T.C. Summary Opinion 2021-38
UNITED STATES TAX COURT
HOWARD E. STEELE AND TRACY M. STEELE, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 6646-19S. Filed November 17, 2021.
Howard E. Steele and Tracy M. Steele, pro sese.
Rubinder K. Bal, for respondent.
SUMMARY OPINION
COLVIN, Judge: This case was heard pursuant to the provisions of section
7463 1 of the Code in effect when the petition was filed. Pursuant to section
1 Petitioners resided in Georgia when they filed their petition. Section references are to the Internal Revenue Code (Code) in effect at all relevant times. Rule references are to the Tax Court Rules of Practice and Procedure.
Served 11/17/21 -2-
7463(b), the decision to be entered is not reviewable by any other court, and this
opinion shall not be treated as precedent for any other case.
Respondent determined that petitioners have Federal income tax deficiencies
of $37,093 and $29,669 and are liable for accuracy-related penalties under section
6662 of $7,419 and $5,934 for 2015 and 2016 (years at issue), respectively. After
concessions appearing in the record, we decide the following issues.
1. Whether or to what extent petitioners may deduct supply expenses for
2015 and car and truck expenses (vehicle expenses) for 2015 and 2016 for
petitioner husband’s job as a self-employed private investigator. We hold they
may deduct those expenses to the extent stated below.
2. Whether petitioners may deduct expenses for repairs on a rental property
for 2015 in amounts greater than respondent determined. We hold that they may
not.
3. Whether petitioners have substantiated a greater amount of capital
expenses for their rental property than respondent determined. We hold that they
have to the extent stated below. -3-
Background
A. Petitioner Husband’s Work
Petitioner husband is a self-employed private investigator. His work for
clients includes activities such as surveillance and searching site surveys and court
and asset records.
1. Petitioner Husband’s Travel
Petitioner husband drove a Nissan Altima to various locations during the
years at issue while performing services for his clients. Before filing the petition
with the Court, petitioner husband created sample mileage logs (at a time he did
not recall) showing where he traveled for work during December 2015 and 2016.
The sample logs provided city names but did not include addresses or dates other
than “December 2015” and “December 2016”.
In October 2020, after they filed the petition, petitioners provided
respondent a 40-page, complete mileage log, which petitioner husband created by
reviewing case files and emails. The complete logs provide detailed information
including dates, location names, addresses of where petitioner husband left and
arrived, and distance traveled. According to the log, he drove many times to and
from a post office, client meetings, surveillance locations, courthouses, police
stations, and his home. -4-
The complete mileage logs contain accurate, obviously inaccurate, and
vague entries. For example, some entries vaguely report “Atlanta Metro Area” or
“Atlanta Area” as petitioner husband’s destination. Several entries inaccurately
state that the distance traveled to and from the same locations varied significantly.
For example, one entry states that petitioner husband traveled 13 miles to a
destination and then 126 miles back to the starting point. There are also entries
stating that he visited courthouses on Sundays when the buildings were closed.
Lastly, petitioners included two entries to a location in Florida where petitioners
anticipate building a home (and moving petitioner husband’s home office).
2. Petitioner Husband’s Home Office
Petitioner husband had an office in petitioners’ primary residence where he
met with clients. Furnishings in the office include a desk, a computer, a printer, a
fan, chairs, files, and shelves. Clients have access to a bathroom adjoining the
office that is also used by petitioners and their personal guests. When petitioner
husband buys office supplies and personal items at the same time on the same
credit cards, he circles the business items on the receipt within 24 hours of the
purchase. For example, a Target receipt dated June 21, 2015, shows that
petitioners spent $149, but only one item, a $16 “organizer”, is circled. In a supply -5-
expense spreadsheet provided by petitioners, only the $16 organizer is listed as an
expense from that Target trip.
B. Petitioners’ Rental Property
Petitioners bought a residential property in Dacula, Georgia, for $140,000
(rental property) in 2003. They began to rent out the property in 2008. At a time
unspecified in the record, petitioners installed new countertops, carpet, and
hardwood and updated the deck and patio in the rental property. Petitioners
charged the costs of these items to a credit card, but they provided no credit card
statements or bank statements substantiating these purchases. Petitioners sold the
rental property on June 18, 2015, for $154,000.
