Setty Gundanna and Prabhavathi Katta Viralam v. Commissioner

SETTY GUNDANNA AND PRABHAVATHI KATTA VIRALAM,
PETITIONERS v. COMMISSIONER OF INTERNAL
REVENUE, RESPONDENT
Docket No. 21355–03. Filed February 14, 2011.
In 1998 P–H transferred stocks and cash to X, an organiza-
tion described in I.R.C. sec. 501(c) that was not a private
foundation. X sent P–H acknowledgment letters for the stock
transfers which stated that no goods or services were provided
for the ‘‘donation’’ of the stocks. X sold the stocks in 1998. X
maintained a segregated account for P–H in its records,
reflecting the stocks and cash received, the proceeds from the
sales of the stocks and their reinvestment, the dividends and
interest generated by the assets in the account, and the
disbursements from the account in subsequent years. Pro-
motional materials provided to P–H by X represented that P–
H would be able to direct the distribution of the funds in the
account for purported charitable purposes, including student
loans and as compensation for the performance of charitable
services by P–H or members of his family. P–H anticipated at
the time of the transfers of the stocks to X that account funds
could be used for student loans to his children. Ps claimed a
charitable contribution deduction on their 1998 Federal
income tax return equal to the fair market value of the stocks
and the cash transferred to X. In 2001 and 2002 X transferred
at P–H’s request a total of $70,299 from the account to an
educational institution in payment of the college tuition and
related expenses of P–H’s son. P–H’s son executed loan docu-
ments that obligated him to repay the amounts transferred,
plus interest, in cash or by providing designated amounts of
charitable services. R issued a notice of deficiency for 1998
disallowing the charitable contribution deduction claimed,
requiring the inclusion in Ps’ gross income of capital gains
realized upon the sales of the stocks by X in 1998 after the
transfers as well as the dividends and interest generated by
the account assets in 1998, and determining a penalty under
I.R.C. sec. 6662(a) and (b)(1) and (2). Held: P–H retained
dominion and control over the property transferred to X.
Accordingly, Ps are not entitled to any charitable contribution
deduction on account of the transfers and must include in
151
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152 136 UNITED STATES TAX COURT REPORTS (151)
gross income the capital gains realized upon X’s sales of the
transferred stocks as well as the dividends and interest gen-
erated by the assets in the segregated account. Held, alter-
natively, Ps are not entitled to any charitable contribution
deduction for failure to comply with the substantiation
requirements of I.R.C. sec. 170(f)(8). Held, further, Ps are
liable for a penalty under I.R.C. sec. 6662(a) and (b)(1) or (2).
Michael C. Durney, for petitioners.
Thomas A. Dombrowski and Mark A. Weiner, for
respondent.
GALE, Judge: Respondent determined a deficiency of
$91,948 and an accuracy-related penalty of $18,389 with
respect to petitioners’ 1998 Federal income tax.
The issues for decision are: (1) Whether petitioners are
entitled to a charitable contribution deduction under section
170 1 of $263,933 for purported transfers of appreciated
stocks and cash to the xe´lan Foundation; (2) whether peti-
tioners must include in gross income $93,324 of capital gain
resulting from the sales of the appreciated stocks by the
xe´lan Foundation in 1998 and $981 of interest and dividend
income generated in 1998 by property purportedly trans-
ferred by petitioners to the xe´lan Foundation; and (3)
whether petitioners are liable for an accuracy-related penalty
under section 6662.
FINDINGS OF FACT
Some of the facts have been stipulated and are so found.
The stipulation of facts and the attached exhibits are incor-
porated herein by this reference. At the time the petition was
filed, petitioners resided in Florida.
xe´lan
Petitioners are both medical doctors. Petitioner Setty
Gundanna Viralam (petitioner) owned a 50-percent interest
in a medical practice, which he sold in 1998 for $2,262,500,
generating a taxable gain of $2,261,750 in that year. In late
1997, when negotiating the sale of his medical practice, peti-
tioner learned of xe´lan, 2 a financial planning company for
1 Unless otherwise noted, all section references are to the Internal Revenue Code of 1986, as
in effect for the year in issue, and all Rule references are to the Tax Court Rules of Practice
and Procedure. All dollar amounts are rounded to the nearest dollar.
2 According to a xe´ lan publication, the name xe´lan ‘‘[combines] ‘x’, the individual’s savings re-
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(151) VIRALAM v. COMMISSIONER 153
doctors. Petitioner attended a presentation promoting the
financial planning programs of xe´lan and became a member
in November 1997.
xe´lan, also known as the Economic Association of Health
Professionals, Inc., was a membership organization for doc-
tors during the years relevant to this case. It provided
member doctors with financial planning services, including
pension plans, insurance products, tax reduction and asset
protection strategies, and investment management. These
financial services were provided through a network of xe´lan
financial counselors.
Payment of a $975 membership fee entitled a xe´lan
member to the ‘‘xe´lan Tax Reduction Plan’’, including a
questionnaire on which he or she provided personal financial
information from which xe´lan made financial planning rec-
ommendations. Members were also provided various pro-
motional materials, including a Program Summary
describing xe´lan programs and services, and the xe´lan Doc-
tors Financial Education Program (Financial Education Pro-
gram), which provided similar material in video and audio
tape formats. 3 After joining xe´lan, petitioners received copies
of the xe´lan Tax Reduction Plan and the Financial Education
Program in December 1997 and, at some time before
engaging in the transfers at issue, a copy of the Program
Summary. Petitioner was familiar with these materials.
xe´lan Foundation
One of the financial planning strategies summarized in the
xe´lan promotional materials was establishment through
donations to the xe´lan Foundation (Foundation) of an
account that the materials characterized as a ‘‘donor advised
fund’’ or ‘‘family public charity’’ (Foundation account), by
means of which a donor’s donations would be segregated for
quired to finance lifestyle costs through life expectancy, with ‘e´lan’, the French word meaning
a lifestyle of personal freedom.’’
3 Petitioners objected, on the grounds of relevance, duplication, and, in one instance, lack of
foundation, to the admission of most of xe´lan’s promotional materials and to materials from the
files of Rick Jaye, the xe´lan financial counselor assigned to petitioners. We overrule petitioners’
objections. The evidence is relevant because the promotional materials of xe´lan and the xe´lan
Foundation bear upon petitioner’s intent and understanding when he transferred appreciated
stocks to the xe´lan Foundation. The disputed exhibits are not unduly duplicative, as there are
variations in the material that help to establish the chronology of events. As the evidence estab-
lishes that Mr. Jaye was petitioners’ financial counselor at xe´lan, the materials that are stipu-
lated to be from his files do not lack foundational evidence.
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154 136 UNITED STATES TAX COURT REPORTS (151)
investment and future distribution as the donor might rec-
ommend. 4 A xe´lan financial counselor recommended, on the
basis of the personal financial information petitioners pro-
vided, that petitioner establish a Foundation account.
For the periods relevant to this case, the Foundation was
recognized by the Commissioner as an organization described
in section 501(c)(3), having received a determination letter to
that effect on March 20, 1998 (determination letter). The
Foundation was listed as a public charity in Publication 78,
Cumulative List of Organizations described in Section 170(c)
of the Internal Revenue Code of 1986, published in January
1999. 5 The Commissioner issued a determination in 2002
that the Foundation was not a private foundation within the
meaning of section 509.
