                         T.C. Memo. 2011-256



                       UNITED STATES TAX COURT



       GLENN R. CRANE AND DEBORAH A. CRANE, Petitioners v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 27795-09.               Filed November 1, 2011.



     Joseph Falcone, for petitioners.

     Evan H. Kaploe, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     CHIECHI, Judge:    Respondent determined a deficiency of

$14,186 in, and an accuracy-related penalty of $2,284 under
                                 - 2 -

section 6662(a)1 on, petitioners’ Federal income tax (tax) for

their taxable year 2007.

     The issues remaining for decision for petitioners’ taxable

year 2007 are:

     (1) Are petitioners entitled to exclude from gross income

under section 104(a)(2) an arbitration award of $79,329.34?    We

hold that they are not.

     (2) Are petitioners liable for the accuracy-related penalty

under section 6662(a)?    We hold that they are.

                           FINDINGS OF FACT

     Some of the facts have been stipulated by the parties and

are so found.

     At the time petitioners filed the petition, they resided in

Michigan.

     From approximately 2000 until at least 2004, PCS2 had a

contractual arrangement with Oakwood Healthcare, Inc. (Oakwood),

under which PCS provided certain of its employees to Oakwood to

perform certain services for Oakwood.    (We shall refer to the

contractual arrangement between PCS and Oakwood as the PCS/

Oakwood arrangement.)     Pursuant to the PCS/Oakwood arrangement,


     1
      All section references are to the Internal Revenue Code
(Code) in effect for the year at issue. All Rule references are
to the Tax Court Rules of Practice and Procedure.
     2
      The record does not establish whether PCS is the full name
of that organization.
                               - 3 -

petitioner Deborah A. Crane (Ms. Crane), an employee of PCS,

performed services for Oakwood and worked with an Oakwood em-

ployee named Roger Plue (Mr. Plue), who was her direct

supervisor.

     During part of the time that Ms. Crane performed services

for Oakwood pursuant to the PCS/Oakwood arrangement, petitioners’

son was receiving treatment for cancer in Boston, Massachusetts

(Boston).   Petitioner Glenn R. Crane (Mr. Crane), who was re-

tired, stayed in Boston while petitioners’ son was receiving that

treatment, until their son died on December 23, 2002.

     At a time not established by the record shortly after Mr.

Crane returned from Boston to petitioners’ home, he noticed that

Ms. Crane, who was still performing services for Oakland pursuant

to the PCS/Oakwood arrangement, was exhibiting certain unusual

movements of her eyes and tongue and was having nightmares.

Around the middle of 2005, Ms. Crane was diagnosed with cancer.

     On July 14, 2004, PCS gave Oakwood written notice (notice of

sexual harassment) in which it claimed that Mr. Plue had sexually

harassed Amie Slaven (Ms. Slaven), an employee of PCS, who, like

Ms. Crane, was performing services for Oakwood pursuant to the

PCS/Oakwood arrangement and worked with Mr. Plue.   In response to

the notice of sexual harassment, Oakwood conducted an investiga-

tion.   During that investigation, Ms. Crane supported Ms.

Slaven’s claim of sexual harassment.
                                 - 4 -

     Sometime after PCS gave Oakwood the notice of sexual harass-

ment, Oakwood terminated the PCS/Oakwood arrangement.    As a

result, Ms. Crane stopped performing services for Oakwood pursu-

ant to that arrangement.    Thereafter, Ms. Crane applied to

Oakwood for a position described as physician liaison that it had

advertised.    Oakwood did not offer that position to Ms. Crane.

     At a time not established by the record, Ms. Crane filed a

claim against Oakwood.    Pursuant to an alternative dispute

resolution agreement, that claim was referred to an arbitrator

for resolution.

     According to a document entitled “Arbitration Decision” that

was dated September 21, 2007 (September 21, 2007 arbitrator’s

decision), Ms. Crane’s claim was:

     that by aiding Amie Slaven in pursuing her claim [of
     sexual harassment] and acting as a witness for Amie
     Slaven, Oakwood retaliated against her [Ms. Crane]
     causing her both economic and non-economic damages.

          The retaliatory adverse actions claimed by Crane
     include:

          1.      Oakwood demoting her from physician liaison
                  to laboratory sales representative;

          2.      Oakwood declining to renew its contract with
                  PCS; and

          3.      Oakwood failing to offer her a physician
                  liaison job at Annapolis Hospital.

(We shall refer to the arbitrator’s description of Ms. Crane’s

claim against Oakwood that the arbitrator set forth in the
                              - 5 -

September 21, 2007 arbitrator’s decision (quoted above) as Ms.

Crane’s claim against Oakwood.)

