      KENNA TRADING, LLC, JETSTREAM BUSINESS LIMITED,
        TAX MATTERS PARTNER, ET AL., PETITIONERS 1 v.
            COMMISSIONER OF INTERNAL REVENUE,
                       RESPONDENT
       Docket Nos. 7551–08, 7552–08,          Filed October 16, 2014.
                   7553–08, 7554–08,
                   7555–08, 7556–08,
                   7618–08, 7625–08,
                   9021–08, 9035–08,
                   9036–08, 9037–08,
                   9038–08, 9039–08,
                   9040–08, 9041–08,
                   9042–08, 9121–08,
                   9122–08, 9123–08,
                   9124–08, 9125–08,
                   9126–08, 9127–08,
                   9128–08, 14094–08,
                  16796–08, 19924–08,
                  19925–08, 13980–09,
                  13981–09, 13982–09,
                  13983–09, 27636–09,
                  30586–09, 671–10.

         Brazilian retailers purportedly contributed distressed con-
       sumer receivables to a limited liability company, S, treated as

  1 Cases of petitioners listed in the appendix remain consolidated here-

with. Other petitioners have settled their cases with respondent, and
therefore their cases have been severed since the trial of these cases

322
(322)           KENNA TRADING, LLC v. COMMISSIONER                         323


        a partnership for Federal income tax purposes. S claims
        carryover bases in these receivables under I.R.C. sec. 723. In
        2004 S in turn contributed some of these Brazilian receivables
        to trading companies and contributed its interest in each
        trading company to a holding company. S claimed a cost of
        goods sold for each holding company equal to the basis of the
        receivables contributed. S then sold an interest in each
        holding company to an investor. The trading companies
        claimed bad debt deductions. In 2005 S allegedly contributed
        more of the Brazilian receivables to main trusts. Each main
        trust then assigned the receivables to a newly created
        subtrust. Investors allegedly contributed cash to the main
        trust in exchange for the beneficial interest in the subtrust.
        The subtrust claimed a bad debt deduction. Asserting that the
        subtrusts were, for Federal income tax purposes, grantor
        trusts, the investors claimed deductions on their tax returns.
        Mr. Rogers, the creator of the investment program, also
        invested in such a trust. R disallowed the bad debt deduc-
        tions, adjusted S’ income for 2004 alleging that S inflated its
        cost of goods sold, determined that S failed to include all
        items of income in its gross receipts for 2004 and 2005, and
        disallowed S’ business expense deductions. R also determined
        I.R.C. sec. 6662(h) gross valuation misstatement penalties
        against S, the trading companies, and Mr. and Mrs. Rogers,
        I.R.C. sec. 6662(a) accuracy-related penalties on the amounts
        of S’ underpayments due to increased gross receipts for unre-
        ported income and the disallowed deductions, and an I.R.C.
        sec. 6662A listed transaction understatement penalty against
        S for the 2005 taxable year. Held: The Brazilian retailers did
        not intend to enter into a partnership for Federal income tax
        purposes. Held, further, S had a cost basis, not a carryover
        basis, in the receivables. Held, further, the transactions in
        issue lacked economic substance. Held, further, the trading
        companies are not entitled to I.R.C. sec. 166 deductions. Held,
        further, Mr. and Mrs. Rogers purchased their beneficial
        interest in the subtrust and are not entitled to a carryover
        basis. Held, further, R properly disallowed the Rogerses’
        claimed I.R.C. sec. 166 deduction. Held, further, S overstated
        its cost of goods sold. Held, further, R correctly adjusted S’
        income to reflect certain unreported deposits. Held, further,
        S is not entitled to the disallowed deductions. Held, fur-
        ther, S and the trading companies are liable for the I.R.C. sec.
        6662(h) gross valuation misstatement penalty. Held, further,
        S is liable for an I.R.C. sec. 6662(a) and (b) accuracy-related
        penalty on the underpayments attributable to the omitted
        items of income and the disallowed deductions. Held, further,
        R’s I.R.C. sec. 6662A listed transaction understatement pen-

took place.
324           143 UNITED STATES TAX COURT REPORTS                        (322)


      alty against S is sustained insofar as related to the income
      from the trust transactions.
  John E. Rogers (an officer), for petitioner Jetstream Busi-
ness Limited.
  John E. Rogers, for petitioners John E. and Frances L.
Rogers.
  Ronald S. Collins, Jr., Laurie A. Nasky, and Bernard J.
Audet, Jr., for respondent.
  Michael D. Hartigan (an officer), for participating partners
in docket Nos. 7552–08, 9039–08, 9121–08, and 13982–09.
   WHERRY, Judge: In 2003 John Rogers developed, marketed,
and sold investments, which also allegedly provided potential
tax shelter, whereby investors in a partnership structure
could claim partially worthless bad debt deductions under
section 166 2 on certain distressed assets formerly owned by
a Brazilian retailer. Those transactions did not produce the
hoped-for tax benefits for the myriad of reasons outlined in
our prior opinions and by the Court of Appeals for the Sev-
enth Circuit. See Superior Trading, LLC v. Commissioner,
137 T.C. 70 (2011), supplemented by T.C. Memo. 2012–110,
aff ’d, 728 F.3d 676 (7th Cir. 2013). In 2004 Mr. Rogers sold
the same shelter, this time using additional distressed assets
of other Brazilian retailers. That same year, Congress modi-
fied the rules governing the allocation of built-in loss prop-
erty contributed to a partnership, rendering the partnership
flow-through loss-shifting shelter impotent. 3 Undeterred, for
various transactions entered into after October 22, 2004, Mr.
Rogers selected and used a trust structure to attempt to gain
the same tax benefits for himself and various investor-cli-
ents.
   Respondent has challenged all of the partially worthless
bad debt deductions under section 166, for the partnerships 4
  2 All section references are to the Internal Revenue Code of 1986 (Code),

as amended and in effect for the tax years at issue, and all Rule references
are to the U.S. Tax Court Rules of Practice and Procedure.
  3 The American Jobs Creation Act of 2004 (AJCA), Pub. L. No. 108–357,

sec. 833, 118 Stat. at 1589, amended secs. 704, 734, and 743 effective for
transactions entered into after October 22, 2004. Sec. 704 as amended pro-
vides that in the case of contributions of built-in loss property to a partner-
ship, the built-in loss may be taken into account only by the contributing
partner and may not be allocated to a different partner.
  4 Mr. Rogers used limited liability companies in these transactions. In
(322)         KENNA TRADING, LLC v. COMMISSIONER                         325


involved in the 2004 tax year 5 as well as for Mr. Rogers and
his wife, Frances Rogers, who claimed a section 166 deduc-
tion on their individual tax return for 2005 using the trust
variant. We consolidated the Rogerses’ case with the partner-
ship cases for the purpose of resolving only the section 166
deduction issue in that case. 6
   Respondent also challenged certain aspects of the 2004 and
2005 partnership returns of Sugarloaf Fund, LLC
(Sugarloaf ), the common ancestor in the many-branched
family tree of partnerships and trusts through which inves-
part because they are treated as partnerships for Federal income tax pur-
poses, see sec. 301.7701–3(a), Proced. & Admin. Regs., we refer to them as
such.
   5 One partnership, Zurichsee Trading, LLC, docket No. 13980–09,

claimed a sec. 166 deduction on its 2005 Federal income tax return, and
respondent issued a notice of final partnership administrative adjustment
(FPAA) for this year.
   6 Mr. Rogers on brief asserts that his wife is entitled to innocent spouse

relief. We did not try this issue and do not decide it here. We likewise do
not decide whether respondent properly determined penalties against the
Rogerses.
   Along with Mr. Rogers, Gary R. Fears, petitioner in docket No. 27636–
09, invested in the trust structure in 2005. As with the Rogerses’ case, we
consolidated Mr. Fears’ case solely for the purpose of resolving the sec. 166
deduction at issue there. Although Mr. Fears and respondent have entered
into a stipulation of settled issues concerning the deficiencies in his case,
the secs. 6662(a) and (h) and 6662A penalties allegedly flowing from those
deficiencies, which themselves stem from the sec. 166 deduction’s disallow-
ance, remain in dispute. Mr. Fears’ case remains consolidated for purposes
of this Opinion because our redetermination in this partnership-level pro-
ceeding of penalties determined against Sugarloaf could potentially affect
Mr. Fears, notwithstanding that he held an interest in a lower tier entity.
See sec. 6226(f); United States v. Woods, 571 U.S. ll, ll, 134 S. Ct.
557, 564 (2013) (holding ‘‘that TEFRA gives courts in partnership-level
proceedings jurisdiction to determine the applicability of any penalty that
could result from an adjustment to a partnership item, even if imposing
the penalty would also require determining affected or nonpartnership
items such as outside basis’’). Mr. Fears resides in St. Louis, Missouri,
which lies within the jurisdiction of the U.S. Court of Appeals for the
Eighth Circuit. Before Woods, that Court of Appeals held, in the context
of a gross valuation misstatement penalty determined against a sham
partnership, that ‘‘outside basis is an affected item that must be deter-
mined at the partner level’’ before a penalty determined at the partnership
level may be imposed. See Thompson v. Commissioner, 729 F.3d 869, 873
(2013), rev’g and remanding 137 T.C. 220 (2011). Thus, as stated in our
order of May 3, 2013, we intend to return Mr. Fears’ case to the general
docket after issuance of this Opinion.
326           143 UNITED STATES TAX COURT REPORTS                     (322)


tors in Mr. Rogers’ shelters claimed tax losses. First,
respondent alleges that Sugarloaf overstated its cost of goods
sold for 2004 and 2005 on account of inflated tax bases of
sold partnership interests. In addition, after concessions,
respondent alleges adjustments to Sugarloaf ’s partnership
income due to alleged underreported income of $299,996 and
$925,467 for the 2004 and 2005 taxable years, respectively. 7
Respondent also disallowed a number of Sugarloaf ’s claimed
deductions, amounting to $747,069 for the 2004 tax year and
$982,436 for the 2005 tax year, as unsubstantiated.
   Respondent determined against Sugarloaf for each tax year
a section 6662(a) and (h) penalty for a gross valuation
misstatement, a section 6662(a) penalty on the amount of the
underpayment attributable to each year’s disallowed deduc-
tions, and a section 6662A penalty for understatements
attributable to undisclosed reportable or listed transactions.
Against the lower tier partnerships whose cases were tried
with Sugarloaf ’s, respondent determined penalties under sec-
tion 6662(a) and (h) due to gross valuation misstatements
and section 6662(a) and (b)(1), (2), and (3) penalties due to
negligence, substantial understatements of income tax, and
substantial valuation misstatements.
   Jetstream, as tax matters partner for Sugarloaf and each
of the other partnerships whose cases we consolidated with
Sugarloaf ’s for trial, petitioned this Court for readjustment
of partnership items and redetermination of penalties. 8
   In this Opinion, we resolve: (1) whether Jetstream and the
Brazilian retailers formed a bona fide partnership for Fed-
eral income tax purposes for purposes of servicing and col-
lecting distressed consumer receivables owed to the retailers;
(2) whether the Brazilian retailers made valid contributions
of the receivables to the purported partnership under section
721; (3) whether the retailers’ claimed contributions to and
subsequent redemptions from Sugarloaf should be collapsed
  7 Respondent  and Jetstream Business Limited (Jetstream), Sugarloaf ’s
tax matters partner, entered into a stipulation of settled issues reducing
the unreported income from $1,549,692 for 2004 and $1,227,467 for 2005
to the amounts stated above.
  8 Jetstream was represented in this litigation by its officer, Mr. Rogers,

who also represented himself and his wife in their consolidated individual
tax case. Throughout this Opinion, we frequently refer to petitioners,
whether jointly or individually, simply as Mr. Rogers.
(322)         KENNA TRADING, LLC v. COMMISSIONER                         327


into a single transaction and treated as a sale of the receiv-
ables, such that the receivables had a cost basis under sec-
tion 1012 rather than a carryover basis under section 723; (4)
whether the 2004 partnership transactions had economic
substance; (5) whether the 2004 partnership transactions
satisfied the statutory prerequisites for a section 166 deduc-
tion; (6) whether the 2005 trust transactions should be col-
lapsed into sales or lacked economic substance, such that Mr.
and Mrs. Rogers’ trust investment would not entitle them to
a section 166 deduction for 2005; (7) whether Sugarloaf
understated gross income for the 2004 and 2005 tax years;
(8) whether Sugarloaf is entitled to various deductions for
the 2004 and 2005 tax years; (9) whether Sugarloaf and the
other partnerships are liable for section 6662(a) penalties;
and (10) whether Sugarloaf is liable for the section 6662A
penalty.
   We hold for respondent on all issues. 9

                           FINDINGS OF FACT

   The parties’ stipulation of facts, supplemental stipulation
of facts, and second supplemental stipulation of facts, all
with the facts found from the accompanying exhibits, are
incorporated herein by this reference, as are all stipulations
of settled issues filed in various of these consolidated cases. 10
The parties have stipulated that venue for appeal would be
the Court of Appeals for the Seventh Circuit.
I. The Mastermind: John E. Rogers
  The central individual in these cases is John Rogers.
During the years at issue Mr. Rogers was a partner at the
Chicago-based law firm Seyfarth Shaw. As we have pre-
viously found, Mr. Rogers
  9 With regard to Sugarloaf, our analyses and holdings as to questions

