Sydney L. Gutierrez-Chapin

Opinion

United States Tax Court

T.C. Memo. 2026-76

FRANK L. CHAPIN, DECEASED, AND SYDNEY L. GUTIERREZ-

CHAPIN, ET AL., 1

Petitioners

v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

__________

Docket Nos. 15018-16, 25413-16, Filed August 27, 2026.

26117-16.

__________

Robert E. Kovacevich, for petitioners.

Catherine Lee Campbell, Patsy A. Clarke, Gregory Michael Hahn, David M. Carl, Scott W. Forbord, Amy B. Ulmer, Janice B. Geier, and Jennifer Peterson, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

VASQUEZ, Judge: On April 21, 2016, respondent issued a Notice of Deficiency to petitioners, Frank L. Chapin 2 and Sydney L. Gutierrez- Chapin, that determined deficiencies, additions to tax, and section

1 The following cases are consolidated herewith: Frank L. Chapin, Deceased,

Docket No. 25413-16; and Sydney L. Gutierrez-Chapin, Docket No. 26117-16.

2 By Status Report filed June 17, 2026, petitioners indicated that petitioner

Frank L. Chapin had passed away on May 21, 2026.

Served 08/27/26

[*2] 6662(a) 3 accuracy-related penalties for taxable years 2009, 2010, 2011, and 2012 as follows:

Addition to Tax Penalty Year Deficiency

§ 6651(a)(1) § 6662(a)

2009 $243,855 $60,964 $48,771

2010 321,672 80,418 64,334

2011 333,212 83,303 66,642

2012 232,901 58,225 46,580

On September 20, 2016, respondent issued a Notice of Deficiency to Mr. Chapin based on substitutes for return (SFRs) prepared pursuant to section 6020(b) that determined deficiencies and additions to tax for taxable years 2013 and 2014 as follows:

Additions to Tax

Year Deficiency § 6651(a)(1) § 6651(a)(2) § 6654 2013 $190,583 $42,848 To be determined $3,419

2014 326,717 73,511 To be determined 5,867

On September 20, 2016, respondent issued a Notice of Deficiency to Mrs. Gutierrez-Chapin based on SFRs prepared pursuant to section 6020(b) that determined deficiencies and additions to tax for taxable years 2013 and 2014 as follows:

Additions to Tax

Year Deficiency § 6651(a)(1) § 6651(a)(2) § 6654 2013 $156,141 $35,098 To be determined $2,801 2014 273,018 61,429 To be determined 4,903

Petitioners resided in Idaho when they timely petitioned this Court in response to each Notice. We consolidated the resulting cases for trial, briefing, and opinion.

3 Unless otherwise indicated, statutory references are to the Internal Revenue

Code, Title 26 U.S.C., in effect at all relevant times, regulation references are to the Code of Federal Regulations, Title 26 (Treas. Reg.), in effect at all relevant times, and Rule references are to the Tax Court Rules of Practice and Procedure.

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[*3] After concessions, the issues remaining for decision are whether petitioners:

1. failed to report gross receipts on their Schedules C, Profit or Loss From Business, for 2010, 2011, 2012, and 2014;

2. failed to report rental income on Schedule E, Supplemental Income and Loss, associated with Willows, LLC (Willows), for 2010;

3. failed to report rental income on Schedule E associated with the Chapin Family Living Trust for 2013;

4. are entitled to Schedule C cost of goods sold (COGS)

and deductions for 2009, 2010, 2011, 2012, 2013, and 2014 (years at issue);

5. are entitled to Schedule E deductions associated with Moments, LLC (Moments), for the years at issue;

6. are entitled to Schedule E deductions associated with S&F, LLC (S&F) for 2009, 2010, and 2011;

7. are entitled to claim a passthrough loss reported on Schedule E associated with Willows for 2012;

8. are entitled to claim passthrough losses reported on Schedules E associated with the Chapin Family Living Trust for 2013 and 2014;

9. engaged in the activity of horse breeding for profit within the meaning of section 183 and, if so, are entitled to associated deductions for the years at issue;

10. are entitled to net operating loss (NOL) deductions for the years at issue;

11. are entitled to capital loss carryover deductions for the years at issue;

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[*4] 12. had a capital gain of $48,810 from the sale of real property in 2010;

13. are liable for additions to tax under section 6651(a)(1) for the years at issue;

14. are liable for additions to tax under sections 6651(a)(2) and 6654 for 2013 and 2014; and

15. are liable for accuracy-related penalties under section 6662(a) for 2009, 2010, 2011, and 2012.

All other adjustments are computational.

FINDINGS OF FACT

I. Background

Mr. Chapin grew up on an 80-acre ranch near Sandpoint, Idaho, where he was responsible for various chores including hauling milk, penning horses and cows, feeding chickens and rabbits, and gathering eggs. During his teenage years Mr. Chapin began working at neighboring ranches as well. As an adult, Mr. Chapin earned a two-year accounting degree and subsequently worked as an accountant for John Deere and Co. from 1960 to 1968 and then opened his own accounting practice in 1970. Mr. Chapin worked as an accountant in this capacity from 1970 until his death.

Mrs. Gutierrez-Chapin grew up on a corn and soybean farm in Illinois with cattle, sheep, pigs, and chickens. In 1982 Mrs. Gutierrez- Chapin purchased a 120-acre ranch near Priest River, Idaho, with her then husband where they raised cattle and horses. In addition to her work on the ranch, Mrs. Gutierrez-Chapin took veterinary medicine classes through the University of Idaho Extension Service. Mrs. Gutierrez-Chapin divorced her first husband shortly after moving to Idaho and was awarded the Priest River property in the divorce. Mr. Chapin and Mrs. Gutierrez-Chapin began living together in 1983 and got married in 1996.

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[*5] II. Petitioners’ Business Activities

A. Mr. Chapin’s Accounting Practice

During the years at issue, Mr. Chapin’s accounting practice provided tax return preparation, bookkeeping, trust fund maintenance, and payroll services. The practice had no employees, but both Mrs. Gutierrez-Chapin and petitioners’ daughter Wendy helped in the office. Mrs. Gutierrez-Chapin and Wendy often paid for various office-related expenses for which the practice reimbursed them.

Mr. Chapin prepared a minimum of 200 client returns annually, primarily individual returns for local farmers, loggers, and small business owners. Mr. Chapin used the tax program Lacerte to prepare returns for clients. He paid a basic annual fee for access to Lacerte software to prepare partnership and individual returns as well as Idaho state returns. Mr. Chapin paid additional fees to Lacerte for software needed to prepare returns for clients outside Idaho as well as returns for corporations and trusts.

The accounting practice provided payroll services for 6 to 12 clients and these were handled primarily by Mrs. Gutierrez-Chapin. Typically, Mrs. Gutierrez-Chapin collected funds to cover payments to clients’ employees and corresponding wage withholding. She deposited those funds into a bank account specifically designated for payroll purposes. Some clients deposited funds directly into the payroll systems account, and Mrs. Gutierrez-Chapin generated payroll checks for the clients’ employees drawn on the payroll systems account. The clients would pay the taxes and tax withholdings based on Mrs. Gutierrez- Chapin’s computations. Other payroll clients provided petitioners with a book of blank checks to be completed by petitioners. For these clients, Mrs. Gutierrez-Chapin was responsible for making tax deposits for federal, state, and local taxes out of the payroll systems account. Each month Mr. Chapin reconciled all bank accounts and made any necessary adjustments. At the end of the year, Mr. Chapin conducted a final audit. Regular reviews of the transactions allowed Mr. Chapin to make sure that each account was being handled properly, and all the proper taxes were being paid for the payroll clients. During the years at issue, the accounting practice held funds in a trust account, the Frank L. Chapin, P.A. Professional Office Trust Account (Office Trust Account), at the request of clients who would direct them to make payments from those funds. While the Office Trust Account was primarily used as a trust account, petitioners occasionally deposited larger client payments for

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[*6] accounting services into the Office Trust Account for budgeting purposes.