     The arbitrator resolved Ms. Crane’s claim against Oakwood.

In resolving that claim, the arbitrator concluded in pertinent

part in the September 21, 2007 arbitrator’s decision:

          Based on the record as a whole, I am not persuaded
     that Plaintiff [Ms. Crane] has met her burden in show-
     ing that it was more likely than not that these [retal-
     iatory adverse] actions [claimed by Ms. Crane and
     quoted above] were taken, even in part, to retaliate
     against Crane’s participation in Amie Slaven’s sexual
     harassment complaint.

          It may be true that the PCS written notice of the
     complaint triggered Doug Welday’s decision to change
     Crane’s position and the other two PCS employees. If,
     however, the motivation for Welday’s decision was to
     remove Crane and the other PCS employees from Plue’s
     supervision pending an investigation, this would not
     amount to retaliation. Rather, it was a reasonable
     response to creating an acceptable working situation
     pending completion of the investigation.

          The timing of Oakwood’s decision not to renew the
     PCS contract was, likely, accelerated by the Slaven’s
     sexual harassment complaint because it caused Welday to
     analyze this business relationship sooner than he might
     have otherwise. The ultimate decision to terminate,
     however, was based upon business considerations, not a
     desire to retaliate against Crane or other PCS employ-
     ees.

          The evidence relating to Oakwood’s decision not to
     offer Crane the physician liaison position is somewhat
     more confusing. The evidence was unclear as to the
     particular physician liaison position posted. It is
     undisputed, however, that the physician liaison posi-
     tion for which Crane applied was pursuant to a posting
     that stated the position was to replace PCS employees.
     The totality of the evidence presented, however, does
     not convince me that her failure to receive that posi-
     tion was in retaliation for her actions in the Slaven’s
     sexual harassment complaint. Even if it were, however,
                         - 6 -

she does not appear to have suffered economic damages
flowing from her failure to receive that job offer. I
find that her reason for not accepting the lab sales
position was because of the lower base salary, as she
so testified. I also find that this position was a
comparable position to the position she had been per-
forming at Oakwood and it may have been a comparable
position to the physician liaison position she was not
offered. Based on the evidence presented, I find that
Crane had a duty to accept the lab sales position in
order to mitigate her damages. The evidence estab-
lished that, if she had accepted that position, she
would have, likely, suffered no economic damages.

     Consequently, I find that Crane did not suffer any
economic damages in this case.

     Crane’s reason for not accepting the lab sales
position is also relevant to her claim for future non-
economic damages. I conclude from the evidence, that
if the base salary of the lab sales position had been
higher, Crane would have accepted that position. A
willingness to accept that position belies her claim
that the retaliation she experienced at Oakwood as the
result of her involvement in the Slaven sexual harass-
ment claim created an intolerable work environment.

     Notwithstanding my prior findings, I do find that
Crane suffered non-economic damages as the result of
Plue’s direct actions and Oakwood’s failure to do more
to control Plue’s actions during the time the investi-
gation into Slaven’s sexual harassment complaint was
pending. I find that Plue purposely acted in a way to
intimidate Crane’s testimony in that investigation. I
also find that given little or no communication by
Oakwood during the time the investigation was pending
to Crane as to how she was, if at all, being protected
from Plue’s intimidation, Oakwood acquiesced in Plue’s
actions. This is especially true since some of Plue’s
acts of intimidation were directly contrary to instruc-
tions he was given by his superior.

     In compensation for these non-economic damages, I
award Crane the sum of $75,000 which includes any and
all types of damages she may be entitled to claim
including any attorney’s fee award.
                              - 7 -

     On October 11, 2007, the arbitrator amended his September

21, 2007 arbitrator’s decision (October 11, 2007 amendment of the

September 21, 2007 arbitrator’s decision) and made a final award

to Ms. Crane of $79,329.34, instead of the $75,000 that he had

awarded her in the September 21, 2007 arbitrator’s decision.3

That amendment stated in pertinent part:

     My original decision [September 21, 2007 arbitrator’s
     decision] reflected an effort to comply with the re-
     quest of Plaintiff’s [Ms. Crane’s] counsel to limit my
     time as much as practicable in deciding this matter.
     Attempting to comply with that request, I decided that
     the appropriate amount of proximately caused non-eco-
     nomic damages for the violations I found was $50,000
     and that an educated estimate of Plaintiff’s costs and
     attorneys fees connected to the arbitration were ap-
     proximately $25,000. Instead of forcing the parties to
     incur the expense of briefing that issue and spending
     time resolving any disagreements related to costs and
     fees, I included all forms of damage in my original
     decision [to award Ms. Crane $75,000].