(1)–(5) represent alternative reasons, all of which, when applied, result in
the same ultimate tax result. Similarly, with regard to the trust shelter,
we offer alternative analyses and holdings on question (6).
  10 Petitioners objected to a number of the stipulations and stipulated ex-

hibits on the grounds of relevance. According to Fed. R. Evid. R. 401: ‘‘Evi-
dence is relevant if: (a) it has any tendency to make a fact more or less
probable than it would be without the evidence; and (b) the fact is of con-
sequence in determining the action.’’ We find the stipulations and stipu-
lated exhibits relevant and consequently overrule petitioners’ objections.
328          143 UNITED STATES TAX COURT REPORTS                      (322)


 started his professional career in 1969 at the now-dissolved accounting
 firm Arthur Andersen, where he rose through the ranks to eventually
 become an equity partner. [Mr.] Rogers left Arthur Andersen in 1991
 and went to work for a startup medical device company called Reddy
 Laboratories. The venture failed after the Food and Drug Administration
 denied the company’s application for a license. In 1992 [Mr.] Rogers
 joined FMC Corp., a $5 billion company with operations in over 100
 countries. [Mr.] Rogers served as FMC Corp.’s director of taxes and
 assistant treasurer through 1997.
    In 1998 [Mr.] Rogers became an equity partner in Altheimer & Gray,
 a full-service law firm headquartered in Chicago, Illinois, with offices in
 Eastern Europe. Altheimer & Gray dissolved in 2003, and [Mr.] Rogers
 joined the Seyfarth Shaw, LLP (Seyfarth Shaw), law firm in July of that
 year. * * * [Mr.] Rogers left Seyfarth at the end of May 2008, when he
 opened his own firm, Rogers & Associates.
    [Superior Trading, LLC v. Commissioner, 137 T.C. at 75.]
   Mr. Rogers during or before 2003 conceived a plan that he
contended would successfully invest in and manage dis-
tressed retail consumer receivables overseas and remit the
proceeds to the United States. He used a tiered partnership
structure in 2003 and most of 2004 and a tiered trust struc-
ture in 2005, 2006, and 2007 to sell interests to individual
investors. Mr. Rogers contended the business would profit
through aggressive collection efforts, translation gain from
currency speculation, and a planned initial public offering.
The first step under this plan was for Brazilian retailers to
‘‘contribute’’ receivables to a limited liability entity controlled
by Mr. Rogers, which, for U.S. tax purposes, would accede to
the tax basis of the retailers in the consumer debt.
   In 2003 he used a limited liability company called Warwick
Trading, LLC, to purchase receivables from Lojas Arapua,
S.A. (Arapua), a Brazilian retailer of household appliances
and consumer electronics. In 2004 he used a different limited
liability company, Sugarloaf, to which two other Brazilian
retailers, Globex Utilidades, S.A. (Globex), and Companhia
Brasileira de Distribuic¸a˜o (CBD), also ‘‘contributed’’ dis-
tressed accounts receivable for interests in that company. In
2004 Sugarloaf contributed a tranche of those assets to other
limited liability companies (trading companies). Sugarloaf
then contributed most or all of its interest in the trading
companies to yet other limited liability companies (holding
companies). In 2005 Sugarloaf ‘‘contributed’’ assets to trusts
(main trusts), which each created another trust (subtrust).
The main trust assigned the beneficial interests of the receiv-
(322)         KENNA TRADING, LLC v. COMMISSIONER                        329


ables in the subtrust to an investor who contributed money
to the main trust. In both years Sugarloaf and the trading
companies entered loan management and servicing agree-
ments with a British Virgin Islands company called
Multicred Investments Limited and/or a Brazilian company
called    Multicred     Investimentos    Limitada.   Renato
Mazzucchelli and Jennifer Dowek were both intimately
involved in the management and operation if not also the
ownership of these companies. While the parties dispute the
significance of these two companies and Mr. Rogers alleges
that the British Virgin Islands company engaged in some
sort of scheme to defraud, such a dispute is irrelevant to
these cases, and we find that for practical purposes the
companies are the same and refer to them interchangeably
as Multicred.
  Mr. Rogers formed Sugarloaf through entities he owned
and controlled. He was the sole owner of an S corporation,
Portfolio Properties, Inc. (PPI), which owned Jetstream, at
that time a British Virgin Islands company. On April 17,
2003, Mr. Rogers, through Jetstream, formed Sugarloaf, a
Delaware limited liability company. According to the oper-
ating agreement, Jetstream was the initial manager. On July
23, 2003, Mr. Rogers sent an engagement letter to Mr.
Mazzucchelli as ‘‘Managing Member’’ of Sugarloaf by which
Sugarloaf agreed to retain Seyfarth Shaw as its legal
counsel. In August Mr. Rogers represented to Seyfarth Shaw
that the owners of Sugarloaf were Mr. Mazzucchelli and Ms.
Dowek. He never disclosed Jetstream’s ownership, which was
100% at that time.
II. The Receivables: The Brazilian Connection
  A. Arapua
   On July 1, 2004, Sugarloaf and Arapua entered into a con-
tribution agreement by which Arapua agreed to ‘‘contribute’’
distressed consumer receivables with an outstanding balance
of R$37,765,501 to Sugarloaf in exchange for a 99% member-
ship interest. 11 Sugarloaf later disposed of these receivables
  11 When we refer to receivables of the three Brazilian retailers, we refer

to checks written by consumers for products. Brazilian companies at the
time generally lacked sufficient purchase-with-financing installment sales
                                               Continued
330          143 UNITED STATES TAX COURT REPORTS                      (322)


in a transaction not necessarily at issue in these cases. Mr.
Rogers signed this contribution agreement as manager of
Sugarloaf.
  B. Globex
  In July 2004 Sugarloaf entered into a contribution agree-
ment with Globex, a consumer-goods retailer doing business
under the name Ponto Frio. According to the contribution
agreement, Globex contributed receivables with an out-
standing balance of R$219,087,756.03 in exchange for a 99%
membership interest in Sugarloaf. Mr. Rogers signed this
agreement as manager of Sugarloaf. 12
  The parties provided three versions of the contribution
agreement: a Portuguese version, a certified English trans-
lation of that version, and the English version provided by
Mr. Rogers. A cursory comparison of the certified English
translation and Mr. Rogers’ version reveals that Mr. Rogers’
and the Portuguese versions are not reliable translations of
one another. One difference is that, according to the certified
English translation, Sugarloaf represented that it ‘‘is aware
that, for purposes of Brazilian law, taxes were lowered for
accounting and tax purposes for the majority of the tax
credits of most objects of this instrument, although it had not
been lowered for the purpose of American law.’’ The version
facilities and in lieu thereof had the practice of extending credit to con-
sumers whereby the consumer would write a series of postdated checks
and the retailer would deposit those checks on the appropriate day. The
receivables in these cases are distressed, meaning that they are past due.
The average age of the sampled receivables as of the date of contribution
to Sugarloaf was 5.2 years in the case of CBD and 6.6 years in the case
of Globex. The contributed receivables’ value in Brazilian reais was not
stated in the CBD contribution agreement but was to be provided in a
schedule I to the agreement. However, no schedule I was attached to the
translated version of the agreement Mr. Rogers placed in evidence and
submitted to the Court. The same was true of the translated Globex con-
tribution agreement offered by Mr. Rogers, discussed infra p. 331.
   12 According to the Arapua contribution agreement, Arapua already

owned 99% of Sugarloaf. The transfer of a 99% interest to Globex is a
mathematical impossibility. And, as discussed infra pp. 332–334, CBD en-
tered a contribution agreement whereby it ostensibly received a 17% mem-
bership interest. Mr. Rogers contends that the subsequent contribution
agreements merely diluted the previous ownership. But these numbers
cannot be reconciled, and they support our finding, see infra pp. 351–353,
that the parties did not intend to form a partnership.
(322)            KENNA TRADING, LLC v. COMMISSIONER        331


provided by Mr. Rogers lacks identical or even analogous lan-
guage.
   Mr. Rogers’ version of the contribution agreement pur-
ported to have attached an exhibit A which set forth all of
the receivables contributed. The certified English translation
included an annex I, which stated in part: ‘‘The data related
to the Credits are recorded on a CD–Rom delivered in this
act by GLOBEX to the Fund [Sugarloaf]’’. The parties stipu-
lated that neither exhibit A nor the media referenced in
annex I were attached to the agreements.
   One of the individuals promoting the shelter for Mr.
Rogers, Michael Hartigan, sent money in 2004 to Multicred,
which passed on a portion of that money to Globex as
indicated in a January 5, 2005, email from Ms. Dowek to Mr.
Rogers. These payments were, in Mr. Rogers’ own words,
‘‘constructive distributions from Warwick or Sugarloaf.’’ In
2005 Mr. Hartigan sent money received from the investors,
less his fees, directly to the credit of the trusts. 13
   At some point, Globex requested a partial redemption of its
membership interest. Initially Globex requested a 13.24%
partial redemption and apparently later requested a larger or
complete redemption. In the spring of 2006 Ms. Dowek sent
two emails to Mr. Rogers telling him that Globex needed
documentation showing the sale of its interest in Sugarloaf.
On December 15, 2006, Mr. Rogers wired $300,000 to a bank
account in the name of Globalstores, S.A. A week or so later,
Ms. Dowek wrote the following to Mr. Rogers: ‘‘Bought more
from Globex . . . Global Store . . . so please send $650K
instead of $350K.’’ Mr. Rogers agreed and on December 28,
2006, wired an additional $650,000 to the account of
Globalstores, S.A. Further correspondence between Mr.
Rogers and the various parties involved in these transactions
demonstrates an intent to redeem Globex out of Sugarloaf.
   In April 2007 Mr. Rogers expressed concerns to Multicred
that Globex never transferred the distressed assets to
Sugarloaf. He asked Multicred for proof of a transfer before
2006, which was when collections on the Globex receivables
began. The parties stipulated that Globex retained custody of
the receivables until at least March 28, 2007.
  13 See   infra pp. 342–344.
332         143 UNITED STATES TAX COURT REPORTS                  (322)


  C. CBD
   In the fall of 2004 Sugarloaf and Multicred were negoti-
ating the acquisition of receivables from another Brazilian
retailer, CBD, a large supermarket chain in Brazil which
operated some stores under the brand name Pa˜o de
Ac¸u´car. 14 Early drafts of agreements from Multicred indicate
that as of August 3, 2004, Sugarloaf and CBD intended to
enter into a purchase-sale agreement. On October 1, 2004,
Sugarloaf and Multicred entered into a contribution agree-
ment with CBD. Once again, there are several versions of
this contribution agreement: one copy in Portuguese, a cer-
tified English translation of the Portuguese version, and an
English-language version provided by Mr. Rogers. While,
from their cover pages, the Portuguese version and Mr.
Rogers’ version appear to be translations of one another, a
cursory examination of the format of the body of the agree-
ment in each version quickly reveals that they are not
accurate translations.
   The certified English translation only confirms that Mr.
Rogers’ version and the Portuguese version are different
documents. The certified translation and Mr. Rogers’ version
both state that CBD received a 17% membership interest in
Sugarloaf in exchange for a contribution of receivables con-
tracts. Mr. Rogers’ version indicates that the subject receiv-
ables contracts are listed in schedule I, which itself refers to
an attached ‘‘diskette’’ (although apparently Mr. Rogers
never received a copy), while the certified translation
includes an annex I which references a contemporaneously
delivered CD–ROM and provides a detailed key to the data
supposedly contained thereon. Mr. Rogers’ version and the
certified translation both state that the receivables had an
outstanding balance of R$154,630,651.15. Only the certified
translation, however, discloses that the value of these receiv-
ables was R$1,855,568. Further, according to the certified
translation, the Portuguese document is an agreement
between CBD, Sugarloaf (with Mr. Rogers signing as man-
ager), and Multicred (with Mr. Mazzucchelli signing on its
behalf ). Mr. Rogers’ version, however, is an agreement
between only CBD and Sugarloaf, with Mr. Rogers again
 14 The parties often refer to CBD as CBD/PDA or PDA. For convenience,

we use CBD.
(322)          KENNA TRADING, LLC v. COMMISSIONER              333


signing as manager. Finally, Mr. Rogers’ version contains a
representation by CBD that it had not taken action with
respect to the receivables that would constitute a charge-off
under section 166. The certified translation contains no such
representation.
   Sugarloaf, CBD, and Multicred entered the contribution
agreement with the understanding that CBD would be
redeemed out for cash shortly. On December 22, 2004,
Sugarloaf loaned Multicred $800,000 pursuant to a promis-
sory note. According to an October 21, 2007, email from Mr.
Rogers: ‘‘The $800,000 was used to redeem out PDA.’’ 15
Multicred then purchased CBD’s 17% interest in Sugarloaf
for R$1,855,568 on December 29, 2004. On October 14, 2005,
Multicred assigned its interest in Sugarloaf to an entity
called    Sugarloaf    Investimentos       Limitada      (Sugarloaf
Limitada), which was owned by Sugarloaf and controlled by
Mr. Rogers, in exchange for Sugarloaf Limitada’s assumption
of the obligations to Sugarloaf under the $800,000 promis-
sory note. Sugarloaf, through Mr. Rogers, was a party to this
agreement. On September 22, 2006, Sugarloaf Limitada sold
the 17% interest in Sugarloaf back to Sugarloaf, and it paid
off three-quarters of the promissory note. Mr. Rogers signed
this agreement on behalf of both Sugarloaf and Sugarloaf
Limitada. Sugarloaf Limitada paid the remaining balance
due on the note in 2007. The Sugarloaf purchase agreement
refers to these transactions as ‘‘stage’’ or ‘‘stages’’.
   In addition, the record contains hints that a shadow invest-
ment group may have been involved in the purchase of the
CBD receivables. An email from Ms. Dowek says: ‘‘[W]e will
have four or five investors purchasing their [CBD’s] interest
and * * * Multicred will act as agent for them.’’ Additional
documents implicate an entity named Sugarloaf Overseas,
Ltd. (Sugarloaf Overseas), in this shadow investment group;
it received $1 million from Sugarloaf as payment for assets
on or about February 26, 2006. Mr. Rogers repeatedly denied
knowing Sugarloaf Overseas and claimed that he could
remember no reason why Sugarloaf would have made the $1
million transfer. We do not credit his testimony and believe
that Mr. Rogers knew, at the time, what Sugarloaf Overseas
  15 PDA   and CBD are one and the same. See supra note 14.
334        143 UNITED STATES TAX COURT REPORTS            (322)