The promotional materials characterized Foundation
accounts as a ‘‘tax reduction’’ program and stated that the
Foundation ‘‘was created to benefit not only charitable
causes, but also doctors and their families.’’ The Program
Summary describes the Foundation as follows:
The xe´lan Foundation is a public charity that enables doctors to contribute
pre-tax earnings to their own family public charities that are subaccounts
of the ‘‘umbrella’’ xe´lan Foundation charity. * * * Growth on contributions
within the Family Public Charity accounts accrue [sic] tax deferred. Doctor
donors may direct the use of funds accumulated within their family public
charity accounts to finance charitable projects including personal teaching,
research, pro bono works, [and] college and graduate scholarship programs
* * *.
Donors and their family members may work for and be compensated by
their family public charities for good works (teaching, research, or pro-
viding pro bono services) they perform on behalf of their family public
charities. * * *
´ lan materials variously characterized a potential Foundation donor’s segregated ac-
4 The xe
count to be maintained at the Foundation as a ‘‘family public charity’’, a ‘‘sub-foundation of the
umbrella xe´lan Foundation’’, or a ‘‘donor advised fund’’. We shall refer to the account maintained
by the Foundation segregating property petitioner transferred to it, and the income generated
by and disbursements from those segregated assets, as petitioner’s Foundation account.
Any reference to a donor advised fund herein does not denote the term as defined in sec. 4966,
which establishes a definition of, and certain rules applicable to, a ‘‘donor advised fund’’, effec-
tive for periods after those at issue. See Pension Protection Act of 2006 (PPA), Pub. L. 109–
280, sec. 1231(a), 120 Stat. 1094. Likewise, secs. 170(f)(18) and 2522(c)(5), establishing certain
restrictions on deductions of charitable contributions to donor advised funds (as defined in sec.
4966) are effective for periods after those at issue. See PPA sec. 1234, 120 Stat. 1100.
5 The Foundation continued to be listed in Publication 78 at the time of trial. However, the
Commissioner issued an examination report in 2004 proposing revocation of the Foundation’s
exempt status, and that status was revoked on Sept. 13, 2010. Announcement 2010–55, 2010–
37 I.R.B. 346.
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(151) VIRALAM v. COMMISSIONER 155
The Financial Education Program also explained with ref-
erence to Foundation accounts that
Your family then is the advisor to that fund as to the way the money is
invested. And the growth on the invested money accrues tax deferred. Any-
time you want to you could take the money out of your family public
charity and pay yourself compensation to do good works.
The Foundation also offered Foundation account holders a
student loan program whereby Foundation account funds
could be disbursed as loans for college and graduate school
tuition and related expenses. The program’s terms further
provided that the loans could be repaid (with interest) either
through repayments generally commencing 5 years after
graduation or by the recipient’s providing charitable services
for designated periods. A xe´lan financial counselor wrote
petitioner in April 1998 recommending that he ‘‘Establish a
Foundation account for charitable giving, income tax reduc-
tion planning, estate tax reduction, educational funding, and
future retirement planning.’’ (Emphasis added.)
Petitioners had three children, and petitioner advised
Foundation personnel in the questionnaire he completed in
late 1997 that he anticipated paying for 8 years of college
and g for each of his children, at a cost of approximately
$40,000 annually for each. Petitioner was interested in the
Foundation’s student loan program; he understood that his
own children would be able to benefit from the student loan
program if he established a Foundation account and he
intended to use the account for that purpose.
Petitioner’s Establishment of Foundation Account
Following the xe´lan financial counselor’s recommendation,
petitioner took the initial steps to establish a Foundation
account in April 1998. Using funds already on deposit with
xe´lan, petitioner paid a $1,400 setup fee to establish a
Foundation account and made a $100 initial contribution to
the account.
On May 12, 1998, petitioner submitted an ‘‘Application To
Establish a Donor Advised Fund’’ to the Foundation, desig-
nating himself as the ‘‘fund advisor’’. Petitioner signed the
application under a provision labeled ‘‘Fund Advisor State-
ment’’, which stated:
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156 136 UNITED STATES TAX COURT REPORTS (151)
I certify that I understand the nature of donor advised funds and will con-
duct activities which satisfy the requirements of the Internal Revenue
Code. I understand that in order to qualify as a deductible contribution for
income tax purposes, the ownership and custody of my donated funds and
property will be fully relinquished to the xe´lan Foundation.
The application allowed petitioner to choose among 12
investment strategies for managing the assets contributed to
his Foundation account. Petitioner chose a strategy directed
at aggressive growth. 6
Petitioner received and reviewed a brochure describing the
features of the Foundation program entitled ‘‘A New
Approach to Charitable Giving and Savings’’. The brochure
stated, in response to the question ‘‘When can I start
drawing monies out?’’, that a doctor could do so when he
began performing community service work and that, to
comply with the tax code, a formal request was required to
be submitted to and approved by the Foundation’s board of
directors.
The brochure further warranted that ‘‘the xe´lan Founda-
tion will not initiate charitable distributions from your fund,
unless it is left with no advisor.’’
After establishing his Foundation account, petitioner
received a letter from the law firm of Conner & Winters,
legal counsel to the Foundation. The letter expressed an
opinion that it was more likely than not that a contributor
would be entitled to a deduction for a charitable contribution
to the Foundation. The letter represented that the opinion
expressed therein was based on an examination of the
Foundation’s certificate of incorporation, its bylaws, resolu-
tions of its board of directors, and representations made to
the Commissioner of Internal Revenue in connection with the
Foundation’s application for recognition of section 501(c)(3)
tax-exempt status. However, the letter stated that Conner &
Winters had not examined any documents pertaining to, and
would not render an opinion as to the tax effect of, any of
several programs of the Foundation, including ‘‘donor advised
distributions’’, ‘‘educational loans’’, and ‘‘charitable service
[performed by a donor] for the Foundation’’. The letter
expressly disclaimed any opinion on the tax effect of ‘‘any
6 The application also had a section entitled ‘‘Proposed Charitable Purpose’’ wherein the appli-
cant was requested to check off certain charitable purposes or to describe his charitable objec-
tives. Petitioner left this section blank.
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(151) VIRALAM v. COMMISSIONER 157
specific charitable or other activity of the Foundation or any
donor with respect to the Foundation’’. No attorney at
Conner & Winters had any contact with petitioners at any
time before the opinion letter was sent. Conner & Winters
sent similar letters to other doctors who established Founda-
tion accounts.
Petitioner also received a letter from xe´lan’s chairman on
May 26, 1998, thanking him for his participation in the
Foundation program. Enclosed with this letter were sample
student loan program participation forms and a sample dis-
tribution request form.
Upon establishing his Foundation account, petitioner made
several transfers of stocks to the Foundation. The transfers
are summarized as follows.
Date of transfer Stock Value 1
Aug. 25, 1998 Republic Security Financial $85,000
Aug. 25, 1998 Professionals Group, Inc. 51,317
Nov. 20–25, 1998 Various 2 121,536
Dec. 28, 1998 Citrix Systems, Inc. 4,580
Total 262,433
1 Fair
market value as of the date of transfer.
2 The stocks transferred on Nov. 20–25, 1998, consisted of
shares of 25 companies.
The transferred stocks were recorded in the Foundation’s
records in a subaccount denominated the Viralam Family
Charitable Trust (referred to herein as petitioner’s Founda-
tion account).
After each of the transfers summarized above, petitioner
received an acknowledgment letter from the Foundation that
was labeled ‘‘Receipt for Gift of Stock’’. These acknowledg-
ment letters described the stock transferred and its fair
market value on the date of the transfer. Each letter also
contained the following statement: ‘‘No goods or services
were provided for this donation.’’