          Now, however, I have the benefit of Plaintiff’s
     counsel’s itemization of her attorneys fees and costs.
     Consequently, I will amend my award to reflect the more
     accurate information. My award to Plaintiff for her
     non-economic injuries is $50,000. My award to Plain-
     tiff for her attorneys fees is $23,975, and costs of
     $5,354.34. I have not included in the award of costs
     any amounts for the arbitrator’s fees. There is a
     specific provision in the “Alternate Dispute Resolution
     Agreement” that states, “the parties will share the
     cost of the arbitrator equally.” * * *

         *     *       *       *       *       *       *




     3
      We shall sometimes refer collectively to the September 21,
2007 arbitrator’s decision and the October 11, 2007 amendment of
the September 21, 2007 arbitrator’s decision as the final arbi-
tration decision.
                                - 8 -

          Consequently, my amended final award to Plaintiff
     is $79,329.34. * * *

(We shall refer to the arbitrator’s amended final award to Ms.

Crane of $79,329.34 that the arbitrator made in the October 11,

2007 amendment of the September 21, 2007 arbitrator’s decision

(quoted above) as Ms. Crane’s $79,329.34 final arbitration

award.)

     Petitioners timely filed Form 1040, U.S. Individual Income

Tax Return, for their taxable year 2007 (2007 return).   Petition-

ers did not discuss in any detail that return with their accoun-

tant.    In the 2007 return, petitioners did not include in gross

income Ms. Crane’s $79,329.34 final arbitration award.   Petition-

ers also did not include in gross income in their 2007 return

retirement income of $13,3824 (petitioners’ retirement income)

that they received in 2007.   Petitioners also underreported in

that return $2,766 of tax withheld.

     On August 24, 2009, respondent issued to petitioners a

notice of deficiency (notice) for their taxable year 2007, in

which respondent made various determinations, including the




     4
      The parties stipulated that the retirement income that
petitioners received during 2007 was $13,382. However, as
discussed below, the notice of deficiency that respondent issued
to petitioners for their taxable year 2007 determined that they
failed to include in gross income for that year $13,832 of
retirement income. The record does not establish whether the
parties’ stipulation or the notice of deficiency is correct.
                                 - 9 -

following.    Respondent determined that $44,783 of Ms. Crane’s

$79,329.34 final arbitration award is includible in petitioners’

gross income.    Respondent also determined that petitioners’

retirement income of $13,8325 is includible in their gross in-

come.    In addition, respondent determined that petitioners

underreported $2,766 of tax withheld.    Respondent also determined

to impose on petitioners an accuracy-related penalty under

section 6662(a).

                               OPINION

     Petitioners have the burden of establishing that the deter-

minations that remain at issue in the notice are wrong.    See Rule

142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933).     Respondent

bears the burden of proof with respect to the new matter that

respondent raises on brief; namely, whether petitioners are

required to include in gross income for their taxable year 2007

Ms. Crane’s $79,329.34 final arbitration award, instead of only

$44,783 of that award that respondent determined in the notice to

include in their gross income.    See Rule 142(a); see also Rule

41(b).

Section 104(a)(2)

     Before turning to the parties’ respective positions with

respect to the issue presented under section 104(a)(2), we shall




     5
        See supra note 4.
                              - 10 -

set forth certain principles that govern our consideration of

that issue.

     Section 61(a) provides the following sweeping definition of

the term “gross income”:   “Except as otherwise provided in this

subtitle, gross income means all income from whatever source

derived”.   Not only is section 61(a) broad in its scope, Commis-

sioner v. Schleier, 515 U.S. 323, 328 (1995), exclusions from

gross income must be narrowly construed, id.

     Section 104(a)(2) provides that gross income does not

include:

           (2) the amount of any   damages (other than punitive
     damages) received (whether    by suit or agreement and
     whether as lump sums or as    periodic payments) on ac-
     count of personal physical    injuries or physical sick-
     ness;

     The regulations under section 104(a)(2) provide in pertinent

part:

     The term “damages received (whether by suit or agree-
     ment)” means an amount received (other than workmen’s
     compensation) through prosecution of a legal suit or
     action based upon tort or tort type rights, or through
     a settlement agreement entered into in lieu of such
     prosecution.

Sec. 1.104-1(c), Income Tax Regs.

     The Supreme Court of the United States (Supreme Court)

summarized the requirements of section 104(a)(2) as follows:

          In sum, the plain language of § 104(a)(2), the
     text of the applicable regulation, and our decision in
     Burke establish two independent requirements that a
     taxpayer must meet before a recovery may be excluded
     under § 104(a)(2). First, the taxpayer must demon-
                              - 11 -

     strate that the underlying cause of action giving rise
     to the recovery is “based upon tort or tort type
     rights”; and second, the taxpayer must show that the
     damages were received “on account of personal injuries
     or sickness.” * * *

Commissioner v. Schleier, supra at 336-337.

