PURSUANT TO INTERNAL REVENUE CODE SECTION 7463(b),THIS OPINION MAY NOT BE TREATED AS PRECEDENT FOR ANY OTHER CASE. T.C. Summary Opinion 2013-54
UNITED STATES TAX COURT
JEAN MARIE FONTAYNE AND YVES RAYMOND FONTAYNE, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 5492-12S. Filed July 3, 2013.
Jean Marie Fontayne and Yves Raymond Fontayne, pro sese.
Vivian Bodey, for respondent.
SUMMARY OPINION
DEAN, Special Trial Judge: This case was heard pursuant to the provisions
of section 7463 of the Internal Revenue Code in effect when the petition was filed.
Pursuant to section 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 -2-
case. Unless otherwise indicated, subsequent section references are to the Internal
Revenue Code in effect for the year in issue, and all Rule references are to the Tax
Court Rules of Practice and Procedure.
Respondent issued a notice of deficiency to petitioners in which he
determined a deficiency of $10,414 as well as a section 6662(a) accuracy-related
penalty of $2,082.80 for 2008. Respondent allowed a deduction of $200 for trade
publication expenses but disallowed the remainder of petitioners’ employee
business expense deductions.1 Petitioners conceded at trial that they are not
entitled to the employee business expense deductions adjusted by respondent. The
issues remaining for decision are whether petitioners are: (1) entitled to
deductions claimed for business expenses reported on Schedule C, Profit or Loss
From Business;2 and (2) liable for a section 6662(a) accuracy-related penalty.
1 It appears from the notice of deficiency and the income tax return that respondent also allowed as an itemized deduction a $500 tax preparation fee. The original return and the amended return both state that they are “self-prepared”. Respondent, however, failed to adjust the amount and did not request an increased deficiency. 2 Other adjustments made to petitioners’ self-employment tax are computational and will not be discussed. -3-
Background
Some of the facts have been stipulated and are so found. The stipulation of
facts and the attached exhibits are incorporated herein by reference. Petitioners
resided in California when they filed their petition.
Throughout 2008 both petitioners worked for Vitesse Semiconductor Sales
Corp. (Vitesse). Petitioner Yves Raymond Fontayne (Mr. Fontayne) was an
employee of Vitesse the entire year. Petitioner Jeane Marie Fontayne (petitioner)
worked part time as an independent contractor from her home from January to July
2008. Working from home enabled petitioner to care for her and Mr. Fontayne’s
three-year-old child. At some point in 2008 petitioner’s supervisor retired and his
replacement told her to come to work as a full-time employee or he would end her
contract and find another person to be a full-time employee. In July 2008,
petitioner became a full-time employee of Vitesse.
Pursuant to her agreement with Vitesse, petitioner was required to work
from the Vitesse office at least two days a week; because of her desire to work
from home and her proven ability to complete her assignments from her home, she
was allowed to work from home up to three days per week.
Petitioners had moved into their home in January 2008. Petitioner
designated in her house a room with a closet and a bathroom as her office space. -4-
Petitioner did not see clients in her home office, nor did she receive anyone from
Vitesse in her home office. At some point in 2008 petitioners decided to make
changes to the home office area.
Petitioners’ contractor, at their instruction, removed the wall separating the
office area from the living room and replaced it with one 14 inches further into the
living room, increasing the size of the office while decreasing the size of the living
room. Petitioners also improved the home office area by replacing all the
carpeting, retiling the bathroom, and by installing an under-the-floor heating
system, a programmable thermostat, a central vacuum system, and a fireproof safe
in the closet of the home office area. The receipts for the supplies used for the
improvements are dated November and December 2008, and the $10,500 check
paying the contractor for his work was both dated, and negotiated, in December
2008.
Petitioners timely filed their 2008 Federal income tax return. On their
Schedule C petitioners reported a tentative profit of $24,728 with respect to
petitioner’s consulting work for Vitesse. Also on the Schedule C, petitioners
reported expenses of $24,728 for business use of their home relating to her
consulting work. -5-
Respondent selected petitioners’ 2008 Federal income tax return for
examination. On December 20, 2011, respondent issued a notice of deficiency to
petitioners disallowing some claimed employee business expenses as personal
expenses, reducing the business use of home percentage, and prorating other
claimed home office expenses to reflect petitioner’s change in employment status
from part-time contractor to full-time employee.