Petitioner’s aggregate basis in the transferred stocks was
$131,360. The Foundation subsequently sold all of the stocks
during 1998 and invested the proceeds, again segregating
them in the Foundation’s records as petitioner’s Foundation
account. The sales of the stocks yielded the following pro-
ceeds:
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158 136 UNITED STATES TAX COURT REPORTS (151)
Net
Date of sale Stock proceeds
Sept. 28, 1998 Republic Security Financial $73,795
Sept. 28, 1998 Professionals Group, Inc. 40,151
Dec. 3, 1998 Various 106,203
Dec. 30, 1998 Citrix Systems, Inc. 4,535
Total 224,684
The assets in petitioner’s Foundation account generated $981
in dividends and interest in 1998.
The Foundation sent petitioner a monthly accounting of his
Foundation account. Between May 18, 1998, and February 1,
2005, $29,383 was deducted from petitioner’s Foundation
account for management and administration fees, consisting
of a one-time fee equal to 6 percent of the value of the stock
petitioner transferred to the account and an annual invest-
ment fee of 1 percent of the account’s value. 7
Charitable Contribution Deduction for Stock Transfers to
Foundation
Petitioners timely filed a joint Federal income tax return
for 1998. In addition to reporting a $2,261,750 gain from the
sale of petitioner’s medical practice, they claimed a charitable
contribution deduction of $263,933, equal to the fair market
value of the stocks transferred to the xe´lan Foundation in
1998 ($262,433), plus the $1,400 setup fee paid to the
Foundation and the initial $100 in cash deposited into peti-
tioner’s Foundation account in that year. Petitioners’ 1998
return was prepared by petitioners’ accountant, who had
been providing accounting services to petitioners since 1984.
Petitioner discussed the charitable contribution deduction
with the accountant before petitioners signed the return.
Petitioners did not include in income on the 1998 return any
gain from the sales of the stocks that had been transferred
to the Foundation, and the Foundation had sold, in 1998 nor
any dividends or interest generated by the assets in peti-
tioner’s Foundation account during that year.
7 The parties have stipulated that the annual investment fee was 1 percent, whereas the
Foundation brochure in evidence refers to the fee as 1.1 percent. We consider the discrepancy
immaterial for purposes of deciding the case.
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(151) VIRALAM v. COMMISSIONER 159
Distributions From Petitioner’s Foundation Account in Subse-
quent Years
In accordance with petitioner’s requests, the Foundation
made distributions from his Foundation account of $4,000,
$1,000, $5,000, and $4,000 to the Shiva Vishnu Temple in
1999, 2000, 2001, and 2002, respectively, and distributions of
$1,000 and $500 to the Sarada Foundation in 2002 and 2003,
respectively. 8
Also in 2001 petitioner requested that $17,247 be distrib-
uted from his Foundation account to the University of
Pennsylvania in connection with the Foundation’s student
loan program, as a loan to his son Vinay to cover the cost of
Vinay’s tuition and room and board at that institution. The
distribution was made pursuant to a ‘‘distribution request’’
form the Foundation sent to petitioner on April 25, 2001. As
sent to petitioner, the form was dated July 9, 2001, and par-
tially completed. Filled out were entries for the ‘‘amount of
distribution’’: ‘‘$17,247’’; ‘‘name of charity’’: ‘‘University of
Pennsylvania’’; and the ‘‘purpose of distribution’’: ‘‘Student
Loan for Vinay S. Viralam’’. The form had been signed as
approved by a Foundation official and was forwarded to peti-
tioner for his signature, with instructions that it be returned
to the Foundation with certain loan documents to be
executed by Vinay, as described below.
On July 6, 2001, Vinay executed documents with respect to
the $17,247 loan for his tuition and expenses at the Univer-
sity of Pennsylvania. The documents included a ‘‘Commit-
ment Agreement’’ (commitment agreement) and an ‘‘Edu-
cation Expense Repayment Agreement’’ (repayment agree-
ment).
In the commitment agreement Vinay agreed to participate
in the Foundation’s ‘‘Educational Funding Program’’ and, in
return for receiving educational loans from the Foundation,
to provide 2,000 hours of charitable work for the Founda-
tion for each year of educational expenses advanced. The
commitment agreement stated that if Vinay did not under-
take sufficient charitable work to repay the educational
expenses advanced, he would repay the Foundation all edu-
8 Petitioners claimed charitable contribution deductions for the distributions made by peti-
tioner’s Foundation account to Shiva Vishnu Temple in 1999 and 2000 on their Federal income
tax returns for those years but now concede that those deductions were improper.
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160 136 UNITED STATES TAX COURT REPORTS (151)
cational expenses advanced that were not reduced by chari-
table services, together with interest according to the terms
of the repayment agreement. Finally, the commitment agree-
ment stated that ‘‘the student will provide regular reports, at
least annually, of his or her progress in the course of study
and intended work, as well as, his or her plan to meet the
obligations of the Agreement.’’
The repayment agreement acknowledged cash advances on
Vinay’s behalf by the Foundation to the University of
Pennsylvania for tuition, fees, and on-campus room and
board for the period beginning August 2001. The repayment
agreement provided that Vinay would repay to the Founda-
tion the sums advanced plus annual interest equal to speci-
fied Federal long-term rates commencing on the date of the
agreement. Under the agreement, the obligation to repay
principal and interest could be satisfied either by Vinay’s
performance of charitable services at the rate of 2,000 hours
of service for each full year of education expenses advanced,
or by actual payment of principal and accrued interest. No
payments were due until 5 years after Vinay’s ‘‘originally
scheduled graduation date’’. At that time, any balance not
satisfied through the charitable services option was required
to be repaid over a 15-year term.
Sometime shortly after July 6, 2001, petitioner submitted
the completed distribution request form and loan documents,
and on July 25, 2001, the Foundation made a distribution of
$17,247 to the University of Pennsylvania for tuition, fees,
and room and board for Vinay.
Also in July 2001, respondent commenced an examination
of petitioners’ 1998 return. On May 20, 2002, respondent
sent petitioners a 30-day letter, proposing a disallowance of
the charitable contribution deduction claimed for petitioner’s
transfers of appreciated stocks to the Foundation and an
increase in petitioners’ capital gains income (reflecting an
attribution to them of the proceeds of the sales of stocks in
1998 after their transfer to the Foundation).
Petitioner submitted four additional distribution requests
in 2002 that resulted in transfers by the Foundation to the
University of Pennsylvania for Vinay’s tuition, fees, and room
and board (to be treated as loans to Vinay) of $6,769,
$13,073, $14,385, and $18,825, on January 28, May 20, July
24, and December 26, 2002, respectively. The distributions
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(151) VIRALAM v. COMMISSIONER 161
petitioner requested from his Foundation account in 2001
and 2002 for Vinay’s University of Pennsylvania expenses
totaled $70,299.
On June 15, 2003, $19,499, or 10 percent of petitioner’s
Foundation account balance, was withdrawn for ‘‘legal fees’’.
xe´lan paid the fees for petitioners’ legal representation
during the examination of their 1998 return and the fees for
petitioners’ counsel in this proceeding.
On September 16, 2003, respondent issued petitioners a
notice of deficiency for 1998 disallowing their claimed chari-
table contribution deduction for the transfers of stocks (and
cash 9) to the Foundation and determining an accuracy-
related penalty. Eleven days earlier, petitioner arranged for
an entity he and Vinay controlled to pay the Foundation
$70,300, the total of the distributions to the University of
Pennsylvania on Vinay’s behalf from petitioner’s Foundation
account. 10 This payment was credited to petitioner’s Founda-
tion account. The Foundation thereupon waived all interest
that had accrued under the terms of the repayment agree-
ment and returned the commitment agreement and repay-
ment agreement to Vinay marked ‘‘paid in full’’, along with
a letter confirming that the $70,300 payment had fulfilled
Vinay’s obligation to the Foundation.