     When the Supreme Court issued its opinion in Commissioner v.

Schleier, supra, section 104(a)(2), as in effect for the year at

issue in Schleier, required, inter alia, that, in order to be

excluded from gross income, an amount of damages had to be

received “on account of personal injuries or sickness”.   After

the Supreme Court issued its opinion in Schleier, Congress

amended (1996 amendment) section 104(a)(2), effective for amounts

received after August 20, 1996, by adding the requirement that,

in order to be excluded from gross income, any amount received

must be on account of personal injuries that are physical or

sickness that is physical.6   Small Business Job Protection Act of

1996, Pub. L. 104-188, sec. 1605, 110 Stat. 1838.   The 1996

amendment does not otherwise change the requirements of section

104(a)(2) or the analysis set forth in Commissioner v. Schleier,

supra; it imposes an additional requirement in order for an


     6
      Sec. 104(a) provides that emotional distress is not to be
treated as a physical injury or physical sickness for purposes of
sec. 104(a)(2), except for damages not in excess of the amount
paid for medical care attributable to emotional distress. In
this connection, the legislative history of the 1996 amendment
states: “It is intended that the term emotional distress
includes symptoms (e.g., insomnia, headaches, stomach disorders)
which may result from such emotional distress.” H. Conf. Rept.
104-737, at 301 n.56 (1996), 1996-3 C.B. 741, 1041.
                              - 12 -

amount to qualify for exclusion from gross income under that

section.

     Where damages are awarded, the nature of the claim that was

the actual basis for the award controls whether such damages are

excludable under section 104(a)(2).    United States v. Burke, 504

U.S. 229, 237 (1992).   The determination of the nature of the

claim is factual.   Robinson v. Commissioner, 102 T.C. 116, 126

(1994), affd. in part, revd. in part, and remanded on another

issue 70 F.3d 34 (5th Cir. 1995); Seay v. Commissioner, 58 T.C.

32, 37 (1972).   That determination is usually made by reference

to the document that establishes the legal obligation of a party

in the dispute to pay the awarded damages.   See Knuckles v.

Commissioner, 349 F.2d 610, 613 (10th Cir. 1965), affg. T.C.

Memo. 1964-33; Robinson v. Commissioner, supra at 126.   If that

document lacks express language stating the nature of the dispute

the awarded damages were intended to resolve, the intent of the

payor is critical to that determination.   See Knuckles v. Commis-

sioner, supra at 613; see also Agar v. Commissioner, 290 F.2d

283, 284 (2d Cir. 1961), affg. per curiam T.C. Memo. 1960-21.

Although the belief of the payee is relevant to that inquiry, the

character of the award hinges ultimately on the dominant reason

the payor is making the payment.   Agar v. Commissioner, supra at

284; Fono v. Commissioner, 79 T.C. 680, 696 (1982), affd. without

published opinion 749 F.2d 37 (9th Cir. 1984).   Whether the award
                              - 13 -

is excludable from gross income under section 104(a)(2) depends

on the nature and the character of the claim asserted, and not

upon the validity of that claim.   See Bent v. Commissioner, 87

T.C. 236, 244 (1986), affd. 835 F.2d 67 (3d Cir. 1987); Glynn v.

Commissioner, 76 T.C. 116, 119 (1981), affd. without published

opinion 676 F.2d 682 (1st Cir. 1982); Seay v. Commissioner, supra

at 37.

     It is respondent’s position that Ms. Crane’s $79,329.34

final arbitration award is not excludable from petitioners’ gross

income under section 104(a)(2) because that award was not re-

ceived on account of personal physical injuries or physical

sickness of Ms. Crane.

     It is petitioners’ position that petitioners are entitled

under section 104(a)(2) to exclude from gross income the award

that the arbitrator made to Ms. Crane in the final arbitration

decision.   In support of that position, petitioners argue in

pertinent part:7

          The arbitrator, when he was writing his opinion,
     appears not to be worried about how the Internal Reve-
     nue Code would characterize the award he was making.


     7
      Petitioners also argue that if we were to find that the
award to Ms. Crane in the final arbitration decision was not made
on account of personal physical injuries or physical sickness of
Ms. Crane, the amount includible in their gross income should not
exceed $44,783. That is because, according to petitioners,
Oakwood paid Ms. Crane only $44,783 of Ms. Crane’s $79,329.34
final arbitration award, and $44,783 is the amount that respon-
dent determined in the notice to include in petitioners’ gross
income.
                        - 14 -

* * * he did not specifically mention whether the award
was for physical injuries or was for emotional dis-
tress.