B. Passthrough Entities

1. Moments

Mrs. Gutierrez-Chapin established a limited liability company, Moments, for her antiques business, which involved purchasing antiques at auctions for resale. Mrs. Gutierrez-Chapin rented a booth at the Coeur d’Alene Antique Mall, and mall employees managed sales of her items. Once or twice a week, or more frequently depending on sales, Mrs. Gutierrez-Chapin would travel to Coeur d’Alene, approximately 40 miles from Sandpoint, Idaho, to restock and tidy up her booth. The mall issued Mrs. Gutierrez-Chapin a monthly check reflecting the sales of her items and net proceeds after reductions for commissions and advertising. At the end of the year, the mall issued Mrs. Gutierrez- Chapin a Form 1099–MISC, Miscellaneous Income. Over time Mrs. Gutierrez-Chapin branched out beyond antique reselling and offered entity formation services and registered agent services for the State of Idaho through Moments.

While petitioners’ daughter Wendy was also a member, Moments allocated all items of income and loss to Mrs. Gutierrez-Chapin for the years at issue. Mrs. Gutierrez-Chapin signed Moments’ Forms 1065, U.S. Return of Partnership Income, for the years at issue. Mr. Chapin signed those returns as the paid preparer.

2. S&F

Each petitioner was a 50% member of S&F, whose principal business activity was property management. S&F held title to the properties on which petitioners conducted their ranching/horse breeding activity. In 2004 petitioners transferred all real property held by S&F to the bankruptcy court. At some point, S&F purchased vehicles, which they continued to hold after all the real estate was sold off during the bankruptcy proceedings. S&F’s Forms 1065 for 2009, 2010, and 2011 were signed by Mrs. Gutierrez-Chapin and by Mr. Chapin as the paid preparer. S&F filed no returns after 2011.

3. Willows

Petitioners’ daughter Wendy created and managed Willows, a staffing agency. Willows provided local businesses and ranches with

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[*7] temporary workers. Mrs. Gutierrez-Chapin held a 50% interest in Willows. Mrs. Gutierrez-Chapin received a Schedule K–1, Partner’s Share of Income, Deductions, Credits, etc., from Willows for 2012.

4. Hoodoo Mountain Ranchette Trust

In 1991 petitioners created Hoodoo Mountain Ranchette Trust, which held ownership of the office building where Mr. Chapin’s accounting practice was located. Hoodoo Mountain Ranchette Trust was terminated in 2012.

5. The Chapin Family Living Trust

The Chapin Family Living Trust was established in 2012 after the termination of the Hoodoo Mountain Ranchette Trust. It held four properties: (1) the office building where Mr. Chapin’s accounting practice was located; (2) a 30-acre parcel on which horses were run; (3) an unfinished residence owned by petitioners’ daughter Wendy; and (4) Mr. Chapin’s former residence. Mr. Chapin is one of the trustees.

III. Bankruptcy Proceedings

On February 22, 2002, petitioners filed a voluntary petition with the U.S. Bankruptcy Court for the District of Idaho, for reorganization of their financial affairs under chapter 11 of the Bankruptcy Code. On August 8, 2003, in response to a motion by creditors, the bankruptcy court converted the case into a chapter 7 liquidation case. In 2004 the real estate parcels used for ranching, other than the 200-acre ranch, were liquidated by the bankruptcy trustee. The 200-acre ranch was sold in foreclosure outside of bankruptcy around the same time as the sales of the property in bankruptcy. Petitioners were able to repurchase a 30-acre parcel from the bankruptcy estate in 2004 with assistance from a private loan.

On February 15, 2008, petitioners received a discharge in their bankruptcy case. On March 22, 2011, the chapter 7 trustee filed his final report. Petitioners did not file their 2009 federal tax return until after the trustee issued the final report. Mr. Chapin offered different and conflicting explanations for this delay, including that he was acting on the advice of his bankruptcy attorneys.

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[*8] IV. Schedule F, Profit or Loss From Farming: Commercial Cattle/Registered Horses Activity

In 1986 petitioners began breeding horses and cattle. By 1995 they had acquired over 300 acres of land for their expanding operations. The parcels consisted of two 20-acre parcels, a 30-acre parcel, a 40-acre parcel, and a 200-acre parcel. Petitioners also made use of the eight-acre parcel where they resided. At the peak of their ranching activities, petitioners had 160 head of cattle, which produced around 60 calves a year, and 43 head of horses.

Petitioners and Wendy did most of the work on the ranch. Mrs.

Gutierrez-Chapin started her days by feeding the livestock before heading to the accounting office. Additionally, she performed most of the basic veterinary work around the ranch. She also researched calving techniques to increase animal weight, switched calving times to serve the California and Oregon markets, and implemented preconditioning hoping to increase calf prices. If calves were born during the night, petitioners inoculated and tagged them before heading to their accounting office, repeating the procedure after work for the calves born during the day. Petitioners went through arduous efforts at all hours of the day to ensure successful calving.

Petitioners also bred Appaloosa and Quarter Horses for a variety of activities including Western Texas team roping, barrel racing, and team penning and cutting. They joined the American Quarter Horse Association and the Appaloosa Horse Club. As with cattle, in the spring, petitioners monitored the horses ready to foal around the clock, including four to five times at night, and moved the horses with foals to separate areas. Petitioners have overseen the births of over 100 colts.

Other responsibilities on the ranch included cutting, baling, and stacking hay. In addition to the field work, petitioners repaired the fencing and various buildings on the land. The physical labor needed to maintain the ranch took a considerable toll on petitioners. Additionally, both petitioners sustained injuries at different times from falling off or being kicked by horses.

Bankruptcy proceedings significantly reduced the scope of petitioners’ ranching operations. By the end of 2004, petitioners were forced to sell most of the land used for ranching along with all the cattle. They ceased cattle breeding and sold their farm equipment.

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[*9] After bankruptcy, petitioners continued to engage in horse breeding. They maintained between 9 and 16 horses during the years at issue, one of which, Bartoe Tough One, was a desirable stallion that was available for stud. Petitioners continued to be members of the Appaloosa Horse Club and the American Quarter Horse Association. These memberships required them to register their foals and submit annual breeding reports.

Despite the logistical, financial and physical challenges they experienced, petitioners never considered giving up ranching. They viewed horse breeding as a central and fundamental part of their identity.

V. Petitioners’ Recordkeeping

Mr. Chapin prepared petitioners’ and their entities’ returns for the years at issue. Mr. Chapin broke down his general ledger entries into categories, such as Schedule C or F or personal. Then he prepared a working trial balance, excluding personal items and items reported on Schedules C or F. Mr. Chapin then reviewed his accounts, made adjusting entries to the working trial balance as needed, and printed out a balance sheet and a profit and loss statement.

Petitioners held numerous vehicles that they used for their various business activities. Mr. Chapin recorded odometer readings for all their vehicles but did not keep any logs that showed the individual trips that he took using the cars for business purposes.

VI. Petitioners’ Returns

Petitioners filed their 2009 Form 1040, U.S. Individual Income Tax Return, on May 3, 2012. Attached to petitioners’ 2009 Form 1040 were: (1) Schedule C reporting $93,240 in business expenses and $9,606 in COGS for Mr. Chapin’s accounting practice; (2) Schedule E reporting a $4,544 loss from Moments and a $7,628 loss from S&F; and (3) Schedule F reporting a $14,097 loss from the registered horses activity. The 2009 Form 1040 also included an NOL carryover deduction of $218,733, a capital loss carryover of $149,389, and a $3,000 capital loss deduction pursuant to section 1211(b). Both petitioners signed the return, and Mr. Chapin signed it as the paid preparer.

Petitioners filed their 2010 Form 1040 on March 25, 2013.