OPINION
Burden of Proof
Petitioners argue that respondent bears the burden of
proof in this proceeding pursuant to section 7491(a). How-
ever, the burden of proof has no practical consequence in this
case, as there is no evidentiary tie. Our findings with respect
to all factual issues are based upon a preponderance of the
evidence. See Blodgett v. Commissioner, 394 F.3d 1030, 1039
(8th Cir. 2005), affg. T.C. Memo. 2003–212; Knudsen v.
Commissioner, 131 T.C. 185, 188–189 (2008); see also Geiger
9 The disputed charitable contribution deduction reflects 1998 transfers of stocks with a fair
market value of $262,433, plus a $1,400 setup fee, and $100 in cash. The parties have not ad-
vanced any arguments for separate treatment of the setup fee, and we consequently do not dis-
tinguish it in our analysis.
10 We assume the $1 discrepancy between the $70,300 payment petitioner made to the Foun-
dation in 2003 and the $70,299 figure reached by totaling the distributions the Foundation made
to the University of Pennsylvania in 2001 and 2002 reflects rounding.
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162 136 UNITED STATES TAX COURT REPORTS (151)
v. Commissioner, 279 Fed. Appx. 834, 835 (11th Cir. 2008),
affg. T.C. Memo. 2006–271.
Charitable Contribution Deduction
Section 170(a)(1) allows a deduction for any charitable con-
tribution, payment of which is made during the taxable year.
Section 170(c)(2) defines a ‘‘charitable contribution’’ for this
purpose to include a contribution or gift to or for the use of
a foundation organized and operated exclusively for chari-
table or educational purposes. 11
In order for a transfer of property to a charitable organiza-
tion to qualify for a charitable contribution deduction, (1) the
transfer must be a completed gift; that is, the donor must
have relinquished dominion and control over the donated
property, Pollard v. Commissioner, 786 F.2d 1063, 1067 (11th
Cir. 1986), affg. T.C. Memo. 1984–536; (2) the contribution
must have been made with donative intent and without the
expectation of a substantial benefit in return, United States
v. Am. Bar Endowment, 477 U.S. 105, 118 (1986); and (3) a
contribution of $250 or more must be substantiated by a
contemporaneous written acknowledgment of the contribu-
tion by the donee organization that meets the requirements
of section 170(f)(8)(B), sec. 170(f)(8).
Respondent contends that petitioners are not entitled to a
charitable contribution deduction for the stock transfers to
the Foundation because petitioners never surrendered
dominion and control over the property or, alternatively,
because petitioners failed to substantiate the deduction as
required by section 170(f)(8), the Foundation’s acknowledg-
ment of the contribution having failed to describe or value
the goods or services that petitioner expected to receive in
consideration of the contribution. Petitioners contend that
they relinquished to the Foundation all control over the
transferred property, citing petitioner’s certification to that
effect in the Fund Advisor Statement he executed in connec-
tion with establishing his Foundation account. Petitioners
further contend that petitioner’s Foundation account satisfied
the requirements for a donor advised fund as set out in Natl.
Found., Inc. v. United States, 13 Cl. Ct. 486 (1987). They
11 As reflected in our findings, the parties have stipulated that the Foundation was a tax-ex-
empt organization described in sec. 501(c)(3) during the periods relevant to this case.
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(151) VIRALAM v. COMMISSIONER 163
maintain that, consistent with the holding in that case, peti-
tioner could only suggest that the Foundation make des-
ignated charitable contributions from his Foundation account
and suggest an investment strategy for the assets in the
account and that these factors are insufficient to establish
that petitioner retained control over the property transferred
to the Foundation. Finally, petitioners contend that they did
not receive any substantial benefit in return for petitioner’s
contribution to the Foundation and properly substantiated
the charitable contribution deduction claimed.
We agree with respondent that petitioner retained
dominion and control over the property transferred to the
Foundation and held in his Foundation account. We reach
this conclusion principally on the basis of the use of funds in
petitioner’s Foundation account for student loans to his son.
We also find that the promotion of another Foundation
account feature—petitioner’s ability to arrange for distribu-
tions of account funds to compensate himself or family mem-
bers for performance of ‘‘good works’’—also supports the
conclusion that petitioner maintained control of the assets in
his Foundation account.
Petitioner received the xe´lan promotional materials and
was familiar with their contents. The materials petitioner
reviewed identified certain scholarship programs as one of
the undertakings to which a donor could direct funds in his
Foundation account. 12 Petitioner was aware of a Foundation
program under which student loans could be made from
Foundation accounts. The Foundation account arrangements
allowed a donor to designate a ‘‘fund advisor’’ to ‘‘advise’’ the
Foundation regarding distributions from the donor’s account,
and petitioner designated himself as fund advisor to his
account. A Foundation brochure stated that the Foundation
would not initiate charitable distributions from an individual
donor’s account unless there was no fund advisor in place.
Petitioner testified that he understood when deciding to
establish a Foundation account that the Foundation’s student
loan program would be available for his children’s use and
that he was contemplating using the student loan program
12 The Program Summary petitioner reviewed stated that donors to the Foundation with
Foundation accounts ‘‘may direct the use of funds accumulated within their family public charity
accounts to finance charitable projects including * * * college and graduate scholarship pro-
grams.’’
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164 136 UNITED STATES TAX COURT REPORTS (151)
for his children. The significance of the student loan program
in petitioner’s decision to make transfers to his Foundation
account is corroborated by the fact that a sample student
loan participation form was included with the first letter sent
to petitioner (by xe´lan’s chairman) acknowledging petitioner’s
establishment of a Foundation account.
When he established his Foundation account in 1998, peti-
tioner anticipated that each of his three children would incur
8 years of college and graduate school expenses which he
estimated would approximate $40,000 annually per child.
The distributions from petitioner’s Foundation account for
student loans for his oldest son dwarfed the distributions for
other purposes for the first 5 years, until respondent com-
menced an examination of petitioners’ 1998 return and pro-
posed to disallow their deduction for the contributions to the
Foundation. Disregarding payment of the Foundation’s
startup and annual management fees, the distributions made
from petitioner’s Foundation account in 1999 through 2003
for purposes other than Vinay’s student loans totaled
$15,500. 13 The distributions for Vinay’s student loans during
that period totaled $70,299, or approximately 82 percent of
distributions not devoted to management fees. Respondent
first proposed to disallow petitioners’ charitable contribution
deduction for the Foundation transfer in a 30-day letter
issued in May 2002 and formally did so in a notice of defi-
ciency issued on September 16, 2003. No distributions for
student loans were made from petitioner’s Foundation
account in 2003. Indeed, on September 5, 2003, just before
issuance of the notice of deficiency, petitioner arranged for
the repayment of Vinay’s student loans. 14 Given these facts,
we are persuaded that distributions for student loans to peti-
tioners’ children would have continued to constitute the
predominant use of the assets in petitioner’s Foundation
account, but for the scrutiny of the Internal Revenue Service.
The Foundation’s approval of petitioner’s son as a student
loan beneficiary was perfunctory. The Foundation sent peti-
13 For two of these distributions—$4,000 and $1,000 distributed to Shiva Vishnu Temple in
1999 and 2000, respectively—petitioners claimed charitable contribution deductions on their
Federal income tax returns for those years. These deduction claims suggest that petitioners con-
sidered the funds in petitioner’s Foundation account to be under his control in 1999 and 2000.
