Memorandum Findings of Fact and Opinion
STERRETT, Chief Judge:
This case was assigned to Special Trial Judge Francis J. Cantrel pursuant to section 7456(c) (redesignated section 7443A by section 1556 of the Tax Reform Act of 1986, Pub. L. 99-514, 100 Stat.
Opinion of the Special Trial Judge
CANTREL, Special Trial Judge:
In his notice of deficiency respondent determined deficiencies in petitioners' Federal income tax and additions to the tax for the taxable calendar years 1971 through 1973 as follows:
Additions to Tax, I.R.C. 1954 Years Income Tax Section 6653(b)
21971 ............ $ 6,187.06 $3,093.53 1972 ............ 13,300.00 6,650.00 1973 ............ 13,861.00 6,931.00
The following adjustments to income were determined by respondent in his notice:
1971 1972 1973 Unreported Income .................... $12,885.87 $29,773.19* $16,777.91* Contributions ........................ 1,541.50 574.50* 5,835.00* Partnership Income ................... 2,166.70 -0- -0- Auto Expense ......................... 402.00 948.00* 762.00* Entertainment ........................ 1,562.00 781.00* 786.00* Medical Expense
3..................... 769.00 392.20 (46.80) Interest ............................. (177.94) 59.54* 208.15* Unreported Fees ...................... -0- 833.00 4,200.00** Office-In-Home ....................... -0- 135.00* 385.00* Seminars ............................. -0- -0- 1,248.39* __________ __________ _______________ $19,149.13 $33,496.43 $30,155.65 4* These adjustments were conceded at trial by petitioners. ** At trial, petitioners conceded that they received $3,100.00 in unreported fee income in 1973.
After the concessions noted above, the issues for decision are:
1. Whether petitioners received unreported income in 1971 in the amount of $12,885.87.
2. Whether petitioners are entitled to claimed charitable deductions in 1971 of $1,541.50.
3. Whether petitioner's distributive share of the ordinary income of Swerdloff, Albert and Lasover, a partnership, is increased in the amount of $2,166.70 in 1971 as a result of adjustments made to the partnership's income.
4. Whether petitioners are entitled to claimed automobile expenses in 1971 in the amount of $402.00.
5. Whether petitioners are entitled to claimed entertainment expenses in 1971 of $1,562.00.
6. Whether petitioners received income from unreported fees in 1972 and 1973 in the respective amounts of $833.00 and $1,100.00.
7. Whether petitioner, Arlene B. Swerdloff (hereinafter sometimes called "Ms. Swerdloff"), is entitled to relief, as an innocent spouse, from income tax due on the 1971, 1972 and 1973 joint Federal income tax returns filed by petitioners.
8. Whether a part of the underpayment of income tax in each of the years 1971 through 1973 is due to the fraud of petitioner.
9. Whether all or any portion of the testimony of Stanley J. Bomstein is inadmissable.
Findings of Fact
Petitioners resided at 55 Penny Lane, Baltimore, Maryland on the date they filed their petition herein. They filed joint 1971, 1972 and 1973 Federal income tax returns (hereinafter "return" or "returns") with the Director, Internal Revenue Service Center, Philadelphia, Pennsylvania.
Throughout the years at issue petitioners were married and living together as husband and wife. Prior to, during and after the years herein involved, petitioner was a practicing attorney licensed in the State of Maryland. During part of 1971 he was engaged in the practice of law as a partner in the partnership of Swerdloff, Albert and Lasover. In August of that year that partnership was dissolved and the partnership of Swerdloff, Rabineau and Murphy was formed. Petitioner engaged in the practice of law as a partner in said latter partnership during
Unreported Income — Bank Deposits
Respondent considered the books and records submitted by petitioners to be incomplete and, thus, unreliable sources for determining the correct amounts of income and expense for the years before the Court.
Ms. Swerdloff received wage income from the University of Maryland in 1971, 1972 and 1973 in the amounts of $2,845.00, $3,277.00 and $1,649.00, respectively.
In 1971, Ms. Swerdloff maintained checking account number 556-0054-4 at the Equitable Trust Bank ("Equitable Trust") in Baltimore, Maryland and during that year she made deposits in that account approximating $7,000.00
On October 13, 1971, Ms. Swerdloff opened checking account number 756-0880-3 at Equitable Trust. From the date she opened that account through December 13, 1971 she deposited $2,790.00 in that account. During 1972 and 1973, she made deposits in this account in the amounts of $16,502.61 and $23,587.51, respectively.