Attached to petitioners’ 2010 Form 1040 were: (1) Schedule C reporting $72,723 in business expenses and $24,504 in COGS for Mr. Chapin’s

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[*10] accounting practice; (2) Schedule E reporting a $2,332 loss from Moments and a $3,027 loss from S&F; and (3) Schedule F reporting a $22,740 loss from the registered horses activity. The 2010 Form 1040 also included an NOL carryover deduction of $218,733, a capital loss carryover of $149,389, a capital loss of $35,731 based on a real estate sale, and a $3,000 capital loss deduction pursuant to section 1211(b). Both petitioners signed the return, and Mr. Chapin signed it as the paid preparer.

Petitioners filed their 2011 Form 1040 on May 28, 2013. Attached to petitioners’ 2011 Form 1040 were: (1) Schedule C reporting $57,459 in business expenses and $28,324 in COGS for Mr. Chapin’s accounting practice; (2) Schedule E reporting a $7,422 loss from Moments and a $32 loss from S&F; and (3) Schedule F reporting a $12,351 loss from the registered horses activity. The 2011 Form 1040 also included an NOL carryover deduction of $201,431, a capital loss carryover of $185,120, and a $3,000 capital loss deduction pursuant to section 1211(b). Both petitioners signed the return, and Mr. Chapin signed it as the paid preparer.

Petitioners filed their 2012 Form 1040 on June 23, 2014. Attached to petitioners’ 2012 Form 1040 were: (1) Schedule C reporting $69,467 in business expenses and $27,903 in COGS for Mr. Chapin’s accounting practice; (2) Schedule E reporting a $3,399 loss from Moments and a $4,706 loss from Willows; and (3) Schedule F reporting a $12,101 loss from the registered horses activity. The 2012 Form 1040 also included an NOL carryover deduction of $158,529, a capital loss carryover of $185,120, and a $3,000 capital loss deduction pursuant to section 1211(b). Both petitioners signed the return, and Mr. Chapin signed it as the paid preparer.

Petitioners filed their 2013 Form 1040 on March 14, 2018, after proceedings were initiated in this Court. Attached to petitioners’ 2013 Form 1040 were: (1) Schedule C reporting $72,991 in business expenses and $27,245 in COGS for Mr. Chapin’s accounting practice; (2) Schedule E reporting a $2,760 loss from Moments and a $57,671 loss from the Chapin Family Living Trust; and (3) Schedule F reporting a $9,976 loss from the registered horses activity. The 2013 Form 1040 also included an NOL carryover deduction of $120,896, a capital loss carryover of $185,120, a $3,000 capital loss deduction pursuant to section 1211(b), and a capital gain of $63,000. Both petitioners signed the return, and Mr. Chapin signed it as the paid preparer.

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[*11] Petitioners filed their 2014 Form 1040 on March 14, 2018, after proceedings were initiated in this Court. Attached to petitioners’ 2014 Form 1040 were: (1) Schedule C reporting $76,481 in business expenses and $25,493 in COGS for Mr. Chapin’s accounting practice; (2) Schedule E reporting a $3,773 loss from Moments and a $21,975 loss from the Chapin Family Living Trust; and (3) Schedule F reporting a $13,972 loss from the registered horses activity. The 2014 Form 1040 also included an NOL carryover deduction of $122,909, a capital loss carryover of $185,120, and a $3,000 capital loss deduction pursuant to section 1211(b). Both petitioners signed the return, and Mr. Chapin signed it as the paid preparer.

VII. Audit

In February 2014 Revenue Agent Heather Blair (RA Blair) began an examination relating to petitioners’ 2009 and 2010 returns. The examination was later expanded to include tax years 2011, 2012, 2013, and 2014 as well as the returns for the entities Moments and S&F. RA Blair requested that petitioners provide bank account statements from all accounts for all tax years. Petitioners provided incomplete information from several, but not all, of their bank accounts. RA Blair determined that there were discrepancies between the bank records and the amounts of gross receipts reported on petitioners’ tax returns.

After securing bank account information through a judicial summons, RA Blair reconstructed petitioners’ income for the accounting practice and Moments for all years using the bank deposits method. As part of that analysis, she reviewed all items deposited into the bank accounts to identify the dates and sources of the funds and the identities of the payors. She calculated income by adding all deposits into each account and reducing this sum by all identifiable nontaxable deposits, such as tax refunds, insurance proceeds, and deposits held in trust for clients. She also excluded transfers between accounts. RA Blair requested that petitioners provide her with documents substantiating any claimed nontaxable deposits.

VIII. Notices of Deficiency

A. Notice of Deficiency for 2009, 2010, 2011, and 2012

On April 21, 2016, respondent issued a Notice of Deficiency to petitioners, making numerous adjustments for taxable years 2009, 2010, 2011, and 2012, including (1) increases in petitioners’ income from unreported gross receipts for both the accounting practice and Moments

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[*12] for all four years along with unreported Schedule E rental income in 2010; (2) disallowance of all business expense deductions claimed in connection with the accounting practice, Moments, S&F, and the Schedule F activity for all four years; (3) disallowance of Schedule E passthrough losses from Willows in 2012; (4) disallowance of the net operating loss deductions and carryovers for all four years; (5) disallowance of capital loss deductions and carryovers for all four years; (6) determination of a long-term capital gain of $48,810 for 2010; and (7) accuracy-related penalties under section 6662(a) and additions to tax under section 6651(a)(1) for all four years.

B. Notices of Deficiency for 2013 and 2014

Because petitioners failed to file their 2013 and 2014 returns, RA Blair prepared separate substitutes for returns (SFRs) for petitioners. She allocated 50% of income to each of them pursuant to Idaho’s community property laws and applied the standard deduction. The Notices of Deficiency determined that in 2013 each petitioner had received income of $417,793 from the accounting practice, $3,958 from Moments, $2,979 from the Chapin Family Living Trust, and a capital gain of $24,715 from the sale of a property and that in 2014 each petitioner had received income of $740,902 arising from the accounting practice and $5,601 from Moments.

OPINION

I. Burden of Proof

Generally, the Commissioner’s determinations are presumed correct, and the taxpayer bears the burden of proving that those determinations are erroneous. Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). In order for the presumption of correctness to attach to the deficiency determination in unreported income cases, the Commissioner must establish an evidentiary foundation connecting the taxpayer with the income-producing activity or otherwise demonstrate that the taxpayer received the income. See Walquist v. Commissioner, 152 T.C. 61, 67 (2019); see also Edwards v. Commissioner, 680 F.2d 1268, 1270–71 (9th Cir. 1982) (per curiam); Weimerskirch v. Commissioner, 596 F.2d 358, 361–62 (9th Cir. 1979), rev’g 67 T.C. 672 (1977). Respondent has established that both petitioners had income- producing activities and satisfied his threshold burden relating to his determination of petitioners’ unreported income. Thus, petitioners bear the burden to prove by a preponderance of the evidence that

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[*13] respondent’s determinations are arbitrary or erroneous. See Walquist, 152 T.C. at 67–68.

Petitioners have not established that they meet the requirements of section 7491(a) as necessary to shift the burden of proof to respondent on the items remaining at issue. Accordingly, the burden of proof remains with petitioners relating to these deductions as well. See Higbee v. Commissioner, 116 T.C. 438, 446–47 (2001).

II. Unreported Income Adjustments

Section 6001 requires a taxpayer to maintain sufficient records to allow the determination of the taxpayer’s correct tax liability. Petzoldt v. Commissioner, 92 T.C. 661, 686 (1989). When a taxpayer fails to keep adequate books and records, the Commissioner is authorized to determine the existence and amount of the taxpayer’s income by any method that clearly reflects income. See § 446(b); Petzoldt, 92 T.C. at 693. The Commissioner may use indirect methods and is given latitude in determining which method of reconstruction to apply. Petzoldt, 92 T.C. at 693.

The bank deposits method assumes that all deposits are taxable, but the Commissioner must account for any nontaxable source or deductible expense of which he has knowledge. See Clayton v. Commissioner, 102 T.C. 632, 645–46 (1994); DiLeo v. Commissioner, 96 T.C. 858, 868 (1991), aff’d, 959 F.2d 16 (2d Cir. 1992). The taxpayer bears the burden of proving a nontaxable source for deposits. See DiLeo, 96 T.C. at 869.