was and also what its role was, however murky to us, in the
CBD buyout.
  D. Collections
  As mentioned, collections on the Globex receivables did not
begin until 2006 at the earliest. As for the other receivables,
Multicred did not have collection data available for 2004. Mr.
Rogers therefore used R$2,656, or about USD$1,000, as the
collections reported for each investor in 2004.
  E. Valuation and Performance
  Sugarloaf received valuations for the CBD and the Globex
receivables from Financial Management Control, Ltda.
(FMC). Both these letters were dated October 1, 2004, but
the parties stipulated that Sugarloaf did not receive the let-
ters until 2007. The letters are almost identical. The FMC
letter for Globex opined that the fair market value of the
receivables, which had an average age of six to seven years
and average balance of R$500, was 6% of the notional face
value amount. FMC concluded that the CBD receivables had
an average age of three years and average balance of R$300
and were also worth 6% of the notional face value amount.
These appraisal letters bear a remarkable similarity to an
appraisal letter written by a company called Lourenc¸o
Assessoria e Recuperadora de Cre´dito Ltda. (LARC) for War-
wick. The LARC appraisal letter purported to appraise
Arapua receivables at, again, 6% of the notional face value
amount.
  At the trial and without objection, respondent offered John
D. Finnerty as an expert in valuation of fixed income invest-
ments. The Court accepted Dr. Finnerty as such an expert
and received his report into evidence. Dr. Finnerty used a
discounted cashflow method which took into account similar
assets, expected net cashflow, and the collection expenses at
the time of acquisition. He concluded that the Globex receiv-
ables had a fair market value of at most 0.5% of the notional
face value amount and that the CBD receivables had a fair
market value of at most 0.8% of the notional face value
amount.
  Dr. Finnerty also dismissed the FMC valuations as being
internally inconsistent and containing flawed reasoning. For
example, the FMC valuations purport to use the comparables
(322)       KENNA TRADING, LLC v. COMMISSIONER              335


method, the replacement method, and the discounted
cashflow method to arrive at the 6% figure. But the letters
state that the comparables method yields a 2% to 4% valu-
ation and the replacement method yields a 2% valuation for
the CBD receivables and a 3% valuation for the Globex
receivables. The letters do not discuss a specific value deter-
mined using the discounted cashflow method and why such
a method would result in higher valuations. So, it is not clear
how FMC arrived at the 6% valuations. Furthermore, the
FMC letters purport to affirm the discounted cashflow anal-
ysis provided by Multicred without mentioning what valu-
ation that method yields. Finally, FMC fails to explain why
it gave identical valuations to two sets of receivables despite
significantly different characteristics, such as the age and
average balance per account of the receivables. The Court is
left to assume that the $200 higher average balance of the
Globex receivables exactly balanced out the fact that their
average age was three to four years older than the CBD
receivables so that each group was worth 6% of face.
   At trial and without objection, the Court accepted respond-
ent’s witness Martin D. Hanan as an expert in business valu-
ation and received his report into evidence. Mr. Hanan’s
extensive report opined as to the expected and actual pretax
and after-tax rates of return from the investments at issue
in these cases. He reviewed the amounts paid by investors,
the collections allegedly made, and other data. He concluded
that an after-tax rate of return was positive only because of
the tax benefit afforded by the section 166 deduction. Mr.
Hanan concluded that the exorbitant fees and the exchange
rate at the time of the origination of the receivables contrib-
uted heavily to the negative pretax rates of return. Only Mr.
Hartigan’s investment, on his own behalf, stood a chance of
realizing a profit because Mr. Hartigan waived his own fee.
Mr. Hannan concluded that a reasonable investor would not
have invested in this transaction but for the tax benefit. The
Court does note that Mr. Hannan’s analysis assumes a con-
stant exchange rate of 2.00 Brazilian reais to the U.S. dollar.
Mr. Rogers with some reasonable basis for his conclusions
believed the Brazilian real was undervalued and would
appreciate vis-a-vis the dollar within a reasonable invest-
ment period. Investors may have thought likewise.
336           143 UNITED STATES TAX COURT REPORTS                      (322)


  F. Other Problems With the Receivables
   At trial and without objection, the Court accepted respond-
ent’s witness Sergio Tostes as an expert in Brazilian
commercial taxation law. Mr. Tostes reported that the con-
tribution agreement between Globex and Sugarloaf was illicit
under Brazilian law because it purported to assign a 99%
interest in Sugarloaf to Globex. According to Mr. Tostes,
because Arapua already owned a 99% interest, the Globex
contribution agreement was legally impossible. Mr. Tostes
opined that the CBD agreement is similarly invalid under
Brazilian law.
III. The 2004 Partnership Structure: Your DAD’s Tax Shelter
  The 2004 partnership shelters essentially mirror the Dis-
tressed Asset/Debt or ‘‘DAD’’ shelter structure we described
in Superior Trading, LLC v. Commissioner, 137 T.C. at 71–
73.
  A. The Typical Structure
  Mr. Rogers typically structured the 2004 shelters as fol-
lows. Jetstream and Sugarloaf would create a trading com-
pany, an Illinois limited liability company, with Jetstream
contributing a nominal amount of cash (e.g., $1,500) for a 1%
membership interest and Sugarloaf contributing distressed
assets. The contribution agreement between Sugarloaf and
the trading company would state that Sugarloaf was contrib-
uting a portfolio of notes. The contribution agreement would
also state that exhibit A would set forth the notes contrib-
uted, but this exhibit was never prepared for any of the 2004
transactions. 16
  Jetstream and Sugarloaf would then form a holding com-
pany, also an Illinois limited liability company, with Jet-
stream contributing a nominal amount of cash for a 1%
interest and Sugarloaf contributing a 99% interest in a
trading company in exchange for a 99% interest. Next,
  16 In its reply brief at 114, Jetstream states: ‘‘The schedules were pre-

pared and were provided to IRS [Internal Revenue Service] auditors.
Mazzucchelli retained the original version.’’ This contention directly con-
tradicts paragraph 147 of the parties’ trial stipulation, which states in
part: ‘‘Exhibit A to the Contribution Agreements between Sugarloaf and
each trading company was never prepared.’’ To the extent that Jetstream’s
objection requests to be relieved of the stipulation, we reject that request.
(322)         KENNA TRADING, LLC v. COMMISSIONER                         337


Sugarloaf would sell its 99% interest or, in some cases, a 98%
interest, in the holding company to an investor. 17 Two
individuals marketed the Sugarloaf transactions for Mr.
Rogers, Mr. Thomas Agresti and Mr. Hartigan. The investor
would pay a percentage of the U.S. dollar notional amount of
the receivables, and the size of that percentage depended on
whether the investor purchased the interest through Mr.
Hartigan or Mr. Agresti. Jetstream would retain a 1%
interest in each trading company and each holding company
and would act as tax matters partner for both companies.
Sugarloaf would retain a 1% interest in each trading com-
pany and for the most part in each holding company.
Numerous iterations of this sequence took place.
  The investors’ contribution agreements incorrectly stated
the value of the outstanding balance of the receivables
contributed. For instance, the Bielersee contribution agree-
ment states that Sugarloaf contributed assets with an out-
standing balance of R$2,500,000. But, on its Form 1065, U.S.
Return of Partnership Income, Bielersee reported a section
166 loss of $2,425,000, or 97% of $2,500,000. That amount,
in Brazilian currency, would be greater than R$2,500,000. In
any event, the amount contributed to the partnership
depended on the size of the tax deduction the investor
sought.
  Generally, Mr. Agresti’s clients paid 8% of the U.S. dollar
notional amount, while Mr. Hartigan’s clients paid 15%. Of
those amounts, between 4% and 5% went to Sugarloaf or PPI
as the purchase price of the receivables. Another 2% to 3%
represented an amount retained by Sugarloaf for professional
and operating expenses. Mr. Rogers gave discounts to his two
promoters. Mr. Hartigan paid only 1.75% to Sugarloaf to buy
into the shelter, and Mr. Agresti paid 4%. Like the percent-
age paid, the source of the receivables also depended on
  17 It is not always clear how much of an interest Sugarloaf retained in
a particular holding company. The parties stipulated that Sugarloaf re-
tained ‘‘for the most part, a 1% interest in each holding company.’’ Jet-
stream, on brief, contends that ‘‘Sugarloaf retained no interest in a holding
company.’’ The documentary evidence is similarly contradictory. For exam-
ple, in the case of Bielersee Trading, LLC (Bielersee), Sugarloaf purported
to contribute a 98% interest in Bielersee to Alber Fund, LLC (Alber), in
exchange for a 99% membership interest in Alber. Sugarloaf then pur-
ported to sell its entire 99% interest in Alber to the investor, RD3J, Ltd.
338          143 UNITED STATES TAX COURT REPORTS                     (322)


whose client the investor was. For Mr. Agresti’s clients,
Sugarloaf contributed CBD receivables. For Mr. Hartigan’s
clients, Sugarloaf used Globex receivables.
   The formation of R B Taylor Trading, LLC (R B Taylor),
is an exception from the general pattern. The documents
indicate that Warwick, on July 17, 2004, contributed the
receivables to R B Taylor in exchange for membership
interests; that Warwick, on July 18, 2004, contributed 98%
of R B Taylor to a holding company, Chipping Wood Fund,
LLC; and that Warwick then sold 99% of the holding com-
pany on July 26, 2004, to the investors, Russell and Betsy
Taylor. R B Taylor claimed a section 166 bad debt loss of
$11,640,000 in 2004. A document purporting to be an inven-
tory of receivables transferred to and owned by R B Taylor
lists Globex receivables, which Warwick did not have. The
investor was a client of Mr. Hartigan’s. We find that, to the
extent there was a partnership formed, Sugarloaf, not War-
wick, was the initial contributing entity. 18
   In addition to a contribution agreement, each investor also
had to enter into a subscription agreement. This agreement
allowed the investor to establish sufficient tax basis in the
partnership interest to claim the deduction flowing from the
anticipated section 166 bad debt charge-off. The amounts of
the subscription agreements were generally the same as the
U.S. dollar notional amounts of the receivables less any pur-
chase price paid. Some investors used promissory notes in
favor of Sugarloaf to obtain the necessary tax basis in their
partnership interests.
  B. The Music Stops
  In October 2004 Congress passed the American Jobs Cre-
ation Act of 2004 (AJCA), Pub. L. No. 108–357 sec. 833, 118
Stat. at 1589, which sharply curtailed the tax benefits of the
partnership structure used by Mr. Rogers and Sugarloaf in
2004 by amending sections 704, 734, and 743. The relevant
provisions had an effective date of October 20, 2004. Mr.
Rogers determined that if an investor signed a letter of
intent to purchase a partnership interest before that date,
  18 We are disappointed that the parties did not provide the Court with

a complete rather than a partial copy of R B Taylor’s 2004 partnership re-
turn, which could have assisted the Court with this finding of fact.
(322)         KENNA TRADING, LLC v. COMMISSIONER                         339


the partner would still be entitled to deduct the built-in
losses from subsequently contributed receivables. In addition,
if a potential investor signed a letter of intent but then
backed out of the deal, Mr. Rogers determined that a new
investor could be substituted for the original investor despite
not having signed a letter of intent before the effective date
of the AJCA.
  C. The Underlying Investors
   Most of the individual investors in these partnerships have
settled the underlying tax liability issues. In some cases the
investors filed notices of election to participate under section
6226(c) and Rule 245(b) in the Tax Court cases for the
trading companies in which they indirectly invested. Most of
these investors have settled and have entered into stipula-
tions of settlement with respondent. 19 But these stipulations
settle these trading company cases only as to the distributive
shares of the settling partners. Furthermore, Mr. Hartigan
remains an officer for participating partners in four cases. At
trial, Mr. Rogers, Mr. Hartigan, and respondent disagreed as
to the proper tax matters partner of Knight Trading, LLC,
docket No. 9121–08. We asked the parties to submit status
reports on this subject, and only respondent submitted the
requested report. Mr. Hartigan did not produce any docu-
mentation showing that Paragon Fund, LLC, replaced Jet-
stream as the tax matters partner of Knight Trading, and in
the absence of other evidence, Jetstream is the proper tax
matters partner.
   In addition, Windmere Fund, LLC, as tax matters partner
for Ironwood Trading, LLC, docket No. 19925–08, and
respondent have entered into a stipulation of settled issues
as to Windmere Fund’s partnership items. Jetstream initially
filed the petition on behalf of Ironwood Trading. Windmere

