Costa v. Commissioner
This text of 1990 T.C. Memo. 572 (Costa v. Commissioner) is published on Counsel Stack Legal Research, covering United States Tax Court primary law. Counsel Stack provides free access to over 12 million legal documents including statutes, case law, regulations, and constitutions.
Opinion
P's son was arrested in 1984 while driving H's (P's husband) car containing narcotics and cash. In 1986, H was convicted on narcotics related charges. H subsequently fled prosecution and was a fugitive from justice at the time of this proceeding. In 1984 P and H were married but did not have a relationship of a nature which would allow us to attribute knowledge of H's activities between them. R reconstructed H's 1984 income using the cash expenditures method. Thereafter, R issued a statutory notice to P imputing one-half of such reconstructed income to her on the basis of California community property law.
MEMORANDUM FINDINGS OF FACT AND OPINION
Respondent determined deficiencies in and additions to petitioner's Federal income tax as follows:
| Additions to Tax | |||||
| Year | Deficiency | 1*646 Sec. 6651 | 2 Sec. 6653(a) | Sec. 6654 | Sec. 6661 |
| 1984 | $ 80,972.00 | $ 17,993.00 | $ 4,049.00 | $ 4,383.00 | $ 20,243.00 |
| 1986 | $ 195,682.00 | $ 48,921.00 | $ 9,784.00 | $ 9,469.00 | $ 48,921.00 |
After concessions, 3*647 five issues remain for our consideration. Three of the issues concern the tax liability and two concern the admissibility of evidence. As to the tax liability we must consider: (1) Whether petitioner had unreported community property income in 1984; (2) whether the relief provisions of
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P's son was arrested in 1984 while driving H's (P's husband) car containing narcotics and cash. In 1986, H was convicted on narcotics related charges. H subsequently fled prosecution and was a fugitive from justice at the time of this proceeding. In 1984 P and H were married but did not have a relationship of a nature which would allow us to attribute knowledge of H's activities between them. R reconstructed H's 1984 income using the cash expenditures method. Thereafter, R issued a statutory notice to P imputing one-half of such reconstructed income to her on the basis of California community property law.
MEMORANDUM FINDINGS OF FACT AND OPINION
Respondent determined deficiencies in and additions to petitioner's Federal income tax as follows:
| Additions to Tax | |||||
| Year | Deficiency | 1*646 Sec. 6651 | 2 Sec. 6653(a) | Sec. 6654 | Sec. 6661 |
| 1984 | $ 80,972.00 | $ 17,993.00 | $ 4,049.00 | $ 4,383.00 | $ 20,243.00 |
| 1986 | $ 195,682.00 | $ 48,921.00 | $ 9,784.00 | $ 9,469.00 | $ 48,921.00 |
After concessions, 3*647 five issues remain for our consideration. Three of the issues concern the tax liability and two concern the admissibility of evidence. As to the tax liability we must consider: (1) Whether petitioner had unreported community property income in 1984; (2) whether the relief provisions of
FINDINGS OF FACT
The stipulation of facts and the exhibits attached thereto are incorporated by this reference.
Petitioner resided in Anselmo, California, at the time the petition in this case was filed. She left high school at the age of 17 and married Douglas Costa (sometimes referred to as Mr. Costa) in the 1960's. At the time of her marriage, petitioner was pregnant with the Costas' only child, Kurt Costa. Initially, Douglas Costa worked in construction for Kurt Leswing. Eventually, he acquired his contractor's license and was employed by Kurt Leswing in the business of purchasing, remodeling, and selling real estate properties. Mr. Costa also ran his own business, the Costa Construction Company.
In the course of their business relationship, Douglas Costa entered into *648 several partnerships with Kurt Leswing for the purchase and development of real estate. On occasion, Mr. Costa invested in these ventures on behalf of himself and petitioner and both he and petitioner were partners in some of these joint ventures.
In the early 1970's, the Costas purchased and remodeled a residence at 454 Scenic Road in Fairfax, California (Scenic Road). At one point, the home contained office space for the Costa Construction Company.
Throughout their marriage, the couple had a history of separating and reconciling. In 1981, Douglas Costa was involved in a motorcycle accident. The accident caused permanent leg injury and left Mr. Costa with a severe limp which periodically required him to use a cane. As a result of marital problems, which were compounded by this accident, petitioner moved to a separate residence beginning early in 1982. Mr. Costa also left the Scenic Road home during 1982 and resided with a girlfriend. At some point thereafter, the couple consulted an attorney regarding a legal separation, but a formal termination or separation was never obtained. At the time of trial in this case, Sandra Costa was still legally married to Douglas Costa.