Before trial, petitioners provided a spreadsheet and various receipts
regarding the changes they made to the rental property. Some of the receipts,
though, show that the items, such as a new washer and dryer, a toilet, a water
heater, and a termite inspection, were all delivered to or performed at petitioners’
primary residence. Additionally, a receipt for an air conditioning unit shows the
repair was made in December 2015, six months after petitioners sold the rental
property. -6-
C. Petitioners’ 2015 and 2016 Tax Returns
For 2015 on their Schedule C, Profit or Loss From Business, for petitioner
husband’s work as a private investigator, petitioners deducted $8,083 for supplies
and $9,200 for vehicle expenses. Also for 2015 petitioners reported on their
Schedule E, Supplemental Income and Loss, that they had repair expenses of
$18,577 on the rental property and a loss of $765 on the sale of that property.
Petitioners deducted $6,480 for vehicle expenses on their Schedule C for 2016.
Discussion
We will first discuss the burden of proof and then decide whether (or to what
extent) petitioners may deduct: (1) 2015 supply expenses, (2) 2015 and 2016
vehicle expenses, and (3) 2015 repair expenses. Lastly, we will decide whether
petitioners have substantiated a greater amount of capital expenses for their rental
property than respondent determined and the amount of that gain or loss.
A. Burden of Proof
The Commissioner’s determination in a notice of deficiency is generally
presumed correct, and the taxpayer bears the burden of proving otherwise. Rule
142(a); INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 (1992); Welch v.
Helvering, 290 U.S. 111, 115 (1933). However, the burden of proof may shift to
the Commissioner if the taxpayer complies with all substantiation requirements in -7-
the Code, introduces credible evidence with respect to factual issues relevant to
ascertaining liability, and cooperates with reasonable requests by the
Commissioner for information, documents, and meetings. Sec. 7491(a)(1) and (2).
Petitioners do not contend that they have satisfied the requirements of section 7491
for shifting the burden of proof. See Rule 142(a)(2). Thus, the burden of proof for
all factual issues remains with petitioners.
B. Petitioners’ Substantiation
Petitioners contend that they are entitled to deduct various expenses reported
on their tax returns for the years at issue. A taxpayer is required to maintain
records sufficient to enable the Commissioner to correctly determine the taxpayer’s
tax liability. See sec. 6001; Higbee v. Commissioner, 116 T.C. 438, 440 (2001);
sec. 1.6001-1(a), Income Tax Regs. In addition, the taxpayer bears the burden of
substantiating the amount and purpose of the claimed deduction. Higbee v.
Commissioner, 116 T.C. at 440; Hradesky v. Commissioner, 65 T.C. 87, 89-90
(1975), aff’d per curiam, 540 F.2d 821 (5th Cir. 1976).
Other than the instances mentioned below, petitioner husband’s testimony
did not add additional substantiation for the amounts petitioners deducted on their
2015 and 2016 tax returns because his testimony did not provide any specific
amounts, dates, or details regarding items petitioners purchased. -8-
1. Whether Petitioners May Deduct Supply Expenses for 2015
Petitioners deducted $8,083 for supplies on their 2015 tax return.
Respondent contends that petitioners may deduct only $3,470. Petitioners appear
to have conceded $1,313 of the amount they deducted and now contend that they
may deduct $6,770. We conclude that petitioners may deduct $3,781 for supply
expenses for 2015.
Petitioners provided receipts and a corresponding spreadsheet listing the
items purchased, the dates of purchase, the vendors, the business purpose, and the
costs of the items. Respondent contends that the receipts and the spreadsheet are
insufficient to establish that petitioners incurred expenses for supplies greater than
$3,740. Respondent contends that many of the receipts are illegible, some of the
supplies were not used exclusively for petitioner husband’s business, and
petitioners comingled personal and business items by purchasing them at the same
time with the same form of payment (i.e., the same credit card).
We agree with respondent that many of the receipts are illegible.
Additionally, some receipts are listed on the spreadsheet twice, are undated, or do
not identify either the items purchased or the vendor. As a result, $2,619 of the
supply expenses are not sufficiently substantiated. -9-
Petitioners deducted $370 for a light fixture placed in the bathroom
adjoining petitioner husband’s home office. Generally, under section 162(a), a
taxpayer may deduct ordinary and necessary expenses incurred in carrying on a
trade or business. Under section 262, however, items bought for personal, living,
or family use generally cannot be deducted. Items bought for a business section of
a residence cannot be deducted if that area is not exclusively used for the business
(i.e., the area is for both personal and business use). See Sam Goldberger, Inc. v.
Commissioner, 88 T.C. 1532, 1557 (1987). Petitioner husband testified that the
bathroom was used not only by his clients but also by him when he was not
working, his wife, and their personal guests. Thus, petitioners may not deduct the
$370 they paid for the light fixture. See id.