  19 Respondent   and the following participating partners entered into stip-
ulations of settled issues: Robert Greer, participating partner in docket No.
7555–08; Joel R. Baker, participating partner in docket No. 7625–08; Rus-
sell C. Taylor, participating partner in docket No. 9038–08; Mark Herbert,
participating partner in docket No. 9124–08; Michael Koretsky, partici-
pating partner in docket No. 19924–08; and Thomas Turner, participating
partner in docket No. 13980–09.
340              143 UNITED STATES TAX COURT REPORTS                                   (322)


was subsequently substituted as the tax matters partner. 20
Because Jetstream initially filed the petition and retains a
1% interest in Ironwood, we treat Jetstream as a partici-
pating partner in these cases. Likewise, respondent and
Arrowhead Fund, LLC, as tax matters partner for Murtensee
Trading, LLC, docket No. 9040–08, 21 entered a stipulation of
settled issues as to Arrowhead Fund’s partnership items.
Again, Jetstream was the tax matters partner at the time
the petition was filed, and we treat Jetstream as a partici-
pating partner in these cases.
   Finally, two participating investors have not yet settled:
Jonathan Greer, participating as the ultimate investor in
Grey Stone Trading, LLC, docket No. 7556–08, and Scott
Ray, participating as the ultimate investor in Thornhill
Trading, LLC, docket No. 9021–08. They did not appear at
trial and have waived any right to participate therein.
  D. Returns and Adjustments
  In 2004, Sugarloaf entered into at least 30 investment
deals using the tiered partnership structure described above
and distressed assets from Globex and CBD. The trading
companies in these deals all filed Forms 1065, which were
prepared by an employee of Mr. Rogers, Jonathan Gabel, and
signed by Mr. Rogers, and all claimed section 166 deductions.
Respondent issued FPAAs in these cases denying the fol-
lowing deductions:
                                                                  Bad debt deduction
                Partnership name                                       sec. 166

      Bielersee Trading, LLC ...............................         $2,425,000
      Bodensee Fund, LLC ...................................          4,850,000
      Connemara Trading Group, LLC ...............                      485,000
      Cumnor Group, LLC ...................................           1,940,000
      Davis Fund, LLC .........................................       1,660,000
      Dent-Blanche Fund, LLC ............................             1,067,000
      Essex Fund, LLC .........................................       1,940,000
      Grey Stone Trading, LLC ...........................               485,000

  20 Participating partner Lancer A. Barton represents that he is Ironwood

Trading’s majority member through one or more pass-through entities, in-
cluding Windmere, in which he holds at least a majority interest.
  21 Participating partner Christopher H. Brown represents that he is

Murtensee Trading’s majority member through one or more pass-through
entities, including Arrowhead, in which he holds at least a majority inter-
est.
(322)                KENNA TRADING, LLC v. COMMISSIONER                                          341


                                                                            Bad debt deduction
                   Partnership name                                              sec. 166

        Grand-Combin Fund, LLC ..........................                       1,455,000
        Harlan Fund, LLC .......................................                1,455,000
        Ironwood Trading, LLC ...............................                     970,000
        Kenna Trading, LLC ...................................                    970,000
        Knight Trading, LLC ..................................                  4,365,000
        Lakeview Trading, LLC ..............................                    1,670,000
        Larkspur Trading, LLC ..............................                      970,000
        Lyman Trading, LLC ..................................                   4,850,000
        Monte Rosa Trading, LLC ..........................                      1,940,000
        Murtensee Trading, LLC ............................                     3,977,000
        Northgate Trading, LLC .............................                      970,000
        Ofenpass Fund, LLC ...................................                  2,910,000
        Remington Trading, LLC ............................                     7,275,000
        Ridgeway Trading, LLC ..............................                      485,000
        Riversedge Fund, LLC ................................                   2,910,000
        Saddlebrook Trading, LLC .........................                      4,850,000
        Suten Fund, LLC .........................................               2,910,000
        R B Taylor Trading, LLC ............................                   11,640,000
        Thornhill Trading LLC ...............................                     485,000
        Turnberry Trading LLC ..............................                      824,500
        Warner Fund, LLC ......................................                 2,260,000
        Zugersee Trading, LLC ...............................                   3,880,000
        Zurichsee Trading, LLC ..............................                   2,538,000

         Total ..........................................................      81,411,500

Most trading companies claimed the deduction for 2004.
Riversedge Fund, LLC (Riversedge), claimed a $450,000
deduction for 2004 and a $2,460,000 deduction for 2005. 22
Zurichsee Trading, LLC, claimed the deduction for 2005.
Zugersee Trading, LLC, claimed a $3,200,000 deduction for
2004 and a $680,000 deduction for 2005. Warner Fund, LLC,
claimed a $2,260,000 deduction for 2005. 23
  In most cases, the trading company claimed a deduction
equal to 97% of the U.S. dollar notional value of the receiv-
ables. In other cases, the investor requested that a smaller
deduction be used for that tax year. Respondent timely
issued notices of final partnership administrative adjustment
(FPAA) to all trading companies disallowing their claimed
section 166 losses. Respondent also adjusted to zero deduc-
  22 We note that Riversedge’s 2005 tax return is not in the record. We in-
stead rely on the FPAA issued for that year.
  23 Warner Fund, LLC, also claimed a $650,000 deduction on its 2004 tax

return. Jetstream’s petition for that year, docket No. 19542–08, was dis-
missed as untimely.
342           143 UNITED STATES TAX COURT REPORTS                       (322)


tions claimed for amortization expenses and collection
expenses. Petitioners in these partnership cases timely filed
petitions for review of the partnership adjustments. 24
IV. The 2005 Trust Structure: DAD 2.0
  Because Congress in late 2004 essentially eviscerated Mr.
Rogers’ 2004 shelter structure, Mr. Rogers moved toward a
similar structure that purported to use trusts to reach the
same end result. In this structure, two Illinois common law
business trusts, a main trust and a subtrust, replaced the
holding company and the trading company.
  A. The Typical Structure
  When an investor agreed to purchase the shelter,
Sugarloaf would form a main trust with Mr. Rogers as
trustee and Sugarloaf as the initial grantor and beneficiary.
Each trust would have its own bank account controlled by
Mr. Rogers. Sugarloaf would then contribute receivables
through a contribution agreement between Mr. Rogers, as
trustee of the main trust, and Sugarloaf. The contribution
agreement would include a schedule A stating: ‘‘See CD Rom
disk attached hereto describing the issuer name, date of
issuance, outstanding amount and other relevant data.’’ No
such media would be attached.
  The investor would purchase a beneficial interest in the
main trust. Sugarloaf and Mr. Rogers would then create a
subtrust, allocate the receivables to the subtrust, and des-
ignate the investor as the beneficiary. The investor would
also receive a Series 2005–A Beneficial Interest Certificate
granting a 100% interest in the rights to the receivables in
the trust.
  Investors in the trust structure usually paid between 5%
and 6% of the notional value of the receivables, which was
also the tax basis eventually claimed, plus fees charged by
the promoters to obtain their subtrust interests. 25 The pur-
chase money went into the main trust’s bank account, but
  24 Jetstream, through its ‘‘Director’’, Mr. Rogers, filed petitions for them

as their tax matters partner.
  25 For the 2005 transactions, the investors appear to have paid approxi-

mately 5% of the notional value of the receivables plus other fees. Other
evidence in the record suggests that for transactions in subsequent tax
years, the purchase price was 6%.
(322)            KENNA TRADING, LLC v. COMMISSIONER        343


over the course of 2005, 2006, and 2007, these amounts were
essentially transferred to Sugarloaf. Even though the pur-
chase money went into the bank account Mr. Rogers estab-
lished for the main trust, the parties to the transaction
viewed the transaction as a purchase and not a contribution
of money to a trust account. For example, most investors
signed an Agreement for Purchase of Trust Beneficial
Interest. The compliance booklets, which investors received
and signed, cast the transaction as a purchase of a beneficial
interest in the main trust.
   The investors, pursuant to the agreements creating the
subtrusts, had the power to transfer the certificates of bene-
ficial ownership. The only apparent restriction was that an
investor had to give notice to the trustee. Furthermore, an
investor could at any time choose to revoke and terminate
the subtrust in which that investor had acquired an interest.
During the revocation and termination, the investor was
entitled to direct the disposition of the subtrust assets.
   Mr. Rogers prepared and filed for each main trust and
each subtrust a Form 1041, U.S. Income Tax Return for
Estates and Trusts. The returns indicated that each subtrust
was a grantor trust and attached Grantor Information State-
ments. These statements indicated that the investors were
the grantors and listed amounts for collection income, collec-
tion expenses, fiduciary expenses, legal expenses, and section
166 deductions. The main trusts’ returns indicated that the
investors were the beneficiaries and reported no gains or
losses.
   Respondent issued notices of deficiency to the subtrust
investors. Some of these investors petitioned the Court for
redetermination. We consolidated some of those cases for
trial at the same time as the partnership and Sugarloaf
cases. All but Mr. and Mrs. Rogers and Gary R. Fears 26 have
settled with respondent, and we have since severed those
other individual tax cases from this group.
  B. Sterling Ridge Trust
  Mr. and Mrs. Rogers invested in the Sterling Ridge 2005–
A Subtrust through an S corporation wholly owned by Mrs.
Rogers, Sterling Ridge, Inc. Mr. Rogers was president of
  26 See   supra note 6.
344           143 UNITED STATES TAX COURT REPORTS                       (322)


Sterling Ridge. Sugarloaf contributed receivables to Sterling
Ridge 2005 Trust with a claimed tax basis of $5 million.
Sterling Ridge 2005 Trust allocated these receivables to the
Sterling Ridge 2005–A Subtrust. Sterling Ridge, Inc., pur-
chased the beneficial interest in Sterling Ridge 2005–A
Subtrust for $150,000. Sterling Ridge, Inc., sent the purchase
money to the Heritage Bank account of the Sterling Ridge
2005 Trust. Over the course of December 2005 $95,500 was
withdrawn from this bank account.
  Mr. Rogers filed Forms 1041 for the main trust and the
subtrust for the tax years 2005 and 2006. On the subtrust’s
2005 Form 1041, he attached a Grantor Information State-
ment stating that Sterling Ridge, Inc., was the grantor. This
statement also listed collection income of $1,518, collection
expenses of $304, a fiduciary expense of $1,000, a legal
expense of $1,000, and a section 166 expense of $4,850,000.
On its 2006 Form 1041, the subtrust reported collecting
$39,232 of income and a collection expense of $19,616.
  Sterling Ridge, Inc., on its 2005 Form 1120S, U.S. Income
Tax Return for an S Corporation, prepared by Mr. Rogers,
reported a loss of $3,282,119 almost entirely attributable to
the $4,850,000 section 166 deduction. 27 Mr. and Mrs. Rogers
reported this loss on their 2005 tax return, which they both
signed. Respondent timely issued a notice of deficiency for
2005 disallowing, among other determinations, the section
166 deduction that flowed through from Sterling Ridge. Mr.
and Mrs. Rogers timely petitioned this Court for redeter-
mination.
V. The Section 166 Deduction: Aggregate and Arbitrary
   At no point did the participants in these transactions con-
duct any kind of study as to which of the receivables should
be written down. The individual receivables were not charged
off individually. Mr. Gabel’s handwritten notes after a 2005
meeting in Brazil reflect the reality that Multicred lacked the
resources to conduct a writeoff study. At one point, statistical
  27 Sterling Ridge did not report the collection expense or the fiduciary ex-

pense from the 2005 Grantor Information Statement, and it is not clear
whether the legal expense and the collection income were included on its
return.
(322)            KENNA TRADING, LLC v. COMMISSIONER                  345


sampling was discussed, but such a sampling was never
done.
VI. The Hub: Searching for Sugarloaf
  A. Uncertain Ownership
   Evidence as to the purported owners of Sugarloaf is con-
tradictory. The three principal sources all provide conflicting
information. First, contribution agreements suggest that Jet-
stream owns a 1% interest in Sugarloaf, Arapua owns a 99%
interest in Sugarloaf, Globex owns a 99% interest in
Sugarloaf, and CBD owns a 17% interest in Sugarloaf.
Second, Sugarloaf ’s Quickbooks balance sheet for 2003 lists
Barnard, CITCO NV, Mr. Rogers, and Teviot as having
equity interests in Sugarloaf. 28 The 2004 yearend balance
sheet shows the same equity owners. The 2005 yearend bal-
ance sheet reflects that the following entities and persons
owned equity in Sugarloaf: Barnard, CITCO NV, Mr. Rogers,
Multicred, Sugarloaf Overseas, and Teviot. Mr. Rogers testi-
fied that Barnard, CITCO NV, and Teviot all made equity
investments in Sugarloaf. He also stated that the balance
sheets, with the 2005 yearend balance sheet time-stamped
October 2006, reflected only equity deposits that had been
recorded up to that point and that the equity portion of the
balance sheets was irrelevant. Third and finally, Schedules
K–1, Partner’s Share of Income, Deductions, Credits, etc.,
filed with Sugarloaf ’s 2004 and 2005 tax returns claimed
that Jetstream was a 1% capital and 0.1% profit and loss
owner, Warwick a 1% capital and 0.1% profit and loss owner,
CBD a 49% capital and 49.9% profit and loss owner, and
Globex a 49% capital and 49.9% profit and loss owner.
   Additional evidence provides no clarity. With respect to
Teviot and Barnard, a May 3, 2005, email from Mr.
Mazzucchelli to Mr. Rogers lists investors in Sugarloaf.
These investors were Andrew Barnard for $100,000, Teviot
Investments, Ltd., for $100,000, and Warwick for $100,000.
Sugarloaf ’s bank accounts show wire transfer deposits in
  28 According to Mr. Rogers, Teviot is Teviot Investments, Ltd., a com-
pany related to Mr. Mazzuchelli, and Barnard is Mr. Mazzuchelli’s father-
in-law. Somewhat surprisingly, the voluminous record in these cases af-
fords no meaningful information about CITCO NV.
346        143 UNITED STATES TAX COURT REPORTS                (322)