Sometime *649 in 1983, petitioner resumed her residence at Scenic Road. She continued to live there with her son Kurt Costa throughout 1984. In 1984, Douglas Costa visited Scenic Road on an intermittent basis. Although Mr. Costa traveled a great deal during this period, he visited Scenic road on several occasions. Mr. Costa also utilized the Scenic Road address for purposes of receiving mail and he kept documents there. He also received telephone messages and kept clothes at Scenic Road. Mr. Costa kept a key to the residence and came and went at his convenience. Occasionally he used petitioner's car. Although Mr. Costa had access to the Scenic Road residence and spent some time with petitioner, she did not acquire firsthand knowledge of Mr. Costa's activities outside of the residence, including any business activity.
During 1984, Mr. Costa made the house payments, and paid petitioner approximately $ 700 to $ 800 a month in support and for household expenses. This money was usually paid to her in cash or by cashier's check. Mr. Costa generally took care of all bills received at the Scenic Road address. Based upon a December 7, 1984, warrant, petitioner's residence was searched and evidence *650 of several joint bank accounts was discovered. There is no indication that these accounts had any activity during the 1984 taxable year or that respondent relied upon them in connection with the 1984 reconstruction of income.
During January 1983, petitioner and Mr. Costa jointly signed a promissory note for $ 30,000. In January 1984, Douglas Costa purchased a 1984 Mercedes Benz for $ 60,742. The car was registered and titled in the names of both Sandra and Douglas Costa and all purchase documents listed the Scenic Road address. Mr. Costa paid cash for the automobile using cashier's checks, all of which were in amounts less than $ 10,000. Petitioner was not aware that the automobile was titled in her and her husband's names nor was she aware of the method of payment. Petitioner did not use this automobile and it was treated as belonging solely to Douglas Costa.
In April 1984, Douglas Costa made two $ 9,000 payments, also by cashier's check, to the Internal Revenue Service, which were posted as estimated tax payments to the joint account of Douglas and Sandra Costa for the year ended December 31, 1984. Petitioner was also aware that in 1984, Mr. Costa invested $ 25,000 in a joint *651 venture with the Leswings in a business called "Mr. Chips."
In October 1982, petitioner and Douglas Costa received $ 223,882.88 representing a portion of the proceeds from the sale of certain joint venture realty. Petitioner had requested her husband to invest her share of these proceeds on her behalf. In September 1984, Sandra Costa obtained $ 5,000 from Douglas Costa and loaned it to William Rowe. The $ 5,000 was part of petitioner's share of the proceeds from the sale of this property.
Despite their marital differences, petitioner also occasionally traveled with Douglas Costa for vacation trips. Together they made trips to Miami and Mexico, some as recent as 1985 and 1986. In 1985, the couple took a 7-day trip to Hawaii where they shared a hotel room. Douglas Costa also offered petitioner a choice of vacations to places like Hawaii, the Bahamas, and South America as birthday and/or Christmas gifts in 1982 or 1983. It is not clear, however, whether petitioner ever took advantage of this offer. In the fall of 1984, the Costas were booked on a flight to Paris. As petitioner was without other sources of income, trips would have been paid for by Mr. Costa. Occasionally, petitioner *652 accompanied Mr. Costa on trips to Reno or Lake Tahoe, where Mr. Costa gambled. On those occasions she refused to gamble at the same table with Mr. Costa because she "usually got hit" every time he lost.
On December 5, 1984, Douglas Costa left his car at the Scenic Road residence and borrowed Mrs. Costa's car for an unspecified purpose. The Mercedes was parked in front of the house with Mr. Costa's laundered clothes hanging inside. On the evening of the same day, Kurt Costa borrowed his father's car to meet Kurt's business associate at the San Francisco Airport. This was the only occasion on which Kurt drove the Mercedes without permission from or without being accompanied by his father.
Later that night, petitioner was informed that Kurt Costa had been arrested while driving his father's car and that the car contained illegal drugs. Petitioner was also informed that at the time of Kurt's arrest the Mercedes contained narcotics with an estimated street value of $ 61,400, currency in the amount of $ 134,850, and several weapons and ammunition. Also present in the car at the time of the arrest were dry-cleaned clothes and several canes belonging to Douglas Costa. The police also *653 found a fingerprint on the narcotics material in the car at the time of Kurt's arrest which they later identified as that of Douglas Costa. Since the car belonged to Douglas Costa, petitioner suspected that the money and drugs in the car were his also.
Subsequent to his arrest, Kurt Costa was charged with narcotics and traffic violations. He was tried thereon and later acquitted on the narcotics charges by the State of California. As a result of the arrest, the residence at 454 Scenic Road was searched by officers of the San Francisco Police Department on December 7, 1984. No drugs were found in the house, but the search turned up records (which did not concern illegal drugs) belonging to Douglas Costa individually and Douglas and Sandra Costa jointly. Among the documents found in the house were cash credit and cash deposit receipts in Douglas Costa's name from the Hotel King Kamehameha and Caesars Tahoe gambling resorts, California vehicle registration and ownership certificates, joint account checkbooks, and a copy of the promissory note executed between Sandra Costa and William Rowe.