14 On Sept. 5, 2003, petitioner directed an entity controlled by him and Vinay to pay the Foun-
dation $70,300, the principal balance of the loans to Vinay (excluding accrued interest). Upon
receipt, the Foundation waived all accrued interest and declared the loans paid in full.
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(151) VIRALAM v. COMMISSIONER 165
tioner a distribution request form on which the approval for
a student loan for Vinay had already been signed by a
Foundation official before petitioner executed the form. There
is no evidence that the Foundation reviewed Vinay’s quali-
fications or otherwise exercised any independent judgment in
selecting him for a student loan. In the circumstances, it is
obvious that the selection of Vinay as a beneficiary of the
Foundation’s student loan program arose from his relation-
ship to petitioner and as a result of petitioner’s direction.
Petitioner’s understanding, at the time he transferred the
stocks to his Foundation account in 1998, that the account’s
assets could be used to make student loans to his children,
and the Foundation’s perfunctory acquiescence in making
such loans in subsequent years, provide substantial support
for the conclusion that petitioner neither intended to, nor in
fact did, cede dominion and control over the property trans-
ferred to the Foundation in 1998.
Petitioners, however, point to petitioner’s transfer of legal
title to the stocks he contributed to the Foundation and the
‘‘Fund Advisor Statement’’ petitioner signed when he estab-
lished the Foundation account, which stated that he ‘‘fully
relinquished’’ ownership of the stocks to the Foundation. In
petitioners’ view, these formalities establish that petitioner
had fully relinquished dominion and control over the prop-
erty transferred to the Foundation in 1998.
We disagree. The determination of whether dominion and
control has been surrendered for purposes of a charitable
contribution deduction under section 170 ‘‘must be based
upon all the facts of a particular case.’’ Pollard v. Commis-
sioner, T.C. Memo. 1984–536. In addition to petitioner’s ini-
tial understanding of his ability to direct the use of his
Foundation account funds for his children’s student loans,
and the Foundation’s subsequent course of conduct which
confirmed that understanding, we note that the Foundation
did not treat the purported legal obligations in the student
loan documents as binding. Although the commitment agree-
ment required Vinay to provide an annual report, there is no
evidence that he did so. More significantly, when petitioner
repaid the principal amount of Vinay’s student loans, the
Foundation waived all accrued interest, notwithstanding the
terms of the repayment agreement providing that interest
was to accrue commencing on the date the agreement was
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166 136 UNITED STATES TAX COURT REPORTS (151)
entered. 15 The Foundation having disregarded the obliga-
tions due to it from Vinay under two contracts executed in
connection with Foundation account transactions, there is no
reason to believe that the Foundation would enforce any
rights it held against petitioner by virtue of his execution of
the ‘‘Fund Advisor Statement’’.
A second feature of petitioner’s Foundation dealings also
contributes to the conclusion that he did not relinquish
dominion and control over the property transferred to the
Foundation. The xe´lan promotional materials stated that
‘‘Donors [to a Foundation account] and their family members
may work for and be compensated by their family public
charities [i.e., the donor’s Foundation account] for good works
* * * they perform on behalf of their family public charities.’’
The materials elsewhere represented: ‘‘Anytime you want to
you could take the money out of your family public charity
and pay yourself compensation to do good works.’’
While petitioner apparently did not seek a distribution
from his Foundation account to compensate him or a family
member for ‘‘good works’’, xe´lan’s representation to him that
he would be able to do so is further evidence that the
Foundation intended, and petitioner understood when he
made the transfers, that he could retrieve the transferred
property (or its proceeds) through this technique. A donor
advised fund creator’s option to receive fund assets as com-
pensation for the performance of charitable services by him-
self or family members has been treated as evidence of
retained dominion and control. See New Dynamics Found. v.
United States, 70 Fed. Cl. 782, 800–801 (2006). The materials
in the record describe only in very general terms the stand-
ards to be applied by the Foundation’s board of directors in
determining whether a donor’s Foundation account funds
should be paid out to him or a family member as compensa-
tion for the performance of ‘‘good works’’. We are satisfied on
this record that ‘‘good works’’ distributions were con-
templated by petitioner and the Foundation in 1998 as a
means for petitioner to retrieve his purported contributions
in the future. Consequently, we find that the possibility of
such distributions supports the conclusion that petitioner
15 Petitioners’ own estimate of the interest that had accrued on the Foundation account loans
to Vinay at the time they were repaid was $7,922.
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(151) VIRALAM v. COMMISSIONER 167
retained dominion and control over the property purportedly
contributed to the Foundation.
Petitioners contend that they did not have an impermis-
sible degree of dominion and control over their Foundation
account because it was a donor advised fund similar to the
arrangements found not to have resulted in a retention of
donor control in Natl. Found., Inc. v. United States, 13 Cl. Ct.
486 (1987). Natl. Found., however, is entirely distinguish-
able. The Claims Court there found that while a donor
advised fund creator could suggest a particular charitable
use, the tax-exempt organization administering the donor’s
funds would honor it only if the requested contribution was
‘‘in consonance with § 501(c)(3) charitable purposes.’’ Id. at
492. The court found substantial evidence that the National
Foundation board of directors exercised effective control to
ensure that distributions from its donor advised funds were
for charitable, not personal, purposes. By contrast, petitioner
requested, and the Foundation made, substantial distribu-
tions from petitioner’s Foundation account for a personal use;
namely, educational loans for his child. See Fausner v.
Commissioner, 55 T.C. 620, 624 (1971) (taxpayer’s payment
of children’s secondary school tuition is a personal, not a
charitable, expenditure); Whitaker v. Commissioner, T.C.
Memo. 1994–109 (to same effect for college tuition). More-
over, the arrangements in Natl. Found. did not include an
option whereby the donated funds could be distributed back
to the donor or his family as compensation for the perform-
ance of services deemed charitable by the foundation.
Instead, the Foundation account arrangements more
closely resemble those in New Dynamics Found. v. United
States, supra. In that case, the Court of Federal Claims sus-
tained the Commissioner’s denial of tax-exempt status for an
organization administering purported donor advised funds.
Among the features of those donor advised funds cited by the
court as grounds for denial of tax-exempt status were the
practices of distributing fund assets to donors’ family mem-
bers as compensation for the performance of charitable serv-
ices or to donors’ children as scholarships. Such practices,
which enabled donors to direct purportedly donated funds to
personal uses, contributed to the court’s conclusion that ‘‘the
donors in question did not truly relinquish ownership and
control over the donated funds and property.’’ Id. at 803.
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168 136 UNITED STATES TAX COURT REPORTS (151)
In sum, the Foundation’s representations concerning the
student loan program, petitioner’s understanding at the time
of the 1998 transfers of his ability to direct the use of his
Foundation account for the noncharitable, purely personal
purpose of funding student loans for his children, and peti-
tioner’s subsequent ability to do so in practice all persuade
us that petitioner never intended to, nor in fact did, relin-
quish dominion and control over the property transferred to
the Foundation. This conclusion finds further support in the
‘‘good works’’ option for distribution to petitioner from the
Foundation account. Accordingly, we hold that petitioner
retained dominion and control over the property he trans-
ferred to the Foundation in 1998 and is therefore not entitled
to a deduction under section 170(a). 16
Respondent argues in the alternative that, even if peti-
tioners were found to have ceded dominion and control of the
property they transferred to the Foundation, their claimed
charitable contribution deduction is not allowed because they
did not comply with the substantiation requirements of sec-
tion 170(f)(8). We agree.