Respondent used the bank deposits method, an accepted indirect method for reconstructing income, to determine petitioners’ taxable income for all years at issue. See Clayton, 102 T.C. at 645–46. We find that it was reasonable for respondent to use the bank deposits method to reconstruct petitioners’ income. Unreported gross receipts for Mr. Chapin’s accounting practice remain at issue for 2010, 2011, 2012, and 2014 along with Schedule E rental income for 2010 and 2013.

A. Schedule C Gross Receipts

Respondent contends that petitioners had unreported Schedule C gross receipts of $32,173 in 2010, $114,502 in 2011, $8,084 in 2012, and $207,514 in 2014.

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[*14] The specific bank account at issue is petitioners’ Office Trust Account. While petitioners concede that the Office Trust Account was not used exclusively as a trust account, they contend that respondent’s gross receipts calculations include nontaxable deposits of client funds held in trust. Respondent asserts that they have already identified and conceded all nontaxable deposits. Petitioners identify deposits relating to (1) Gladys I. Harry; (2) the Estate of Mickie McGhee; and (3) Gregory G. Jolley as funds held in trust for clients that should be omitted from gross receipts.

With respect to Ms. Harry, on April 8, 2010, April 2, 2012, and March 27, 2014, petitioners deposited checks drawn on the U.S. Treasury issued to “Gladys I. Harry Test Tr Chapin Frank L TTES” for $540, $532, and $538, respectively, and in 2010, deposited eight checks issued to Gladys Harry by MidFirst Bank totaling $10. On December 18, 2012, petitioners deposited a $4,450 check from the Estate of Mickie McGhee into the Office Trust Account with the memo line “Accounting Statement.” On August 26, 2014, petitioners deposited a $149,025 check from a real estate law firm in South Carolina into the Office Trust account. The August 26, 2014, check was issued to Gregory G. Jolley and bears the notation “Closing Proceeds.” Of this amount, $48,000 which respondent conceded to be nontaxable was disbursed in 2014.

The $540, $532, $538, and $10 deposits for Ms. Harry, the $4,450 deposit for the Estate of Mickie McGhee, and the full $149,025 deposit on behalf of Mr. Jolley, not just the disbursed portion, should be excluded from gross receipts for the accounting practice. Petitioners established that these deposits were funds held in trust and were not previously conceded by respondent.

Petitioners also received numerous other nontaxable deposits including: (1) $14,534 in 2011 relating to tax refunds for clients; (2) $2,900 in 2011 and $14,769 in 2014 relating to a client’s employment tax liabilities; (3) $1,066 in 2011 relating to insurance proceeds; and (4) $19,602 in 2014 from a check of net proceeds made out to Wendy, who was not an employee of the accounting practice. These deposits should be excluded from petitioners’ gross receipts for the accounting practice for the respective years. All remaining adjustments to gross receipts are sustained.

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[*15] B. Schedule E Rental Income

Respondent determined that Mr. Chapin received $4,000 of equipment rental income in 2010 and that petitioners received $5,956 of rental income from the Chapin Family Living Trust in 2013. The checks relating to the equipment rental were issued by Willows to Mr. Chapin. Mr. Chapin was not a member of Willows, and therefore, the payments cannot be payments to a member. We will sustain respondent’s determination that the payments from Willows totaling $4,000 made to Mr. Chapin constitute taxable rental income for 2010. Respondent failed to address the $5,956 of rental income from the Chapin Family Living Trust on brief; therefore we find that these deposits should be excluded from 2013 taxable income. See Mendes v. Commissioner, 121 T.C. 308, 312–13 (2003); see also Rule 151(e)(4) and (5).

III. Cost of Goods Sold and Deductions

A. Legal Background

A taxpayer must show that he has met all requirements for each deduction and kept books or records that substantiate the expenses underlying it. § 6001; Roberts v. Commissioner, 62 T.C. 834, 836 (1974). Section 162(a) allows a deduction for “ordinary and necessary expenses paid or incurred . . . in carrying on any trade or business.” See Commissioner v. Lincoln Sav. & Loan Ass’n, 403 U.S. 345, 352 (1971). Whether an expenditure is “ordinary and necessary” is generally a question of fact. Commissioner v. Heininger, 320 U.S. 467, 475 (1943).

To be “ordinary,” the expense must be a common or frequent occurrence for the taxpayer’s type of business. Deputy v. du Pont, 308 U.S. 488, 495 (1940). An expenditure is “necessary” if it is “appropriate and helpful” to the taxpayer’s business, Welch v. Helvering, 290 U.S. at 113, but it must also be “directly connected with or pertaining to the taxpayer’s trade or business,” Treas. Reg. § 1.162-1(a). “[P]ersonal, living, or family expenses” are not deductible. § 262(a).

Section 274(d) sets forth heightened substantiation requirements for certain types of expenses, such as travel, meals, lodging, entertainment, gifts, and listed property. Section 274(d) provides that no deduction shall be allowed for the expenses set forth “unless the taxpayer substantiates by adequate records or by sufficient evidence corroborating the taxpayer’s own statement” the amount of the expense, the time and place or date and description of the expense, the business purpose of the expense, and the business relationship to the taxpayer of

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[*16] the person receiving the gift. See also Temp. Treas. Reg. § 1.274- 5T(c). For expenses governed by section 274(d), “[w]ritten evidence has considerably more probative value than oral evidence alone,” and “the probative value of written evidence is greater the closer in time it relates to the expenditure.” Temp. Treas. Reg. § 1.274-5T(c)(1). Section 274(n) further limits a taxpayer’s ability to deduct the total amount of meals and entertainment expenses. Even if a taxpayer has statutory authority to deduct these types of expenses and provides sufficient evidence to meet the substantiation requirements under section 274, only 50% of the total of otherwise deductible food, beverage, and entertainment expenses is allowed as a deduction.

Substantiation by “adequate records” generally requires the taxpayer to “maintain an account book, diary, log, statement of expense, trip sheets, or similar record,” as well as evidence documenting the expenditures. Temp. Treas. Reg. § 1.274-5T(c)(2); Treas. Reg. § 1.274- 5(c)(2)(iii). Substantiation by other sufficient evidence requires the production of corroborative evidence in support of the taxpayer’s statement specifically detailing the required elements. Temp. Treas. Reg. § 1.274-5T(c)(3). Lastly, as a general rule, expenses for traveling between one’s home and one’s place of business or employment constitute commuting expenses and, consequently, are nondeductible personal expenses. See Commissioner v. Flowers, 326 U.S. 465, 469–70 (1946); Curphey v. Commissioner, 73 T.C. 766, 777 (1980).

B. Accounting Practice COGS

COGS of $9,606 related to 2009, $21,906 related to 2010, $28,324 related to 2011, $21,768 related to 2012, $17,108 related to 2013, and $19,526 related to 2014 remain at issue.

Generally, COGS is subtracted from gross receipts to compute gross business income. Treas. Reg. § 1.61-3(a). It is not a deduction and is not subject to the limits on deductions in section 162, Metra Chem Corp. v. Commissioner, 88 T.C. 654, 661 (1987), but any amount reported as COGS still must be substantiated, King v. Commissioner, T.C. Memo. 1994-318, 1994 WL 330613, at *2, aff’d, 69 F.3d 544 (9th Cir. 1995) (unpublished table decision).

Petitioners failed to provide adequate substantiation relating to COGS for 2009 and 2011 and for amounts beyond respondent’s concessions in 2013 and 2014. We will sustain respondent’s disallowances for 2009, 2011, 2013, and 2014. For 2010 petitioners

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[*17] provided adequate substantiation relating to an additional $9,620 of subcontracting expenses for Wendy’s work. For 2012 petitioners provided a Form 1099–MISC, Miscellaneous Income, establishing a payment of $11,267 to Wendy for her work in the office. Accordingly, petitioners are entitled to an additional $9,620 in COGS for 2010 and an additional $11,267 in COGS for 2012.