About 18 months after Kurt's arrest, in June 1986, Douglas Costa entered into transactions *654 to purchase marijuana and to sell cocaine to Larry Lamberson. Mr. Lamberson was a Drug Enforcement Agency (DEA) agent operating undercover out of Austin, Texas. He had been with the DEA for 16 years.
In the course of their transactions, Douglas Costa informed Agent Lamberson that he had been involved in narcotics smuggling for numerous years. Agent Lamberson believed that Mr. Costa was the head of a drug organization involving several people. His belief was based upon his observations that Mr. Costa had knowledge of DEA surveillance devices and dealt in large quantities of narcotics indicating a large-scale narcotics network which required 4 to 5 years to build.
In July 1986, Douglas Costa was arrested in Texas and charged with cocaine distribution and conspiracy to deal in narcotics. Petitioner visited her husband in a Texas prison after his arrest and attended part of his trial and sentencing. As a result of these proceedings, Douglas Costa was convicted and sentenced to 45 years in prison. Thereafter, Mr. Costa was returned to San Francisco to be tried by the State of California in connection with the 1984 arrest of Kurt Costa. He was released on bail and fled from prosecution. *655 At the time of trial in this case, Mr. Costa's whereabouts were unknown and he was a fugitive from justice.
Petitioner did not file, either individually or jointly with her husband, a Federal income tax return for the 1984 taxable year. She has not filed a Federal tax return in any capacity for any year after 1977. She became aware, however, that Mr. Costa had failed to file a return for a taxable year ended prior to 1984 and of collection proceedings against them for an earlier tax year. Although Mrs. Costa was unemployed during 1984 and earned no income, she worked at some time prior to 1984 as the bookkeeper for the Costa Construction Company.
As a result of respondent's investigation of Kurt Costa's drug arrest in December 1984, income tax deficiencies were determined against Mr. and Mrs. Costa. Respondent's determination was based on an investigation undertaken by Revenue Agent Frank Thatcher and upon income schedules prepared by him. In the course of his investigation, Agent Thatcher sent five or six certified letters to the Costas seeking an audit interview with them. All of the letters were returned unclaimed. Lacking records or any other information from the taxpayer, *656 he prepared an income schedule based upon the currency, contraband, and other income items. The items and their value were obtained from the police report and from documents obtained through agents of respondent's Criminal Investigation Division. Agent Thatcher also consulted other accessible documents including Currency Transaction Reports and IRS Transcripts of Accounts showing estimated tax payments by Mr. Costa. Based on the large amounts of cash, the presence of drugs, and the absence of returns, Mr. Thatcher concluded that there was sufficient evidence of illegal activity to justify the use of the cash expenditures method of income reconstruction. Mr. Thatcher also based this determination on Kurt Costa's statement made at the time of his arrest and contained in the San Francisco Police Report that "None of the stuff in this car belongs to me. It belongs to my Dad."
Agent Thatcher also calculated living expenses based on the Bureau of Labor Statistics for a family of three. This aspect of the income reconstruction was computed for 1984 using the 1981 national statistics, adjusted by the annual Consumer Price Index increase. This expense was then added as a separate item *657 to all other cash expenditures.
A collection case was pending against the Costas for the 1982 tax year. Agent Thatcher did not, however, consult with the collection division regarding the case prior to preparing income schedules for the 1984 year because he was unaware of the collection case at the time of his investigation.
Based on Mr. Thatcher's schedules, respondent subsequently issued a statutory notice of deficiency to Douglas Costa for the full amount of the tax on the reconstructed income. Respondent also issued a separate notice to Sandra Costa. Her deficiency notice was based on respondent's determination that Mr. Costa had $ 339,663 in unreported income, one-half of which, or $ 169,832, was imputed to petitioner under California community property law as follows:
| 1/20/84 | 1984 Mercedes Benz 500 SEC | $ 60,742 |
| 4/18/84 | Two Estimated Tax Payments | 18,000 |
| 5/15/84 | "Mr. Chips" Partnership Contribution | 25,000 |
| 6/29/84 | Hotel King Kamehameha Cash Credit | 700 |
| 7/14/84 | Caesars Tahoe Cash Deposit Receipt | 8,000 |
| 9/27/84 | Promissory Note (Loan) to W. Rowe | 4*658 5,000 |
| 12/06/84 | Cash Bail Posted for Kurt Costa | 25,971 |
| 12/06/84 | Cash Seized from Mercedes | 134,850 |
| 12/06/84 | Drugs Seized from Mercedes | 61,400 |
| $ 339,663 | ||
| X 50% | ||
| $ 169,832 |
Respondent also imputed $ 11,712 to petitioner as one-half of total reconstructed personal living expenses.