December 2004 from Teviot and Barnard in the amounts of
$200,000 and $99,995, respectively.
  A fax from Ms. Dowek to Mr. Rogers suggests that
Sugarloaf Overseas was due $950,000 on behalf of a PDA
Investor Group for acquisition of notes. Emails among the
parties suggest that Teviot and Barnard were involved, along
with Multicred and Mr. Rogers, in the purchase of the CBD
assets. Mr. Rogers also states that Sugarloaf Overseas
received a $1 million payment for the sale of CBD receivables
having a $47,500,000 notional face value.
  B. Adjustments to Income
  Respondent used the specific item method to reconstruct
Sugarloaf ’s income for the 2004 and 2005 tax years through
a bank deposits analysis. The only deposits remaining in dis-
pute for the 2004 tax year are:
          Date                    Source               Amount

        12/1/2004         Teviot Investments Ltd.     $200,000
       12/20/2004         Andrew A. Barnard             99,995

        Total                                          299,995

Mr. Rogers testified that these amounts represented equity
investments. He also testified that Mr. Mazzucchelli
approached him in 2010 demanding repayment of money Mr.
Barnard sent to Sugarloaf.
  Respondent also alleges that the following deposits in 2005
constitute gross income to Sugarloaf:
        Date                Description1            Amount

       7/28/05      Unknown—deposit from PPI        $72,000
       9/28/05      Multicred                        49,982
      11/10/05      Unknown—deposit from PPI         60,000
      11/29/05      Kevin Walzter                   100,000
      11/30/05      Unknown—Sterling Ridge           87,500
       12/7/05      M–D Medical Services             24,000
      12/14/05      Betacom Inc.                    180,000
      12/19/05      Sugarloaf Overseas              249,985
      12/23/05      Orchard Financial Group, LLC     60,000
      12/29/05      Capital Preservation Services    12,000
      12/30/05      CO Trust                         30,000
(322)         KENNA TRADING, LLC v. COMMISSIONER                        347


          Date                  Description1                Amount

         Total                                               925,467
          1 The Description column is gleaned from the bank state-
        ments. Where the bank statements are missing or not
        helpful, we use ‘‘unknown’’ followed by, for demonstrative
        purposes, the description or source as listed in Sugarloaf ’s
        Quickbooks reconciliation. This is not a finding that these
        are necessarily the sources of the deposits because we do
        not believe the Quickbooks data alone is a sufficiently reli-
        able indicator of Sugarloaf ’s items of income and loss.

   With respect to the July 28, 2005, $72,000 deposit, the par-
ties provided a customer receipt evidencing a deposit in that
amount, but it does not otherwise identify a source. Also in
the record are handwritten notes stating that the July
Sugarloaf bank statement is missing and purporting to show
that the $72,000 deposit was from ‘‘JER’’. The Sugarloaf
Quickbooks bank account reconciliation records the deposit
as a deposit from ‘‘PPI a/c’’.
   The September 28, 2005, $49,982 deposit is reflected on
Sugarloaf ’s bank statement as a wire transfer from
Multicred. The Quickbooks reconciliation also records this
amount as a deposit from Multicred.
   The bank account statement for Sugarloaf does not list any
detail beyond ‘‘deposit’’ for the $60,000 November 10, 2005,
deposit. The Quickbooks reconciliation describes this deposit
as a deposit from PPI and/or Mr. Rogers.
   The bank account statement describes the $100,000
November 29, 2005, deposit as a wire transfer from Kevin
Waltzer. The Quickbooks reconciliation describes this deposit
as ‘‘Customer Deposits/Retainers’’.
   The bank account statement lists no detail beyond
‘‘deposit’’ for the $87,500 November 30, 2005, deposit. The
Quickbooks reconciliation describes the deposit as a deposit
from Sterling Ridge.
   The bank account statement describes the December 7,
2005, $24,000 deposit as a wire transfer from ‘‘M–D Medical
Services’’. The Quickbooks reconciliation describes this
deposit as ‘‘Customer Deposits/Retainers’’.
   The bank account statement describes the December 14,
2005, $180,000 deposit as a wire transfer from ‘‘Betacom
Incorporated’’. The wire transfer information sheet lists a ref-
erence of ‘‘Betacom 2005 Trust’’. The Quickbooks reconcili-
348           143 UNITED STATES TAX COURT REPORTS                     (322)


ation describes this deposit as ‘‘Customer Deposits/
Retainers’’.
   The bank account statement describes the December 19,
2005, $249,985 deposit as a wire transfer from Sugarloaf
Overseas. The Quickbooks reconciliation does not describe
this deposit in any meaningful way but does indicate it is a
deposit from Sugarloaf Overseas.
   The bank account statement describes the December 23,
2005, $60,000 deposit as a wire transfer from Orchard Finan-
cial Group LLC. The wire transfer information sheet lists a
reference of ‘‘30000 - Lance Barton 2005 Fund 30000 - Brad
Black 2005 Fund’’. The Quickbooks reconciliation describes
this deposit as ‘‘Deposits from Barton (30,000) and Black
(30,000)’’.
   The bank account statement describes the December 29,
2005, $12,000 deposit as a wire transfer from Capital
Preservation Services. The wire transfer information sheet
lists the same as well as a reference to ‘‘CPS 2005 Trust’’.
The Quickbooks reconciliation describes this deposit as ‘‘Cus-
tomer Deposits/ Retainers’’.
   The bank account statement describes the December 30,
2005, $30,000 deposit as a wire transfer from CO Trust. The
Quickbooks reconciliation describes this deposit as from CO
Trust and contains Mr. Rogers’ initials.
  C. Adjustments to COGS
  In the FPAA respondent also adjusted Sugarloaf ’s reported
cost of goods sold. On its 2004 tax return, Sugarloaf reported
a cost of goods sold of $122,950,000. Sugarloaf claimed a cost
of goods sold for each holding company it sold to an investor
and took the position that the cost of goods sold was equal
to the claimed adjusted basis in the contributed receiv-
ables. 29
  D. Disallowed Deductions
  Sugarloaf claimed on its 2004 and 2005 tax returns the fol-
lowing miscellaneous deductions:
  29 The  total of the claimed adjusted bases of the receivables in the com-
panies at issue in these cases is $102,950,000. This amount does not in-
clude three transactions which are not part of these cases, for which the
total claimed adjusted basis is $20 million.
(322)            KENNA TRADING, LLC v. COMMISSIONER                   349


                 Deduction                      2004        2005

        Legal & professional fees             $218,530    $345,743
        Management fees                         80,000     290,000
        Consulting fees                        430,000      78,312
        Amortization                                 86        400
        Meals & entertainment                      280        ---
        Accounting                              18,120      27,229
        Bank charges                                 53          73
        Computer services                         ---        2,000
        Office expense                            ---        2,679
        Trust expense                             ---      236,000

         Total                                 747,069     982,436

Respondent disallowed all deductions. Petitioner provided
Quickbooks account records and canceled checks purporting
to substantiate the expenses.

                                    OPINION

   Because this Opinion disposes of 10 discrete issues, see
supra pp. 326–327, we first offer a road map for the reader.
We begin with the big picture. In Part I we focus on
Sugarloaf, analyzing (1) whether it constitutes a bona fide
partnership for Federal income tax purposes, (2) whether the
Brazilian retailers made valid contributions to it under sec-
tion 721, (3) whether the step transaction doctrine should be
applied to collapse those claimed contributions and the
retailers’ subsequent redemptions into sales, such that the
receivables had a cost basis under section 1012 rather than
a carryover basis under section 723, (4) whether the 2004
partnership transactions had economic substance, and (5)
whether the statutory prerequisites for a section 166 deduc-
tion were satisfied. We then turn in Part II to (6) whether
Mr. and Mrs. Rogers’ trust investment entitles them to a sec-
tion 166 deduction for 2005, applying the analysis of Part I
to the trust structure in which the Rogerses invested. With
respect to Sugarloaf and the trust structure, we present our
analyses and holdings in the alternative.
   We then turn to the details. In Part III we consider (7)
whether Sugarloaf understated gross income and/or (8) is
entitled to various deductions for the 2004 and 2005 tax
years. In Part IV, we resolve (9) whether Sugarloaf and the
other partnerships are liable for the section 6662(a) pen-
350        143 UNITED STATES TAX COURT REPORTS             (322)


alties, and (10) whether Sugarloaf is liable for the section
6662A penalty.
I. Superior Trading Revisited
   Section 723 states the general rule that the basis of prop-
erty a partner contributes to a partnership is a carryover tax
basis, which is the same adjusted basis as it had in the
hands of the contributing partner, increased by any gain rec-
ognized by the contributing partner under section 721(b).
   Petitioners contend that the distressed, unpaid Brazilian
receivables contributed to Sugarloaf had the same tax basis
in the United States as they had in the hands of the Bra-
zilian retailers and that section 723 preserved the built-in
losses inherent in those receivables. Under their theory, sec-
tion 723 continued to operate upon and governed the subse-
quent contribution of the receivables to the trading compa-
nies. Petitioners allege that under section 722, Sugarloaf had
a basis in each trading company equal to the basis it had in
the receivables. When Sugarloaf contributed the trading com-
pany to the holding company, petitioners contend that
Sugarloaf again, under section 722, obtained a tax basis in
its interest in the holding company equal to its tax basis in
the trading company. Here petitioners contend that tax basis
was equal to the tax basis in the underlying receivables. And
when Sugarloaf sold the holding company, it sold it for a
fraction of its adjusted tax basis, resulting in a cost of goods
sold much higher than the purchase price.
   The investors, when they bought their interests in the
holding companies, each took a cost basis. But they then
inflated their bases in their partnership interests through
contributions of cash, notes, or other property to the holding
companies. Thus, when a trading company claimed the sec-
tion 166 deduction, the investor could claim a corresponding
flowthrough deduction up to the full amount of his or her
basis in the holding company partnership.
   As this recounting of petitioners’ theory illustrates, the
whole shelter revolves around the initial contribution of the
receivables and the shifting of the built-in loss from the tax-
indifferent Brazilian retailer to the tax-sensitive United
States taxpayer/investor. Up until October 22, 2004, such
shifting was theoretically possible because the inside basis
(322)       KENNA TRADING, LLC v. COMMISSIONER              351


adjustment of section 743(b) was required only if the partner-
ship filed an election under section 754. Section 704(c)(1)(C)
now requires allocation of built-in losses to the partner
contributing the built-in loss property, and only to that
partner. A section 743(b) basis adjustment is now mandatory
upon any transfer of a partnership interest in a partnership
with a substantial built-in loss. In short, the partnership
version of the transaction as originally structured by Mr.
Rogers clearly no longer worked after October 22, 2004, even
according to Mr. Rogers’ interpretation of the law; thus, Mr.
Rogers substituted his trust structure. We add the caveat
concerning Mr. Rogers’ interpretation of the law because, for
all of the reasons we articulated in Superior Trading, his
structures were conceptually flawed, very clearly never
worked, and in any event were never fully implemented in
accordance with Mr. Rogers’ design.
   Respondent attacks the 2004 partnership transactions
using a variety of analytical tools. He unscrews the partner-
ship itself, taking the position that Sugarloaf was not a valid
partnership because the parties did not intend to enter into
a partnership nor did the alleged ‘‘contributions’’ of receiv-
ables ever properly occur. He next saws through all the steps
undertaken by the parties and collapses them into simple
sales and purchases of receivables. Using the heaviest
hammer in the toolbox, he then smashes the entire trans-
action as lacking economic substance. Finally, large-scale
demolition completed, he pries apart the section 166 deduc-
tion piece by piece, contending that petitioners failed to prove
they satisfied the requisite statutory elements.
  A. Still Not a Valid Partnership
  As an initial matter, we ask whether the retailers and Jet-
stream formed a partnership. ‘‘Whether a valid partnership
exists for purposes of Federal tax law is governed by Federal
law. See Commissioner v. Culbertson, 337 U.S. 733, 737
(1949).’’ Superior Trading, LLC v. Commissioner, 137 T.C. at
81. The Supreme Court directs us to ask ‘‘ ‘whether the part-
ners really and truly intended to join together for the pur-
pose of carrying on the business and sharing in the profits
and losses or both.’ ’’ Commissioner v. Culbertson, 337 U.S. at
741 (quoting Commissioner v. Tower, 327 U.S. 280, 287
(1946)). The question is one of fact. Id. at 742.
352        143 UNITED STATES TAX COURT REPORTS            (322)