Discussion
Generally, the Commissioner’s determinations are presumed correct, and the
taxpayer bears the burden of proving that those determinations are erroneous.
Rule 142(a); see INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 (1992); Welch
v. Helvering, 290 U.S. 111, 115 (1933). In some cases the burden of proof with
respect to relevant factual issues may shift to the Commissioner under section
7491(a). Petitioners did not argue or present evidence that they satisfied the
requirements of section 7491(a). Therefore, petitioners bear the burden of proof
with respect to the issues in the notice of deficiency.
Deductions and credits are a matter of legislative grace, and the taxpayer
bears the burden of proving that he or she is entitled to any deduction or credit
claimed. Rule 142(a); Deputy v. du Pont, 308 U.S. 488, 493 (1940); New
Colonial Ice Co. v. Helvering, 292 U.S. 435, 440 (1934). Additionally, a taxpayer -6-
must substantiate all expenses. Sec. 6001; Hradesky v. Commissioner, 65 T.C. 87,
89 (1975), aff’d per curiam, 540 F.2d 821 (5th Cir. 1976).
Schedule C Business Expenses
Section 162 generally allows a deduction for ordinary and necessary
expenses paid or incurred during the taxable year in carrying on a trade or
business. Generally, no deduction is allowed for personal, living, or family
expenses. See sec. 262. The taxpayer must show that any claimed business
expenses were incurred primarily for business rather than personal reasons.
See Rule 142(a); Walliser v. Commissioner, 72 T.C. 433, 437 (1979). To show
that the expense was not personal, the taxpayer must show that the expense was
incurred primarily to benefit his or her business, and there must have been a
proximate relationship between the claimed expense and the business. See
Walliser v. Commissioner, 72 T.C. at 437. The performance of services as an
employee is considered a trade or business for section 162 purposes. Primuth v.
Commissioner, 54 T.C. 374, 377 (1970).
Home Office Expenses
On Schedule C petitioners reported gross receipts from petitioner’s work at
home of $27,511 and total expenses before business use of their home of $2,783,
for a tentative profit of $24,728. Petitioners claimed on Form 8829, Expenses for -7-
Business Use of Your Home, allowable expenses for business use of their home of
$24,728. Petitioners claimed that their home is 3,100 square feet and that 554
square feet, or 17.87% of their home, was used regularly and exclusively for
business.3 Petitioners reported the following direct and indirect expenses on Form
8829:
Direct expense Indirect expense
Insurance --- $3,708 Repairs and maintenance $16,501 6,654 Utilities 699 13,164 Other expenses --- 8,276 Total 17,200 31,802
Petitioners reported “allowable operating expenses” of $22,883.4 Petitioners
added to that “allowable casualty losses and depreciation” of $1,845 to arrive at
the claimed “allowable expenses for business use of your home” of $24,728.
In the notice of deficiency respondent allowed only $1,113 as business use
of home expenses, which included $391 of real estate taxes removed from
Schedule A and recharacterized as a business expense due to petitioner’s business
3 At trial petitioners conceded their claimed business use of home percentage was overstated and reduced their claimed percentage to 9.9%. 4 This amount was computed by multiplying the business use of home percentage by the total indirect expenses (17.87% x $31,802 = $5,683) and adding that to the total of the direct expenses ($5,683 + $17,200 = $22,883). -8-
use of the home. Although respondent agrees that petitioner had a home office,
respondent asserts that expenses related to the home office should be restricted to
the period during which petitioner was a part-time independent contractor.
Respondent’s adjustments also reflect a change in the percentage of the home used
for business as well as a partial or complete disallowance of business expense
deductions claimed for repairs and maintenance, utilities, and other expenses.
As a general rule, section 280A(a) denies deductions with respect to the use
of a dwelling unit that the taxpayer uses as a residence during the taxable year.