Petitioner timely filed a petition with this Court for a redetermination of the deficiency. Thereafter, she filed a motion to shift the burden of going forward with the evidence to respondent. After a hearing on the issue, that motion was denied. However, the parties were instructed to further develop the issue at trial and on briefs, if further consideration of the ruling was necessary or appropriate.
OPINION
This case presents two evidentiary issues. The circumstances of this case dictate that we first consider these issues before attending to the central merits. However, a synopsis of the facts is helpful to provide *659 a better understanding of the issues. Petitioner and her son, in his upper teens, lived together, but apart from the husband/father. Petitioner had no source of income other than what she received from her husband. Husband/father, on an intermittent basis, continued his marital relationship with petitioner and resided occasionally with petitioner and son. Husband paid all household expenses and occasionally took petitioner on trips for Christmas, birthdays and other occasions. As of the time a 1984 return was due, petitioner had not filed a return for 1984 and was not aware of whether husband filed a return for 1984.
Petitioner became aware that her husband could have been involved with drugs during 1984, but she had no knowledge of the amounts of income, if any, that he received either from trafficking in drugs or from his construction business.
A. Evidentiary Matters.
The rules of evidence applied by this Court are statutorily prescribed to be the rules applicable in trials without jury in the United States District Court for the District of Columbia. Section 7453; Rule 143(a);
1.
On brief, respondent asserts that, with the exception of those portions of the affidavit admitted for impeachment purposes, the document as a whole constitutes inadmissible hearsay. However, respondent further contends that certain portions of the affidavit he relies upon are also admissible as statements which are not within the definition of hearsay pursuant to
In his reply brief, respondent relies on paragraph (k) 6 of the affidavit in which Mrs. Costa stated that the police had found Douglas Costa's fingerprint on some of the narcotics material found at Kurt's arrest.
Petitioner does not object to the admission of her affidavit. Instead, she seeks admission of the entire affidavit under
During trial Mrs. Costa was permitted to testify in order to explain and correct certain statements in paragraphs (k), (p), and (y) of the document. 7*664 Her testimony serves two purposes: First, if the affidavit, or any part of it, became a part of the record, petitioner is entitled to offer testimony to clarify the evidence. Second, her testimony *663 was given under oath and was subjected to cross-examination and is therefore a part of the record in this case without considering the admissibility of the affidavit.
As to the admissibility of the affidavit, we hold that paragraph (k) of the document qualifies as an admission by a party opponent, and to the extent respondent relies on it, the paragraph is admissible pursuant to
We also considered whether the remainder of the affidavit was admissible in evidence under
In the instant case, no other portion of the affidavit relates to fingerprints on the narcotics or otherwise qualifies, explains, or puts in proper context paragraph (k). Accordingly, the failure to contemporaneously consider the complete document is not misleading and we are not, therefore, required to admit the remaining portions of *667 the affidavit.
2.
On brief, petitioner stated that she has no objection to admission of the transcripts as prior statements of Sandra and Kurt Costa. However, petitioner further asserts that all of her prior recorded testimony is admissible under
Mrs. Costa's testimony in Kurt Costa's criminal proceeding was substantially consistent with her testimony in this Court and, accordingly, does not come within
The remaining portions of Mrs. Costa's transcript are inadmissible and contain nothing to place her testimony on these issues in proper perspective on the matters concerning the car and the Texas trial under the Doctrine of Completeness. See
Kurt Costa's State court testimony pertinent to his father's presence at the Fairfax residence in 1984 is consistent with his testimony in this case. Accordingly, it does not come within
It should be noted that had the witnesses admitted that the State court transcripts were their statements and that the statements were true, petitioner could have offered the transcripts from the State court case as the adopted testimony of Sandra or Kurt Costa. The adoption would have obviated the hearsay problems raised in
3.
Petitioner argues that the testimony of Agent *672 Lamberson regarding the sophistication of Douglas Costa's narcotics network is not relevant and does not constitute a "statement" against interest that would come within the exception to the hearsay rule pursuant to
During trial, we permitted the introduction of Agent Lamberson's testimony on the sophistication issue to establish that Douglas Costa was in the drug business in 1986 and to establish the period of time over which he was involved in this activity. However, Agent Lamberson's statements regarding the sophistication *673 of Mr. Costa's network were not, as petitioner contends, admitted as statements against interest within the meaning of
B. The Substantive Issues
1.
Generally, a presumption of correctness attaches to the Commissioner's deficiency determination.
As a general rule, courts do not look behind the notice of deficiency to examine the basis for the Commissioner's determination.
