                         T.C. Memo. 2001-5



                      UNITED STATES TAX COURT



               WADE H. GRIFFIN, III, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 12900-98.                    Filed January 9, 2001.



     William E. Frantz, Brenda G. Bates, and Donald P. Edwards

(specially recognized), for petitioner.

     David R. Mackusick and Gwendolyn C. Walker, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION

     GERBER, Judge:   Respondent, for petitioner’s 1994 taxable

year, determined a $1,443,439 income tax deficiency and an

accuracy-related penalty under section 6662(a),1 in the amount of


     1
        Unless otherwise indicated, section references are to the
Internal Revenue Code in effect for the taxable year under
                                                   (continued...)
                               - 2 -

$19,253.   The parties have resolved some of the adjustments that

were in controversy, and the following issues remain for our

consideration:   (1) Whether any portion of a $4,997,896 lawsuit

settlement is excludable under section 104(a)(2); (2) whether the

portion of the settlement paid to petitioner’s attorneys under a

contingency fee arrangement should be included in petitioner’s

gross income; and (3) whether petitioner is liable for an

accuracy-related penalty under section 6662(a).

                         FINDINGS OF FACT2

     Petitioner resided in Mobile, Alabama, at the time his

petition was filed in this case.   Petitioner purchased an

automobile dealership in Mobile, Alabama, in 1982, and James R.

Jordan (Jordan) was his sales manager.    Around 1985, petitioner

was advised of the availability for sale of a Toyota automobile

dealership in Enterprise, Alabama.     Representations were made by

the sellers to petitioner concerning the amount of vehicles sold

each month and the profits that could be expected.    Petitioner

and Jordan became interested in purchasing the Toyota dealership

and provided personal information to the sellers, Toyota-GMC of

Enterprise, Inc., an Alabama corporation.    Petitioner and Jordan



     1
      (...continued)
consideration, and Rule references are to this Court’s Rules of
Practice and Procedure.
     2
       The parties’ stipulations of fact and exhibits are
incorporated by this reference.
                               - 3 -

subsequently submitted an application and were accepted to become

Toyota dealers.

     Prior to entering into a dealership agreement, petitioner

met with an executive of Southeast Toyota Distributors, Inc.

(SET), one of a group of related companies that controlled the

financing and distribution of the Toyota automobiles until they

arrived at the dealers within the regional area.   On April 24,

1987, petitioner and Jordan formed an Alabama corporation, Hamp

Griffin Toyota-GMC, Inc.(HGTG), to operate the Toyota dealership,

which was purchased on May 27, 1987.   Based on representations of

SET employees and others, petitioner had invested in the

dealership with the expectation of selling approximately 30 cars

and 30 trucks per month at a profit of about $800 or $900 per

vehicle.

     Petitioner arranged for and became guarantor of a $1 million

line of credit and personally borrowed $350,000 to lend to HGTG

to commence its business.   After beginning operations, petitioner

learned that some of the representations were exaggerated and/or

false, including the ability to generate income in the expected

amounts.   Petitioner also discovered that SET encouraged dealers

to falsely report their vehicle information in order to cause an

increase in their allocation of Toyota automobiles.   Petitioner

and Jordan did not participate in the false reporting.   As a

result, HGTG did not receive as large an allocation of vehicles
                                 - 4 -

and was also forced to accept vehicles loaded with accessories

that were more difficult to sell in its sales area because the

increased price for the accessories made the selling price less

competitive.

     HGTG was also forced by SET to pay fees and participate in

multiple-dealer “tent sales” because its allocation of vehicles

was shipped to the tent location rather than to the dealership.

In addition, HGTG was required to sell SET-related companies’

extended service policies and financing with respect to any “tent

sale”.   Petitioner consulted SET’s vice president of sales

regarding HGTG’s poor performance, and it was suggested that

Jordan was not an effective manager and should be replaced by Tom

Strickland (Strickland), who was connected with SET.   Ultimately,

Strickland, beginning on April 14, 1988, became involved with

HGTG by purchasing 15 percent of its shares and becoming its

president and general manager.