C. Schedule C Deductions

1. Office

Office expenses of $3,135 related to 2009, $894 related to 2010, and $1,223 related to 2011 remain at issue. Petitioners provided documentation of multiple payments made to Mrs. Gutierrez-Chapin and Wendy totaling $2,424 in 2009 and $1,384 in 2011. Mr. Chapin credibly testified that he often reimbursed Mrs. Gutierrez-Chapin and Wendy for any office-related expenses they covered from their personal funds. Thus, petitioners are entitled to additional deductions for reimbursement payments for office expenses of $2,424 for 2009 and $1,384 for 2011. Petitioners did not provide any evidence relating to 2010 expenses and we will sustain respondent’s disallowance.

2. Repair and Maintenance

Repair and maintenance expenses of $1,880 for 2010, $217 for 2011, and $1,097 for 2012 remain at issue. For 2011 petitioners claimed a deduction of $812 and presented documentation of receipts totaling $645. Respondent conceded $595 of the $645 but disallowed a $50 reimbursement payment to Mrs. Gutierrez-Chapin. Mr. Chapin credibly testified that Mrs. Gutierrez-Chapin was frequently reimbursed for expenses related to the accounting practice, and, specifically, was reimbursed $50 in 2011 for repairs and maintenance. Accordingly, petitioners are entitled to an additional $50 deduction for Schedule C repair and maintenance expenses for 2011. Petitioners did not substantiate the remaining repair and maintenance expenses relating to 2010 and 2012, and we will sustain respondent’s disallowance accordingly.

3. Supplies

Supplies expenses of $111 for 2011 remain at issue. The record includes an entry in petitioners’ 2011 general ledger identified as “Wendy Chapin Reimburse” in the amount of $110.92. Because we have found that Wendy was often reimbursed for various office-related

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[*18] expenses, petitioners are entitled to the full deduction for supplies relating to 2011.

4. Other Expenses: Client Meal Expenses

Petitioners deducted and respondent disallowed $2,205 of client meal expenses on their 2009 Schedule C. The record includes four dates, with restaurant names, clients’ names, and bills totaling $624. Mr. Chapin credibly testified that he took the named clients to dinner after their tax appointments on those dates to discuss business. Petitioners did not substantiate any additional client meal expenses. As section 274(n) limits deductions for meals to 50% of expenses, petitioners are entitled to deduct only $312 of the $2,205 reported 2009 Schedule C client expenses.

5. Other Expenses: Dues and Subscriptions

Dues and subscriptions expenses of $190 relating to 2009 and $102 relating to 2012 remain at issue. For 2012 petitioners provided receipts establishing that they paid $110 to renew a Costco membership, which they used to purchase office supplies, and not personal items. We will allow an additional deduction of $110 for Schedule C dues and subscription expenses in 2012. For 2009 petitioners did not introduce any credible evidence to support a deduction beyond respondent’s concessions, and we will disallow accordingly.

6. Other Expenses: Janitorial

Petitioners claimed and substantiated $4,800 in annual janitorial expenses. Mr. Chapin paid $400 a month to have his office cleaned weekly. We will allow the janitorial expense deductions for 2010, 2011, 2012, 2013, and 2014.

7. Other Expenses: Outside Services

Outside services expenses of $7,911 in 2009, $7,612 in 2010, $277 in 2012, $4,346 in 2013, and $1,700 in 2014 remain at issue. For 2009 petitioners’ ledger shows a $7,911 payment. Mr. Chapin credibly testified that this amount was paid to Wendy. Because we find that Wendy regularly helped in the office, we will allow an additional $7,911 in outside services deductions for 2009. For 2012 petitioners provided documentation of $25 paid to Riley Chapin and $200 paid to Wendy for office work. Accordingly, petitioners may additionally deduct $225 for

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[*19] outside services for 2012. We will disallow the deductions for the other years.

8. Disallowed Deductions

Petitioners failed to adequately substantiate deductions beyond respondent’s concessions for accounting, bad debts, bank charges, car and truck use, closing costs, computers, computer software, fuel and oil, insurance, interest, legal and professional services, licenses, meals and entertainment, rent/lease of vehicles/machinery and equipment, other rent expenses, taxes and licenses, travel, and other miscellaneous expenses. We will disallow these deductions accordingly.

D. Moments Deductions

Petitioners provided substantiation relating to accounting services provided by Mr. Chapin to Moments in 2012, and as a result, are entitled to a $1,200 deduction. Petitioners, however, failed to adequately substantiate the remaining expenses underlying deductions claimed by Moments relating to accounting, auto and truck use, legal and professional services, meals and entertainment, supplies, tools, travel, uniforms, and other miscellaneous items. We will disallow them accordingly.

E. S&F Expense Deductions

All disallowed deductions remain at issue for S&F. The parties agree that S&F was established as a property management company, that S&F held title to the land on which the ranching activities were conducted, and that S&F sold all its real estate parcels during the bankruptcy proceeding in 2004. Petitioners contend that S&F retained personal property, specifically vehicles, to which the claimed deductions relate after it sold all real property in 2004. Petitioners failed to explain what business S&F conducted after it no longer held any real estate, did not provide a business reason for holding the vehicles, and did not connect the claimed expense deductions to the vehicles. Accordingly, we will sustain respondent’s disallowance of all deductions claimed by S&F for 2009, 2010, and 2011.

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[*20] IV. Passthrough Losses

A. 2012 Loss from Willows

Generally, a partner may deduct its distributive share of a partnership loss. § 702(a). Section 704(d) limits a partner’s deduction to its outside basis in its partnership interest at the end of the partnership year in which the loss occurred. See Sennett v. Commissioner, 80 T.C. 825 (1983), aff’d per curiam, 752 F.2d 428 (9th Cir. 1985). If the partner cannot establish his adjusted basis in the partnership, he cannot deduct any partnership losses. See § 704(d); Sennett, 80 T.C. at 829. “Proof of basis is a specific fact which the taxpayer has the burden of proving.” O’Neill v. Commissioner, 271 F.2d 44, 50 (9th Cir. 1959), aff’g T.C. Memo. 1957-193. Taxpayers cannot rely solely on their own income tax returns to establish the losses they sustained. Wilkinson v. Commissioner, 71 T.C. 633, 639 (1979) (citing Roberts, 62 T.C. at 837, 839).

Petitioners claimed a $4,706 passthrough loss from Willows on their 2012 return. Respondent disallowed the loss deduction for failure to substantiate their basis in the partnership interest. Petitioners contend that the deduction cannot be disallowed as RA Blair did not examine Willows’ Form 1065 for 2012 and that respondent is required to examine Willows at the partnership level to challenge a passthrough loss. Willows falls within TEFRA’s “small partnership” exception and would therefore not be subject to its unified partnership-level audit procedures. See § 6231(a)(1)(B). In such circumstances, respondent has no obligation to conduct an audit of the partnership. The taxpayer is responsible for substantiating specific facts underlying items allegedly derived from partnership activities. See LeBouef v. Commissioner, T.C. Memo. 2001-261, 2001 WL 1168126, at *6. Furthermore, even if Willows was somehow subject to partnership proceedings, this Court has found that outside basis remains a partner-level determination. Greenwald v. Commissioner, 142 T.C. 308, 316–17 (2014); Estate of Morgan v. Commissioner, T.C. Memo. 2021-104, at *35–37.

The evidence in the record is limited to petitioners’ tax return, which is insufficient substantiation. Accordingly, we will sustain respondent’s disallowance of Willows’ passthrough loss allocated to Mrs. Gutierrez-Chapin in 2012.