Petitioner, during the years 1971 through 1973, maintained checking account number 306-14283 at the Union Trust Bank ("Union Trust account") and checking account number 7951179 at the First National Bank ("FNB account"). Both banks are located in Baltimore, Maryland.
Total Bank Deposits ...................... $66,313.96 Less: Loan proceeds deposited .......... (9,400.00) Union Trust checks redeposited ..................... (5,698.00) Gross income per return .......... (38,330.09) __________ Unreported Income ........................ $12,885.87
Petitioners deducted the following contributions on their 1971 return:
Organization Amount Temple ............................ $375.00 Swerdloff, Albert & Lasover, Partnership ..................... 120.00 Assoc. Jewish Charities ........... 250.00 Israel Emerg. Fund ................ 200.00 Univ. of Baltimore ................ 250.00 Ted Levin Memorial Fund ........... 36.00 B'Nai Brith ....................... 100.00 Lacrosse Hall of Fame ............. 650.00 Chestnut Firemen .................. 50.00 Owings Mill Firemen ............... 25.00 ACLU .............................. 10.00 Cornell University ................ 100.00 Misc. Organized Charities ......... 113.00 _________ $2,279.00
Respondent disallowed $1,541.50 of the amount claimed for contributions for failure to establish that the amounts disallowed were expended for the purpose designated and were allowable under section 170.
In 1971 petitioner received taxable income from the partnership of Swerdloff, Albert and Lasover in the amount of $22,542.00, which was reported on petitioners' 1971 return. In 1973, the partnership return was audited by the Internal Revenue Service and, as a result, the following adjustments were made to partnership income:
Selling and entertainment ............. $3,346.00 Meetings and dinners .................. 895.00 Parking ............................... 1,389.00 Employee benefits ..................... 870.12 _________ $6,500.12
Petitioners deducted $1,038.00 for automobile expenses on their 1971 return.
Petitioners deducted $1,562.00 for entertainment expenses on their 1971 return. Respondent disallowed the entire amount for failure to establish that the amount disallowed constituted an ordinary and necessary business expense and, if expended, was expended for the purpose designated within the intendment of sections 162(a) and 274.
Unreported Fee Income
During 1971, i.e., up to August of that year, Swerdloff, Albert and Lasover and, thereafter, for the balance of that year and throughout 1972 and 1973, Swerdloff, Rabineau and Murphy ("the partnership"), were on retainer as attorneys paid by Maryland Indemnity Insurance Company ("Maryland Indemnity") to represent their insureds against tort claims (accident) where law suits were filed.
a. Howard G. Reamer In or about September 1971, Ralph Staten and Christine Foskey filed an action in the Superior Court of Baltimore City against Margaret Bell, t/a G.I. Cab Company through their attorney Howard G. Reamer ("Reamer").
In late June or early August 1972, petitioner received a check from Reamer respecting a settlement in the above-filed action in the amount of $583.00. In December 1972, petitioner received another check from Reamer in the amount of $250.00. These checks, totalling $833.00, were deposited to petitioner's checking account at FNB.
Respondent determined that petitioners received $833.00 in unreported fee income in 1972.
b. Stanley J. Bomstein. Stanley J. Bomstein ("Bomstein") was an attorney who was admitted to practice in the State of Maryland in 1962.
In 1971, 1972 and 1973 Bomstein was in general practice with a majority of negligence cases. He was a plaintiff's attorney. Basically, his particular function was in handling settlements. Trial work was referred out to other attorneys. To settle a negligence case he would obtain all the medical and other expenses and negotiate with an insurance adjustor. If the case was past the adjustor stage, he would negotiate with the insurance company or the attorney who was representing it. Once a dollar amount was negotiated he would get a draft (check) from the insurance company and his clients would come into his office and endorse the draft and sign the settlement sheet. All of the settlement checks were deposited in an escrow account and all disbursements were made out of it to clients, doctors, etc., and to petitioner.
During 1972 and 1973, Bomstein was involved in a number of accident cases, as the attorney for the plaintiffs, in which Maryland Indemnity was the carrier for the insured. In 95 percent of those cases it was necessary to file suit. Petitioner, whom Bomstein had known for some 20 years, both on a professional level and through various athletic endeavors, represented Maryland Indemnity in those cases.
Bomstein also knew Reamer, whose practice was similar to Bomstein's and who maintained
Sometime in 1972, after his discussions with Reamer, Bomstein called petitioner on the telephone to ascertain whether the latter would consider settling cases in suits in which they represented the parties under an arrangement such as petitioner had with Reamer. During this conversation Bomstein informed petitioner of the discussions he had had with Reamer. Bomstein was advised to come up to petitioner's office, which he did.
