Sylvester Ogbajie & Ijeoma Martha Iheke v. Commissioner ( 2013 )

PURSUANT TO INTERNAL REVENUE CODE
SECTION 7463(b),THIS OPINION MAY NOT
BE TREATED AS PRECEDENT FOR ANY
OTHER CASE.
T.C. Summary Opinion 2013-75UNITED STATES TAX COURT
SYLVESTER OGBAJIE IHEKE AND IJEOMA MARTHA IHEKE, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 24502-11S. Filed September 24, 2013.
Sylvester Ogbajie Iheke and Ijeoma Martha Iheke, pro sese.
Jon D. Feldhammer, for respondent.
SUMMARY OPINION
HAINES, Judge: This case was heard pursuant to section 7463 of the
Internal Revenue Code in effect when the petition was filed.1 Pursuant to section
1
Unless otherwise indicated, all section references are to the Internal
Revenue Code, as amended and in effect for the taxable year at issue, and all Rule
references are to the Tax Court Rules of Practice and Procedure.
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7463(b), the decision to be entered is not reviewable by any other court, and this
opinion shall not be treated as precedent for any other case.
Respondent determined a $10,5752 deficiency in petitioners’ Federal income
tax and a $2,115 accuracy-related penalty under section 6662(a) for 2007. There
are three issues for decision.3 The first issue is whether petitioners are entitled
under section 162 to deduct expenses related to certain exporting activities for
2007. We hold they are not. The second issue is whether petitioners are entitled
under section 165 to claimed loss deductions with respect to certain exporting
activities for 2007. We hold they are not. The final issue is whether petitioners
are liable under section 6662(a) for the accuracy-related penalty for 2007. We
hold they are.
Background
Some of the facts have been stipulated and are so found. Those exhibits
attached to the stipulations and additional exhibits which were found admissible
are incorporated by this reference. Petitioners resided in California when the
petition was filed.
2
All amounts are rounded to the nearest dollar.
3
The remaining issues are computational and need not be addressed.
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I. Petitioners’ Education and Employment History
Petitioners immigrated to the United States from Nigeria. After
immigrating Mr. Iheke earned a bachelor of arts degree in accounting in 1984.
Mr. Iheke then earned a master’s degree in business administration (M.B.A.) the
following year. Mr. Iheke passed the certified public accountant (C.P.A.) exam in
1990 and became a licensed CPA around 2008. Mr. Iheke completed all of the
coursework for a master’s degree in taxation.
From March 1993 to July 1994 Mr. Iheke worked in the accounts payable
department of the California Department of Transportation. Between 1994 and
2010, Mr. Iheke worked for the California Franchise Tax Board, examining
individual California State income tax returns. After 2004 Mr. Iheke worked on
matters involving unreported income and tax shelters for the Franchise Tax Board.
In 2010 Mr. Iheke left the Franchise Tax Board and began working for the Internal
Revenue Service (IRS) as a revenue agent in the IRS’ Bank Secrecy Act Division.
Mr. Iheke’s responsibilities as a revenue agent included investigating money
laundering cases and suspicious currency activities. At the time of trial Mr. Iheke
still worked as an IRS revenue agent.
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Mrs. Iheke studied accounting in Nigeria for two years at a university. After
immigrating to the United States, Mrs. Iheke studied nursing and became a
licensed vocational nurse in 2005.
II. Exporting Activities
Mrs. Iheke purchased scrap leather from Bondcote Corp. (Bondcote) for
export and resale to buyers in Nigeria (leather exporting activity). Mrs. Iheke used
a freight company to move the scraps to a U.S. port. At the U.S. port, a customs
agent cleared the leather for export from the United States to Nigeria. The leather
was shipped by container to Nigeria where it again had to be cleared through
customs. Once cleared it was transported to a warehouse in Nigeria and then sold
wholesale from the warehouse by Mr. Judy Adinnu, a supposed friend of the
Ihekes.
Petitioners made a total of 10 purchases from Bondcote between 2002 and
the end of 2004. The shipments were made approximately two months apart. The
scrap materials were put in bundles. Over the approximately two-year period,
Mrs. Iheke purchased and exported 396,304 pounds of leather scraps at a cost of
$50,454. Petitioners sold or otherwise disposed of the first five shipments of scrap
material in 2002 and 2003. On one shipment in 2004 petitioners made
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approximately an $18,000 profit. Petitioners claim the other five shipments were
unlawfully seized by Nigerian customs.
In August 2004 Mr. Iheke purchased three Ford sport utility vehicles for
export to Nigeria (car exporting activity). That same month Mr. Iheke exported
two of the vehicles to Nigeria. In 2004 Mr. Iheke sold one of the exported
vehicles for approximately $12,000. The second exported vehicle would not run
because of mechanical problems and was discarded. The third vehicle Mr. Iheke
purchased was never exported to Nigeria and was converted to personal use in
2006.