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[*21] B. The Chapin Family Living Trust Losses

Petitioners reported passthrough losses of $57,671 and $21,975 from the Chapin Family Living Trust on their 2013 and 2014 Schedules E, respectively. Respondent contends that petitioners have failed to substantiate these losses. We agree. The record contains no trust agreement, tax returns, or Schedules K–1 associated with the Chapin Family Living Trust for tax year 2013 or 2014, and petitioners point to no alternative evidence. Given the absence of any supporting evidence, we find that petitioners are not entitled to claim passthrough losses of $57,671 relating to 2013 or $21,975 relating to 2014.

V. Schedule F Adjustments

A. Preliminaries

Respondent contends that petitioners failed to meet the threshold requirement of proving that they engaged in horse breeding during the years at issue. We disagree.

While petitioners drastically scaled back their ranching operations on account of bankruptcy, they continued to own horses during the years at issue and provide breeding services. Petitioners credibly testified that after selling their cattle and much of their land and farm equipment, they shifted their focus from ranching to horse breeding exclusively. Their Schedules F reflect this change. Beginning in 2005, petitioners described their Schedule F activity as “Registered Horses,” a change from prior years, when they had described the activity as “Commercial Cattle/Registered Horses.” Accordingly, we next consider whether petitioners engaged in that activity for profit.

B. Section 183 Generally

Section 183(a) provides generally that if an activity is not engaged in for profit, no deduction attributable to such activity shall be allowed except as provided in section 183(b). 4 Section 183(c) defines an activity not engaged in for profit as “any activity other than one with respect to which deductions are allowable for the taxable year under section 162

4 In the case of an activity not engaged in for profit, section 183(b)(1) allows a

deduction for expenses that are otherwise deductible without regard to whether the activity is engaged in for profit. Section 183(b)(2) allows a deduction for expenses that would be deductible only if the activity were engaged in for profit, but only to the extent that the total gross income derived from the activity exceeds the deductions allowed under section 183(b)(1).

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[*22] or under paragraph (1) or (2) of section 212.” Deductions are not allowed for activities that taxpayers carry on primarily for sport, as a hobby, or for recreation in excess of the taxpayer’s income from the activity. Treas. Reg. § 1.183-2(a).

Respondent contends that petitioners were not engaged in their horse breeding activities for profit. Absent a stipulation to the contrary, these cases are appealable to the U.S. Court of Appeals for the Ninth Circuit. See § 7482(b)(1)(A), (2). The Ninth Circuit has held that for a deduction to be allowed under section 162 or 212, taxpayers must establish that they engaged in the activity for profit as “the predominant, primary or principal objective.” Wolf v. Commissioner, 4 F.3d 709, 713 (9th Cir. 1993), aff’g T.C. Memo. 1991-212. We determine whether the taxpayer has the requisite intent to earn a profit by considering all the facts and circumstances. Golanty v. Commissioner, 72 T.C. 411, 426 (1979), aff’d, 647 F.2d 170 (9th Cir. 1981) (unpublished table decision); Treas. Reg. § 1.183-2(b).

C. Analysis

Petitioners pursued horse breeding as a business rather than a hobby and have established, by a preponderance of the evidence, that their primary objective was to make a profit. 5 Petitioners devoted substantial time and effort to horse breeding. See Treas. Reg. § 1.183- 2(b)(3). They performed all aspects of the work themselves including maintaining the property, feeding and training the horses, and providing routine veterinary care. The work was physically demanding and both sustained injuries from the horses. Horse breeding was arduous daily work for petitioners, far from a leisure pursuit. See id. subpara. (9).

Although Mr. Chapin’s accounting practice generated consistent income for petitioners, it was not at a level that would permit us to

5 Treasury Regulation § 1.183-2(b) sets forth a nonexclusive list of nine factors

to guide courts in analyzing taxpayers’ profit objective. These factors are: (1) the manner in which the taxpayer carried on the activity, (2) the expertise of the taxpayer or his or her advisers, (3) the time and effort spent by the taxpayer in carrying on the activity, (4) the expectation that the assets used in the activity may appreciate in value, (5) the success of the taxpayer in carrying on other similar or dissimilar activities, (6) the taxpayer’s history of income or loss with respect to the activity, (7) the amount of occasional profits earned, if any, (8) the financial status of the taxpayer, and (9) whether elements of personal pleasure or recreation were involved. Treas. Reg. § 1.183-2(b); see also Elliott v. Commissioner, 90 T.C. 960 (1988), aff’d, 899 F.2d 18 (9th Cir. 1990) (unpublished table decision).

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[*23] conclude that petitioners lacked a profit motive. See id. subpara. (8). During the years at issue, petitioners reported Schedule F losses ranging from $9,876 to $22,740. The tax savings produced by these losses were relatively modest and make it unlikely that petitioners approached horse breeding as a tax shelter opportunity.

Petitioners possessed significant experience and expertise in horse breeding, having both grown up in ranching communities where they worked with cattle and horses from an early age. See id. subpara. (2). They were longtime members of the Appaloosa Horse Club and the American Quarter Horse Association, organizations that maintain pedigree and breeding standards. Mrs. Gutierrez-Chapin took veterinary classes and directly applied this knowledge to provide basic medical care for the horses.

We agree that petitioners’ recordkeeping left something to be desired; we do not, however, find that this defect negates petitioners’ profit motive. Petitioners’ approach may have been informal, but we are satisfied that they approached horse breeding in a businesslike manner. See id. subpara. (1).

Section 183 does not require that taxpayers operate their ventures with perfect business acumen. Petitioners’ persistence in the face of hardship may reflect unusual business judgment, but it does not belie an honest profit motive, which we find petitioners to have established. See Huff v. Commissioner, T.C. Memo. 2021-140, at *22.

D. Schedule F Deductions

Respondent identified specific deductions he was willing to concede if this Court determined that the registered horse activity was engaged in for profit. Petitioners did not offer additional substantiation, and we will disallow deductions beyond respondent’s concessions.

VI. Net Operating Losses

All of petitioners’ claimed net operating loss deductions remain at issue. Section 172 permits taxpayers to deduct NOLs. Taxpayers who claim NOL deductions have the burden of establishing both the existence of the NOL and the amount that may be carried over to the years at issue. See Keith v. Commissioner, 115 T.C. 605, 621 (2000). Tax returns are merely statements of a taxpayer’s position and cannot be used to substantiate a claimed deduction, including the amount of the NOL to be carried forward. See Sparkman v. Commissioner, 509 F.3d

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[*24] 1149, 1156–57 (9th Cir. 2007), aff’g T.C. Memo. 2005-136; Benavides & Co., P.C. v. Commissioner, T.C. Memo. 2019-115, at *17; see also Wilkinson, 71 T.C. at 639; Davison v. Commissioner, T.C. Memo. 2023-139, at *18, aff’d, No. 24-9000, 2025 WL 827693 (10th Cir. Mar. 17, 2025). Petitioners did not provide adequate substantiation, and we will sustain respondent’s disallowance of the NOLs accordingly.

VII. Capital Loss

Petitioners’ capital loss deductions of $3,000 for each year and respondent’s determination of a $48,810 capital gain for 2010 remain at issue.

Section 165(a) generally permits taxpayers to claim as a deduction “any loss sustained during the taxable year and not compensated for by insurance or otherwise.” Losses from sales or exchanges of capital assets are allowed only to the extent prescribed in sections 1211 and 1212. § 165(f). Under those limitations, individual taxpayers must first offset capital losses against capital gains; if aggregate capital losses exceed aggregate capital gains, they may deduct up to $3,000 of the excess against ordinary income. § 1211(b). Capital losses exceeding the section 1211(b) limitation may then be carried forward to subsequent tax years. § 1212(b).

To substantiate a capital loss carryover, the taxpayer must show:

(1) that a loss was incurred, (2) when he incurred the loss, (3) that he is entitled to deduct the loss, (4) whether the loss is capital or noncapital, or business or personal, and (5) the amount of the capital gain during the intervening years, in order to compute any allowable carryover. Widemon v. Commissioner, T.C. Memo. 2004-162, 2004 WL 1559185, at *5.