   Section 301.7701–3(a), Proced. & Admin. Regs., allows
‘‘[a]n eligible entity with at least two members * * * [to]
elect to be classified as * * * an association * * * or a part-
nership’’. If no election is made, the regulations by default
treat an eligible two-or-more-member entity as a partnership.
Sec. 301.7701–3(b)(i), Proced. & Admin. Regs. These so-called
check-the-box regulations do not supersede Culbertson
insofar as the putative members must still come together to
form an entity. See, e.g., Superior Trading, LLC v. Commis-
sioner, 728 F.3d at 680 (applying the tests of Culbertson and
Tower). And we do not believe or find that Jetstream, Globex,
Arapua, and/or CBD came together to form a partnership.
   Nothing in the record convinces us that Jetstream, Globex,
and CBD intended to join together for the purposes of car-
rying on a debt collection business. Everything in the record
convinces us that Globex and CBD had every intention of
dumping their distressed receivables and that Jetstream
intended to sell a tax shelter.
   Among many other indicators, the math in the contribution
agreements between Sugarloaf and Arapua, CBD, and
Globex just does not add up. According to these agreements,
the three Brazilian retailers own a collective 215% interest
in Sugarloaf. Mr. Rogers would have us believe that with
every new contribution agreement, the membership interests
of the current members were diluted to make room for the
new member. But he provides no contemporaneous acknowl-
edgment or assent from the members of such dilution of their
membership interests nor other corroborating evidence.
   Their arithmetical flaws aside, the contribution agree-
ments highlight a second indicator that no partnership was
formed: They directly conflict with other evidence in the
record as to who Sugarloaf ’s purported partners even were.
Arapua, CBD, and Globex executed contribution agreements
suggesting that Jetstream was Sugarloaf ’s only other
partner. Sugarloaf ’s 2004 and 2005 tax returns identify Jet-
stream, CBD, and Globex as partners but exclude Arapua
and include Warwick. And Mr. Rogers testified that there are
at least three other equity partners in Sugarloaf whose cap-
ital interests do not appear on Sugarloaf ’s tax returns. There
is not a scrap of documentation of these supposed capital
interests outside of Quickbooks balance sheets, corroborated
only by Mr. Rogers’ self-serving testimony.
(322)         KENNA TRADING, LLC v. COMMISSIONER                         353


   Parties genuinely embarking on a joint business endeavor
with the intent of sharing in its profits and losses would not
accept such ambiguity regarding their respective proportions
and with whom they would be sharing those profits and
losses. These issues in Sugarloaf ’s formation are alone
enough for us to conclude that, as a factual matter—and as
was true in Superior Trading—the parties never intended to
join together in the conduct of a business. But we need not
and do not stop there.
  B. Poorly Disguised Sales
   Like the transactions with the partnerships, the trans-
actions with the Brazilian retailers in these cases suffer the
same infirmity as the transactions in Superior Trading;
namely, Mr. Rogers has once again failed to adequately and
convincingly rebut persuasive evidence of redemptions. 30
Both Globex and CBD received cash distributions in redemp-
tion of their interests within two years of their alleged con-
tributions of property to Sugarloaf.
   Generally contributions of property by partners to a part-
nership do not trigger gain or loss recognition. Sec. 721(a).
But in some situations the direct or indirect transfer of
money or other property to a partner that is related to a
direct or indirect transfer of money to the partnership can be
recharacterized as a sale or exchange of property. Sec.
707(a)(2)(B). The basic test to determine whether the trans-
fers constitute a sale of property is whether, considering all
the facts and circumstances, ‘‘(i) [t]he transfer of money or
other consideration would not have been made but for the
transfer of property; and (ii) [i]n cases in which the transfers
are not made simultaneously, the subsequent transfer is not
dependent on the entrepreneurial risks of partnership oper-
ations.’’ Sec. 1.707–3(b)(1), Income Tax Regs. The regulations
instruct us to consider a number of facts and circumstances
in determining whether the transaction constitutes a sale. Id.
subpara. (2).

  30 There is also a significant question whether the purported trans-

actions ever occurred given the apparent failure to properly identify the re-
ceivables being transferred, to notify the makers, and to otherwise comply
with Brazilian law.
354           143 UNITED STATES TAX COURT REPORTS                       (322)


   The regulations governing disguised sales also contain a
two-year presumption. Id. para. (c). Distributions within two
years of a contribution give rise to a presumption that the
transaction is a disguised sale. Id. Distributions more than
two years after the contribution give rise to a presumption
that the transaction is not a disguised sale. Id. Petitioners
here bear the burden of rebutting the former presumption.
See Superior Trading, LLC v. Commissioner, 738 F.3d at
681.
   With respect to Globex, as Mr. Hartigan signed up inves-
tors and received the purchase price, he forwarded some of
the money to Multicred. Multicred used a portion of this
money to redeem Globex. These initial payments took place
in 2004 and thus trigger the two-year presumption in favor
of a sale. 31 Petitioners did nothing to rebut this presump-
tion, and it is only strengthened by the undated letter in
which Globex requests a redemption.
   Furthermore, Mr. Rogers sent additional money to the
account of Globalstores, which we believe to be related to
Globex, in 2006. The evidence surrounding these 2006 pay-
ments shows that Mr. Rogers believed that he had already
paid Globex. It is possible that these 2006 payments were for
the purchase of additional receivables. Either way, peti-
tioners introduced no evidence sufficient to rebut the dis-
guised-sale presumption raised by Mr. Hartigan’s payments
to Globex via Multicred in 2004. Therefore, Sugarloaf, to the
extent it was a partnership, had only a cost basis in the
Globex receivables. Because of the opaque manner of the
redemption, Sugarloaf lacks clear records of what it paid for
  31 Mr. Rogers and Mr. Hartigan spent a significant portion of the trial

disputing who paid what, when, and why. Mr. Rogers evidently believes,
or at least would have us believe, that Mr. Hartigan embezzled the money
paid by the investors and due to Sugarloaf. Mr. Hartigan says that, pursu-
ant to Mr. Rogers’ instructions, he sent the money to Multicred. Respond-
ent, to the extent he wanted to get embroiled in this dispute, states these
disagreements amount to finger-pointing possibly stemming from Mr.
Hartigan’s 10% fees. Ultimately, the evidence shows that Mr. Rogers in-
structed Mr. Hartigan to send portions of the payments Mr. Hartigan col-
lected from investors and owed to Sugarloaf, to Multicred, as constructive
distributions from Sugarloaf. To us, the intent to distribute the cash in
2004 is sufficient to invoke the disguised-sale rule. At the very least, it is
near-conclusive proof that the transfer of the receivables would not have
been made but for the promise of near-contemporaneous cash payments.
(322)       KENNA TRADING, LLC v. COMMISSIONER               355


the receivables and so has not established that its basis was
greater than zero.
   With respect to CBD, we also find that the two-year
presumption in favor of a disguised sale applies. While the
transactions here were slightly more complex, the weight of
the evidence reflects an indirect transfer of money to CBD in
exchange for a direct transfer of assets. The purported
transfer of assets took place as early as the date of the con-
tribution agreement, October 1, 2004. CBD received money
for its partnership interest by the end of December 2004. As
with the Globex receivables, petitioners have not presented
evidence sufficient to overcome the presumption under the
disguised-sale regulations that the transaction should be
treated as a sale. Therefore, in Sugarloaf ’s hands, the CBD
receivables, like the Globex receivables, had only a cost basis.
  C. Retracing Our Steps
   Once again echoing Superior Trading, we also believe that
the transactions at issue here should be collapsed to reflect
their true economic substance: a sale of receivables from the
retailers to Sugarloaf. The true substance of a transaction
rather than its nominal form governs its Federal tax treat-
ment. Superior Trading, LLC v. Commissioner, 137 T.C. at
88; see also Commissioner v. Court Holding Co., 324 U.S.
331, 334 (1945). One tool that this Court, like others, uses
to drill down to the substance of a transaction is the step
transaction doctrine. See Gordon v. Commissioner, 85 T.C.
309, 324 (1985) (‘‘[F]ormally separate steps in an integrated
and interdependent series that is focused on a particular end
result will not be afforded independent significance in situa-
tions in which an isolated examination of the steps will not
lead to a determination reflecting the actual overall result of
the series of steps.’’). In deciding whether to invoke this doc-
trine, courts generally look to one of three alternative tests:
the binding commitment test, the end result test, or the
interdependence test. Superior Trading, LLC v. Commis-
sioner, 137 T.C. at 88.
   The binding commitment test is the most restrictive and
asks whether there was a binding commitment at the time
of the first step to take the subsequent steps. Commissioner
v. Gordon, 391 U.S. 83, 96 (1968). This test ‘‘is seldom used
and is applicable only where a substantial period of time has
356         143 UNITED STATES TAX COURT REPORTS               (322)


passed between the steps that are subject to scrutiny.’’
Andantech LLC v. Commissioner, T.C. Memo. 2002–97, slip
op. at 70, aff ’d in part, remanded in part, 331 F.3d 972 (D.C.
Cir. 2003); see also McDonald’s Rests. of Ill., Inc. v. Commis-
sioner, 688 F.2d 520, 525 (7th Cir. 1982) (stating that the
test ‘‘was formulated to deal with the characterization of a
transaction that in fact spanned several tax years’’), rev’g 76
T.C. 972 (1981). The transactions in question took place
within two months at the shortest and, if we look only at Mr.
Rogers’ 2006 payment to Globex and disregard the contem-
poraneous payments by Mr. Hartigan, two years at the
longest. This is not a situation where the transactions
spanned several years, and it is unclear whether the binding
commitment test should apply. See Superior Trading, LLC v.
Commissioner, 137 T.C. at 89 (citing Associated Wholesale
Grocers, Inc. v. United States, 927 F.2d 1517, 1522 n.6 (10th
Cir. 1991), for the same proposition).
   The end result test looks to the subjective intent of the
parties and asks ‘‘whether the formally separate steps are
prearranged components of a composite transaction intended
from the outset to arrive at a specific end result.’’ Id.; see also
McDonald’s Rests. of Ill., Inc. v. Commissioner, 688 F.2d at
524. In these cases, Mr. Rogers intended from the outset to
import the foreign losses into the United States to obtain tax
benefits. He could not have done so without the alleged part-
nership contributions and subsequent distributions—other-
wise he would lose the tax basis and would be unable to allo-
cate the built-in losses to the investors.
   While no one from Globex or CBD testified as to the intent
of the Brazilian retailers, our disguised-sale analysis above
supports the conclusion that they intended from day one to
obtain cash for their assets independent of any entrepre-
neurial risk of a debt collection business. In fact, the parties
underwent transactional contortions to avoid the appearance
of a redemption. In the case of CBD, the parties used a series
of middlemen and loan documents. In the case of Globex, Mr.
Rogers and Mr. Hartigan sent the money to Globex through
Multicred. In both cases the end result is the same: The Bra-
zilian retailers received cash, and Sugarloaf acquired receiv-
ables with, in its view, built-in tax losses. The end result test
allows and encourages us to collapse the contribution of
(322)       KENNA TRADING, LLC v. COMMISSIONER               357


receivables to Sugarloaf and its subsequent distributions of
money and to treat the transactions as sales.
   The same holds true when we apply the interdependence
test, which asks ‘‘whether ‘the steps are so interdependent
that the legal relations created by one transaction would
have been fruitless without a completion of the series.’ ’’
Penrod v. Commissioner, 88 T.C. 1415, 1430 (1987) (quoting
Redding v. Commissioner, 630 F.2d 1169, 1177 (7th Cir.
1980), rev’g on other grounds 71 T.C. 597 (1979)). The steps
in the transactions among Sugarloaf, the retailers, and the
intermediaries who funneled cash to the retailers wholly lack
valid and independent economic or business purposes, which
represents the heart of the inquiry under the interdepend-
ence test. Superior Trading, LLC v. Commissioner, 137 T.C.
at 90. Petitioners cannot explain the redemption of the Bra-
zilian retailers except to claim any payments were participa-
tion payments due to Sugarloaf ’s securitization of the receiv-
ables. This feeble explanation—much like Mr. Rogers’ claims
that when he used the word ‘‘redeemed’’ in contemporaneous
documents he was using the term loosely, and that he used
the term ‘‘purchase’’ as a term of art—do not persuade us
that the cash payments to the retailers served any purpose
other than redeeming their purported partnership interests.
We find no economic or business purpose for the Brazilian
retailers’ entry into and exit from Sugarloaf. These trans-
actions’ only purpose was to facilitate the always-intended
writeoff of the receivables’ built-in losses and their allocation
to the United States tax shelter investors.
   Thus, we collapse the steps undertaken by Mr. Rogers, the
retailers, and the intermediaries. The proper characterization
of the ‘‘stepped’’ transaction is as a sale of the receivables
from the retailers to Sugarloaf. Hence, Sugarloaf ’s basis in
the receivables would be a cost basis. With respect to CBD,
the evidence shows that the money sent to CBD through
middlemen was $800,000. Thus, Sugarloaf took a basis in the
CBD receivables of $800,000. As discussed infra pp. 359–360,
this finding does not allow the trading company petitioners
a section 166 deduction because they failed to prove that
they meet the requirements of section 166.
   The evidence with respect to Globex is less clear. Globex
clearly received money from both Mr. Hartigan, via
Multicred, in 2004 and again from Mr. Rogers in 2006, but
358        143 UNITED STATES TAX COURT REPORTS            (322)