Regarding the purchases respondent contends were comingled, we conclude
that petitioners provided sufficient information to identify business purchases. At
trial petitioner husband testified that he drew a circle on each receipt around the
items he used for business within 24 hours of the purchase. His testimony is
supported by the spreadsheet and legible receipts that have items circled that are
listed on the spreadsheet. For example, during the June 21, 2015, Target trip,
petitioners spent $149 but only the $16 organizer is circled on the receipt and, - 10 -
likewise, is the only item and amount appearing on the spreadsheet from that
shopping trip.
Respondent points out that petitioners deducted the costs of shelving, a
phone charger, and a fan, and argues that these items could have been bought for
personal rather than business use. However, we find credible petitioner husband’s
testimony that he purchased these items for his business. On the basis of the
foregoing, we conclude that petitioners may deduct $3,781 in supply expenses for
2015. 2
2. Whether Petitioners May Deduct Vehicle Expenses for 2015 and 2016
Petitioners deducted $9,200 and $6,480 for vehicle expenses, respectively,
on their 2015 and 2016 Schedules C. Petitioners contend that these expenses
resulted from petitioner husband’s travel to various locations to perform
investigative services. Respondent contends that petitioners have not sufficiently
substantiated petitioner husband’s vehicle expenses and the deductions for the
vehicle expenses reported on their Schedules C should be denied in full.
Taxpayers are subject to heightened substantiation requirements for vehicle
use expenses. See secs. 274(d)(4), 280F(d)(4)(A)(i). As applicable to vehicle
2 Respondent raises an argument that an expense for chairs and a table must be capitalized per sec. 1.263(a)-2(d)(1), Income Tax Regs. We need not address this argument because the apparent receipt for the chairs and table was illegible. - 11 -
expenses, section 274(d) requires the taxpayer to substantiate the mileage, and the
time, place, and business purpose of the use. In lieu of substantiating actual
expenditures relating to the business use of a vehicle, a taxpayer may use a
standard mileage rate established by the IRS. See sec. 1.274-5(j)(2), Income Tax
Regs. A taxpayer who uses the standard mileage rate must still establish the actual
business mileage, the time, and the business purpose of each use. Id.
The sample mileage logs provided by petitioners do not provide sufficient
information to meet the requirements of section 274(d). The complete logs have
some entries which sufficiently substantiate the mileage, time and place, and the
business purpose for each trip. However, other entries in the complete logs contain
errors such as vague descriptions of where petitioner husband drove and inaccurate
distances. In addition the complete logs include mileage for petitioner husband’s
drives to Florida, which were not solely for a business purpose.
We conclude that petitioners have sufficiently substantiated that petitioner
husband drove 7,739 and 3,481 miles for business in 2015 and 2016, respectively.
As a result, petitioners may deduct vehicle expenses of $4,450 for 2015 and $1,880
for 2016. See Notice 2014-79, sec. 3, 2014-53 I.R.B. 1001, 1001 ($0.575 per mile
for 2015); Notice 2016-1, sec. 3, 2016-2 I.R.B. 265, 265 ($0.54 per mile for 2016). - 12 -
3. Whether Petitioners May Deduct Repair Expenses for 2015
Petitioners deducted $18,577 in repair expenses on their rental property for
2015. Petitioners now contend that they incurred repair expenses totaling $19,007.
Respondent contends that petitioners may deduct only $2,806 for repair expenses
and must capitalize $13,705 of the reported repair expenses. Because the record
does not show that petitioners spent more than $2,806 in repair expenses in 2015,
we agree with respondent that petitioners may deduct only $2,806 for repair
expenses and must capitalize $13,705 of the reported expenses.
To decide the amount of deductible expenses, we must decide: (1) the
amount of claimed repair expenses petitioners have substantiated through
documentation or testimony and (2) which of those expenses may be deducted as
repairs. We hold that $13,705 of the substantiated, nondeductible expenses are
capital expenses (and, thus, are included in basis for purposes of computing gain or
loss when petitioners sold the property in 2015). See sec. 263; see also sec.
1016(a); sec. 1.1016-2(a), Income Tax Regs.
a. Whether Petitioners’ Repair Expenses Were Sufficiently Substantiated
To show the amount they spent on repairs, petitioners provided receipts with
a corresponding spreadsheet, which listed the date of purchase, vendor, items
purchased, and amount. Some of the receipts are illegible or undated, and several - 13 -
of the items on the spreadsheet were listed twice, or no corresponding receipt or
testimony was provided. Additionally, included in the receipts was an undated
quote for patio work for $2,500. However, nothing in the record, including
petitioner husband’s testimony, suggests petitioners hired the company or had the
quoted work performed; consequently, the undated quote is insufficient to
substantiate patio repairs for 2015.
Several of the listed expenses appear to be for items for petitioners’ primary
residence and not for the rental property. For example, several items were
delivered to or performed (not just billed) at petitioners’ personal residence,
including a new washer and dryer, a toilet, a water heater, and termite inspection.