Petitioners rely on the following three losses for the capital loss carryovers reported for the years at issue: (1) for 2003 a $16,679 passthrough loss from S&F, (2) for 2004 a $138,516 passthrough loss from S&F, and (3) for 2010 a $35,731 loss from the sale of a 20-acre property.

To substantiate the losses, petitioners introduced copies of prior years’ returns into evidence including their 2003 Schedule D, Capital Gains and Losses, which listed a $16,679 passthrough loss from S&F, and the 2003 Schedules K–1 issued by S&F allocating $8,340 and $8,339 of section 1231 losses to Mr. Chapin and Mrs. Gutierrez-Chapin

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[*25] respectively. Petitioners provided no further information on the S&F transaction that gave rise to the loss in 2003.

Petitioners’ 2004 Schedule D reflects a $138,516 passthrough loss from S&F. The accompanying worksheet reports sales of six real estate parcels. Petitioners contend that Mr. Chapin relied upon original closing statements when he prepared the tax returns and that the amounts listed in the returns should therefore be presumed to be accurate. Those closing statements are not in the record. Petitioners provided no other substantiation of the sale prices or the basis listed.

Finally, for 2010 petitioners reported a capital loss of $35,731 from the sale of a 20-acre real estate parcel, reflecting a sale price of $48,810 and a basis of $84,541. Mr. Chapin testified that petitioners repurchased the property from the bankruptcy estate in 2004 with funds obtained from a private loan. The record contains no documentation of this loan or purchase, nor does it contain anything supporting the $84,541 basis.

Copies of prior years’ returns are insufficient to substantiate deductions or losses. Wilkinson, 71 T.C. at 639; Roberts, 62 T.C. 834; Baker v. Commissioner, T.C. Memo. 2008-247. The same rule applies to Schedules K–1. See Baker, T.C. Memo. 2008-247; LeBouef, T.C. Memo. 2001-261. Without proper substantiation of the losses for 2003, 2004, and 2010, we cannot allow any capital loss carryover deductions. We will sustain respondent’s disallowance of the capital loss deductions for all years at issue and sustain respondent’s determination that for 2010 petitioners had a capital gain of $48,810 from the sale of the 20-acre real estate parcel.

VIII. Additions to Tax

In the Notices of Deficiency, respondent determined that petitioners were liable for additions to tax under section 6651(a)(1) for failure to timely file for each year at issue, additions to tax under section 6651(a)(2) for failure to timely pay for 2013 and 2014, and additions to tax under section 6654(a) for failure to make estimated payments for 2013 and 2014. Respondent bears the burden of producing sufficient evidence to show that it is appropriate to impose the additions to tax. See § 7491(c); Wheeler v. Commissioner, 127 T.C. 200, 206 (2006), aff’d, 521 F.3d 1289 (10th Cir. 2008); Higbee, 116 T.C. at 446–47. 6 Once

6 The written supervisory approval requirement found in section 6751(b)(1)

does not apply to the section 6651 or section 6654 addition to tax. § 6751(b)(2)(A).

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[*26] respondent meets the burden of production under section 7491(c), petitioners bear the burden of proving the additions to tax do not apply because of reasonable cause or other exculpatory factors. Wheeler, 127 T.C. at 206; Higbee, 116 T.C. at 447.

A. Failure to File

Section 6651(a)(1) imposes an addition to tax if a taxpayer fails to timely file a required income tax return, unless the taxpayer proves that such failure is due to reasonable cause and not due to willful neglect. United States v. Boyle, 469 U.S. 241, 245 (1985). The addition to tax under section 6651(a)(1) is 5% of the tax required to be shown on the return if the failure to file does not exceed one month, with an additional 5% per month while the failure continues, up to a maximum of 25%. A return is generally considered filed with the IRS when the return is delivered to and received by the IRS. See, e.g., United States v. Lombardo, 241 U.S. 73, 76 (1916); Trout v. Commissioner, 131 T.C. 239, 246 (2008). An SFR prepared by respondent is disregarded for purposes of determining the amount of the taxpayer’s liability for the addition to tax under section 6651(a)(1). See § 6651(g)(1).

The parties do not dispute that petitioners requested and were granted extensions to file their income tax returns for the years at issue. Accordingly, the returns for tax years 2009, 2011, 2012, 2013, and 2014 would have been timely if filed by October 15 of the following year. 7 The tax return for each of the years at issue was filed after the extended due date. Respondent has satisfied his burden of production under section 7491(c).

Petitioners consequently bear the burden of proving their failure to file was due to reasonable cause and not to willful neglect. See § 6651(a)(1); see also Boyle, 469 U.S. at 243; Williams v. Commissioner, T.C. Memo. 2022-7, at *4. “Reasonable cause” exists if the taxpayer exercised ordinary business care and prudence but was nevertheless unable to file the return on time. See McMahan v. Commissioner, 114 F.3d 366, 368–69 (2d Cir. 1997), aff’g T.C. Memo. 1995-547; Treas. Reg. § 301.6651-1(c)(1). Reliance on a tax professional can constitute reasonable cause if that professional advises the taxpayer on a substantive tax issue, such as whether a liability exists or a return must be filed. Boyle, 469 U.S. at 250–51. To demonstrate reliance on

7 Because October 15, 2011, fell on a Saturday, the tax return for tax year 2010

would have been timely if filed by Monday, October 17, 2011. See § 7503.

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[*27] professional advice, the taxpayer must prove that “(1) [t]he adviser was a competent professional who had sufficient expertise to justify reliance, (2) the taxpayer provided necessary and accurate information to the adviser, and (3) the taxpayer actually relied in good faith on the adviser’s judgment.” Neonatology Assocs., P.A. v. Commissioner, 115 T.C. 43, 99 (2000), aff’d, 299 F.3d 221 (3d Cir. 2002).

Petitioners acknowledge that they did not file timely returns but assert that their failure was due to reasonable cause and not willful neglect. Originally, petitioners contended that their bankruptcy attorneys advised them not to file returns during their bankruptcy proceedings. Mr. Chapin later contradicted that contention and instead testified that he had no recollection of his bankruptcy attorney’s ever advising him not to file his returns. Petitioners provide no explanation for Mr. Chapin’s apparent retraction. Even if we were to ignore Mr. Chapin’s inconsistent testimony, it is insufficient to explain petitioners’ delay in filing. The bankruptcy proceedings finished in March 2011 when the chapter 7 trustee filed his final report. Petitioners waited more than an additional year to file their 2009 tax return, and almost another year passed before they filed their 2010 tax return. The 2011, 2012, 2013, and 2014 returns were due more than a year after the completion of the bankruptcy proceedings, and all were filed late. Petitioners fail to demonstrate that their untimely filing was due to reasonable cause. We will sustain respondent’s determination as to the applicability of the section 6651 additions to tax.

B. Failure to Pay

Section 6651(a)(2) imposes an addition to tax for failure to timely pay the amount shown as tax due on a return unless the taxpayer proves that such failure was due to reasonable cause and not due to willful neglect. El v. Commissioner, 144 T.C. 140, 150 (2015). The addition to tax under section 6651(a)(2) is 0.5% of the amount of tax shown on the return if the failure does not exceed one month, with an additional 0.5% per month while the failure continues, up to a maximum of 25%. The amount of the addition to tax under section 6651(a)(2) reduces the addition to tax under section 6651(a)(1) for any month for which both additions to tax apply. See § 6651(c)(1).

“The Commissioner’s burden of production with respect to the section 6651(a)(2) addition to tax requires that the Commissioner introduce evidence that a return showing the taxpayer’s tax liability was filed for the year in question.” Wheeler, 127 T.C. at 210. The

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[*28] Commissioner must also introduce evidence that the taxpayer failed to pay timely the tax shown on the return. See Reynoso v. Commissioner, T.C. Memo. 2013-25, at *48–49.