The Court of Appeals for the Ninth Circuit has held that in order for a presumption of correctness to attach to a statutory notice in unreported illegal income cases, respondent must come forward and establish *676 some evidentiary foundation linking the taxpayer to the alleged income-producing activity or provide some substantive evidence demonstrating that the taxpayer received unreported income.
Once the Commissioner has carried his burden of showing a link between the taxpayer and income-producing activity or demonstrating the receipt of unreported income, the presumption of correctness attaches to respondent's notice of deficiency. The burden then shifts to the taxpayer to rebut this presumption by a preponderance of the evidence establishing that the deficiency determination is arbitrary or erroneous.
Petitioner asserts that the notice of deficiency is arbitrary and erroneous and is not entitled to a presumption of correctness. Specifically she argues that she was not personally involved in narcotics trafficking and did not receive any income therefrom. Accordingly, respondent is unable to link her to an illegal income-producing activity and the notice is without factual foundation or rational basis. Alternatively, she asserts that the notice is arbitrary because respondent failed to present an evidentiary foundation linking Douglas Costa to the purchase or sale of *678 narcotics. Without this foundation, the presumption of correctness does not attach. For reasons discussed herein, we find that respondent sufficiently linked Mr. Costa to an income-producing activity and that connection provides a sufficient evidentiary basis for the deficiency determined against Mrs. Costa for her share of the couple's community property income.
The currency and narcotics income listed in the statutory notice issued to petitioner are based on respondent's determination that these items represented income to Douglas Costa and were also the community property of Douglas and Sandra Costa, one-half of which was taxable to Mrs. Costa. In this regard, respondent only offered evidence of an illegal source of income. A married individual is taxable on the earnings of his or her spouse to the extent that the laws of the State of residence grant that individual a vested property or ownership interest in the spouse's earnings.
While not specifically addressing or analyzing a "
In this case, all of petitioner's income was generated by the efforts of Douglas Costa and all of the income was community property. Douglas Costa is presently unavailable to contest the deficiency determined against him and petitioner. Under these circumstances, and in light of Mrs. Costa's automatic vested right in one-half of the community income, we find that for purposes of establishing an evidentiary predicate in an unreported illegal income case, a husband's actions may serve as a basis for a deficiency notice imputing income to his wife under community property laws. However, in contesting a statutory notice based solely on her husband's income-generating activities, the wife may assert and is in fact subrogated to any and all of her husband's *681 defenses and evidentiary entitlements.
Since a proper evidentiary foundation as to Douglas Costa will give Mrs. Costa's notice of deficiency a presumption of correctness, we must determine whether respondent has adequately linked Mr. Costa to an illegal income-producing activity.
Substantial evidence links Mr. Costa to narcotics trafficking and permits an inference that he was trafficking drugs in 1984.
Other related events during 1986 also link Mr. Costa to narcotics trafficking in 1984. In July 1986, Doug Costa was convicted on narcotics charges. In June 1986, Mr. Costa admitted to Agent Lamberson that he had been involved in narcotics smuggling for several years. This admission is corroborated by the sophistication of his drug network which apparently took several years to create. We find it significant that Mr. Lamberson, based upon his experience, placed Mr. Costa in the business of buying and selling narcotics only 18 months subsequent to Kurt Costa's December 1984 arrest. See
Petitioner offered no proof to rebut the connection established by respondent between Mr. Costa and the narcotics trafficking activity. Other than asserting that no link exists between herself and the activity or between her husband and the activity, she offered no proof that her husband was not involved in drug trafficking in 1984. She presented no witnesses to testify regarding any legitimate sources of income or regarding Mr. Costa's construction and real estate activities in 1984. Additionally, she did not otherwise establish that Mr. Costa did not make the expenditures at issue. Accordingly, Mrs. Costa has failed to convince us that the notice was arbitrary or excessive. Therefore, respondent's deficiency notice is entitled to a presumption of correctness and petitioner bears the burden of proving that respondent's determination is incorrect.
2.
(a)
Section 6001 requires all taxpayers to maintain sufficient records to determine their correct tax liability. In the absence of such records, respondent may compute the taxpayer's income by a method which clearly reflects income. Sec. 446(b);
Respondent determined petitioner's deficiency using the source *685 and application of funds method (cash expenditures method). Use of this indirect method has been sanctioned by the Supreme Court.
A deficiency determined by use of the cash expenditures method is presumptively correct, and the burden of proof is upon the taxpayer to demonstrate otherwise.
In unreported income cases, respondent may utilize the Bureau of Labor Statistics as a basis for computing the personal living expense component of a deficiency notice.