Section 170(f)(8)(A) provides that no deduction shall be
allowed under section 170(a) for any contribution of $250 or
more unless the taxpayer substantiates the contribution with
a contemporaneous written acknowledgment of the contribu-
tion by the donee organization that meets certain require-
ments specified in section 170(f)(8)(B). Section 170(f)(8)(B)
requires that the donee organization state in the acknowledg-
ment ‘‘Whether the donee organization provided any goods or
services in consideration, in whole or part, for’’ the contrib-
uted property or cash. Sec. 170(f)(8)(B)(ii). If any goods or
services are so provided, the acknowledgment generally must
include ‘‘A description and good faith estimate of the value
of any goods or services’’ provided. Sec. 170(f)(8)(B)(iii). 17 The
16 Because we conclude that the student loan and ‘‘good works’’ features of petitioner’s Foun-
dation account demonstrate that he retained sufficient dominion and control over the trans-
ferred property to preclude a deduction under sec. 170(a), we find it unnecessary to consider
whether other features of the Foundation account arrangements constituted impermissible re-
tained control, including (i) the fact that petitioner was entitled to elect the investment strategy
for the assets in his Foundation account; (ii) the fact that periodic distributions were made from
petitioner’s Foundation account to compensate the Foundation for investment management serv-
ices provided to petitioner; and (iii) the fact that distributions were made from the account to
pay petitioners’ legal fees for their representation in the examination of their 1998 return and
the prosecution of this case.
17 If the goods or services consist solely of ‘‘intangible religious benefits’’, a statement to that
effect must be given in lieu of the description and good faith estimate of value. Sec.
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(151) VIRALAM v. COMMISSIONER 169
regulations clarify that a donee organization is treated as
having provided goods or services in consideration for the
taxpayer’s payment if the taxpayer expects to receive goods
or services in exchange for the payment at the time it is
made, including where the goods or services are provided in
a year other than the year when the taxpayer makes the
payment.
A donee organization provides goods or services in consideration for a tax-
payer’s payment if, at the time the taxpayer makes the payment to the
donee organization, the taxpayer receives or expects to receive goods or
services in exchange for that payment. Goods or services a donee organiza-
tion provides in consideration for a payment by a taxpayer include goods
or services provided in a year other than the year in which the taxpayer
makes the payment to the donee organization. [Sec. 1.170A–13(f)(6),
Income Tax Regs.]
Respondent argues that petitioner expected when he trans-
ferred the stocks to the Foundation in 1998 that the Founda-
tion would make student loans to his children and that con-
sequently the Foundation provided goods or services in
consideration of petitioner’s transfers within the meaning of
the statute and regulations.
Petitioners contend that respondent bears the burden of
proof on the issue of their receipt of benefits in exchange for
their contributions because it is a ‘‘new matter’’ within the
meaning of Rule 142(a) that was not raised in the notice of
deficiency and which requires the presentation of different
evidence. See Wayne Bolt & Nut Co. v. Commissioner, 93
T.C. 500, 507 (1989). 18 Even assuming, arguendo, that
respondent bears the burden of proving that petitioner
expected a benefit in exchange for his transfers of the stocks
to the Foundation, respondent has met that burden. 19 As our
170(f)(8)(B)(iii).
18 The notice of deficiency issued to petitioners merely states that the deductions claimed for
‘‘charitable contributions to the xe´lan Foundation * * * are not allowable because they were not
charitable contributions within the meaning of section 170 of the Internal Revenue Code.’’ Be-
cause the evidence adduced so clearly establishes that petitioner anticipated receipt of benefits
in exchange for his transfer of the stocks to the Foundation, respondent has satisfied any bur-
den of proof he might bear on this issue. Thus, we find it unnecessary to decide whether re-
spondent’s contention that petitioner received a benefit rendering his substantiation inadequate
under sec. 170(f)(8) ‘‘requires the presentation of different evidence * * * or merely clarifies or
develops the original determination’’. See Wayne Bolt & Nut Co. v. Commissioner, 93 T.C. 500,
507 (1989); see also Shea v. Commissioner, 112 T.C. 183, 191 (1999).
19 Petitioners also appear to suggest that respondent bears the burden of showing that the
fair market values of the goods or services they received equaled or exceeded the values of the
Continued
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170 136 UNITED STATES TAX COURT REPORTS (151)
findings reflect, the preponderance of the evidence shows
that petitioner anticipated at the time he transferred stocks
to the Foundation that the Foundation would extend student
loans to his children. In addition to the abundant cir-
cumstantial evidence on this score, petitioner so testified.
‘‘Goods or services’’ for purposes of section 170(f)(8) means
‘‘cash, property, services, benefits, and privileges.’’ Sec.
1.170A–13(f)(5), Income Tax Regs. We are satisfied that the
provision of student loans to family members falls within this
regulatory definition. The Foundation, upon petitioner’s
request, provided his son a student loan with extended
repayment terms and an option to substitute volunteer
charity work for actual repayment of principal and interest.
The outlays for petitioner’s son’s student loans constituted
more than 80 percent of the distributions from petitioner’s
Foundation account (exclusive of distributions to pay the
Foundation’s management fees) in the first 5 years after its
creation, until respondent began an examination of peti-
tioners’ 1998 return and the loans were repaid (with interest
forgiven) in 2003. The evidence as a whole persuades the
Court that, but for respondent’s scrutiny of the 1998 return,
petitioner would have continued to request and obtain stu-
dent loans for all three children from his Foundation
account. Thus, under the regulations, petitioner’s expectation
in 1998 that the Foundation would provide student loans to
his children in subsequent years means that the Foundation
is deemed to have provided goods or services in consideration
for the donated stocks. See sec. 1.170A–13(f)(6), Income Tax
Regs.
The written acknowledgment necessary under section
170(f)(8) to substantiate petitioners’ charitable contribution
was required to state whether goods or services were pro-
vided by the Foundation in consideration for the stocks
transferred to it and if so to describe them and provide a
good faith estimate of their value. See sec. 170(f)(8)(B). The
Foundation acknowledgment letters offered by petitioners as
substantiation of their claimed donations of stock each state,
stocks transferred, so that a deduction for any excess of the stocks’ values over the fair market
values of the consideration received is foreclosed. See sec. 1.170A–1(h), Income Tax Regs. We
disagree. To establish petitioners’ noncompliance with sec. 170(f)(8), respondent need only show
that petitioner expected to receive a benefit in exchange for his donations to the Foundation.
See Addis v. Commissioner, 374 F.3d 881 (9th Cir. 2004), affg. 118 T.C. 528 (2002).
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(151) VIRALAM v. COMMISSIONER 171
inaccurately, that ‘‘No goods or services were provided for
this donation.’’ Petitioners’ substantiation therefore fails to
comply with section 170(f)(8).
Section 170(f)(8) provides that ‘‘No deduction shall be
allowed’’ unless the taxpayer substantiates a contribution in
accordance with the terms of that section. Where the written
acknowledgment of a charitable contribution by a donee
organization states that the donor received no consideration
and the donor actually received a benefit in exchange for the
donation, the deduction is disallowed in its entirety. Addis v.
Commissioner, 374 F.3d 881 (9th Cir. 2004), affg. 118 T.C.
528 (2002). ‘‘The deterrence value of section 170(f)(8)’s total
denial of a deduction comports with the effective administra-
tion of a self-assessment and self-reporting system.’’ Id. at
887.
Petitioners contend belatedly on brief that the value of the
student loan benefit provided to petitioner’s son was small in
relation to the value of petitioner’s contribution to the
Foundation 20 and that they should be entitled to a partial
deduction equal to the amount by which the donated stocks’
values exceeded the value of the student loan benefit, citing
the ‘‘dual payment’’ rule of United States v. Am. Bar Endow-
ment, 477 U.S. at 117, and section 1.170A–1(h), Income Tax
Regs. However, having failed to satisfy a compliance provi-
sion designed to foster disclosure of ‘‘dual payment’’ or quid
pro quo contributions, petitioners may not now claim dual
payment treatment. See Addis v. Commissioner, supra at 887
(‘‘A partial deduction is foreclosed by the statutory lan-
guage.’’).