     In October 1988, Strickland’s relationship with HGTG ended,

and at that time petitioner found that HGTG’s obligation to the

finance company had not been paid under the floor plan financing

agreement for the cars that had already been sold.   HGTG’s

financial problems became public, and petitioner experienced

great stress for which he was treated by a doctor.   For the next

several months petitioner was occasionally hospitalized for his

condition, and, upon his July 1989 release from the hospital, he
                                - 5 -

closed the Toyota dealership.   In 1989, petitioner began seeing a

psychiatrist and was experiencing symptoms of stress and anxiety

and was diagnosed as being in a state of “major depression”.

     During April 1989, petitioner received a purchase offer for

the Toyota dealership, but SET would not approve a sale, and

instead SET instituted a foreclosure action against HGTG.    On May

5, 1989, HGTG voluntarily filed for a chapter 11 bankruptcy

(reorganization), which was converted to a chapter 7

(liquidating) proceeding on November 2, 1989.

     During September 1990, petitioner and HGTG retained attorney

Vincent F. Kilborn (Kilborn) by means of a contingent fee

arrangement under which the attorney’s fee was 52-1/2 percent of

any recovery or zero if there was no recovery.    Petitioner and

HGTG were responsible for costs and expenses.    Thereafter, an

action on behalf of petitioner and HGTG was commenced against

Toyota Motor Sales U.S.A., Inc., and related companies, SET and

related companies and its officers, and others.    Kilborn became

aware of a South Carolina case involving SET and dealer

allegations of being required to make false sales reports in

order to stay in business.   Ross M. Goodman (Goodman) was brought

in to assist in the representation.     Goodman was associated with

a law firm that was representing dealers in connection with other

Toyota cases.
                                - 6 -

     Goodman was aware of a North Carolina dealer’s case against

SET where a State administrative law judge had issued extensive

findings of fact, and Goodman relied on the findings and record

in that case as a source for the allegations in petitioner’s

complaint against SET, et al.   Kilborn and Goodman worked

together to draft the final complaint, which was filed in the

Circuit Court of Mobile County, Alabama, on or about September

27, 1990.   Because the complaint was designed to replicate the

approach used in other suits, it focused on the commercial losses

of the dealership attributable to the defendants’ misconduct.

     The complaint is 60 pages in length and contains 123

jurisdictional and factual allegations and 13 counts, broadly

categorized as follows:   Count I, breach of contract; count II,

promissory fraud; counts III to V, violations of the Alabama

Motor Vehicle Franchise Act; count VI, felonious injury; count

VII, interference with business relations; count VIII, willful

misrepresentation; count IX, reckless misrepresentation; count X,

suppression of material fact; count XI, promissory fraud; count

XII, conspiracy; and count XIII, violation of the Racketeer

Influenced and Corrupt Organizations Act (RICO), 18 U.S.C.

sections 1961 and 1964(c).   The factual allegations do not

contain a claim or allegation that petitioner suffered any mental

stress or depression.   The allegations in the complaint address

the business relationship and the improper and unfair tactics and
                                - 7 -

activities of the defendants that resulted in the “demise” of

petitioner’s and HGTG’s Toyota dealership.   Likewise, the 13

counts allege injuries and damages that are commercial in nature,

and, although some of the counts sound in tort as the cause of

action, no claim of mental stress or depression is set forth in

the 13 counts.

     Subsequent to the complaint’s being filed, Toyota Motor

Sales, U.S.A., Inc., and Toyota Motor Credit Corp. (the

defendants) argued in HGTG’s bankruptcy proceeding that Goodman

and Kilborn could not represent both petitioner’s and HGTG’s

interests, and the attorneys elected to represent petitioner.

The defendants also moved to dismiss petitioner from the case on

the grounds that he was not a party to the dealership agreement

and that the alleged injuries were to the corporation and not

petitioner.    In those motions and related documents, the

defendants pointed out that the complaint focused on commercial

harm to the corporate entity and that no claim appeared to have

been made with respect to petitioner.    The defendants’ motion was

referred to a magistrate judge, who issued a report and

recommendation that set forth a proposed denial of the

defendants’ motion, and the report was adopted by a U.S. District

Court Judge.    The report did not address the merits of the cause

of action but contained the conclusion that it was premature for

a court to decide whether petitioner had standing.    The report
                               - 8 -

also contained the recommendation that petitioner be given leave

to amend the complaint and to distinguish between the

individual’s claim and those derivative through the corporate

entity.