III. Tax Returns and Notice of Deficiency
Petitioners filed a joint Federal income tax return for 2007. Petitioners
reported gross receipts, cost of goods sold, and certain utility expenses for the
leather exporting activity and the car exporting activity (collectively, exporting
activities) on separate Schedules C, Profit or Loss From Business. Petitioners
claimed losses of $35,840 and $16,689 on the return for the leather exporting
activity and the car exporting activity, respectively. Petitioners elected on the
Schedules C to use the cash method of accounting to compute their taxable income
from the exporting activities.
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Respondent issued petitioners a deficiency notice. Respondent disallowed
the gross receipts, cost of goods sold, expenses, and ultimately the loss deductions
claimed with respect to the exporting activities. Petitioners filed a petition with
this Court challenging respondent’s determinations.
Discussion
I. Burden of Proof
Generally, the Commissioner’s determination of a deficiency is presumed
correct, and the taxpayer bears the burden of proving it incorrect. See Rule
142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). Petitioners do not argue
that the burden of proof shifts to respondent under section 7491(a), nor have
petitioners shown that the threshold requirements of section 7491(a) have been
met for any of the determinations at issue. Accordingly, the burden of proving
that respondent’s deficiency determinations are erroneous remains on petitioners.
II. Deductibility of the Reported Schedule C Expenses Under Section 162
Petitioners have abandoned their reporting positions that the expenses
reported on the Schedules C as cost of goods may be subtracted from the reported
gross receipts in computing their gross income from the exporting activities.
Petitioners argue instead that the expenses reported as cost of goods sold and the
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other expenses reported on the Schedules C should be treated as deductible
business expenses under section 162.
Section 162(a) allows a deduction for all ordinary and necessary expenses
paid or incurred during the taxable year in carrying on any trade or business.
Petitioners contend they are entitled under section 162 to deduct the expenses
reported with respect to the exporting activities on the 2007 Schedules C.
Respondent argues that the reported expenses were not paid or incurred in 2007
and therefore are not deductible. We agree with respondent.
Section 7701(a)(25) provides that the term “paid or incurred” shall be
construed according to the method of accounting used by the taxpayer. Petitioners
were cash method taxpayers. Under the cash method of accounting, items are
includible in income for the taxable year in which received (actually or
constructively) and expenditures are deductible for the taxable year in which paid.
Sec. 451; sec. 1.461-1(a)(1), Income Tax Regs.; see also sec. 1.446-1(c)(1)(i),
Income Tax Regs.
Petitioners testified at trial that they did not sell any goods with respect to
the exporting activities in 2007. They also testified that all of the expenses they
reported on the 2007 Schedules C for the exporting activities, except for certain
expenses they purportedly paid for illegal bribes, were paid or incurred in tax
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years before 2007. Additionally, the record otherwise reflects that petitioners
neither received income nor paid or incurred any expenses (excluding purported
illegal bribes paid to Nigerian customs) with respect to the exporting activities in
2007. The illegal bribes petitioners purportedly paid or incurred in 2007 are not
deductible. See sec. 162(c). Given that petitioners admit all of the other claimed
expenses were paid or incurred before 2007, they too are not deductible because
they were not “paid or incurred during the taxable year”. Accordingly, we reject
petitioners’ argument that the reported expenses for 2007 with respect to the
exporting activities are deductible under section 162.
III. Deductibility Under Section 165 of Purported Losses From the Exporting
Activities
Petitioners contend alternatively that they are entitled under section 165 to
deduct as losses for 2007 the expenses reported as cost of goods sold and the other
expenses claimed on the Schedules C. Section 165(a) permits a deduction against
ordinary income for “any loss sustained during the taxable year and not
compensated for by insurance or otherwise.” For individuals, the deduction is
limited to: (1) losses incurred in a trade or business; (2) losses incurred in any
transaction entered into for profit though not connected to a trade or business; or
(3) losses of property not connected with a trade or business or a transaction
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entered into for profit, if such losses arise from “fire, storm, shipwreck, or other
casualty, or from theft.” Sec. 165(c); see also Lockett v. Commissioner, T.C.
Memo. 2008-5, aff’d, 306 Fed. Appx. 464 (11th Cir. 2009). A loss deduction is
generally permitted under section 165 only for a taxable year in which the loss is
sustained, as evidenced by closed and completed transactions and as fixed by
identifiable events occurring in that taxable year. Sec. 1.165-1(d)(1), Income Tax
Regs. No portion of a loss is deductible until it can be ascertained with reasonable
certainty whether there is a reasonable prospect of recovery. Sec. 1.165-1(d),
Income Tax Regs. The burden is on the taxpayer to establish that there is a
deductible loss and the amount of it. Boehm v. Commissioner, 326 U.S. 287, 294
(1945); Bennett v. Commissioner, 139 F.2d 961, 963 (8th Cir. 1944).
Turning to the car exporting activity, we find petitioners failed to prove they
sustained any loss for 2007. Mr. Iheke purchased three Ford sport utility vehicles
in 2004 for the car exporting activity. The record reflects that Mr. Iheke shipped
two of the vehicles to Nigeria in August 2004. Mr. Iheke testified that one of
these two exported vehicles was sold in Nigeria in 2004. He also testified that the
other vehicle exported to Nigeria could not be sold because of mechanical
problems and was “junked”. His testimony reflects that the vehicle’s mechanical
problems existed in 2004 but does not reflect the date it was “junked” or
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discarded. The record does not otherwise reflect that the vehicle was discarded in
2007. Finally, the remaining Ford sport utility vehicle was not shipped to Nigeria
and was converted to petitioners’ personal use in 2006.
