g., Lucas v. Earl, 281 U.S. 111, 114-115 (1930); Johnson v.
Commissioner, 78 T.C. 882, 891 (1982), aff’d, 734 F.2d 20 (9th Cir. 1984). The
medical practice received the unreported cash fees: Its receptionist collected the
fees from the patients. Thus, even if the fees were misappropriated from the
medical practice by Garlich and Francel’s wife, the medical practice was required
to report the fees as its income. (Francel does not argue that the medical practice
is entitled to loss deductions for the years 2003-06, and the record does not
establish that the practice is entitled to one.) Although an S corporation, such as
the medical practice, is required to file a return reporting its income, sec. 1.6037-
1(a), Income Tax Regs., it is not subject to income tax, sec. 1363(a). The income
of an S corporation is included in its shareholder’s income. Sec. 1366(a), (c).
Therefore Francel, the sole shareholder of the medical practice, was required to
include the fees in his income. The erroneous items of income on the Francels’
joint returns--the service income of the medical practice corresponding to the
unreported cash fees that passed through to Francel as the owner of the medical
practice--are attributable to Francel. Because the fees were unreported, the fees
gave rise to understatements of tax on the couple’s joint return. Therefore, the
second requirement of section 6015(b) relief is not met.
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[*44] The third requirement of section 6015(b) relief is that Francel did not know
or have reason to know of the understatements when he signed the joint returns.
See sec. 6015(b)(1)(C). Because the requirements of section 6015(b) relief are
written in the conjunctive, i.e., they must all be met for relief to be afforded, we
need not determine whether Francel knew of, or had reason to know of, the
unreported cash fees.
The fourth requirement, that it be inequitable to hold Francel liable for the
2003-06 deficiencies, see sec. 6015(b)(1)(D), is not met. The deficiencies are
attributable to the Francels’ failure to report the unreported cash fees on their joint
returns, which in turn is attributable to the medical practice’s failure to report the
proceeds on its tax returns. Francel benefited from the unreported cash fees
because his wife spent some of the cash on Francel’s house and car. See sec.
1.6015-2(d), Income Tax Regs. (providing that a relevant factor in determining
whether it is inequitable to hold a spouse liable for deficiencies on a joint return is
whether the spouse “significantly benefitted, directly, or indirectly, from the
understatement” and defining a “significant benefit” as “any benefit in excess of
normal support”). Today Francel still lives in the house that was improved by the
unreported cash fees. He still owns the car that was restored with the unreported
cash fees. His accumulated wealth is attributable in part to the unreported cash
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[*45] fees and to the unpaid tax from the 2003-06 tax years. In our view the
equities are against relief.
The fifth requirement for section 6015(b) relief is that Francel elected relief
under section 6015(b) within two years after the IRS began collection actions
against him. See sec. 6015(b)(1)(E). The IRS does not contest that this
requirement is met.
Having failed to meet the second and fourth requirements for section
6015(b) relief, Francel is not entitled to such relief.
b. Section 6015(c)
We now consider Francel’s entitlement to relief under section 6015(c).
Several of the requirements for section 6015(c) relief are uncontested. The IRS
does not contest that Francel made joint returns during the years at issue, see sec.
6015(c)(1), that he was eligible to make the election under section 6015(c), see
sec. 6015(c)(3)(A)(i), and that the election was timely, see sec. 6015(c)(3)(B).
Nor does the IRS contend that Francel had actual knowledge of any erroneous
items not allocable to him and giving rise to the deficiencies. See sec.
6015(c)(3)(C). Consequently, there are only two issues left unresolved regarding
Francel’s entitlement to section 6015(c) relief: (1) whether the deficiencies are
allocable to Francel and (2) whether any disqualified assets were transferred to
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[*46] Francel. As explained below, we hold that the deficiencies are allocable to
Francel. On this ground we conclude that Francel is not entitled to limit his
liability under section 6015(c). We need not determine whether any disqualified
assets were transferred to him.