     Thereafter an amended complaint was filed on behalf of

petitioner outlining the personal items of fraud and coercion and

the personal services nature of the contract.   The amended

complaint contained allegations that petitioner was personally

involved in the transactions with the defendants, had a financial

stake and obligations in connection with the auto dealership, and

was harmed because of the flow-through nature of HGTG, an S

corporation.   The amended complaint did not contain allegations

that petitioner suffered any mental stress or depression, and no

demands were made for damages attributable to petitioner’s mental

stress or depression.

     Late in 1993, the decision was made by petitioner and his

attorneys to attempt settlement.   A settlement agreement

containing a confidentiality clause was entered into and approved

by the bankruptcy court.   The total settlement amount was $6

million, of which $557,257 was allocated to the bankruptcy

trustee for the benefit of HGTG.   In addition to the $557,257

amount for HGTG, $245,501.55 of claims against HGTG was

discharged by SET and related companies.   HGTG’s final Form

1120S, U.S. Income Tax Return for an S Corporation, for the
                                 - 9 -

period ended September 30, 1994, was filed by the bankruptcy

trustee and reflected the $557,257 settlement amount, less claims

for attorney’s fees and other deductions in the amounts of

$224,156.25 and $1,419.88, respectively.       Petitioner did not

receive Schedules K-1 or copies of HGTG’s Federal tax returns

that were filed during the pendency of the bankruptcy proceeding

for HGTG’s 1991 through 1994 tax years.       Petitioner was not aware

of the filing of HGTG’s 1991 through 1994 returns, and he did not

understand the operation or mechanics of bankruptcy proceedings.

     The settlement agreement and release were in exchange for

petitioner’s general release of all claims against the

defendants.    The language of the settlement agreement was that it

was to cover “all pending and potential claims (including, but

not limited to, e.g., potential mental anguish claims by Wade H.

Griffin, III * * *) that might have been brought”.       Of the $6

million settlement, $4,997,895.70 was disbursed in connection

with petitioner’s interests as follows:

     Recipient                    For                     Amount
Attorney Middlebrooks    Reimbursement of expenses     $250,000.00
Attorney Kilborn         Reimbursement of expenses      250,000.00
Attorney Kilborn         Attorney’s fees                944,558.19
Attorney Middlebrooks    Attorney’s fees                894,558.19
Attorney Reed            Attorney’s fees                179,915.85
Attorneys Phillips       Attorney’s fees                 25,000.00
  & Reems
Attorneys Silver         Attorney’s fees                16,078.38
  & Voit
Chrysler Credit Corp.        —                          932,683.74
Heritage Imports, Inc.       —                          244,853.28
Petitioner                   —                        1,260,248.50
     Total disbursed                                 $4,997,895.70
                                - 10 -

     Petitioner’s Federal income tax returns, beginning in 1985

or 1986, were prepared by Von A. Gammon (Gammon), who at the time

he prepared petitioner’s 1994 return had been practicing

accounting for 10 years.     Gammon was not aware that HGTG had

filed a 1994 return.   Gammon also knew that petitioner had an

unused loss carryover of $200,000 in connection with HGTG because

petitioner did not have sufficient basis to claim the loss.

Because of Gammon’s knowledge of HGTG’s creditors and outstanding

debt, he believed that any 1994 return for HGTG would show

losses, which petitioner could not claim because he did not have

sufficient basis.   Accordingly, no income or loss from HGTG was

reflected on petitioner’s 1994 return.     Based on his above

understanding, Gammon did not inquire about the status of HGTG’s

1994 taxable year or whether a return was to be or had been

filed.   Petitioner’s stock in HGTG was worthless as of December

31, 1994.

                                OPINION

     The issues for our consideration in this case require an

analysis of whether any portion of the settlement proceeds

received by petitioner or on his behalf may be excluded from

petitioner’s gross income.    First, we consider whether any

portion is excludable under section 104(a)(2).    If some portion

is includable, we shall then consider whether petitioner was
                              - 11 -

required to report the portion of the recovery paid to his

attorneys.

Section 104(a)(2)

     Except as otherwise specifically provided, gross income

includes a taxpayer’s income from whatever source derived.     See

sec. 61(a); see also Commissioner v. Glenshaw Glass Co., 348 U.S.