Section 280A(c)(1)(A), however, permits the deduction of expenses allocable to a
portion of a dwelling unit that the taxpayer uses exclusively and regularly as the
principal place of business for a taxpayer’s trade or business. In the case of an
employee, the exception applies only if the use of the home office is for the
convenience of the employer. Id. Any personal use of a room or segregated area
will preclude its use in computing depreciation or other allocable expenditures,
unless some or all of the use of the room was for the storage of inventory. See
Hefti v. Commissioner, T.C. Memo. 1993-128.
Respondent agrees that it was proper for petitioners to deduct home office
expenses for the period during which petitioner was an independent contractor.
The record shows, however, that petitioner’s new supervisor needed petitioner to -9-
take on responsibilities that required additional working hours and a presence at
the Vitesse office. Vitesse provided petitioner with an office and required her to
work out of the Vitesse office at least two days every week. Petitioner’s belief
that she was more productive in her home office is of no legal moment.
Petitioners offered in support of their position a letter from petitioner’s supervisor
stating that the split work location arrangement was “beneficial” for Vitesse. But
petitioners offered no evidence that Vitesse required or directed that petitioner
work from her home. Petitioner was allowed to work from home part-time at her
own request and for her own convenience. As a result, petitioners are not entitled
to a home office expense deduction for the period August through December
2008.5
Petitioners’ calculation of the business use of their home originally included
square footage for a hallway, an entryway, a room, a bathroom, and a closet. At
trial petitioners agreed that their initial claim of 554 square feet was overstated and
5 Petitioners testified that they also used the home office area to have conference calls and do research into whether to begin a real estate business in Florida. The documents provided to corroborate that testimony are largely unsigned and undated, and it is unclear to the Court whether these efforts began, if at all, in 2008. The one document petitioners provided that was signed includes only the signatures of petitioners. There is insufficient evidence that the home office area was used regularly and exclusively as the principal place of business for the real estate business in 2008. See Tokarski v. Commissioner, 87 T.C. 74, 77 (1986). - 10 -
in fact the home office was 307.5 square feet. Petitioners initially calculated the
square footage using measurements from the outside of the house and the exterior
wall measurement from the hallway and the living room. Petitioners’ calculation
at trial removes the square footage for the hallway and entryway but is still based
on measurements from the hallway and the living room taken outside the home.
The Court agrees with respondent that the bathroom was not used
exclusively and on a regular basis for business, nor could it be considered an area
where petitioner conducted substantial administrative or management activities of
a trade or business. See sec. 280A(c)(1). Petitioner received no clients in her
home office, nor did she meet with anyone from Vitesse there. The Court also
agrees that petitioner did not use the closet area exclusively and on a regular basis
for her work with Vitesse. Petitioners installed a fireproof safe in that closet in
November or December 2008, which they used to store personal items. Petitioner
performed financial audits, and Vitesse provided her with a laptop, a laptop
docking station, and the financial information needed for the audits. There is no
evidence that petitioner was required to store any inventory or other items for
Vitesse, nor is there any evidence that she used the closet for any reason related to
her work for Vitesse. - 11 -
Although the Court disagrees with petitioners’ calculations, with respect to
the main office space the Court also finds respondent’s position untenable.
Respondent’s examiner determined that petitioner needed only an area of 9 by 11
feet, or 99 square feet, in order to perform her tasks for Vitesse. It appears to the
Court, however, that the interior office space was exclusively and regularly used
by petitioner when performing her work for Vitesse as a contractor. While the
Court does not agree that petitioners’ method of using exterior wall measurements
is accurate, the Court finds that respondent’s determination of the size of the space
petitioner needed to perform her work is arbitrary. On the basis of the stipulated
exhibits provided, the Court has estimated the interior office space. See Cohan v.