Section 6015(c)(1) allows a spouse to elect to limit his or her liability for a
deficiency to the portion of the deficiency that is allocable to the electing spouse
under section 6015(d). Francel seeks to limit his liability for the deficiencies for
tax years 2003 through 2006 under section 6015(c)(1). Francel also seeks to be
relieved of the interest on the deficiencies. Evaluating his claim to be relieved of
the deficiencies is relatively straightforward. He can be relieved of the
deficiencies if the deficiencies are not allocable to him under section 6015(d). We
discuss the application of section 6015(d) to the deficiencies below. But Francel
also seeks to be relieved of the interest on the deficiencies for 2003, 2004, 2005,
and 2006. His theory of relief assumes that if a deficiency is not allocable to him,
neither is the interest on the deficiency. The IRS does not dispute this assumption.
We need not determine whether this assumption is correct, for we do not
ordinarily reach issues not disputed by the parties. Therefore we conclude for the
purposes of this case that Francel should be relieved of the interest if the
deficiencies are not allocable to him.
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[*47] Section 6015(d)(1) provides that a portion of the deficiency is allocable to
the electing spouse if the erroneously-reported items giving rise to that portion of
the deficiency are allocable to the electing spouse. The erroneously-reported items
giving rise to the deficiencies are the unreported cash fees that were paid by
patients during 2003, 2004, 2005, and 2006.
The unreported cash fees were received by the medical practice in exchange
for its services, though the fees were misappropriated from the medical practice by
Francel’s wife and Garlich shortly after receipt. Francel was the sole shareholder
of the medical practice, an S corporation. Therefore, the unreported cash fees,
which are includable in the S corporation’s income and in Francel’s income as a
shareholder, are allocable to Francel. The resulting deficiencies are allocable to
him.
In conclusion, we hold that Francel is not entitled to relief from joint
liability under section 6015(c). This is because the deficiencies for 2003-06 are
allocable to him.
c. Section 6015(f)
We now consider whether Francel is entitled to relief under section 6015(f).
Section 6015(f) provides that under procedures prescribed by the IRS, if, taking
into account all the facts and circumstances, it is inequitable to hold an individual
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[*48] liable for any unpaid tax or any deficiency and relief is not available to the
individual under subsection (b) or (c), the IRS may relieve the individual of
liability. As directed by section 6015(f), the IRS has issued a revenue procedure
to guide its employees in determining whether a taxpayer is entitled to such
equitable relief from joint and several liability. Rev. Proc. 2013-34, supra. We
consult this guidance when reviewing the IRS’s denial of relief. Pullins v.
Commissioner, 136 T.C. 432, 438-439 (2011); Porter v. Commissioner, 132 T.C.
at 210.
Pursuant to Rev. Proc. 2013-34, sec. 4.01, 2013-43 I.R.B. at 399, the
requesting spouse must meet seven threshold requirements to be considered for
relief under section 6015(f). If the seven threshold requirements are met, the IRS
considers the facts and circumstances of the case by taking into account seven
nonexclusive factors and other circumstances of the case. Id. sec. 4.03(2), 2013-
43 I.R.B. at 400. The IRS applied the revenue procedure and concluded that
Francel was not entitled to relief under section 6015(f).4 We sustain that
4
One of the seven nonexclusive factors to be considered by the IRS in
evaluating claims for sec. 6015(f) relief is whether the requesting spouse knew of
or had reason to know of the item giving rise to the deficiency. Rev. Proc. 2013-
34, sec. 4.03(2)(c)(i)(A), 2013-43 I.R.B. 397, 401, modifying and superseding
Rev. Proc. 2003-61, 2003-2 C.B. 296. Appeals Officer Miller concluded that
Francel knew of or had reason to know of the unreported income. We need not
(continued...)
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[*49] determination. In our view it is not inequitable for Francel to remain liable
for the 2003-06 joint liabilities. We hold that Francel is not entitled to relief under
section 6015(f).
To reflect the foregoing,
Decision will be entered for
respondent.
4
(...continued)
determine if Francel knew of or had reason to know of the unreported income. We
agree with all other aspects of Appeal Officer Miller’s decision. Even if Francel
did not know of, or have reason to know of, the unreported income, in our view it
is not inequitable for Francel to remain liable for the 2003-06 joint liabilities.