During the discussions that took place in petitioner's office, petitioner was again informed by Bomstein of the latter's discussions with Reamer. At no time, either during the telephone conversation mentioned above or during the office meeting, did petitioner express surprise, question or deny any of the statements made by Bomstein concerning his discussions with Reamer. During this office meeting it was agreed that Bomstein would get the case files back from the other attorneys, rather than letting them handle those cases. It was further agreed that the cases would be prepared all the way, i.e., as if they were being readied for trial. In furtherance of the agreement, interrogatories were to be filed and served and all medical and special expenses were to be ascertained so that petitioner would have a proper basis to evaluate a settlement. Finally, it was agreed that once a settlement was negotiated, Bomstein would pay petitioner 50 percent of his fee (Bomstein's) by check.
Pursuant to their agreement, Bomstein mailed his check to petitioner for one-half of the fee for the first case settled by them. A day or so later petitioner called Bomstein on the telephone and told him that when he came into his office that morning the envelope had been opened and the materials contained therein were open on his desk for all to see and that he didn't want his partners to see that. Petitioner directed Bomstein to see to it that all future mailings were marked personal and confidential.
During 1973 petitioner received at least 12 checks from Bomstein in accord with their fee-splitting agreement.
During the course of the audit of petitioners' 1973 return respondent's examining revenue agent, Nelson Magram ("Mr. Magram"), received from petitioners' representative, Mr. Sylvan Naron, C.P.A., a page which had the following information thereon:
Legal Fees Not firm connected Special Consultation ............ $4,200.00
Petitioners received an additional $1,100.00 in unreported fee income in 1973. No part of the $1,100.00 was reported as income on petitioners' 1973 return nor was it included as income on the 1973 return of the partnership.
Petitioners, at paragraph 5.8. of their petition, allege that Ms. Swerdloff is an innocent spouse with respect to any underpayments of tax for the years in issue.
Additions to Tax for Fraud
The books and records maintained by petitioners during 1971-1973 were incomplete and not reliable sources of data upon which petitioners' correct taxable income and tax liability could be determined for those years. As a result, respondent was compelled to issue administrative summonses to the banks in which petitioners maintained their checking accounts in order to determine the correct amount of income petitioners received. During the years 1971, 1972 and 1973 petitioners received unreported income in the amounts of $12,885.87, $29,773.19 and $16,777.91, respectively.
Prior to, during and after the years involved herein, petitioner was a practicing attorney in the State of Maryland. During the years at dispute before the Court, he was engaged in the practice of law as a named partner in two partnerships, which said partnerships were on retainer as attorneys paid by Maryland Indemnity
During 1972, petitioner received unreported fee income of $833.00 and in 1973 he received additional unreported fee income aggregating $1,100.00.
On November 20, 1974, petitioner was indicted by the Grand Jury for the District of Maryland on 11 counts of mail fraud in violation of Title 18 U.S.C. sections 1341 and 1342 (1982).
And the Grand Jury for the District of Maryland further charges:
26 U.S.C. [Sec.] 7206(1)
On February 18, 1976, petitioner entered a plea of guilty to the charge contained in Count XVIII of the indictment.
Petitioners' correct taxable income, the amount reported and the understatement for the years in issue are:
1971 1972 1973 Correct Taxable Income .............. $45,391.13 $56,690.43 $58,025.65
24Amount Reported ..................... 26,242.00 23,194.00 27,870.00 __________ __________ __________ Understatement ...................... $19,149.13 $33,496.43 $30,155.65
Petitioners' correct income tax liability, the amount reported and the underpayment for the years before the Court are:
1971 1972 1973 Correct Income Tax Liability ........ $12,993.06 $19,212.00 $21,696.00* Amount Reported ..................... 6,806.00 5,912.00 7,835.00 __________ __________ __________ Underpayment ........................ $ 6,187.06 $13,300.00 $13,861.00* * These are the amounts as determined by respondent in his notice of deficiency. Each such amount is overstated by the amount of tax on $99.00. See n. 4, supra.
Ultimate Findings of Fact
Petitioners did not maintain complete books and records during 1971-1973 for the purpose of correctly determining their taxable income and income tax liability for those years.
Petitioners received unreported income in 1971 in the amount of $12,885.87.