Petitioner contests respondent's use of the cash expenditures method and argues that he failed to ask her what her income was prior to employing an indirect method to reconstruct her income. She also insists that Agent Thatcher had knowledge of the collection case pending for tax year 1982. Petitioner apparently argues that respondent, during the investigation of the collection case, could have obtained information leading to evidence about 1984 income, thereby rendering an indirect income reconstruction method unnecessary. Respondent was not under any obligation, legal or otherwise, to evaluate or determine petitioner's community property income during a prior year's collection proceeding. However, the evidence indicates that Agent Thatcher was unaware of the collection case at the time of his investigation and as a matter of routine would not have *687 discovered this information prior to making his income determination. Moreover, in cases where income is from illegal sources, the use of reconstruction has been sanctioned because of the surreptitious modus operandi of the taxpayer.
The evidence reviewed by Agent Thatcher in determining whether to reconstruct income demonstrates a likely source of illegal income. Additionally, Revenue Agent Thatcher made an effort to obtain all internal records on the case and to contact petitioner for her records. Agent Thatcher attempted to reach the Costas on five or six occasions. However, certified letters mailed to the Costas were returned unclaimed. Given the taxpayer's lack of contact, the lack of records, and the lack of a 1984 return, we find that respondent was justified in reconstructing petitioner's income and in the use of the cash expenditures method.
Petitioner contends that respondent, by including living expenses based on the Bureau of Labor Statistics in the total cash expenditures, has used two different methods of income reconstruction. She argues that respondent's approach effectively results in a duplication of living expense income because if petitioner had the amount *688 of narcotics income imputed to her by respondent it would be more than sufficient to cover the personal living expenses determined under the Bureau of Labor Statistics method.
There is no dispute that respondent may add statistically based personal living expenditures to actual cash expenditures under the cash expenditures method.
(B)
Petitioner does not dispute the amount or calculation of other items in the notice. Instead, she argues that the reconstructed income was earned by her husband while they lived separate and apart or it was generated by his illegal enterprise and neither type of income constitutes community income under California*689 law. Thus, if the income items are not community property, then they are not taxable to her.
Under California law, community property is defined as property acquired by husband and wife, or either, during marriage, when not acquired as the separate property of either.
Whether the parties are separated within the meaning of
We are unpersuaded that petitioner and Douglas Costa had a "parting of the ways" with no present intention of resuming marital relations. Despite their history of *691 separations, the Costas never took steps to secure a final divorce. During the year in question, Mr. Costa had access to the house, kept clothes there, used the residence as a mailing address, and received messages there. The couple also maintained several joint accounts and undertook several joint transactions during the alleged period of separation. Mr. Costa made some estimated payments of potential joint income tax and all of the household expenses. Moreover, the couple had traveled together both before and after 1984. Mr. Costa, in years prior to 1984, provided petitioner with "gift vacations." During the period 1984 through 1986, Mrs. Costa also visited her husband in prison and attended his drug trial. Based on these facts, we find that the Costas were not living separate and apart in 1984. Accordingly, the income generated during that year was not the separate property of Mr. Costa.
Petitioner argues that she and her husband intended prior to 1984 that all property and income would be considered separate property. Specifically, she points to testimony at trial regarding the separation of their property interests as evidence of an agreement to orally transmute community *692 property to separate property.
Separate property may be converted into community property or vice versa at any time by oral agreement between the spouses.
Petitioner alleges that in 1982, she and Mr. Costa entered into an oral agreement whereby they would go their separate ways and half of whatever they had accumulated would belong to him and half would belong to her. The only evidence of this agreement is petitioner's testimony at trial. Other than *693 petitioner's testimony, she has not shown by clear and convincing evidence or decisive proof that the Costas agreed to transmute their property from community property to separate ownership. During the years 1982 through 1984, Mr. and Mrs. Costa kept joint bank accounts and jointly entered into several transactions. Additionally, Sandra Costa had no outside source of income in these years and was supported by Douglas Costa. This evidence requires us to conclude that a valid transmutation did not occur.
Petitioner also seeks to persuade us that illegal income is, per se, not community property under California law. Citing
In the instant situation, we are dealing with illegal income. We are not, however, concerned with funds illegally obtained through theft or embezzlement where the quality of the wrongdoer's title is at issue. We have no doubt that any right, title, and interest in the drugs and illegal currency became vested in Mr. Costa upon their receipt and were "acquired" for community property purposes. See
(c)
Petitioner asserts that the items of income reconstructed from expenditures are not taxable to her pursuant to the relief provisions of
The parties stipulated that the Costas were married throughout 1984 and that they did not file a joint return for that year. However, taken as a whole, the facts indicate that the Costas did not live apart
Petitioner also seeks relief under
The parties have stipulated that no returns (joint or separate) were filed for or on behalf of petitioner. Moreover, respondent, on brief, admits that the second requirement of
The third requirement of
The standard for determining whether a "community property spouse" knew or had reason to know of items of community income has not been specifically defined in the statute, regulations, or case law. In the 14 years since the effective date of
In each of those cases, the "innocent spouse" was found to have actual knowledge of the transactions or business activity through objective or subjective knowledge reflected in the record. 13 In those cases, the Court found that the "innocent spouse" understood, was aware of, and/or participated in the activity of the income earning spouse. Further, in some of the cases, the Court found that the "innocent *700 spouse" understood that the type of activity engaged in by the income earning spouse generated income. In each instance, it was clear from the opinion that the "innocent spouse" had sufficient experience and understanding of the activity to be chargeable with knowledge of income from it. We note here that when respondent determines the receipt of income by use of an expenditures reconstruction method, this same analysis should apply. Knowledge of "items of community property" is determined with reference to knowledge of a particular income-producing activity and not with respect to knowledge of specific income items (expenditures) listed in the notice of deficiency. This is so because items that were considered by respondent to reconstruct income do not necessarily or per se cause petitioner to be on notice of income.