Commissioner, 39 F.2d 540 (2d Cir. 1930). Bearing heavily against petitioners,
whose inexactitude is of their own making, the Court finds that the area of their
home used for business is 180 square feet.6
Direct Expenses
Mr. Fontayne removed some bookcases from the home office and testified
that in so doing, he damaged the wall that was subsequently removed and
6 The estimate concludes the interior office dimensions to be 15 by 12 feet, or 180 square feet, which is 5.8% of the home. For the reasons more fully described below, this estimate does not include the additional square footage created by petitioners’ moving one office wall 14 inches into the living room. - 12 -
replaced. At some point in 2008 petitioners decided to make changes to the home
office area. The changes included, among other things, expanding the office space
by moving one wall 14 inches into the living room area, replacing the carpeting,
installing a safe in the closet, and making other major changes to the heating and
cooling systems. The record reflects that petitioners purchased the required
materials in November and December 2008 and paid the contractor in December
2008. Petitioners’ claim that these alterations were necessary for petitioner to be
able to work in the home office is self-serving. An under-the-floor heating system
is hardly an ordinary and necessary business expense. Further, the Court finds that
the alterations were made at the end of 2008, when the home office was no longer
her only office and was not maintained for the convenience of her employer.
Petitioners characterize the work done on the office wall that was removed
and replaced as a “repair” of damage caused by Mr. Fontayne. It appears to the
Court, however, that the expense incurred to remove and replace the wall was not
a repair or maintenance expense but was instead a capital expenditure.
No deduction is allowed for expenditures for permanent improvements or
betterments that increase the value of any property. Sec. 263. “To repair is to
restore to a sound state or to mend, while a replacement connotes a substitution.”
Jenkins v. Commissioner, T.C. Memo. 1982-407 (removal and replacement of - 13 -
ceiling was capital improvement). Generally, an expenditure to acquire an asset
with a useful business life exceeding one year is treated as a capital expenditure
and is not currently deducible as a business expense. Webb v. Commissioner, 55
T.C. 743, 744-745 (1971); Rowell v. Commissioner, T.C. Memo. 1988-410
(improvements to office bathroom were capital expenditures and not currently
deductible), aff’d, 884 F.2d 1085 (8th Cir. 1989); Ross v. Commissioner, T.C.
Memo. 1984-352 (sign advertising business was capital asset), aff’d without
published opinion, 780 F.2d 1028 (9th Cir. 1985). Mr. Fontayne’s testimony that
the carpeting was “gross” and the damaged wall had mold suggests that replacing
these items appreciably prolonged the useful life of the office and added to its
value. Likewise, the new heating system, new central vacuum, and new tile in the
bathroom are items having a useful life of more than a year and add to the value of
the home. As a result, petitioners are not entitled to deduct these expenses as
direct expenses related to the business use of the home and must instead capitalize
the costs.
Petitioners claimed a direct utilities expense of $699 which was the cost of
the monthly home telephone expense. Under section 262(b) the cost of basic local
telephone service with respect to the first telephone line provided to a residence is - 14 -
a personal expense and is not deductible. We agree with respondent that none of
this expense is allowable.
Indirect Expenses
With respect to the indirect repairs and maintenance expense of $6,654,
petitioners offered no evidence. Petitioners did supply the Court with a summary
of the expenses that included the date of the repairs, the company that performed
the repairs, and the amount of each repair expense. The Court, however, is unable
to determine whether petitioners in fact incurred these expenses or how they may
have related to any repair or maintenance of the home. Therefore, petitioners are
not entitled to a deduction for the claimed indirect repairs and maintenance
expenses.
Petitioners claimed $3,708 in insurance expenses as an indirect expense on
Form 8829. At trial petitioners reduced their claim to $2,244, which reflected the
removal of the claimed automobile insurance expenses. The examiner agreed that
the remaining insurance expenses were generally allowable but should be reduced
for the period of petitioner’s full-time employment. The home office was no
longer maintained at the convenience of Vitesse once petitioner became a full-time
employee, and thus the Court agrees that expenses for the home office were not
allowable as of August 2008. - 15 -
Petitioners claimed indirect utilities expenses of $13,164. At trial
petitioners reduced their claim to $6,026, which reflected the removal of the
claimed housekeeper expenses, gardener expenses, and homeowners association
fees. Respondent allowed $3,743, which included electric, gas, sewer, water, and
trash expenses from January through July.7 The Court agrees that petitioners may
not deduct expenses related to the home office for the period after petitioner
became a full-time employee.