     When the Arbitration Decision [September 21, 2007
arbitrator’s decision] is read carefully, however, it
becomes clear that the basis upon which the award to
Deborah Crane was based was the negligent failure of
Oakwood Healthcare, Inc., to restrict the conduct of
Mr. Plue toward Deborah Crane, or, in the words of the
arbitrator, “Oakwood’s failure to put a tighter reign
towards Mr. Plue’s conduct towards persons involved in
the investigation” and thereby allowed him to “meddle
in the on-going investigation.”

     As a result, the arbitration award could not have
included damages for emotional distress because under
the facts found by the arbitrator, the award had to be
for physical injuries. Damages for physical injuries
were the only types of damages Deborah Crane was enti-
tled to claim and the arbitrator did not have to spell
it out any further.

     Under Michigan law, a plaintiff can only recover
for emotional distress proximately caused by a defen-
dant’s negligent conduct if there is a definite and
objective injury. The emotional distress must manifest
itself in the form of definite and objective physical
injury. Stites v. Sundstrand Heat Transfer, Inc., 660
F. Supp. 1516, 1526 (W.D. Mich. 1987). The damages are
awarded for the physical injury, not the emotional
distress. Daley v. LaCroix, 384 Mich. 4, 12-13 (Mich.
1970).

  *       *       *      *       *     *      *

     As a result, when the facts and circumstances are
taken into consideration, because of the way Michigan
law prohibits the recovery for purely emotional dis-
tress damages in a negligence claim, and because
Deborah Crane suffered from a physical sickness or
illness because of her treatment in the workplace, this
Court should find that the arbitration award was made
to compensate Deborah Crane for physical harm or ill-
ness suffered as the natural result of the negligent
conduct of Oakland [sic] Healthcare, Inc.
                              - 15 -

     We find petitioners’ argument to be factually and legally

flawed.8   By way of illustration of the factual flaws in peti-

tioners’ argument, the record is devoid of evidence establishing

petitioners’ contention that Ms. Crane “suffered from a physical

sickness or illness because of her treatment in the workplace”.

Nor does the record contain evidence establishing petitioners’

contentions that as a result of the negligent conduct of Oakwood

Ms. Crane suffered “emotional distress” that manifested “itself

in the form of [Ms. Crane’s] definite and objective physical

injury.”   The record is also devoid of evidence establishing that

Ms. Crane’s claim against Oakwood was for,9 or that the arbitra-


     8
      We find the cases decided under Michigan law on which
petitioners are relying on brief to be materially distinguishable
from the instant case and petitioners’ reliance on those cases to
be misplaced. We also note that the record does not establish
that the arbitrator was relying on the Michigan law on which
petitioners rely when he made the award that he did in the final
arbitration decision.
     9
      In the September 21, 2007 arbitrator’s decision, the arbi-
trator described Ms. Crane’s claim against Oakwood as follows:

     by aiding Amie Slaven in pursuing her claim [of sexual
     harassment] and acting as a witness for Amie Slaven,
     Oakwood retaliated against her [Ms. Crane] causing her
     both economic and non-economic damages.

          The retaliatory adverse actions claimed by Crane
     include:

           1.   Oakwood demoting her from physician liaison
                to laboratory sales representative;

           2.   Oakwood declining to renew its contract with
                PCS; and
                                                    (continued...)
                             - 16 -

tor’s award in his final arbitration decision was made on account

of,10 personal physical injuries or physical sickness of Ms.

Crane.

     On the record before us, we find that petitioners have

failed to carry their burden of establishing that the arbitrator

made an award to Ms. Crane in his final arbitration decision on

account of personal physical injuries or physical sickness of Ms.

Crane, as required by section 104(a)(2).

     We turn now to petitioners’ argument that if we were to

find, as we have, that the arbitrator did not make an award to

Ms. Crane in his final arbitration decision on account of per-

sonal physical injuries or physical sickness of Ms. Crane, only

$44,783 of Ms. Crane’s $79,329.84 final arbitration award is

includible in petitioners’ gross income.   That is because,

according to petitioners, Oakwood paid Ms. Crane only $44,783 of


     9
      (...continued)
          3.   Oakwood failing to offer her a physician
               liaison job at Annapolis Hospital.

     According to petitioners, under the Michigan law that they
assert applies here, and that we have concluded is inapplicable
here, “The emotional distress must manifest itself in the form of
definite and objective physical injury.” The record establishes
that Ms. Crane did not claim in Ms. Crane’s claim against Oakwood
any “emotional distress” as a result of Oakwood’s negligent
conduct that “manifest[ed] itself in the form of [her] definite
and objective physical injury.”
     10
      The record establishes that the arbitrator’s award in his
final arbitration decision was not made on account of “emotional
distress” that “manifest[ed] itself in the form of definite and
objective physical injury” of Ms. Crane.
                             - 17 -

Ms. Crane’s $79,329.84 final arbitration award, and $44,783 is

the amount respondent determined in the notice to include in

petitioners’ gross income.