In this case, although there was sufficient evidence of companionship *701 to warrant a finding that petitioner and Douglas Costa were not living separate and apart for California community property purposes, as a practical matter, the Costas did not have a relationship the nature of which would compel us to attribute knowledge of Mr. Costa's activities between them. Although Douglas Costa had access to petitioner's residence, generally, he was a visitor using the residence to store clothing and papers. When the residence was searched under a warrant, no evidence of drug trafficking (either drugs or records concerning drugs) was found by the authorities. In these circumstances it is not likely that petitioner became aware of Douglas' illegal activity until December 5, 1984. Moreover, her knowledge at that time may have been enough to suspect or connect the activity with her husband, but it was not sufficient for her to have "reason to know" of the illegal income activity on the part of her spouse.
Petitioner believed that her husband was in the construction business, but she had no knowledge of his activity in that regard and/or whether it could or did generate income. She testified that she believed that Douglas paid the monthly expenses of about $ *702 800 from construction or real estate related activity but she was not in a position to know and did not know whether Douglas was actually engaged in real estate or construction activity during 1984. It was, however, reasonable for her to make such an assumption and we find this to be a reasonable explanation by petitioner. Moreover, considering the amount of household money provided by Douglas and assuming petitioner was knowledgeable about items such as his $ 25,000 partnership contribution, these amounts do not seem extraordinary or of an amount which would provide petitioner a basis for knowledge of a much larger source of income than she had experienced in times prior to December 5, 1984, when the large sum of cash and drugs was discovered in Douglas' automobile. Additionally, the proceeds received from the 1982 sale of the couple's joint venture property were sufficient to cover the few "extraordinary" items in this case.
Other factors which distinguish this case from previous decisions under
In enacting
Given this congressional intent and the lack of regulatory guidance under
Under
Applying the standard utilized under
As to the fourth requirement of
C. The Additions To Tax .
Respondent determined additions to tax against petitioner under sections 6651(a)(1), 6653(a), 6654, and 6661. Petitioner would bear the burden of proof with respect to such determinations. Rule 142(a);
Each of these additions to tax is dependent upon the existence of a deficiency in tax. Because we have decided that petitioner is an "innocent spouse" within the meaning of
Because respondent conceded (under
Footnotes
1. Unless otherwise indicated, all section references are to the Internal Revenue Code, as amended and in effect for the taxable years at issue, and all rule references are to the Tax Court Rules of Practice and Procedure.
2. Additionally sections 6653(a)(2) and 6653(a)(1)(B) would be applicable for the taxable years 1984 and 1986, respectively.↩
3. Respondent, pursuant to
sec. 66 , conceded petitioner's liability for the deficiency in and additions to tax determined for the tax year 1986. Respondent also conceded that to the extent he prevails in this case, a $ 9,000 prepayment credit is to be taken into account in computing the sec. 6661 addition to tax for the year 1984. Finally, petitioner abandoned but does not concede that the currency and drugs that were forfeited to the State of California are deductible in 1984.4. Although respondent included this amount as part of the income reconstruction for 1984, this amount is questionable because it may have been attributable to the proceeds of a sale of realty in 1982. There was no showing, however, whether the $ 5,000 in question was actually from the 1982 proceeds or generated from income sources of Mr. Costa during 1984. Due to our ultimate holding in favor of petitioner, it is not necessary to address this discrepancy.
5. In pertinent part,
Fed. R. Evid. 801(d) reads as follows:(d) Statements which are not hearsay. A statement is not hearsay if --
(1) Prior statement by witness. The declarant testifies at the trial or hearing and is subject to cross-examination concerning the statement, and the statement is (A) inconsistent with the declarant's testimony, and was given under oath subject to the penalty of perjury at a trial, hearing, or other proceeding, or in a deposition, or (B) consistent with the declarant's testimony and is offered to rebut an express or implied charge against the declarant of recent fabrication or improper influence or motive, or (C) one of identification of a person made after perceiving the person; or
(2) Admission by party-opponent. The statement is offered against a party and is (A) the party's own statement, in either an individual or a representative capacity or (B) a statement of which the party has manifested an adoption or belief in its truth, or (C) a statement by a person authorized by the party to make a statement concerning the subject or (D) a statement by the party's agent or servant concerning a matter within the scope of the agency or employment, made during the existence of the relationship, or (E) a statement by a coconspirator of a party during the course and in furtherance of the conspiracy.