Petitioners received $833.00 in unreported split-fee income in 1972 and $1,100.00 in additional unreported split-fee income in 1973.
Petitioner's distributive share of additional partnership ordinary income in 1971 is $2,166.70.
For the year 1971, petitioners are not entitled to deductions for contributions, automobile expense and entertainment in amounts greater than those allowed by respondent.
Ms. Swerdloff is entitled to no relief as an innocent spouse for any of the years 1971, 1972 or 1973.
Petitioners underpaid their joint income tax liability for each of the years 1971, 1972 and 1973.
Part of the underpayment of tax for each of the years 1971, 1972 and 1973 is due to the fraud of petitioner.
Unreported Income — Bank Deposits
Under section 6001 all taxpayers are required to keep sufficient records to enable respondent to determine their correct tax liability. In the absence of adequate books and records, the existence and amount of a taxpayer's income may be proven by any method that clearly reflects income. Sec. 446(b); Harper v. Commissioner [Dec. 30,129], 54 T.C. 1121, 1129 (1970). The bank deposits method has long been an accepted method of reconstructing income received. Estate of Mason v. Commissioner [Dec. 33,349], 64 T.C. 651, 656 (1975), affd. [78-1 USTC ¶ 9162], 566 F.2d 2 (6th Cir. 1977); Halle v. Commissioner [49-1 USTC ¶ 9295], 175 F.2d 500 (2d Cir. 1949), affg. [Dec. 15,243] 7 T.C. 245 (1946), cert. denied 338 U.S. 949 (1950). Bank deposits are prima facie evidence of the receipt of income. Estate of Hague v. Commissioner [43-1 USTC ¶ 9258], 132 F.2d 775, 777 (2d Cir. 1943), affg. [Dec. 12,070] 45 B.T.A. 104 (1941), cert. denied 318 U.S. 787 (1943). "Where a taxpayer has made numerous deposits in bank accounts, the sources or nature of which are not accounted for or recorded in books and records maintained by him, determinations made by the Commissioner of income subject to tax on the basis of such deposits have been approved in many instances; and it has been repeatedly held that a presumption of correctness attaches to such determinations and that the taxpayer has the burden of overcoming such presumption." Harper v. Commissioner, supra at 1129; Reaves v. Commissioner [Dec. 23,400], 31 T.C. 690 (1958), affd. [61-2 USTC ¶ 9703] 295 F.2d 336 (5th Cir. 1961).
Petitioners contend that respondent's use of the bank deposits method was improper, unwarranted, arbitrary and capricious. They submit that the records they maintained were sufficient to determine their correct tax liability for the years at bar. The record is otherwise.
None of the books and records supplied to respondent revealed the unreported income determined by respondent. As a consequence, respondent was compelled to serve administrative summonses on the banks in which petitioners maintained their checking accounts. In his analysis of those accounts, respondent eliminated all deposits deemed to be nontaxable. Petitioners have conceded the unreported income for 1972 and 1973 and they have not produced a scintilla of evidence to show that respondent's determination of unreported income for 1971 in the amount of $12,885.87 is incorrect. Indeed, the record indicates that respondent's determination may be too low.
In attacking respondent's 1971 determination, petitioner introduced exhibit 50 at the start of the trial. This exhibit consists of 10 original bank statements for petitioner's Union Trust account (showing transactions from January 4, 1971 through October 26, 1971) and 2 original bank statements for his FNB account (showing transactions from October 8, 1971 through December 20, 1971). No bank statements were produced by petitioner for his Union Trust account for the months of November or December of 1971. In making his determinations of unreported income for 1971, Mr. Magram considered all of the statements embraced in exhibit 50. In addition, he also considered the statement for petitioner's Union Trust account for December 1971. At trial, he testified that he missed a deposit of $385.73 recorded in that statement. Moreover, he testified that he never received a statement for the Union Trust account for November 1971. Consequently, any deposits made to that account in November 1971 would not be included in his determination. Furthermore, while the record
Based on the evidence in the record we find that petitioners received unreported income in the amount of $12,885.87 during 1971.
Section 170(a) allows as a deduction any charitable contribution payment made in a taxable year, subject to limitations set forth in section 170(b). Petitioners claimed a deduction of $2,279.00 for charitable contributions on their 1971 return. Respondent disallowed $1,541.50 of the amount claimed. Petitioners have the burden of proving respondent's determination incorrect. Welch v. Helvering [3 USTC ¶ 1164], 290 U.S. 111 (1933); Rule 142(a). With respect to deductions, taxpayers are required to maintain and present for examination books and records sufficient to establish their rights to the deductions claimed. New Colonial Ice Co. v. Helvering [4 USTC ¶ 1292], 292 U.S. 435 (1934); sec. 6001. Petitioners produced no evidence respecting the items claimed which respondent disallowed. Respondent's determination, therefore, is sustained.