Petitioners also included a receipt for repairs on an air conditioner; however the
receipt is dated December 2015, six months after petitioners sold the rental
property. Because we cannot confirm these expenses were incurred for the rental
property in 2015, petitioners have not sufficiently substantiated them.
b. Whether the Substantiated Expenses Are Deductible
While petitioners substantiated the remaining expenses listed on the
spreadsheet through receipts or testimony, many were not for repairs. Generally,
taxpayers may deduct ordinary and necessary expenses incurred for maintenance
of property held to conduct a trade or business or for the production of income. - 14 -
Secs. 162, 212. Repair expenses may be deducted if the repairs are made to restore
property to a sound state or mend it, with the purpose of keeping the property in an
ordinarily efficient operating condition. Ill. Merchs. Tr. Co. v. Commissioner, 4
B.T.A. 103, 106 (1926). Expenses for replacements, alterations, improvements, or
additions that prolong a property’s life, increase its value, or make it adaptable to a
different use are treated as additions to capital (i.e., capital expenses) and may not
be deducted. Sec. 263; Lychuk v. Commissioner, 116 T.C. 374, 385-386 (2001);
Niv v. Commissioner, T.C. Memo. 2013-82, at *19.
We conclude from the record that many of the expenses are capital expenses
rather than repair expenses. It appears that several expenses including new granite
countertops, carpet, ceiling fans, a light fixture, paint supplies, and $5,000 spent on
the patio to replace broken plywood, install synthetic roofing felt, new shingles, a
vent, and a metal drip, alter and improve the property, and do not merely restore its
prior condition. Thus, the above are not deductible as repair expenses. See
Lychuk v. Commissioner, 116 T.C. at 385-386; Niv v. Commissioner, at *19. In
all, $13,705 of the expenses are not deductible but are capital expenses and
includible in petitioners’ basis in their rental house.
Petitioners also included in the repairs spreadsheet expenses for insurance,
homeowners associate fees, and utilities, which are neither deductible repair - 15 -
expenses nor capital expenses. The remaining items on the spreadsheet do not
exceed $2,806 and, because respondent has conceded that petitioners may deduct
this amount, petitioners may not deduct for repairs for 2015 more than the $2,806
respondent conceded.
4. Whether Petitioners Have Capital Gains on the Rental Property
In their 2015 tax return petitioners reported that their adjusted basis in the
rental property at the time of the sale was $154,765 and that they had a loss of
$765. Petitioners now contend their adjusted basis was $164,387. Respondent
contends that petitioners’ adjusted basis was $120,084 and that petitioners had a
gain of $24,531. 3 Petitioners claim that they made several improvements to the
property before 2015 which increased their basis to an amount in excess of what
respondent contended. After a review of the record, including petitioner husband’s
testimony, we conclude that petitioners substantiated $7,500 of their claimed pre-
2015 improvements.
Taxpayers must recognize gain when they sell property for more than its
adjusted basis. Sec. 1001(a); sec. 1.61-6(a), Income Tax Regs. Taxpayers may
3 In the notice of deficiency respondent determined that petitioners had $24,346 in capital gains. Respondent now concedes a $185 depreciation adjustment in the notice. On the basis of that concession, respondent now contends petitioners had $24,531 ($24,346 plus $185) in capital gains from the sale of the rental property. - 16 -
increase their adjusted basis in property for costs they incur to improve the
property, see sec. 1016(a); sec. 1.1016-2(a), Income Tax Regs., but they generally
bear the burden of proving basis increases they claim, Rule 142(a). Regarding
capital expenses, the Tax Court may make an estimate of the total expenses, see
Cohan v. Commissioner, 39 F.2d 540, 544 (2nd Cir. 1930), but “we must have
some basis upon which an estimate may be made”, see Polyak v. Commissioner,
94 T.C. 337, 345-346 (1990).
At trial petitioner husband testified that the costs for hardwood floors and
the air conditioner were approximately $2,500 and $5,000, respectively. On the
basis of this record petitioners may capitalize an additional $7,500 in capital
expenses on the rental property.
Petitioner husband also testified about other tasks performed on the rental
property before 2015, but he provided neither a price estimate for those items nor
documentation. Thus, there is no basis upon which we can make an estimate, and
petitioners cannot deduct further capital expenses on the rental property. Overall,
the parties shall increase the adjusted basis calculations by $7,500 to account for
the hardwood floor installation and the air conditioner and $13,705 for the 2015
expenses respondent conceded. - 17 -
To reflect the foregoing,
Decision will be entered under
Rule 155.