426 (1955).   Section 61(a) is broadly construed, whereas specific

exclusions from gross income must be narrowly construed.   See

Commissioner v. Schleier, 515 U.S. 323, 327-328 (1995).    For

1994, section 104(a)(2) specifically excluded from gross income

“the amount of any damages received (whether by suit or agreement

and whether as lump sums or as periodic payments) on account of

personal injuries or sickness”.   Section 1.104-1(c), Income Tax

Regs., provides that “damages received” is an amount received

(other than workmen’s compensation) through prosecution of an

action based upon tort or tort type rights.

     When damages are received pursuant to a suit or settlement

agreement, the nature of the underlying claim determines whether

such damages are excludable under section 104(a)(2).   See United

States v. Burke, 504 U.S. 229, 239 (1992); see also Metzger v.

Commissioner, 88 T.C. 834, 847 (1987), affd. without published

opinion 845 F.2d 1013 (3d Cir. 1988).   “The critical question is,

in lieu of what was the settlement amount paid?”   Bagley v.

Commissioner, 105 T.C. 396, 406 (1995), affd. 121 F.3d 393 (8th
                              - 12 -

Cir. 1997); McKay v. Commissioner, 102 T.C. 465, 482 (1994).    For

the taxable year under consideration, personal injuries included

both physical and nonphysical injuries.   See Commissioner v.

Schleier, supra at 329 n.4.

     The Supreme Court has held that taxpayers may exclude

damages received if the underlying cause of action giving rise to

the recovery is based upon tort or tort type rights, and the

damages are received on account of personal injuries or sickness.

See id. at 336-337.

     Petitioner’s arguments are summarized as follows:   (1) The

claim for which the settlement was received generally sounded in

tort; (2) petitioner has shown that he suffered mental and/or

physical ailments in connection with actions of the defendants;

and (3) under the law of the State of Alabama, petitioner’s

claims, although generally or broadly stated as founded upon

commercial harm, could have included petitioner’s mental

suffering, and therefore the settlement is excludable under

section 104(a)(2).

     Conversely, respondent’s arguments are summarized as

follows:   (1) The defendants’ actions and/or petitioner’s mental

anguish is irrelevant because petitioner’s pleadings were based

on a mixture of tort, tort type, and nontort claims, and the

settlement did not distinguish between or specify any particular

claim; (2) petitioner’s claims and the settlement were for
                              - 13 -

economic harm to HGTG and petitioner; and (3) the defendants were

unaware that petitioner was asserting any claims for mental

anguish, and, accordingly, the defendants did not intend to

settle any particular claims for mental anguish.

     As previously explained, petitioner must meet a two-prong

test for exclusion of any part of the settlement proceeds.    As to

the first part, petitioner must show that the underlying cause of

action giving rise to the recovery is based upon tort or tort

type rights.   In that regard, some of the 13 counts alleged in

the pleadings sounded in tort, and would therefore satisfy the

first prong of the Schleier test.   We note, however, that

petitioner’s factual allegations in the pleading concerned

commercial loss, and no allegations were made with respect to

petitioner’s emotional distress or sickness.   In fact, the format

used by petitioner’s attorneys to formulate the pleadings was

derived from another proceeding that concerned fraud and

misrepresentation that resulted in commercial loss.

     Petitioner, in the trial of this case, produced testimony

from Alabama attorneys that the broad-based tort allegations in

petitioner’s pleadings would, under Alabama law, provide a

foundation for subsequent allegations and proof of damages caused

by personal injuries.3


     3
       We find it unnecessary to analyze petitioner’s position
that he was able, at the time of the settlement, to subsequently
                                                   (continued...)
                                - 14 -

     In summary, with respect to the first prong of the Schleier

test, petitioner has shown that some tort or tort type rights

were pleaded in the proceedings, which ended in settlement, but

there was no specific pleading of personal injury or sickness.

The more crucial question is whether petitioner has shown that

the settlement was received on account of personal injuries or

sickness.

     The law is well settled that the tax consequences of an

award for damages depend upon the nature of the litigation and on

the origin and character of the claims adjudicated, and not upon

the validity of those claims.    See Bent v. Commissioner, 87 T.C.

236 (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, 58

T.C. 32, 37 (1972).   In this case, petitioner received a global

settlement intended to release the defendants from any claims

that petitioner might have had.