Gross income includes a taxpayer's distributive share of partnership gross income. Sec. 61(a)(13). Respondent determined that petitioner's distributive share of the additional ordinary income of Swerdloff, Albert and Lasover is $2,166.70. Petitioners produced no evidence on this adjustment. Hence, respondent's determination is sustained. Welch v. Helvering, supra; Rule 142(a).
Automobile and Entertainment Expenses
Three conditions must be satisfied before a deduction will be allowed for a claimed business expense under section 162(a).
a. Automobile Expense. Under section 162(a) an employee or a self-employed individual may deduct the cost of operating an automobile to the extent it is used in a trade or business. Here, petitioners deducted $1,038.00 for automobile expenses on their 1971 return. Respondent allowed petitioners $636.00, which said amount had been allowed in the audit of a prior year, and disallowed $402.00 for lack of proof. Petitioners have produced no evidence to show they are entitled to the amount disallowed. Accordingly, we sustain respondent's determination. Welch v. Helvering, supra; Rule 142(a).
b. Entertainment Expenses. In order to be entitled to deduct entertainment expenses, petitioners must demonstrate that the requirements of Code sections 162 and 274 have been met.
Unreported Fee Income
Gross income means all income from whatever source derived, including fees. Sec. 61(a)(1). The record demonstrates beyond doubt that petitioners received unreported fee income in 1972 of $833.00 as well as additional unreported fee income in 1973 of $1,100.00. Respondent's determinations are sustained.
Where a joint Federal income tax return is filed by a husband and wife, the tax shall be computed on the aggregate income and the liability with respect to the tax shall be joint and several. This simply means that each may be called upon to pay the entire amount of the tax even though one had little or no income. Sec. 6013(d)(3). However, section 6013(e) states:
Petitioners have the burden of proving that Ms. Swerdloff is entitled to relief and meets all the requirements of section 6013(e). Lessinger v. Commissioner [Dec. 42,489], 85 T.C. 824, 838 (1985), which was reviewed by the Court; Shea v. Commissioner [86-1 USTC ¶ 9150], 780 F.2d 561, 565 (6th Cir. 1986), affg. on this point a Memorandum Opinion of this Court [Dec. 41,283(M)]; Ratana v. Commissioner [81-2 USTC ¶ 9691], 662 F.2d 220, 224 (4th Cir. 1981), affg. on this point a Memorandum Opinion of this Court [Dec. 37,199(M)].
While petitioners have raised this issue in their petition and they argue in their brief, without persuasion or citation, that we should grant the relief sought, they have wholly failed to prove that all the requirements for relief pursuant to section 6013(e) have been satisfied. Accordingly, Ms. Swerdloff is entitled to no relief under section 6013(e).
Additions to Tax for Fraud
Section 6653(b), relating to fraud, provides in pertinent part —
Fraud means actual, intentional wrongdoing, and the intent required is the specific purpose to evade a tax believed to be owing. Zell v. Commissioner [85-2 USTC ¶ 9698], 763 F.2d 1139, 1142-1143 (10th Cir. 1985), affg. a Memorandum Opinion of this Court [Dec. 41,093(M)]; Webb v. Commissioner [68-1 USTC ¶ 9341], 394 F.2d 366, 377 (5th Cir. 1968), affg. a Memorandum Opinion of this Court [Dec. 27,918(M)]. "An allegation of fraud is a serious matter; it is never presumed and must be proved by clear and convincing evidence." United States v. Thompson [60-2 USTC ¶ 9487], 279 F.2d 165, 167 (10th Cir. 1960); Beaver v. Commissioner [Dec. 30,380], 55 T.C. 85, 92 (1970). We are not limited to respondent's affirmative evidence on this issue. Imburgia v. Commissioner [Dec. 20,493], 22 T.C. 1002, 1014 (1954). The existence of fraud is a question of fact to be determined upon consideration of the entire record. Gajewski v. Commissioner [Dec. 34,088], 67 T.C. 181, 199 (1976), affd. without published opinion 578 F.2d 1383 (8th Cir. 1978). Proof of fraud may depend to some extent upon circumstantial evidence, and may rest upon reasonable inferences properly drawn from the evidence of the record. Hooper v. United States [54-1 USTC ¶ 9381], 216 F.2d 684, 688 (10th Cir. 1954); Stone v. Commissioner [Dec. 30,767], 56 T.C. 213, 224 (1971).