petitioners were unable to substantiate these payments in
any meaningful manner. Evidence suggests that Mr. Rogers
sent Globex $950,000 in 2006, but its not clear whether this
payment was solely duplicative of payments by Mr. Hartigan
or whether a portion of it was for a new batch of receivables.
Either way, it is not enough for us to accurately determine
Sugarloaf ’s cost basis. Consequently, petitioners having
failed to carry their burden of establishing basis, Sugarloaf
had a zero basis in the Globex receivables.
  D. Sham on You
   A general principle of Federal income taxation is that
while a taxpayer has a right to conduct transactions in a
manner that minimizes or outright avoids Federal income
tax, Gregory v. Helvering, 293 U.S. 465, 469 (1935), the tax-
payer does not have a right to use forms or structures
lacking economic substance to avoid taxation, Zmuda v.
Commissioner, 79 T.C. 714, 719, aff ’d, 731 F.2d 1417 (9th
Cir. 1984). In such a case, ‘‘[s]ubstance prevails over form.’’
Superior Trading, LLC v. Commissioner, 728 F.3d at 680.
This doctrine is as applicable in the trust context, Paulson v.
Commissioner, 992 F.2d 789, 790 (8th Cir. 1993), aff ’g T.C.
Memo. 1991–508, as it is in the partnership context, Superior
Trading, LLC v. Commissioner, 728 F.3d at 680.
   The Court of Appeals for the Seventh Circuit, addressing
a transaction almost identical to the 2004 partnership trans-
actions in these cases, said: ‘‘There is not even a colorable
basis for the tax shelter that * * * [Mr. Rogers] created and
the * * * [parties] implemented.’’ Id. at 682. Affirming this
Court’s decision for the Commissioner, the Court of Appeals
held that the Sugarloaf-type entity in that case was a sham
partnership and ‘‘entitled to none of the benefits that the
Internal Revenue Code bestows on partnerships.’’ Id. at 681.
The Court of Appeals concluded that ‘‘[n]o joint business goal
motivated the creation of Warwick’’, the Sugarloaf-type
entity, and that a redemption by Warwick of the Brazilian
retailer created the presumption of a sale, which the tax-
payers did not rebut. Id. at 680–681. The only differences in
these cases are that two different Brazilian retailers were
used, and the redemption of these retailers occurred in a
slightly different manner. But for all practical purposes, the
transactions are the same. Consequently, under the Court of
(322)        KENNA TRADING, LLC v. COMMISSIONER                      359


Appeals for the Seventh Circuit’s logic and ours, Sugarloaf
must also be a sham partnership not entitled to the benefits
of the Federal income tax laws.
  E. Statutory Noncompliance
  The loss deductions ultimately claimed by the partnerships
and by Mr. and Mrs. Rogers rested on the claim that the
receivables were bad debts. Section 166(a) provides:
    SEC. 166(a). GENERAL RULE.—
       (1) WHOLLY WORTHLESS DEBTS.—There shall be allowed as a deduc-
    tion any debt which becomes worthless within the taxable year.
       (2) PARTIALLY WORTHLESS DEBTS.—When satisfied that a debt is
    recoverable only in part, the Secretary may allow such debt, in an
    amount not in excess of the part charged off within the taxable year,
    as a deduction.

The amount of the deduction is limited to the taxpayer’s
adjusted basis. Sec. 166(b). The Code does not permit noncor-
porate taxpayers to take ordinary income deductions under
section 166 for wholly or partially worthless nonbusiness
debt, requiring that they instead treat such worthlessness as
a capital loss. Sec. 166(d)(1). Nonbusiness debt is ‘‘debt other
than—(A) a debt created or acquired (as the case may be) in
connection with a trade or business of the taxpayer; or (B)
a debt the loss from the worthlessness of which is incurred
in the taxpayer’s trade or business.’’ Sec. 166(d)(2). The tax-
payer must establish the amount of the debt that is worth-
less. Sec. 1.166–3(a)(2)(ii), Income Tax Regs.
   Respondent distills the above requirements into four ele-
ments: (1) a charge-off for a partially worthless debt, (2)
proof of a trade or business, (3) proof of worthlessness, and
(4) proof of basis in the debt. We agree with this character-
ization and also agree with respondent that petitioners have
not carried their burden of proof with respect to any of these
elements.
   First, the partnerships and the trusts, as far as we can
tell, did not keep reliable, if any, financial books or records,
particularly as to the specific receivables purchased and
which ones should be charged off. Instead a blanket 97% of
all receivables was used for charge-off purposes. Thus, peti-
tioners failed to properly show that they charged off the por-
tion of the debt claimed as a deduction.
360          143 UNITED STATES TAX COURT REPORTS                      (322)


   Second, petitioners failed to show that they acquired the
receivables in connection with a trade or business. The
trading companies and the trusts did not operate as trades
or businesses. They merely operated as conduits for losses
imported into the U.S. tax system. With one exception, there
is no evidence that any of the investors entered into these
relationships with the expectation of economic profit inde-
pendent of the tax results. 32 In addition, in the case of the
Globex receivables, it is likely that the collection efforts (the
only purported business activity with which Sugarloaf and
the other partnerships were connected) did not even begin
until a considerable time after the receivables were acquired.
   Third, petitioners failed to prove worthlessness. Evidence
in the record reflects that petitioners and Multicred could not
conduct an analysis of the individual debts. And petitioners
provided no statistical study or other analysis of which debts
or types of debts were worthless. The fact that every trading
company and trust claimed a deduction of 97% across the
board undercuts any claim that the companies truly analyzed
the assets’ value. 33
   Fourth, petitioners failed to prove they ever had bases in
the receivables equal to the deductions claimed. For the rea-
sons discussed above, petitioners had at most cost bases.
   In summary, petitioners have not carried their burden of
proving their entitlement to the claimed section 166 deduc-
tions. Respondent correctly disallowed these deductions in
full.
II. Superior Trading With a Twist of Trust
  The substantive analysis above applies equally to the 2004
and 2005 tax year transactions, in particular the trans-
   32 The one exception is Christopher Heath Brown, an investor who ques-

tioned Mr. Rogers as to when he would see results. Mr. Rogers essentially
rebuffed Dr. Brown, saying that he should be happy with the tax losses,
and Dr. Brown did not complain again.
   33 Petitioners’ only argument on the worthlessness issue, presented in

their answering brief, is: ‘‘97% built-in loss was chosen as that was the
rate of bad debt reserve provided by Arapua against the balance sheet
gross historic cost of the receivables. A partial worthlessness percentage
against CBD and Globex receivables could have been less [or more] than
the 97% used in the case of Arapua.’’ Far from carrying petitioners’ burden
of proof, this argument amounts to additional evidence that the 97%
worthlessness claim was an arbitrary number.
(322)       KENNA TRADING, LLC v. COMMISSIONER                361


actions involving Sterling Ridge that underlay the Rogerses’
claimed section 166 deduction for 2005. The Brazilian
retailers’ ‘‘contributions’’ to Sugarloaf failed to preserve the
retailers’ built-in losses in the receivables because no valid
partnership was formed, or alternatively because the ‘‘con-
tributions’’ were in fact disguised sales. Accordingly, there
was no, or next to no, section 166 deduction for the subtrusts
formed in 2005 to claim.
   Yet even leaving aside the fundamental flaws in the
transfer of assets at the Sugarloaf level, which necessarily
limit built-in losses in the assets of the trusts, the step trans-
action doctrine discussed supra pp. 355–358 applies to col-
lapse the steps in the trust transactions into sales of receiv-
ables from Sugarloaf to the main trusts.
   The steps of the 2005 transactions can be summarized as
follows. Mr. Rogers formed a main trust in the name of an
investor. He then caused Sugarloaf to ‘‘contribute’’ receiv-
ables to the main trust, formed a subtrust under that main
trust, and assigned the receivables to the subtrust. The
investor ‘‘contributed’’ cash (and/or promissory notes) to the
main trust’s bank account, which was controlled by Mr.
Rogers, and received in exchange a beneficial interest in the
receivables in the subtrust. The investor, by the terms of the
various documents, was entitled to take direct ownership of
those receivables. Sugarloaf, over the course of months,
drained the main trust bank account under the guise of
maintenance payments or other payments.
   Applying the end result test, the overall objective of these
transactions was for Mr. Rogers to sell, and for the investors
to purchase, tax losses. Achieving this objective entailed
transferring the receivables to the investor in a manner that
would preserve the receivables’ tax bases in the hands of the
Brazilian retailers while obtaining cash from the investors.
Because of the AJCA, the partnership structure was no
longer viable, so Mr. Rogers employed a trust structure
instead. The parties clearly intended that the transaction
generate tax losses well in excess of the investors’ economic
outlays. Applying the interdependence test, no independent
business or economic purpose existed for the convoluted trust
structure. The creation of the main and subtrusts would be
fruitless without the eventual flowthrough of the section 166
deductions. Thus, we have no qualms about collapsing the
362        143 UNITED STATES TAX COURT REPORTS             (322)


steps of the trust transactions. Sterling Ridge’s investment in
the 2005 trust transaction was no more than a purchase of
receivables from Sugarloaf. Thus, Sterling Ridge was entitled
to only a cost basis.
   Our foregoing conclusions regarding the collapse of the
trust transactions into sales of receivables and the basis
problems at the Sugarloaf level would each alone suffice to
disallow the Rogerses’ claimed section 166 deduction for
2005. But the 2005 trust structure fails at a more funda-
mental level, and lest Mr. Rogers’ faulty template persist as
a trap for the unwary, we proceed to explain why.
   The 2005 trust transactions were close cousins of the 2004
partnership transactions. Because built-in losses could no
longer be shifted within a partnership, while the Code con-
tained no analogous limitation for trusts, Mr. Rogers hoped
that the receivables would have a carryover basis upon con-
tribution to a trust without the relationship between the
investor and Sugarloaf turning into a partnership. See sec.
1015. After those receivables had been allocated to a subtrust
and an investor designated as its beneficiary, the investor
would be the subtrust’s beneficiary and grantor, by virtue of
the investor’s cash ‘‘contribution’’ to the main trust. Because
the terms of the various trust documents entitled the
investor to take direct ownership of the subtrust assets, Mr.
Rogers reasoned that the subtrust would be a grantor trust.
In a grantor trust, the person treated as the grantor includes
in his or her Federal taxable income, as computed on the tax
return, the trust’s items of income, deduction, and credits
against tax. See sec. 671. Hence, the investor could partake
in the receivables’ built-in losses.
   Mr. Rogers also hoped that the main and subtrusts would
qualify as trusts under the check-the-box regulations. See
sec. 301.7701–4, Proced. & Admin. Regs. But Federal law
determines how an entity organized under State law is
taxed. Moline Props., Inc. v. Commissioner, 319 U.S. 436,
438–439 (1943). Whether an arrangement is a trust generally
depends on whether ‘‘the purpose of the arrangement is to
vest in trustees responsibility for the protection and con-
servation of property for beneficiaries who cannot share in
the discharge of this responsibility and, therefore, are not
associates in a joint enterprise for the conduct of business for
profit.’’ Sec. 301.7701–4(a), Proced. & Admin. Regs.; see also
(322)          KENNA TRADING, LLC v. COMMISSIONER                         363


Morrissey v. Commissioner, 296 U.S. 344, 357, 359–360
(1935) (discussing the difference between an ordinary trust
and a business trust). The ‘‘business trust’’ label ‘‘will not
change the real character of the organization if the organiza-
tion is more properly classified as a business entity under
§ 301.7701–2.’’ Sec. 301.7701–4(b), Proced. & Admin. Regs. 34
   As a purely factual matter, the purpose of the trust
arrangements was not ‘‘to vest in trustees responsibility for
the protection and conservation of property for beneficiaries
who cannot share in the discharge of this responsibility’’. See
sec. 301.7701–4(a), Proced. & Admin. Regs. The purpose of
the main trust and the subtrust was merely to transfer tax
losses from one party to another party. The parties did not
intend to protect and conserve the receivables, as the absence
of assignment and collection documentation demonstrates.
That the trusts wrote off most of the receivables within
weeks or months of their formation reveals for the fiction
that it is the proposition that the trustee here protected and
conserved the trusts’ assets. Therefore, neither the main
trusts nor the subtrusts appear to be trusts for Federal
income tax purposes. Nor can we properly classify them as
‘‘business trusts’’, given that they did not operate ‘‘to provide
a medium for the conduct of a business and sharing its
gains.’’ See Morrissey v. Commissioner, 296 U.S. at 357.
   Because these entities were not trusts for the purposes of
Federal income tax law, we are left to determine what hap-
  34 Mr.  Rogers calls his trusts Illinois business trusts. Such entities,
under State law, are not partnerships. Schumann-Heink v. Folsom, 159
N.E. 250, 252 (Ill. 1927) (discussing a Massachusetts business trust). A
business trust can be a trust ‘‘ ‘where the owners of a business, or of shares
in a business corporation, transfer the property of the business, or all or
a large part of the stock, to trustees for themselves.’ ’’ Hanley v. Kusper,
337 N.E.2d 1, 6 (Ill. 1975) (quoting G. Bogert, The Law of Trusts and
Trustees, sec. 270.40, at 347 (2d ed. 1964)).
   Sec. 301.7701–4(b), Proced. & Admin. Regs., merely restates the general
principle that labels used by taxpayers are not conclusive. See Frank Lyon
Co. v. United States, 435 U.S. 561, 583–584 (1978); see also Hutchinson v.
Commissioner, 47 T.C. 680, 686 (1967) (‘‘ ‘Mere forms of instruments, of
course, and the use of words ‘trust’ and ‘trustee’ cannot be depended upon
in determining whether or not a trust is in reality created. The transaction
itself must be scrutinized.’ ’’ (quoting Morsman v. Commissioner, 90 F.2d
18, 23 (8th Cir. 1937), aff ’g 33 B.T.A. 800 (1935))). We look beyond Mr.
Rogers’ labels.
364         143 UNITED STATES TAX COURT REPORTS          (322)