Petitioners claimed other expenses of $8,276. This amount included
expenses for a refrigerator, water filters, a central vacuum, blinds and installation,
home inspection, title fees, and escrow charges. Petitioners conceded this item at
trial.
Accuracy-Related Penalty
Taxpayers may be liable for a 20% penalty on the portion of an
underpayment of tax attributable to negligence or a substantial understatement of
income tax. Sec. 6662(a) and (b)(1) and (2). An understatement of income tax is
the excess of the amount of income tax required to be shown on the return for the
taxable year over the amount of income tax that is shown on the return, reduced by
7 It appears that these expenses total only $3,636.52; however, respondent allowed the amount and has not requested an increase in deficiency. - 16 -
any rebate. See sec. 6662(d)(2)(A). An understatement is substantial if it exceeds
the greater of 10% of the tax required to be shown on the return for the taxable
year or $5,000. See sec. 6662(d)(1)(A).
The term “negligence” in section 6662(b)(1) includes any failure to make a
reasonable attempt to comply with the Internal Revenue Code, and the term
“disregard” includes any careless, reckless, or intentional disregard. Sec. 6662(c).
Negligence has also been defined as the failure to exercise due care or the failure
to do what a reasonable person would do under the circumstances. See Allen v.
Commissioner, 92 T.C. 1, 12 (1989), aff’d, 925 F.2d 348, 353 (9th Cir. 1991);
Neely v. Commissioner, 85 T.C. 934, 947 (1985). Negligence also includes any
failure by the taxpayer to keep adequate books and records or to substantiate items
properly. Sec. 1.6662-3(b)(1), Income Tax Regs.
The Commissioner bears the burden of production with respect to the
applicability of an accuracy-related penalty determined in a notice of deficiency.
Sec. 7491(c). In order to meet that burden, the Commissioner need only make a
prima facie case that imposition of the penalty is appropriate. Higbee v.
Commissioner, 116 T.C. 438, 446 (2001). Once that burden is met, the taxpayer
bears the burden of proving that the accuracy-related penalty does not apply
because of reasonable cause, substantial authority, or the like. Secs. - 17 -
6662(d)(2)(B), 6664(c); Higbee v. Commissioner, 116 T.C. at 449. Respondent
has met his burden of production for the accuracy-related penalty on the basis of a
substantial understatement of income tax because petitioners’ understatement of
income tax exceeds $5,000, which is greater than 10% of the tax required to be
shown on the return. It also appears petitioners were negligent in the preparation
of their return, acknowledging that they overstated the percentage of their home
used for business and claimed business expense deductions for personal expenses.
A taxpayer may avoid the application of an accuracy-related penalty by
proving he acted with reasonable cause and in good faith. See sec. 6664(c)(1); see
also Higbee v. Commissioner, 116 T.C. at 446-447; sec. 1.6664-4(a),
Income Tax Regs. We analyze whether a taxpayer acted with reasonable cause
and in good faith by examining the relevant facts and circumstances and, most
importantly, the extent to which the taxpayer attempted to determine his proper tax
liability. See Neely v. Commissioner, 85 T.C. at 947; Stubblefield v.
Commissioner, T.C. Memo. 1996-537; sec. 1.6664-4(b)(1), Income Tax Regs. In
order for the reasonable cause exception to apply, the taxpayer must prove that he
exercised ordinary business care and prudence as to the disputed items.
Neonatology Assocs. P.A. v. Commissioner, 115 T.C. 43, 98 (2000), aff’d, 299
F.3d 221 (3d Cir. 2002). - 18 -
Although petitioner claimed a $500 expense for tax preparation fees and
respondent allowed the deduction, all of the tax return documents in the record
state that they were self-prepared. Petitioners made no statement about their
preparer, if any, and what attempts they made to determine their proper tax
liability. As a result, we conclude that petitioners are liable for the accuracy-
related penalty.
We have considered all of petitioners’ arguments, and, to the extent not
addressed herein, we conclude that they are moot, irrelevant, or without merit.
To reflect the foregoing,
Decision will be entered
under Rule 155.