An intent to conceal or mislead may be inferred from the pattern of conduct. Spies v. United States [43-1 USTC ¶ 9243], 317 U.S. 492, 499 (1943). The mere failure to report income is not sufficient to establish fraud, Merritt v. Commissioner [62-1 USTC ¶ 9408], 301 F.2d 484, 487 (5th Cir. 1962), affg. a Memorandum Opinion of this Court [Dec. 23,741(M); Dec. 24,183(M)], and it may not be found under circumstances which at most create only suspicion. Carter v. Campbell [59-1 USTC ¶ 9306], 264 F.2d 930, 935 (5th Cir. 1959). However, a pattern of consistent underreporting of income, especially when accompanied by other circumstances showing an intent to conceal, justifies the inference of fraud.
Respondent has the burden to prove fraud for each year by clear and convincing evidence. Rule 142(b) and sec. 7454(a). It is not necessary that he prove the precise amount of the underpayment resulting from fraud but only that any part is attributable to fraud. Estate of Beck v. Commissioner [Dec. 30,776], 56 T.C. 297, 362 (1971); Otsuki v. Commissioner [Dec. 29,807], 53 T.C. 96, 105 (1969). Hence, it is incumbent upon respondent to establish that (1) there has been an underpayment of tax, and (2) the underpayment was due to fraud by the taxpayer. Plunkett v. Commissioner [72-2 USTC ¶ 9541], 465 F.2d 299, 303 (7th Cir. 1972), affg. a Memorandum Opinion of this Court [Dec. 30,349(M)]. We think respondent has carried his burden.
Petitioners have conceded that they received unreported income in 1972 and 1973 in the respective amounts of $29,773.19 and $16,777.91 as well as unreported fee income in 1973 in the amount of $3,100.00. In addition, we have found that petitioners received unreported income in 1971 of $12,885.87, unreported fee income in 1972 of $833.00 and additional unreported fee income in 1973 of $1,100.00. A consistent pattern of underreporting large amounts of income is an indication of fraud. Holland v. United States, supra at 139. See Merritt v. Commissioner, supra at 487; Foster v. Commissioner [68-1 USTC ¶ 9256], 391 F.2d 727, 733 (4th Cir. 1968), affg. on this issue a Memorandum Opinion of this Court [Dec. 27,557(M)]; and Shahadi v. Commissioner [59-1 USTC ¶ 9396], 266 F.2d 495, 501 (3d Cir. 1959), affg. [Dec. 22,898] 29 T.C. 1157 (1958).
We have found that the books and records maintained by petitioners were incomplete and not reliable sources of data to correctly determine petitioners' taxable income for 1971 to 1973, inclusive. A failure to maintain adequate books and records is likewise a badge of fraud. Bradford v. Commissioner [86-2 USTC ¶ 9602], 796 F.2d 303, 307 (9th Cir. 1986), affg. a Memorandum Opinion of this Court [Dec. 41,615(M)]; Lollis v. Commissioner [79-1 USTC ¶ 9379], 595 F.2d 1189, 1192 (9th Cir. 1979), affg. a Memorandum Opinion of this Court [Dec. 33,619(M)].
In 1972, petitioner was engaged in a fee-splitting scheme with Reamer as a result of which he received $833.00 in unreported fee income. In that same year he entered into an identical scheme with Bomstein and as a consequence thereof he received at least $3,100.00 from him in unreported fee income in 1973. The purpose of these unethical, clandestine devices was to deceive and cheat not only his client, Maryland Indemnity and its insureds and his law partners, but also his Government. This is further evidence of petitioner's fraudulent intent.
With respect to the taxable year 1973, on February 20, 1976, the District Court, based on petitioner's guilty plea, entered its finding and judgment that petitioner "has been convicted as charged of the offense(s) of Count No. 18 — U.S.C., Title 26, Section 7206(1) — Fraud and False Statement on Income Tax Return."