Capital Gains and Investment Income
Respondent determined that $93,324 in long-term capital
gain generated by the sales of the stocks in 1998 after peti-
tioner transferred them to the Foundation is includible in
petitioners’ gross income for that year, as well as $981 of
interest and dividends generated by the property in peti-
tioner’s Foundation account in 1998. We agree with
respondent.
20 Petitioners assert that the value of Vinay’s student loan benefit is equal to the interest
waived upon repayment of the loans in 2003, discounted to present value in 1998. This estimate
ignores the value of the loans anticipated for petitioner’s two other children and the value of
the option to repay the loans with charitable services.
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172 136 UNITED STATES TAX COURT REPORTS (151)
The Federal income tax consequences of property owner-
ship generally depend upon beneficial ownership, rather than
possession of mere legal title. Speca v. Commissioner, 630
F.2d 554, 556–557 (7th Cir. 1980), affg. T.C. Memo. 1979–
120; Beirne v. Commissioner, 61 T.C. 268, 277 (1973).
‘‘ ‘[C]ommand over property or enjoyment of its economic
benefits’ * * *, which is the mark of true ownership, is a
question of fact to be determined from all of the attendant
facts and circumstances.’’ Monahan v. Commissioner, 109
T.C. 235, 240 (1997) (quoting Hang v. Commissioner, 95 T.C.
74, 80 (1990)). As outlined in our previous discussion of peti-
tioners’ entitlement to a charitable contribution deduction,
although petitioner transferred legal title to various stocks to
the Foundation in 1998, petitioner retained dominion and
control over the stocks transferred. He understood that the
stocks would be managed according to an investment
strategy he designated, which might include their being sold
and the proceeds invested differently. He understood in 1998
that he would be able to direct that the assets in his Founda-
tion account be distributed to his children as student loans,
and the Foundation complied with his direction that the
account assets be applied in this manner in 2001 and 2002.
The funds so applied and remaining available for that pur-
pose included the proceeds of the sales of the transferred
stocks as well as interest and dividends generated by the
investment of those proceeds. Moreover, ‘‘interest earned on
investment is taxable to the person who controls the prin-
cipal.’’ P.R. Farms, Inc. v. Commissioner, 820 F.2d 1084,
1086 (9th Cir. 1987) (citing Helvering v. Horst, 311 U.S. 112,
116–117 (1940)), affg. T.C. Memo. 1984–549; see also
Monahan v. Commissioner, supra at 239–240. We see no rea-
son a similar rule should not apply to dividends. Because
petitioner retained dominion and control of the assets in his
Foundation account, we sustain respondent’s determination
concerning the capital gains and interest and dividend
income in 1998.
Section 6662 Penalty
Respondent also determined that petitioners are liable for
an accuracy-related penalty for negligence, substantial
understatement of income tax, or substantial valuation
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(151) VIRALAM v. COMMISSIONER 173
misstatement. See sec. 6662(a) and (b)(1)–(3). 21 Section
6662(a) imposes a penalty equal to 20 percent of that portion
of any underpayment of tax attributable to negligence or dis-
regard of rules or regulations, sec. 6662(b)(1), or any substan-
tial understatement of income tax, sec. 6662(b)(2). 22 Gen-
erally, no penalty shall be imposed under section 6662, how-
ever, with respect to any portion of an underpayment if it is
shown that there was reasonable cause for such portion and
that the taxpayer acted in good faith with respect to such
portion. Sec. 6664(c). Pursuant to section 7491(c), the
Commissioner has the burden of production in any court pro-
ceeding with respect to any penalty imposed by the Internal
Revenue Code. In order to meet that burden, the Commis-
sioner must offer sufficient evidence to indicate that it is
appropriate to impose the penalty. See Higbee v. Commis-
sioner, 116 T.C. 438, 446 (2001). Once the Commissioner
meets his burden of production, the taxpayer bears the bur-
den of proving error in the determination to impose a pen-
alty, including proving reasonable cause, substantial
authority, or other exculpatory factors. See id. at 446–447.
Negligence for this purpose is a lack of due care or the
failure to do what a reasonable and ordinarily prudent per-
son would do under the circumstances, and it includes any
failure to make a reasonable attempt to comply with the
income tax laws. Marcello v. Commissioner, 380 F.2d 499,
506 (5th Cir. 1967), affg. in part and remanding in part 43
T.C. 168 (1964) and T.C. Memo. 1964–299. Disregard
includes any careless, reckless, or intentional disregard. Sec.
6662(c). Negligence is strongly indicated where a taxpayer
fails to make a reasonable attempt to ascertain the correct-
ness of a deduction which would seem to a reasonable or pru-
dent person to be ‘‘too good to be true’’ under the cir-
cumstances. Neonatology Associates, P.A. v. Commissioner,
299 F.3d 221, 234–235 (3d Cir. 2002), affg. 115 T.C. 43(2000); Pasternak v. Commissioner, 990 F.2d 893, 903 (6th
Cir. 1993), affg. Donahue v. Commissioner, T.C. Memo. 1991–
21 Respondent did not pursue the substantial valuation misstatement penalty at trial or on
brief, and we accordingly deem it abandoned. See Rule 151(e)(4) and (5); Cluck v. Commissioner,
105 T.C. 324, 325 n.1 (1995); Petzoldt v. Commissioner, 92 T.C. 661, 683 (1989).
22 The penalties under sec. 6662(b)(1) and (2) are in the alternative and do not stack, in that
the penalty does not exceed 20 percent of any portion of an underpayment even if it is attrib-
utable to both paragraphs. Sec. 1.6662–2(c), Income Tax Regs. For completeness, we consider
the applicability of both.
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174 136 UNITED STATES TAX COURT REPORTS (151)
181; McCrary v. Commissioner, 92 T.C. 827, 849–850 (1989);
sec. 1.6662–3(b)(1)(ii), Income Tax Regs. Negligence can also
include any failure to substantiate an item properly. Sec.
1.6662–3(b)(1), Income Tax Regs.
We find that petitioners were negligent because petitioner
failed to make a reasonable attempt to ascertain the correct-
ness of a deduction which would seem to a reasonable or pru-
dent person to be ‘‘too good to be true’’ under the cir-
cumstances. A reasonable or prudent person would have per-
ceived as ‘‘too good to be true’’ a deduction for a supposed
charitable contribution where the amounts deducted could be
used to fund student loans for his own children. The same
is true with respect to the avoidance of capital gains taxes
on the sales of stocks where the proceeds remained under
petitioner’s control for use by his children. To the extent peti-
tioner ascertained the validity of the charitable contribution
deduction or capital gains exclusion from xe´lan’s employees
or its printed materials, there was an obvious conflict of
interest on the part of persons promoting xe´lan’s programs.