     In Commissioner v. Schleier, supra, the Supreme Court

cautioned that there must be a direct link between the personal

injury and the recovery of damages for the section 104(a)(2)

exclusion to apply.   Although petitioner has shown, by the


     3
      (...continued)
allege and prove personal injuries and/or sickness. We assume
for purposes of this case that this legal position is correct.
Irrespective of our views on that point of law, the outcome of
this case would remain the same.
                              - 15 -

evidence presented to this Court, that he experienced mental

anguish and psychological problems around the time of the

“demise” of HGTG, he has failed to show a direct link between his

mental anguish and the settlement recovery.    Although there is a

tangential reference to “mental anguish” in the settlement

agreement as an example of potential claims “that might have been

brought”, there is no specific amount allocated to any of the 13

counts or any potential claims that petitioner might have had or

that he might have subsequently attempted to perfect.    Under

these circumstances, petitioner has not shown that there was a

direct link between the harm and the recovery; i.e., petitioner

has not shown that the recovery was attributable to his personal

injuries.

     In addition, if the settlement agreement lacks express

language stating what the settlement amount was paid to settle,

then the most important factor in determining any exclusion under

section 104(a)(2) is the intent of the payor as to the purpose in

making the payment.   See Stocks v. Commissioner, 98 T.C. 1, 10

(1992); Knuckles v. Commissioner, 349 F.2d 610, 612 (10th Cir.

1965), affg. T.C. Memo. 1964-33; Metzger v. Commissioner, 88 T.C.

at 847-848.   Here, the settlement agreement was global in nature

and was intended to settle the pending lawsuit and any other

claims that might have been brought.    There is no specific

allocation to any particular claim.    Mental anguish is only
                               - 16 -

tangentially referenced as a possible claim of petitioner in

addition to those in the pending suit.

     Accordingly, we are unable, in these circumstances, to find

that a specific portion of the settlement was intended by the

defendants to settle any potential claim petitioner might have

had for mental anguish.   See, e.g., Ramos v. Davis & Geck, Inc.,

224 F.3d 30 (1st Cir. 2000).   We note that the Court of Appeals

for the Eleventh Circuit recently held, based on “unique facts”,

that damages to the taxpayer’s business reputation was a personal

injury within the meaning of section 104(a)(2).      Fabry v.

Commissioner, 223 F.3d 1261, 1270 (11th Cir. 2000), revg. 111

T.C. 305 (1998).   Because any appeal by petitioner would be to

the Court of Appeals for the Eleventh Circuit, we must consider

whether facts in this case fall with the factual pattern upon

which the taxpayers in Fabry were granted section 104(a)(2)

relief.

     In Fabry the tort committed resulted in the taxpayer’s

selling defective “merchandise that was said to have cheated the

* * * [taxpayer’s customers].”   Id.     Here, the tortfeasors

interfered with petitioner’s corporation’s ability to earn

income.   The litigating success of petitioner and other car

dealers against these same defendants was rooted in commercial

losses due to misrepresentation and fraud (attributed to the

defendants and not to petitioner).      That was the focus of
                              - 17 -

petitioner’s pleadings and claims in the case that was settled.

Even though, at the time of the settlement, petitioner might have

had the ability to pursue damages for his personal injuries,

there is no way, on this record, to quantify the portion of the

settlement payment(s) that might have been attributable to claims

for mental anguish or personal injuries.   The situation we

consider is different from the one addressed by the Court of

Appeals for the Eleventh Circuit in Fabry v. Commissioner, supra.

Petitioner here sued for breach of contract, promissory fraud,

violations of the Alabama Motor Vehicle Franchise Act, felonious

injury, interference with business relations, misrepresentations

and suppression of facts, and violation of RICO under title 18,

U.S.C.   The settlement was global and intended to settle all of

petitioner’s above-referenced claims and any other claim that

could have been filed, including personal injury.   Petitioner has

not shown what portion, if any, of the settlement was or could be

attributable to personal injury.   In addition, petitioner made no

claim for, and there is no showing of, damage to his personal

business reputation as opposed to HGTG’s reputation.