In determining the presence of fraud we must consider the native equipment and the training and experience of the party charged. Iley v. Commissioner [Dec. 19,400], 19 T.C. 631, 635 (1952) and Plunkett v. Commissioner, supra at 303. This includes a party's educational background. Simms v. Commissioner [70-1 USTC ¶ 9230], 422 F.2d 340 (4th Cir. 1970), affg. a Memorandum Opinion of this Court [Dec. 29,398(M)], which involved a practicing lawyer; Drobny v. Commissioner [Dec. 43,140], 86 T.C. 1326 (1986), which involved a certified public accountant; and Panzitta v. Commissioner [Dec. 43,162(M)], T.C. Memo. 1986-279, which involved an individual who had graduated from college and law school. Here, petitioner is an intelligent and educated man, having practiced law for a number of years and undoubtedly was aware of the necessity of including all income for legal services on the income tax returns which he filed for the years at bar. Yet he failed to do so. Based upon the record as a whole, we think he knew exactly what he was doing in 1971, 1972 and 1973 and what he attempted to accomplish, which was the evasion of tax on substantial income in these years. See Nell v. Commissioner [Dec. 43,115(M)], T.C. Memo. 1986-246.
a. Evidentiary Dispute. The parties are at loggerheads over Bomstein's testimony at the trial of this case.
Bomstein also testified to certain extrajudicial statements by another attorney, Reamer, during 1972, which statements disclosed to Bomstein the existence of a fee-splitting scheme between Reamer and petitioner during that year for the purpose of settling claims against Maryland Indemnity.
As we understand petitioners' brief, they argue that Bomstein's entire testimony is inadmissible hearsay and should be stricken from the record. Respondent, on the other hand, restricts his argument, and properly so, to Bomstein's testimony relating to the extrajudicial statements of Reamer. In so doing, he maintains that such testimony is admissible on two grounds. First, the testimony respecting Reamer's statements was not offered for the truth of those statements but for the purpose of showing Bomstein's state of mind when he contacted petitioner and, further, to explain Bomstein's reason for seeking such an arrangement with petitioner. Second, the testimony establishes that when Bomstein confronted petitioner with his knowledge of the scheme between petitioner and Reamer, petitioner failed to deny the existence of such scheme and, further, Bomstein left the meeting with petitioner having consummated an arrangement as to a kickback scheme between himself and petitioner. Hence, in such circumstance, the testimony can be offered to establish the truth of the matter asserted, that is, that Reamer and petitioner were engaged in a kickback scheme in 1972. We agree with respondent.
Rule 801(c), Federal Rules of Evidence ("F.R.E."), which defines hearsay, states:
Petitioner was personally confronted by Bomstein at trial. For petitioner to contend that Bomstein's testimony, insofar as it relates to the direct negotiations between them which resulted in a fee-splitting agreement, is inadmissible hearsay verges on the ludicrous.
Federal courts have long held that the admission of extrajudicial statements to explain the subsequent conduct of the parties, to show a circumstance relevant to the proof of a material fact or for a purpose other than for the truth of the matter asserted are outside the scope of the hearsay exclusion rule. United States v. Grow, 394 F.2d 182, 205 (4th Cir. 1968), cert. denied 393 U.S. 840 (1968); Terry v. United States, 51 F.2d 49, 52-53 (4th Cir. 1931).
We next move to respondent's contention that Bomstein's testimony can be offered to establish the truth of the matter asserted, i.e., Reamer and petitioner were engaged in a kickback scheme in 1972.
Rule 801(d), F.R.E., describes certain statements which are not hearsay. Included in this category are statements of which the party (accused) has manifested an adoption or belief in its truth. Rule 801(d)(2)(B), F.R.E.
Generally, the rule is that when a statement tending to damage a party is made in his presence and hearing and such statement is not denied, contradicted, or objected to by him, both the statement and the fact of his failure to deny are admissible as evidence of his acquiesence in its truth if made under circumstances which would warrant the inference that he would naturally have contradicted it if he did not assent to its truth. Sparf v. United States, 156 U.S. 51 (1895); and United States v. Adams, 470 F.2d 249, 251 (10th Cir. 1972).
Here, the tacit or adoptive exception to the hearsay rule sustains the admissibility of the controverted statements and the facts pertaining to petitioner's silence and lack of denial when confronted by Bomstein with the accusatory statements made by Reamer. In short, Bomstein accused petitioner, a practicing trial lawyer, of secretly accepting money for his own personal benefit in return for fraudulently settling claims against his client, Maryland Indemnity, in 1972. Such an accusation, patently inconsistent with the duties an attorney owes his client, would naturally warrant a denial or contradiction if untrue. However, petitioner did not deny or contradict those accusations at any time, even at trial. In fact, the subsequent agreement between Bomstein and petitioner strongly suggests that said accusations were true.
b. Observations. Petitioner's testimony, in his case-in-chief, is found on some three pages of the trial transcript. He was not cross-examined by respondent's counsel. His testimony was limited entirely to the introduction of the following exhibits:
(1) Exhibit 50, discussed hereinbefore at pages 20-21, supra, the effect of which corroborated in part respondent's determination of unreported income for 1971.