     In the October 11, 2007 amendment of the September 21, 2007

arbitrator’s decision, the arbitrator stated in pertinent part:

          Now * * * I have the benefit of Plaintiff’s [Ms.
     Crane’s] counsel’s itemization of her attorneys fees
     and costs. Consequently, I will amend my award to
     reflect the more accurate information. My award to
     Plaintiff for her non-economic injuries is $50,000. My
     award to Plaintiff for her attorneys fees is $23,975,
     and costs of $5,354.34. I have not included in the
     award of costs any amounts for the arbitrator’s fees.
     There is a specific provision in the “Alternate Dispute
     Resolution Agreement” that states, “the parties will
     share the cost of the arbitrator equally.” * * *

          *    *       *       *       *       *       *

          Consequently, my amended final award to Plaintiff
     is $79,329.34. * * *

     On the record before us, we find that, in addition to the

$44,783 that the arbitrator awarded to Ms. Crane in his final

arbitration decision and that respondent determined in the notice

to include in petitioners’ gross income, the award that the

arbitrator made in that decision to Ms. Crane of $23,975 for her

attorney’s fees, $5,354.34 for her costs, and $5,217 for her

share of the cost of the arbitrator11 is includible in petition-


     11
      The parties stipulated that “Deborah Crane received * * *
$50,000 from an award from her employer during the 2007 taxable
year.” We presume that the difference (i.e., $5,217) between the
amount (i.e., $50,000) that the parties stipulated Ms. Crane
received and the amount (i.e., $44,783) that respondent
                                                   (continued...)
                              - 18 -

ers’ gross income.   See, e.g., Sinyard v. Commissioner, 268 F.3d

756, 759 (9th Cir. 2001), affg. T.C. Memo. 1998-364.   That

Oakwood may have paid (1) Ms. Crane’s attorney’s fees and costs

directly to Ms. Crane’s attorney and (2) Ms. Crane’s share of the

cost of the arbitrator directly to the arbitrator does not change

that result.   See id.

     Based upon our examination of the entire record before us,

we find that Ms. Crane’s $79,329.34 final arbitration award is

includible in petitioners’ gross income for their taxable year

2007.12

Accuracy-Related Penalty Under Section 6662(a)

     Before turning to the parties’ respective positions with

respect to the issue presented under section 6662(a), we shall

set forth certain principles that govern our consideration of

that issue.




     11
      (...continued)
determined in the notice to include in petitioners’ gross income
is Ms. Crane’s share of the cost of the arbitrator that she was
obligated to pay under the “Alternate Dispute Resolution
Agreement” to which the arbitrator referred in his October 11,
2007 amendment of his September 21, 2007 arbitrator’s decision.
     12
      Although we have found that Ms. Crane’s $79,329.34 final
arbitration award is includible in petitioners’ gross income for
their taxable year 2007, we leave it to the parties to address
and resolve as part of the computations under Rule 155 whether
petitioners are entitled to deduct Ms. Crane’s attorney’s fees
and costs and her share of the cost of the arbitrator. See secs.
55, 67, 68, 212(1); see also Commissioner v. Banks, 543 U.S. 426,
432 (2005).
                                - 19 -

     Section 6662(a) imposes an accuracy-related penalty equal to

20 percent of the underpayment to which section 6662 applies.

Section 6662 applies to the portion of any underpayment which is

attributable to, inter alia, (1) negligence or disregard of rules

or regulations, sec. 6662(b)(1), or (2) a substantial understate-

ment of tax, sec. 6662(b)(2).

     The term “negligence” in section 6662(b)(1) includes any

failure to make a reasonable attempt to comply with the Code.

Sec. 6662(c).    Negligence has also been defined as a failure to

do what a reasonable person would do under the circumstances.

Leuhsler v. Commissioner, 963 F.2d 907, 910 (6th Cir. 1992),

affg. T.C. Memo. 1991-179; Antonides v. Commissioner, 91 T.C.

686, 699 (1988), affd. 893 F.2d 656 (4th Cir. 1990).    The term

“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 term “disregard”

includes any careless, reckless, or intentional disregard.      Sec.

6662(c).

     For purposes of section 6662(b)(2), an understatement is

equal to the excess of the amount of tax required to be shown in

the tax return over the amount of tax shown in the return.      Sec.