As for the leather exporting activity, we likewise find that petitioners failed
to establish that they sustained any loss for 2007 from such activity. Petitioners
argue that they sustained a loss in 2007 from the leather exporting activity because
they gave up on trying to recover five shipments of leather scraps that were
purportedly seized by Nigerian customs. Petitioners did not produce credible
evidence showing any shipments made in connection with the leather exporting
activity were seized by Nigerian customs. The only evidence petitioners offered to
support their claim was their testimony. We found both Mr. Iheke’s and Mrs.
Iheke’s testimony to be self-serving and untrustworthy. We need not and do not
accept any of their testimony. See Tokarski v. Commissioner, 87 T.C. 74, 77
(1986). Moreover, we find it incredible that petitioners would continue to make
four additional shipments over an approximately eight-month period after the first
shipment was purportedly unlawfully seized by Nigerian customs.
Petitioners are also not entitled to the claimed loss deduction with respect to
the leather exporting activity for another reason. Petitioners testified that they
paid illegal bribes to recover the shipments that were purportedly seized. Mrs.
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Iheke testified that on December 31, 2007, she wired money to Mr. Adinnu, the
supposed family friend, to be used in an effort to recover the five shipments from
the Nigerian customs. Given the time zone difference between California and
Nigeria, Mr. Adinnu likely could not have received the wire transfer until late
December 31, 2007, or early January 1, 2008. So, even if we believed petitioners’
testimony that the shipments were seized by Nigerian customs, the record
indicates petitioners were likely continuing to attempt recovery of the purported
seized shipments through the end of 2007 and into 2008. Under such a scenario,
we find that it is very unlikely that petitioners could ascertain with reasonable
certainty whether there was a reasonable prospect of recovery at the end of 2007.
Accordingly, the loss from the leather exporting activity could not be treated as
sustained in 2007.
We hold that petitioners have not met their burden of proving they sustained
losses with respect to the exporting activities for 2007 and are not entitled to the
claimed loss deductions under section 165.
IV. Disallowance of the Reported Gross Receipts
Respondent disallowed the gross receipts reported on the Schedules C with
respect to the exporting activities. The record reflects that petitioners did not
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realize any income from the exporting activities in 2007. Accordingly, we sustain
respondent’s determination.
V. Accuracy-Related Penalty
We now turn to the accuracy-related penalty respondent determined for
2007. Section 6662(a) and (b)(2) imposes a 20% accuracy-related penalty upon
any portion of an underpayment of tax resulting from a substantial understatement
of income tax. An understatement of income tax is substantial if it exceeds the
greater of 10% of the tax required to be shown on the return or $5,000. Sec.
6662(d)(1)(A).
Respondent bears the burden of production with respect to petitioners’
liability for the accuracy-related penalty determined in the notice of deficiency and
must therefore produce evidence that it is appropriate to impose that penalty. See
sec. 7491(c); see also Higbee v. Commissioner, 116 T.C. 438, 446 (2001).
Petitioners’ understatement of income tax as reflected in the notice of deficiency is
greater than 10% of the tax required to be shown on the return for the year at issue,
which is greater than $5,000. Accordingly, respondent has met his burden of
production.
The accuracy-related penalty is not imposed, however, with respect to any
portion of the underpayment of tax if the taxpayer can establish that he acted with
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reasonable cause and in good faith with respect to that portion. Sec. 6664(c)(1).
The decision as to whether the taxpayer acted with reasonable cause and in good
faith depends upon all the pertinent facts and circumstances. Sec. 1.6664-4(b)(1),
Income Tax Regs. Circumstances indicating that a taxpayer acted with reasonable
cause and in good faith include “an honest misunderstanding of fact or law that is
reasonable in light of all of the facts and circumstances, including the experience,
knowledge, and education of the taxpayer.” Id.Mr. Iheke prepared petitioners’ income tax return for 2007. Mr. Iheke is a
licensed C.P.A. and has worked as an accountant for at least 20 years. He has an
M.B.A. and also completed all of the coursework for a master’s in taxation. He
worked as a tax examiner for the California Franchise Tax Board between 1994
and 2010. In 2010 he became a revenue agent for the IRS, working in the Bank
Secrecy Act Division, where he still works today. Mrs. Iheke also studied
accounting in college.
The underpayment for 2007 is the result of petitioners’ disregarding rules
and regulations on reporting income and claiming deductions against income.
Given Mr. Iheke’s education and employment background, we find petitioners’
disregard of rules and regulations inexcusable. Additionally, petitioners failed to
offer any persuasive evidence that they acted with reasonable cause and in good
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faith. We, therefore, hold that petitioners are liable for the accuracy-related
penalty for 2007.
In reaching our holdings herein, we have considered all arguments made,
and, to the extent not mentioned above, we conclude they are moot, irrelevant, or
without merit.
To reflect the foregoing,
Decision will be entered for
respondent.