(2) Exhibit 51, which is a check reflecting a loan received by petitioner in 1971. Four thousand five hundred dollars from the proceeds of this check was deposited in one of petitioner's checking accounts in 1971. Respondent had given petitioners' credit for this deposit in his bank deposit determination for 1971.
(3) Exhibit 52, which consists of four checks drawn on petitioner's Union Trust account and totalling $1,750.00. The checks were dated and signed by petitioner in 1971. They allegedly represented the repayment of a loan from petitioner's mother who, according to petitioner, "was 81 years of age and unable to come to Court." We are not advised as to why she could not come to Court. Two of the checks are made payable to Anne Swerdloff and the other two are made payable to Anna Swerdloff. All of them are endorsed Anna Swerdloff. There is no documentary evidence in the record of a loan agreement. In any event, petitioners do not mention this loan in their brief so we deem the matter abandoned.
Finally, we address and answer the following meritless contentions raised in petitioners' brief —
(1) There is no evidence to support an allegation that the petitioners failed to report substantial income for each of the taxable years 1971, 1972 and 1973. This simply is not true. Petitioner, in open Court, conceded the correctness of respondent's determination of unreported income using the bank deposits method of income reconstruction for the years 1972 and 1973. In addition, there is ample evidence to support respondent's determination on this adjustment for 1971, as described hereinbefore.
(2) Respondent's disallowance of the deductions claimed by petitioners do not represent a "pattern" for showing fraud with intent to evade tax. The short answer to this contention is that respondent does not rely on the disallowed deductions as a basis for his fraud determinations against petitioner.
(3) That Ms. Swerdloff "is innocent as to any deficiencies as to fraud." Respondent has made no determination against Ms. Swerdloff under section 6653(b). See n. 2, supra.
(4) That the Government has prevented the petitioners from fully presenting testimony by withholding records of the petitioners that were essential to the issues in the case. There is no showing in this record that the United States Government ever failed to return any records to petitioners and, in particular, it has never been shown that respondent, the Commissioner of Internal Revenue, ever had the alleged records in his possession.
In accord with the foregoing,
Decision will be entered under Rule 155.
Ex. AY Various Exhibits-Maryland Ex. 49-AW
Settlement Sheets Indemnity Drafts to Bomstein Split-Fee Checks to PetitionerPlaintiffs Settlement Agreed Atty. Fee Amounts Date Amount 1. E. Williams ................. $ 600.00 $ 200.00 $ 600.00 1-15-73 $ 100.00 2. Morrison .................... 1,650.00 500.00 1,650.00 1-19-73 275.00*** 3. Howell ...................... 1,400.00 400.00 1,400.00 1-19-73 200.00 4. R. Williams ................. 2,100.00 700.00 2,100.00 3-14-73 350.00 5. Corbin ...................... 2,400.00 800.00 2,400.00 3-14-73 400.00 6. Coby ........................ 850.00 300.00 * 1-23-73 150.00 7. Curbean ..................... 750.00 300.00 750.00 2-9-73 125.00*** 8. Johnson ..................... 1,200.00 400.00 1,200.00 2-12-73 200.00 9. Giles ....................... 1,325.00 400.00 662.50** 2-26-73 200.00 10. Edmonds ..................... 650.00 225.00 650.00 1-23-73 100.00*** 11. Hill ........................ 3,000.00 1,000.00 3,000.00 6-26-73 500.00 12. Jones ....................... 3,000.00 1,000.00 3,000.00 6-22-73 500.00 __________ _________ __________ _________ $18,925.00 $6,225.00 $17,412.50 $3,100.00 * There is no draft in the record for this case. ** There is no explanation in the record as to why the draft is only one-half of the agreed settlement. *** There is no explanation in the record as to why these checks are not one-half of the agreed attorney fee.
Any person who —
(1) Declaration under penalties of perjury. — Willfully makes and subscribes any return, statement, or other document, which contains or is verified by a written declaration that it is made under the penalties of perjury, and which he does not believe to be true and correct as to every material matter; * * *
* * *
shall be guilty of a felony and, upon conviction thereof, shall be fined not more than $5,000, or imprisoned not more than 3 years, or both, together with the costs of prosecution.