6. Paragraph (k) states as follows: "The police did not arrest Douglas for several years. I understand that the police found an unknown fingerprint on some of the narcotics material found at my son's arrest. They later identified this fingerprint as Douglas'."↩
7. With respect to paragraph (k), see
supra note 6. Paragraph (p) contains the following statement: "During our marriage, Douglas took charge of preparing and filing income tax returns. I think he signed the papers. He told me that returns were being filed. I believed him. I had no reason not to believe him."In pertinent part, paragraph (y) contains the following statement:
"1984: 01/20 - 1984 Mercedes Benz 500SEL $ 60,742. I did not give any money to the purchase of this automobile. Douglas told me that he won this auto in a lottery. He and three or four other people made a sports bet. He won. I was asked at one time about signing papers for this automobile. I do not know if I ever signed them. I rode in the automobile several times."
In attempting to correct paragraph (k), Mrs. Costa testified that what she actually stated was "Good luck with Kurt; there's no fingerprints on anything." In attempting to correct paragraph (p), petitioner testified that she was in fact aware that returns were not properly filed. In attempting to rebut her statement in paragraph (y) that she was asked at one point to sign the car purchase documents, she stated that she did not sign the documents and was unaware that her name was on them until Dec. 1984.
8. There are conflicting Circuit Court decisions on whether the rule makes admissible parts of a document that otherwise would be inadmissible under the Rules of Evidence. Following 21 C. Wright & K. Graham, Federal Practice and Procedure, pars. 5072, 5078 (1977 & Supp. 1990), several courts have held that
Fed. R. Evid. 106 can fulfill its function adequately only if otherwise inadmissible evidence can be admitted under the rule. See, e.g.,United States v. Sutton , 801 F.2d 1346 (D.C. Cir. 1986)Fed.R.Evid. 106 .Other circuits, including the Ninth, have followed 1 J. Weinstein & M. Berger, Weinsteins' Evidence, par. 106[02], p. 106-13 (1989 & Supp. 1990), to hold that
Rule 106↩ addresses only an order of proof problem and does not make admissible what is otherwise inadmissible.9. Regarding Mr. Costa's use of the car, the State transcript provides as follows:
"Q. Where was your car if you knew that night?"
"A. My husband had it."
Regarding Mrs. Costa's attendance at the Texas trial, the transcript states:
"Q. Did there come a time where you saw your husband in Texas?"
"A. Yes."
"Q. And in what status was he then?"
"A. He was in prison."
"Q. With reference to the date of your son's arrest, when would that have been that you saw him in prison in Texas?"
"A. Oh, it was probably the first part of August, sometime around there because I couldn't get to see him because he was arrested July 1st."
"Q. Do you now recall what year that was?"
"A. '86."↩
10. Regarding Kurt Costa's testimony on this point, the State transcript includes the following:
"Q. Calling your attention back to December 5th of 1984, how old were you then?"
"A. I was 19 years old at the time."
"Q. Where did you reside?"
"A. I was living up on Scenic Road in Fairfax."
* * *
"Q. Who lived there with you?"
"A. Who lived there then with me was myself, my mother and my father occasionally."↩
11. In pertinent part,
Fed. R. Evid. 804(b) provides as follows:(b) Hearsay exceptions. The following are not excluded by the hearsay rule if the declarant is unavailable as a witness:
(3) Statement against interest. A statement which was at the time of its making so far contrary to the declarant's pecuniary or proprietary interest, or so far tended to subject the declarant to civil or criminal liability, or to render invalid a claim by the declarant against another, that a reasonable person in the declarant's position would not have made the statement unless believing it to be true. * * *↩
12.
Rule 401 . Definition of "Relevant Evidence""Relevant evidence" means evidence having any tendency to make the existence of any fact that is of consequence to the determination of the action more probable or less probable than it would be without the evidence.↩
13. In
Roberts v. Commissioner , T.C. Memo. 1987-391860 F.2d 1235↩ (5th Cir. 1988) , the "innocent spouse" was found to have knowledge with respect to some of the transactions and not with respect to others. Accordingly, she was afforded relief with respect to some and not with respect to others.
Related
Cite This Page — Counsel Stack
1990 T.C. Memo. 572, 60 T.C.M. 1178, 1990 Tax Ct. Memo LEXIS 644, Counsel Stack Legal Research, https://law.counselstack.com/opinion/costa-v-commissioner-tax-1990.