Accordingly, Fabry v. Commissioner, supra, is inapplicable, and

petitioner has failed to meet the second prong of the Schleier

threshold test for exclusion of the recovery under section

104(a)(2).
                               - 18 -

The Attorney’s Fees

     Petitioner contends that the $2,519,000 that was paid to his

attorneys should not be includable in gross income under the line

of cases beginning with Cotnam v. Commissioner, 263 F.2d 119 (5th

Cir. 1959), revg. in part and affg. in part 28 T.C. 947 (1957).

Respondent contends that Cotnam was “wrongly decided”.

Respondent also contends that if the Cotnam holding is accepted

as correct, then petitioner’s execution of the contingent fee

agreement resulted in an assignment of a portion of petitioner’s

claim to his attorneys--a taxable disposition of property.

     Since the trial and briefing in this case, several courts

have had the opportunity to consider the Cotnam holding.     This

Court reconsidered its view of the Cotnam holding following

several opinions on the subject by Courts of Appeals, including

the more recent Estate of Clarks v. United States, 202 F.3d 854

(6th Cir. 2000).   After full reconsideration, this Court has

concluded that it will “continue to adhere to our holding * * *

that contingent fee agreements * * * come within the ambit of the

assignment of income doctrine and do not serve * * * to exclude

the fee from the assignor’s gross income.”   Kenseth v.

Commissioner, 114 T.C. 399, 412 (2000).   Since our Kenseth

holding, the Courts of Appeals for the Fifth and Eleventh

Circuits have followed the Court of Appeals for the Fifth

Circuit’s holding in Cotnam.   See Srivastava v. Commissioner, 220
                                - 19 -

F.3d 353 (5th Cir. 2000), revg. in part, affg. in part, and

remanding T.C. Memo. 1998-362; Davis v. Commissioner, 210 F.3d

1346 (11th Cir. 2000), affg. T.C. Memo. 1998-248.

       Respondent, however, raises a different theory here than the

one that was decided in Kenseth.    Respondent’s primary argument

is that Cotnam was wrongly decided by the Court of Appeals.        If

this Court decides that the Cotnam rationale was correct, then

respondent argues that under the rationale of Cotnam, petitioner

recognized gain on the initial transfer of his interest to his

attorneys.

       Respondent’s alternative argument may be summarized as

follows:    (1) Cotnam holds “At the time that * * * [the taxpayer]

entered into the contingent fee contract, she had realized no

income from the claim, and the only use she could make of it was

to transfer a part so that she might have some hope of ultimately

enjoying the remainder.”     Cotnam v. Commissioner, 263 F.2d at

125.    (2) Ordinarily the above-described transfer could result in

income for the year of the transfer, depending on the

transferor’s basis, because legal services are received in

exchange for the transfer.    (3) In petitioner’s case, 1990 was

the year of transfer and 1994 the year of the recovery, but the

open transaction doctrine causes the deferral of the gain to 1994

because the amount or value of the transfer was not determinable

until the lawsuit settlement.
                              - 20 -

     In a recent opinion, the Court of Appeals for the Eleventh

Circuit followed the Cotnam holding that the contingent legal

fees in Alabama are not includable in a taxpayer’s gross income

as part of the taxpayer’s lawsuit recovery.   See Davis v.

Commissioner, supra.   In that case, the Court of Appeals

considered respondent’s above-described alternative argument and

rejected it for lack of proof that the “values of the properties

exchanged” were sufficiently “unascertainable” to bring the open

transaction doctrine into play.   See id. at 1348.   Likewise, the

evidence in this case is insufficient to reach the question of

whether respondent’s alternative theory would change the result.

Cf. id. at 1348 n.5.

     The Court of Appeals for the Fifth Circuit’s holding in

Cotnam, as followed in Davis v. Commissioner, supra, applies in

this case under the Golsen rule because petitioner’s appeal of

our decision would be to the Court of Appeals for the Eleventh

Circuit.   In that regard, decisions of the Court of Appeals for

the Fifth Circuit prior to September 30, 1981, are binding

precedent in the Court of Appeals for the Eleventh Circuit.    See

Bonner v. City of Prichard, 661 F.2d 1206 (11th Cir. 1981).

     That being the case, we hold for petitioner on this issue in

accord with the holding of the Court of Appeals to which appeal

of our decision would lie.   Our longstanding practice, founded in

Golsen v. Commissioner, 54 T.C. 742, 756-757 (1970), affd. 445
                               - 21 -

F.2d 985 (10th Cir. 1971), is to follow the holding of a Court of

Appeals where the facts are squarely on point.