6662(d)(2)(A).    An understatement is substantial in the case of

an individual if the amount of the understatement for the taxable

year exceeds the greater of ten percent of the tax required to be
                               - 20 -

shown in the tax return for that year or $5,000.    Sec.

6662(d)(1)(A).

     The accuracy-related penalty under section 6662(a) does not

apply to any portion of an underpayment if it is shown that there

was reasonable cause for, and that the taxpayer acted in good

faith with respect to, such portion.    Sec. 6664(c)(1).   The

determination of whether the taxpayer acted with reasonable cause

and in good faith depends on the pertinent facts and circum-

stances, including the taxpayer’s efforts to assess the tax-

payer’s proper tax liability, the knowledge and experience of the

taxpayer, and the reliance on the advice of a professional, such

as an accountant.   Sec. 1.6664-4(b)(1), Income Tax Regs.    Reli-

ance on the advice of a professional does not necessarily demon-

strate reasonable cause and good faith unless, under all the

circumstances, such reliance was reasonable and the taxpayer

acted in good faith.   Id.   In this connection, a taxpayer must

demonstrate that the taxpayer’s reliance on the advice of a

professional concerning substantive tax law was objectively

reasonable.   Goldman v. Commissioner, 39 F.3d 402, 408 (2d Cir.

1994), affg. T.C. Memo. 1993-480.   A taxpayer’s reliance on the

advice of a professional will be objectively reasonable only if

the taxpayer has provided necessary and accurate information to

the professional.   Neonatology Associates, P.A. v. Commissioner,
                              - 21 -

115 T.C. 43, 99 (2000), affd. 299 F.3d 221 (3d Cir. 2002); see

also Ma-Tran Corp. v. Commissioner, 70 T.C. 158, 173 (1978).

     Respondent has the burden of production with respect to the

accuracy-related penalty under section 6662(a) that respondent

determined in the notice.   See sec. 7491(c); Higbee v. Commis-

sioner, 116 T.C. 438, 446-447 (2001).   To satisfy respondent’s

burden of production, respondent must come forward with “suffi-

cient evidence indicating that it is appropriate to impose”,

Higbee v. Commissioner, supra at 446, the accuracy-related

penalty.   Although respondent bears the burden of production with

respect to the accuracy-related penalty under section 6662(a)

that respondent determined, respondent “need not introduce

evidence regarding reasonable cause * * * or similar provisions.

* * * the taxpayer bears the burden of proof with regard to those

issues.”   Id.

     Respondent argues that petitioners are liable for the

accuracy-related penalty under section 6662(a) because of (1) a

substantial understatement of tax under section 6662(b)(2) and

(2) petitioners’ negligence or disregard of rules or regulations

under section 6662(b)(1).

     Respondent determined in the notice to impose the accuracy-

related penalty for petitioners’ taxable year 2007 on an under-
                                  - 22 -

payment of tax for that year13 that is attributable to a substan-
                             14
tial understatement of tax        resulting from petitioners’ failure

to include in gross income (1) $44,783 of Ms. Crane’s $79,329.34

final arbitration award that petitioners argue is not, but that

we have held is, includible in their gross income and (2) peti-

tioners’ retirement income and other income that petitioners

concede are includible in their gross income.      On the record

before us, we find that respondent has satisfied respondent’s

burden of production under section 7491(c) with respect to the

accuracy-related penalty under section 6662(a).

     It is petitioners’ position that under section 6664(c)(1)

they had reasonable cause for, and acted in good faith with

respect to, the portion of the underpayment for their taxable

year 2007 that is attributable to their failure to include in


     13
      We have held, as respondent argues on brief, that Ms.
Crane’s $79,329.34 final arbitration award, and not just $44,783
of that award that respondent determined to include in petition-
ers’ gross income in the notice, is includible in petitioners’
gross income. Respondent does not argue on brief that the
accuracy-related penalty under sec. 6662(a) should be imposed on
an underpayment of tax for petitioners’ taxable year 2007 that is
attributable to petitioners’ failure to include in gross income,
inter alia, the excess of Ms. Crane’s $79,329.34 final arbitra-
tion award over that $44,783.
     14
      In the notice, respondent determined that the amount of
tax required to be shown in petitioners’ 2007 return was $21,740.
The amount shown as tax in that return was $7,554. The excess of
the amount of tax that respondent determined in the notice was
required to be shown in petitioners’ 2007 return over the amount
of tax shown in that return is $14,186, the deficiency that
respondent determined in the notice for petitioners’ taxable year
2007.
                                - 23 -

gross income in their 2007 return (1) $44,783 of Ms. Crane’s

$79,329.34 final arbitration award and (2) petitioners’ retire-

ment income.