A return prepared by the Commissioner in accordance with section 6020(b) is treated as the return filed by the taxpayer for purposes of determining the amount of the addition under section 6651(a)(2). § 6651(g)(2); Wheeler, 127 T.C. at 208–09. To constitute an SFR, the document prepared by the Commissioner must be subscribed, it must contain sufficient information from which to compute the taxpayer’s tax liability, and it must purport to be a “return.” Rader v. Commissioner, 143 T.C. 376, 382 (2014), aff’d in part, appeal dismissed in part, 616 F. App’x 391 (10th Cir. 2015). We find that the combination of Form 13496, IRS Section 6020(b) Certification, Form 4549–A, Income Tax Examination Changes, and Form 886–A, Explanation of Items, as included in each SFR prepared by respondent for petitioners suffices for them to constitute valid SFRs under section 6020(b). See Rader, 143 T.C. at 382. Additionally, respondent provided a certification that no payments towards the 2013 and 2014 tax liabilities have been made. Because respondent has satisfied his burden of production, petitioners now have the burden of proving that the reasonable cause exception applies. See Higbee, 116 T.C. at 446.

Taxpayers may establish reasonable cause for failure to timely pay by showing they exercised ordinary business care and prudence in providing for payment of their tax liability but were either unable to pay the tax or would have suffered undue hardship by paying the tax on the due date. Fran Corp. v. United States, 164 F.3d 814, 816 (2d Cir. 1999); Russell v. Commissioner, T.C. Memo. 2011-81, 2011 WL 1314673, at *8 n.9; Treas. Reg. § 301.6651-1(c)(1). Paying the tax on the due date creates an undue hardship for taxpayers if making the payment on time creates “the risk of a substantial financial loss.” Ruggeri v. Commissioner, T.C. Memo. 2008-300, 2008 WL 5411919, at *4.

Petitioners contend that their bankruptcy proceeding constituted financial difficulty that excused their failure to pay. Petitioners present no evidence or testimony as to the specifics of their financial hardship, nor do they explain how a bankruptcy discharge in 2011 affected their ability to pay tax due in 2014 and 2015. Petitioners fail to establish that their failure to pay resulted from reasonable cause rather than willful neglect, and we will sustain respondent’s determination as to the section 6651(a)(2) addition to tax.

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[*29] C. Failure to Make Estimated Tax Payments

Section 6654(a) imposes an addition to tax on an individual for failure to make required estimated tax payments. This addition to tax is calculated with reference to four required installment payments of the taxpayer’s estimated tax liability. § 6654(c) and (d). Each required installment is equal to 25% of the “required annual payment.” § 6654(d). The due dates of the required installments for a calendar year taxpayer are April 15, June 15, and September 15 of the calendar year in question and January 15 of the following year. § 6654(c)(2). Where a taxpayer has not filed a return for the current tax year or the immediately preceding tax year, the “required annual payment” is equal to 90% of the tax due for the current year. § 6654(d)(1)(B). If the taxpayer filed a return for the immediately preceding tax year, the required annual payment is 100% of the tax shown on that return.

Respondent’s burden of production under section 7491(c) requires him to produce evidence that petitioners had a “required annual payment” under section 6654(d). To do so, respondent must establish the tax shown on petitioners’ return for the preceding year or demonstrate that petitioners filed no such return. See Wheeler, 127 T.C. at 212; Harvey v. Commissioner, T.C. Memo. 2023-95, at *6–7; Collins v. Commissioner, T.C. Memo. 2020-50, at *47. Respondent prepared SFRs for tax years 2013 and 2014 showing that petitioners had required annual payments, and the record shows that petitioners made no payments towards those liabilities. Thus, respondent has met his burden of production.

Section 6654 does not include a general exception for reasonable cause or lack of willful neglect. See Rader, 143 T.C. at 390; Shapiro v. Commissioner, T.C. Memo. 2023-144, at *27–28; Treas. Reg. § 1.6654- 1(a)(1) (“This addition to the tax . . . is imposed whether or not there was reasonable cause for the underpayment.”). Nonetheless, no addition to tax is imposed under section 6654(a) with respect to any underpayment “to the extent the Secretary [of the Treasury or his or her delegate] determines that by reason of casualty, disaster, or other unusual circumstances the imposition of such addition to tax would be against equity and good conscience.” § 6654(e)(3)(A). Petitioners advance no cogent arguments to support a finding that the imposition of a section 6654 addition to tax would be against equity and good conscience, and, as a result, we will sustain respondent’s determination relating to that addition to tax.

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[*30] IX. Section 6662(a) Penalties

Respondent determined that petitioners are liable for accuracy-

related penalties pursuant to section 6662(a) for taxable years 2009, 2010, 2011, and 2012. Section 6662(a) authorizes respondent to impose a 20-percent penalty on an underpayment of tax that is attributable to, among other things, negligence or disregard of rules or regulations within the meaning of section 6662(b)(1). Negligence includes any failure to make a reasonable attempt to comply with the provisions of the internal revenue laws, and the term “disregard” includes any careless, reckless, or intentional disregard. § 6662(c); Treas. Reg. § 1.6662-3(b)(1) and (2). Disregard of rules or regulations is careless if “the taxpayer does not exercise reasonable diligence to determine the correctness of a return position” and is reckless if “the taxpayer makes little or no effort to determine whether a rule or regulation exists, under circumstances which demonstrate a substantial deviation from the standard of conduct that a reasonable person would observe.” Treas. Reg. § 1.6662-3(b)(2).

The Commissioner bears the burden of production with respect to accuracy-related penalties. § 7491(c). This burden is satisfied if the Commissioner comes forward with sufficient evidence indicating that it is appropriate to impose the relevant penalty. Higbee, 116 T.C. at 446. The Commissioner must also demonstrate compliance with the supervisory approval requirement pursuant to section 6751(b). The record reflects that respondent has met his burden relating to section 6751(b). Once the Commissioner meets his burden of production, the burden of proof is on the taxpayer to “come forward with evidence sufficient to persuade a Court that the Commissioner’s determination is incorrect.” Higbee, 116 T.C. at 447.

Respondent contends that petitioners are liable for the section 6662 penalties because they failed to keep, maintain, and produce organized records relating to their business income, expenses, net operating and capital losses, and Schedule F activity, resulting in their need to reconstruct numerous documents. Mr. Chapin prepared their 2009, 2010, 2011, and 2012 returns using working trial balances, balance sheets, and profit and loss statements. All income was recorded, regardless of the account in which it was deposited, including any cash received, and Mr. Chapin allocated expenses among personal expenses, expenses incurred in the accounting practice, and expenses incurred in their farming activity. He then reconciled each account every month. Petitioners kept their receipts, including those for personal expenses,

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[*31] and organized them in ledger categories. To the extent that petitioners failed to effectively present that evidence at trial, we believe that petitioners’ age and the passage of time were significant contributing factors. Accordingly, we find that petitioners are not liable for accuracy-related penalties on the underpayments relating to respondent’s adjustments to income and disallowances of Schedules C and E deductions not subject to section 274(d).

To the contrary, we were not persuaded by Mr. Chapin’s testimony regarding the underpayments relating to the expenses subject to section 274(d) strict substantiation requirements reported on Schedules C and E. Petitioners, despite Mr. Chapin’s accounting background, fell woefully short of the stringent requirements of section 274(d). As a result, we find that the underpayments of tax relating to these expenses were attributable to negligence or disregard of rules and regulations. Similarly, we do not find that petitioners made a reasonable attempt to comply with the Code, nor did they exercise ordinary and reasonable care in preparing portions of their returns relating to their claimed NOLs or the deductions claimed on Schedule E in connection with S&F. Petitioners are thus liable for the underpayments of tax relating to all deductions pertaining to the disallowed NOLs and Schedule E deductions pertaining to S&F. Accordingly, we conclude that petitioners are partially liable for the accuracy-related penalties relating to 2009, 2010, 2011, and 2012 as discussed above.

In reaching our holdings, we have considered all arguments made, and, to the extent not mentioned above, we conclude they are moot, irrelevant, or without merit.

To reflect the foregoing and respondent’s concessions,

Decisions will be entered under Rule 155.