     There is no question that Alabama law applies to

petitioner’s contingent fee agreement, and respondent has not

distinguished the facts here regarding the fee agreement from

those in Cotnam or Davis.    Accordingly, we hold that petitioner

is not required to include in gross income the portion of the

recovery attributable to the legal fees.4

Section 6662

     Respondent determined an accuracy-related penalty under

section 6662 on that part of petitioner’s deficiency that was

attributable to negligence or an intentional disregard of rules

or regulations.   Section 6662 permits the imposition of a 20-

percent penalty on any portion of an underpayment of tax

attributable to negligence or an intentional disregard of rules

or regulations.   The term “negligence” includes any failure to

make a reasonable attempt to comply with the statute, and the

term “disregard” includes careless, reckless, or intentional

disregard.   Sec. 6662(c).   Negligence also includes a lack of due

care or failure to do what a reasonable and ordinarily prudent

person would do under the circumstances.    See Ryback v.

Commissioner, 91 T.C. 524, 565 (1988); Neely v. Commissioner, 85



     4
       Here, the parties have both stated that the legal fee in
question is in the amount of $2,519,000.
                              - 22 -

T.C. 934, 947 (1985).   The penalty, however, is not imposed with

respect to any portion of an underpayment for which there was

reasonable cause and a taxpayer acted in good faith.   See sec.

6664(c)(1).

     On brief, respondent asserts that the only adjustments to

which the negligence penalty applies are unreported interest and

dividend income in the amounts of $1,996 and $3,488,

respectively, and the amounts of $6,621 and $331,697, which are

flow-through items from HGTG’s bankruptcy estate.   With respect

to the interest and dividend items, petitioner conceded that the

amounts were unreported, and he poses no defense with respect to

his failure to report the same.   With respect to the flow-through

items from HGTG’s bankruptcy estate, petitioner contends that he

reasonably relied on his accountant, Gammon.   Reasonable cause

can be established if a taxpayer can show reasonable reliance on

the advice of a competent and experienced accountant who prepared

the return.   See Weis v. Commissioner, 94 T.C. 473, 487 (1990).

     Gammon had prepared petitioner’s and petitioner’s business

entities’ Federal income tax returns for almost 10 years at the

time of the preparation of petitioner’s 1994 Federal income tax

return.   Gammon was familiar with petitioner’s business and

financial matters.   Gammon had prepared HGTG’s returns and was

familiar with its financial condition through the time that HGTG

went into bankruptcy.   After HGTG was in bankruptcy, Gammon was
                              - 23 -

not privy to HGTG’s financial and/or tax information.    Instead,

those matters were within the jurisdiction of the trustee and

others.   Schedules K-1 were not received by petitioner or Gammon

from the HGTG bankruptcy, and Gammon was not aware of the filing

of any Federal income tax return until after the filing of

petitioner’s 1994 return.   Both petitioner and Gammon were aware

of the $557,257 settlement and attorney’s fees and other

deductions in the amounts of $224,156.25 and $1,419.88 that were

connected with HGTG’s portion of the resolution of the

litigation.   Even though Gammon was aware of the settlement, he

believed that the losses and obligations of HGTG would cover and

eliminate any taxable income that may have been realized from the

settlement recovery.

     Petitioner had no expertise with respect to Federal taxes

and relied upon Gammon for all such matters.   Petitioner did not

understand the operation or mechanics of the bankruptcy

proceeding.   Under these circumstances we hold that it was

reasonable for petitioner to rely on Gammon’s judgment and advice

with respect to the flow-through item.   We are surprised that

Gammon did not make inquiry of the bankruptcy trustee about any

possible flow-through from HGTG to petitioner.   Gammon’s failure

to inquire, considering petitioner’s background and knowledge

about such matters, does not make petitioner’s reliance

unreasonable.   Accordingly, we hold that petitioner is not liable
                             - 24 -

for a section 6662 accuracy-related penalty with respect to the

flow-through items from HGTG’s bankruptcy.    With respect to the

other items on which respondent asserted on brief that petitioner

was liable for the penalty, petitioner has not provided a defense

and accordingly has not shown respondent’s determination on that

issue is in error.

     To reflect the foregoing,

                                      Decision will be entered under

                                 Rule 155.