     We turn first to petitioners’ argument under section

6664(c)(1) regarding the $44,783 of Ms. Crane’s $79,329.34 final

arbitration award that they did not include in gross income in

their 2007 return.   At trial, Mr. Crane testified that petition-

ers did not include that $44,783 in that return because Ms. Crane

told him that the attorney who represented her during the arbi-

tration proceeding, Deborah Gordon (Ms. Gordon), had informed her

that the award that the arbitrator made “wasn’t from loss of

wages; it was from this physical and mental thing that you [Ms.

Crane] were going through.”15

     Assuming arguendo that Ms. Gordon, Ms. Crane’s attorney with

respect to Ms. Crane’s claim against Oakwood, informed Ms. Crane

that the award that the arbitrator made to her was not taxable,

Mr. Crane admitted at trial that he questioned the validity of

what Ms. Gordon had purportedly told Ms. Crane.   Mr. Crane

testified:



     15
      Respondent objected at trial on the ground of hearsay to
the recitation by Mr. Crane of what Ms. Gordon purportedly told
Ms. Crane as to the nature of the award that the arbitrator had
made to Ms. Crane. We overruled respondent’s objection because
petitioners indicated that they were not offering that recitation
for the truth of its content. On brief, respondent asks us to
reconsider and change that evidentiary ruling. We decline to
overrule our evidentiary ruling.
                               - 24 -

     I was going to challenge her [Ms. Crane] but she was
     pretty fragile already at that time and she was getting
     upset: It’s not taxable. Deborah Gordon told me it
     wasn’t taxable. So I [Mr. Crane] didn’t pursue it. So
     when I did the income tax I just assumed it wasn’t.

     In determining whether a taxpayer acted with reasonable

cause and in good faith under section 6664(c)(1), “Generally, the

most important factor is the extent of the taxpayer’s effort to

assess the taxpayer’s proper tax liability.”   Sec. 1.6664-

4(b)(1), Income Tax Regs.   Mr. Crane’s testimony establishes that

he had serious concerns about whether petitioners should exclude

from gross income the award that the arbitrator made to Ms.

Crane.    Nonetheless, the record does not establish that Mr. Crane

asked the accountant who prepared petitioners’ 2007 return16 or

made any other effort to determine whether his concerns were

justified.17

     On the record before us, we find that petitioners have

failed to carry their burden of establishing that there was

reasonable cause for, and that they acted in good faith with

respect to, the portion of the underpayment for their taxable

year 2007 that is attributable to petitioners’ failure to include


     16
      Mr. Crane testified that he failed to discuss in any
detail petitioners’ 2007 tax return with their accountant.
     17
      It is also significant that the record is devoid of evi-
dence establishing what Ms. Crane told Ms. Gordon when they
discussed whether the award that the arbitrator made to Ms. Crane
is taxable. See Neonatology Associates, P.A. v. Commissioner,
115 T.C. 43, 99 (2000), affd. 299 F.3d 221 (3d Cir. 2002); see
also Ma-Tran Corp. v. Commissioner, 70 T.C. 158, 173 (1978).
                                 - 25 -

in gross income $44,783 of Ms. Crane’s $79,329.34 final arbitra-

tion award.

     We turn next to petitioners’ argument under section

6664(c)(1) regarding petitioners’ retirement income that they did

not include in gross income in their 2007 return.    According to

petitioners, because $2,766 of tax had been withheld on that

retirement income,18 it was reasonable for them to believe that

they did not have to include petitioners’ retirement income in

gross income in their 2007 return.

     We note first that the record does not establish petition-

ers’ contention that $2,766 of tax was withheld from petitioners’

retirement income.     Assuming arguendo that the record established

that contention, the record is devoid of evidence establishing

whether petitioners made any effort to ascertain whether they had

an obligation to include petitioners’ retirement income in gross

income in their 2007 return.19    See sec. 1.6664-4(b)(1), Income

Tax Regs.

     On the record before us, we find that petitioners have

failed to carry their burden of establishing that there was

reasonable cause for, and that they acted in good faith with

respect to, the portion of the underpayment for their taxable



     18
      Petitioners underreported $2,766 of the tax withheld in
their 2007 return.
     19
          See supra note 16.
                             - 26 -

year 2007 that is attributable to their failure to include in

gross income petitioners’ retirement income.

     Based upon our examination of the entire record before us,

we find that petitioners have failed to carry their burden of

establishing that they are not liable for their taxable year 2007

for the accuracy-related penalty under section 6662(a).

     We have considered all of the contentions and arguments of

the parties that are not discussed herein, and we find them to be

without merit, irrelevant, and/or moot.

     To reflect the foregoing,


                                      Decision will be entered

                                 under Rule 155.