See Rybak v. Commissioner, 91 T.C. 524, 565 (1988). Any use
of the Conner & Winters opinion letter for this purpose was
also not reasonable in the circumstances. The Conner & Win-
ters letter referred to the Foundation’s student loan program
as follows:
Xe´lan Foundation Programs
We are aware of several programs which the Directors of the Foundation
may undertake in furtherance of the charitable activities of the Founda-
tion. We have no reason to believe that a donor’s participation in any of
the following programs will cause the foundation to lose its status under
Sections 501(c)(3), 509(a)(1) and 170(b)(1)(a)(iv) of the Code. Although we
have not examined documents with respect to any specific program and do
not hereby render an opinion as to the tax effect with respect to any such
program, we make the following general comments regarding the following
possible activities of the Foundation:
* * * * * * *
3. Educational Loans
The Foundation may support an educational loan program whereby stu-
dents may borrow college and graduate school tuition and related expenses
for education in an area related to the Foundation’s charitable purposes.[23]
23 There is no evidence that the Foundation either sought, or that petitioner or Vinay pro-
vided, any information concerning how Vinay’s education was in an area related to the Founda-
tion’s charitable purposes.
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(151) VIRALAM v. COMMISSIONER 175
Each student must agree to a loan agreement under which he or she
agrees to repay the loan, with interest, or alternatively provide one year
of service to a charitable organization or charitable activity for each year
of tuition received. Such agreement will be enforced. There can be no pri-
vate inurement with respect to such program.
[Emphasis added.]
Thus, while the letter specifically identified the student loan
program petitioner contemplated using, it expressly refrained
from offering any opinion concerning the tax effects of
participation in the program and confined itself merely to
describing certain features of the program. If anything, the
Conner & Winters letter should have put a professionally
educated person such as petitioner on notice that further
inquiry was warranted concerning the student loan program.
Petitioner also testified that he consulted with his account-
ant regarding the deduction, but there is nothing in the
record concerning the nature of those discussions or, impor-
tantly, establishing that the accountant was given complete
information, including petitioner’s intention to direct the use
of the proceeds from the contribution for student loans for his
children. Without some evidence that petitioner’s discussions
with his accountant covered his anticipated participation in
the student loan program, there is no basis to conclude that
petitioner made a reasonable attempt to ascertain the
correctness of the deduction. See Patin v. Commissioner, 88
T.C. 1086, 1130 (1987), affd. without published opinion 865
F.2d 1264 (5th Cir. 1989), affd. without published opinion
sub nom. Hatheway v. Commissioner, 856 F.2d 186 (4th Cir.
1988), affd. sub nom. Skeen v. Commissioner, 864 F.2d 93(9th Cir. 1989), affd. sub nom. Gomberg v. Commissioner, 868
F.2d 865 (6th Cir. 1989).
Finally, as our discussion of section 170(f)(8) reflects, peti-
tioner failed to substantiate the charitable contribution as
required, which is an indication of negligence.
We accordingly find that, absent their showing reasonable
cause (considered infra), petitioners were negligent with
respect to the charitable contribution deduction claimed and
the capital gains and other investment income excluded in
1998 with respect to the property transferred to petitioner’s
Foundation account. Respondent has met his burden of
production with respect to a negligence penalty for the entire
underpayment.
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176 136 UNITED STATES TAX COURT REPORTS (151)
A substantial understatement of income tax exists if the
amount of tax required to be shown on the return exceeds
that shown by 10 percent or by $5,000, whichever amount is
greater. Sec. 6662(d)(1)(A). We have sustained respondent’s
determinations disallowing a charitable contribution deduc-
tion of $263,933 and requiring inclusion of capital gains
income and other investment income of $93,324 and $981,
respectively. The resulting deficiency, which equals the
understatement, is $91,948—which exceeds 10 percent of
$764,560, the amount required to be shown on petitioners’
1998 return. Respondent has therefore satisfied his burden of
production regarding the existence of a substantial under-
statement, and petitioners bear the burden of showing any
exculpatory factors.
Under section 6662(d)(2)(B), any understatement for pur-
poses of the penalty for a substantial understatement of
income tax shall be reduced by that portion of the under-
statement which is attributable to ‘‘the tax treatment of any
item by the taxpayer if there is or was substantial authority
for such treatment’’. Authority for this purpose may include
court cases, private letter rulings, and administrative
pronouncements published by the Internal Revenue Service
in the Internal Revenue Bulletin. Sec. 1.6662–4(d)(3)(iii),
Income Tax Regs. The weight of an authority depends on its
relevance and persuasiveness and the type of document pro-
viding the authority. Sec. 1.6662–4(d)(3)(ii), Income Tax
Regs.
Petitioners contend that they had substantial authority for
the understatement at issue, citing the inclusion of the
Foundation in Publication 78, the determination letter issued
by the Internal Revenue Service to the Foundation deter-
mining that it qualified for tax exemption as an organization
described in section 501(c)(3), and Natl. Found., Inc. v.
United States, 13 Cl. Ct. 486 (1987). 24
We disagree. The inclusion of an organization in Publica-
tion 78 ‘‘signifies that it has received a ruling or determina-
tion letter from the Service stating that contributions by
donors * * * are deductible as provided in section 170 of the
Code.’’ Rev. Proc. 82–39, sec. 2.03, 1982–2 C.B. 759, 760
(emphasis added). The Foundation’s inclusion in Publication
24 Petitioners also refer to ‘‘other authorities’’ on brief but never name them.
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(151) VIRALAM v. COMMISSIONER 177
78 may constitute substantial authority that the organization
to which petitioners made a donation in 1998 satisfied sec-
tion 170(c) (a point that respondent does not dispute), but
petitioners would still be required to show that their chari-
table contribution deduction satisfied other requirements of
section 170. The Foundation’s determination letter, on which
petitioners also rely, makes this point explicitly, stating:
‘‘Donors may deduct contributions to you [the Foundation]
only to the extent that their contributions are gifts, with no
consideration received’’ and citing Rev. Rul. 67–246, 1967–2
C.B. 104. Consequently, neither Publication 78 nor the
Foundation’s determination letter provides any authority
that petitioners were entitled to deduct a contribution where
they anticipated, and in fact received, consideration in
exchange. Natl. Found., Inc. v. United States, supra, likewise
does not constitute authority for petitioners’ position. As ear-
lier discussed, the case is readily distinguishable from peti-
tioners’ circumstances in that the court there found that the
donee organization exercised effective control to ensure that
distributions were for charitable purposes. By contrast, peti-
tioner requested and the Foundation complied with substan-
tial distributions for personal purposes. In sum, petitioners
have failed to show that they had substantial authority for
any portion of the understatement.
Finally, to the extent petitioners may be claiming that they
had reasonable cause in view of their reliance on professional
advice, see sec. 6664(c); sec. 1.6664–4(b)(1), Income Tax
Regs., we find that claim meritless. The Conner & Winters
opinion letter expressly disavowed any opinion concerning a
Foundation donor’s participation in the student loan pro-
gram. As for petitioners’ accountant, as noted there is no evi-
dence that the accountant was given necessary and accurate
information concerning petitioner’s transactions with the
Foundation to form a professional judgment. See Neonatology
Associates, P.A. v. Commissioner, 115 T.C. at 99.
For the foregoing reasons, we sustain respondent’s deter-
mination that petitioners are liable for an accuracy-related
penalty under section 6662 for negligence or for substantial
understatement of income tax.
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178 136 UNITED STATES TAX COURT REPORTS (151)
Conclusion
Petitioners are not entitled to a charitable contribution
deduction under section 170 for their transfers of appreciated
stocks to the Foundation in 1998. Petitioners must include in
gross income the capital gain realized when the Foundation
sold the appreciated stocks in 1998 and must include
the investment income generated in 1998 by the property
in petitioner’s Foundation account. Petitioners are liable for
the accuracy-related penalty under section 6662.
We have considered all other arguments made by the par-
ties, and to the extent not discussed, we conclude those argu-
ments are moot, without merit, or irrelevant.
To reflect the foregoing,
Decision will be entered under Rule 155.
f
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