pened. Usually, such an entity with two or more members
would, by default, be considered a partnership. Sec.
301.7701–2, Proced. & Admin. Regs. But there was no more
intent for the investor and Sugarloaf to join together to con-
duct a debt-collection business than there was for Sugarloaf
and the Brazilian retailers to join together in such a busi-
ness. See Commissioner v. Culbertson, 337 U.S. at 742; supra
pp. 351–353. Therefore, we are left in a situation analogous
to that with the Brazilian retailers and Sugarloaf. The
investor exchanged cash for receivables, which were intended
to generate tax losses. We note that even if we were to find
that the trust investor and Sugarloaf entered into a partner-
ship, the AJCA would prevent the shifting of losses away
from a contributing partner, and the disguised sales rules of
section 707 would also come into play.
   Under both the step transaction doctrine and the rules
governing trusts, neither the Sterling Ridge Trust nor its
subtrust was a trust for Federal income tax purposes.
Rather, Sterling Ridge as a stand-alone entity purchased the
receivables from Sugarloaf.
   Finally, as we concluded with Sugarloaf, we find that the
Sterling Ridge Trust and subtrust lacked economic substance
and were shams. Sterling Ridge Trust and subtrust were not
trusts for the purposes of Federal income tax law. The par-
ties did not intend for the trustee to preserve and conserve
the assets for the beneficiaries. Consequently, Mr. and Mrs.
Rogers were entitled to none of the Federal income tax bene-
fits of the trust structure. See Superior Trading, LLC v.
Commissioner, 728 F.3d at 681 (‘‘ ‘An entity without economic
substance, whether a sham partnership or a sham trust, is
a sham either way and hence is not recognized for federal tax
law purposes.’ ’’ (quoting Sparkman v. Commissioner, 509
F.3d 1149, 1156 n.6 (9th Cir. 2007), aff ’g T.C. Memo. 2005–
136)).
   For the foregoing reasons, we conclude that respondent
properly disallowed the Rogerses’ claimed section 166 deduc-
tion for 2005.
III. The Devil’s in the Details
   Respondent determined that Sugarloaf greatly overstated
its cost of goods sold on its partnership return by taking the
(322)         KENNA TRADING, LLC v. COMMISSIONER                         365


position that its cost of goods sold was equal to its claimed
carryover basis in the ‘‘contributed’’ receivables. We agree.
For the reasons stated above, Sugarloaf failed to prove that
it had a basis in the Globex receivables and failed to prove
it had a basis greater than $800,000 in the CBD receivables.
At most, therefore, Sugarloaf proved a basis of $800,000 in
the partnership interests it sold. Sugarloaf is entitled to a
cost of goods sold of only $800,000. 35
   With respect to the deductions respondent disallowed,
Sugarloaf is not entitled to them. Deductions are ‘‘a matter
of legislative grace’’, and taxpayers bear the burden of
proving that they are entitled to any deduction. Rule 142(a);
INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 (1992).
Taxpayers must identify each deduction, show they meet all
requirements, and substantiate all items underlying claimed
deductions. Sec. 6001; Roberts v. Commissioner, 62 T.C. 834,
836–837 (1974). Section 162(a) allows a deduction for all
ordinary and necessary business expenses paid or incurred in
connection with a trade or business. But ‘‘expenditures made
in an attempt to obtain abusive tax shelter benefits are not
ordinary and necessary business expenses or otherwise
deductible under section 162(a).’’ Gerdau Macsteel, Inc. v.
Commissioner, 139 T.C. 67, 182 (2012). The transactions in
question were tax shelters, and Sugarloaf ’s claimed expendi-
tures were made in an attempt to obtain abusive tax shelter
benefits. 36
  35 We  note that while ‘‘economic substance is a prerequisite to the appli-
cation of any Code provision allowing deductions,’’ Lerman v. Commis-
sioner, 939 F.2d 44, 52 (3d Cir. 1991), aff ’g T.C. Memo. 1988–570, cost of
goods sold is not a deduction, see Azimzadeh v. Commissioner, T.C. Memo.
2013–169, at *12-*13 (citing Metra Chem. Corp. v. Commissioner, 88 T.C.
654, 661 (1987)).
   36 Furthermore, Jetstream, through Mr. Rogers, failed to substantiate

items underlying Sugarloaf ’s deductions. The record includes only a
Quickbooks transaction record for most expenses and canceled checks
drawn on Sugarloaf ’s bank account to Mr. Gabel and to Seyfarth Shaw.
Sugarloaf ’s records are generally unreliable, and we do not accept the
Quickbooks records as sufficient substantiation. While Mr. Gabel testified
that he provided services to Sugarloaf during the years at issue, we have
no invoices or other proof, including testimony, of the extent of his serv-
ices. Mr. Rogers failed to provide evidence as to the nature and extent of
the services provided by Seyfarth Shaw. Because of the confusing flows of
money among the investors, Seyfarth Shaw, Sugarloaf, and various other
                                                Continued
366           143 UNITED STATES TAX COURT REPORTS                     (322)


  Respondent also determined that Sugarloaf understated its
gross income based upon a bank deposits analysis. Petitioner
Jetstream disputes certain deposits for both 2004 and 2005
and accordingly bears the burden of proving that respond-
ent’s inclusion of these deposits in Sugarloaf ’s income is
incorrect. See DiLeo v. Commissioner, 96 T.C. 858, 869
(1991), aff ’d, 959 F.2d 16 (2d Cir. 1992).
  With respect to the two disputed deposits in 2004, Mr.
Rogers claims that both were equity contributions to
Sugarloaf. Unfortunately, Mr. Rogers provides no evidence
other than his self-serving testimony and a balance sheet.
Mr. Rogers disavows the accuracy of the balance sheet with
respect to some entries, but expects us to accept it as
accurate with respect to others. 37 We decline to do so. In
addition, his testimony conflicts with the tax returns filed by
Sugarloaf. He did not provide contribution agreements or
other indicia of an equity investment by the depositing
individuals. Thus, we cannot conclude that these payments
were equity contributions. Mr. Rogers did not provide any
other explanation for these deposits, and he did not carry
Jetstream’s burden of proof that these deposits were other
than income to Sugarloaf.
  With respect to the disputed 2005 deposits, Mr. Rogers
claims these deposits are either capital contributions (equity
deposits) or amounts transferred to Sugarloaf that should
have been deposited directly into trust accounts (trust
deposits). As with the 2004 deposits, we reject Mr. Rogers’
position. He introduced no evidence, other than self-serving
testimony and Quickbooks records, that the equity deposits
were in fact equity contributions. As to the July 28,
November 10, and November 30, 2005, deposits, Sugarloaf ’s
Quickbooks entries indicate these deposits were from PPI
funds or, in the case of the November 30 deposit, Sterling
Ridge. But, there is no corroborating evidence that these

entities, and in light of the lack of a factual basis on which to make esti-
mates, we decline to estimate the extent of services, and hence we bear
heavily on Sugarloaf ’s inexactitude. See Williams v. United States, 245
F.2d 559, 560 (5th Cir. 1957); Cohan v. Commissioner, 39 F.2d 540, 543–
544 (2d Cir. 1930); Vanicek v. Commissioner, 85 T.C. 731, 742–743 (1985).
  37 On brief, Mr. Rogers contends that the amounts shown as equity inter-

ests for Multicred and Sugarloaf Overseas are loans, not equity invest-
ments.
(322)         KENNA TRADING, LLC v. COMMISSIONER                       367


deposits actually came from PPI, and frankly, we do not find
Mr. Rogers’ testimony or the Quickbooks entries credible.
With respect to the alleged Sterling Ridge deposit, we have
no way of knowing whether the deposit came from Sterling
Ridge, Inc., or the Sterling Ridge Trust, if it even came from
either of these sources.
  With respect to the alleged Multicred equity deposit, we
have rejected petitioner’s contention that Multicred was a
partner in Sugarloaf and likewise reject its contention that
this deposit was an equity contribution. The Quickbooks
entries alone are insufficient to prove these deposits were
equity investments. Cf. Olive v. Commissioner, 139 T.C. 19,
32–33 (2012) (holding that general ledgers by themselves are
insufficient to substantiate items underlying a taxpayer’s
claimed deductions); Ohana v. Commissioner, T.C. Memo.
2014–83, at *21 (finding Quickbooks records of expenses a
summary of the taxpayer’s assertions, which, when
uncorroborated, are not enough to substantiate items under-
lying the taxpayer’s claimed deductions).
  While the names of the transferors are consistent with
those of trust investors, Mr. Rogers has nonetheless failed to
convince us that the trust deposits are anything but income
to Sugarloaf. First, we have no evidence that these amounts
were ever transferred to the trust bank accounts. Second,
and conclusively here, we found that in these 2005 trans-
actions, the investors each purchased a tranche of receivables
from Sugarloaf, making the money paid into the trust
accounts income to Sugarloaf under section 1001. So, regard-
less of whether the 2005 investors’ payments went into the
trust accounts or directly to Sugarloaf, those amounts were
still income to Sugarloaf. 38




  38 We  note that respondent has determined only that the six trust depos-
its actually deposited into Sugarloaf ’s bank account constitute income.
Under our findings, all payments by the trust investors would constitute
income to Sugarloaf, less fees retained by the promoters. We will not ques-
tion respondent’s magnanimity.
368          143 UNITED STATES TAX COURT REPORTS                   (322)


IV. In the Penalty Box 39
  A. Section 6662
  Respondent determined penalties against all of the part-
nerships in these consolidated cases—that is, for Sugarloaf
and for each of the trading companies. He determined that
the partnerships were liable for the gross valuation
misstatement penalty under section 6662(h) on portions of
their underpayments attributable to misstatements of their
respective bases in the receivables. Respondent also deter-
mined that Sugarloaf is liable for the accuracy-related pen-
alty for negligence or, in the alternative, substantial under-
statements of income tax on portions of its underpayments
attributable to its additional income and the disallowed
deductions. He bears the burden of production with respect
to these accuracy-related penalties, but petitioners bear the
burden of proof if respondent meets his burden of production.
See Higbee v. Commissioner, 116 T.C. 438, 446–447 (2001).
  Section 6662(a) and (b)(3) provides for a 20% penalty to be
imposed on the portion of an underpayment of tax required
to be shown on a return that is attributable to a substantial
valuation misstatement. As relevant here, for returns filed
after August 17, 2006, a substantial valuation misstatement
occurs when ‘‘the value of any property (or the adjusted basis
of any property) claimed on any return of tax imposed by
chapter 1 is 150 percent or more of the amount determined
to be the correct amount of such valuation or adjusted basis
(as the case may be)’’. Sec. 6662(e)(1)(A). For returns filed on
or before August 16, 2006, the percentage was 200% instead
of 150%. Pension Protection Act of 2006, Pub. L. No. 109–
280, sec. 1219(a)(1)(A), (e), 120 Stat. at 1083, 1085. Section
6662(h) increases this penalty to 40% if the value or adjusted
basis claimed on the return is 200% or more of the actual
value or adjusted basis. For returns filed on or before August
16, 2006, the 40% penalty applies if the value or adjusted
basis is 400% or more of the actual basis or value. Id. sec.
1219(a)(2)(A). A regulation clarifies that, when the actual
value or basis is zero, that value is considered 400% or more
  39 We do not here redetermine the penalties determined against Mr. and

Mrs. Rogers and Mr. Fears with respect to their Forms 1040, U.S. Indi-
vidual Income Tax Return. See supra note 6.
(322)       KENNA TRADING, LLC v. COMMISSIONER              369


of the correct amount. Sec. 1.6662–5(g), Income Tax Regs.
Petitioners do not challenge application of this regulation.
See United States v. Woods, 571 U.S. ll, ll, 134 S. Ct.
557, 566 n.4 (2013) (noting the inherent mathematical
problem of dividing a number by zero).
   In these cases, respondent has met his burden of produc-
tion. The Globex receivables had a zero basis, and the part-
nerships with those receivables grossly overstated their bases
in those receivables. For the CBD receivables, which had a
total combined basis of $800,000, the partnerships (including
two not at issue here) reported a total adjusted basis of
$48,600,000. Assuming that each partnership received a
tranche of receivables with a basis equal to its pro rata share
of the $800,000 aggregate basis, each partnership overstated
its basis by far more than 400%. Furthermore, Sugarloaf ’s
aggregate claimed adjusted basis in the partnership interests
it sold was far more than 400% of the actual adjusted basis,
which we found to be, in total, $800,000.
   An accuracy-related penalty will not be imposed ‘‘with
respect to any portion of an underpayment if it is shown that
there was a reasonable cause for such portion and that the
taxpayer acted in good faith’’. Sec. 6664(c)(1). When deter-
mining whether a partnership had reasonable cause and
acted in good faith, we look to the general partner. Superior
Trading, LLC v. Commissioner, 137 T.C. at 91. During the
years at issue Jetstream was the managing member of
Sugarloaf and each of the trading companies. We do not
believe Mr. Rogers when he claims that Mr. Mazzucchelli
was the manager of Sugarloaf. We think that claim, along
with the engagement letter between Sugarloaf and Seyfarth
Shaw, a poorly veiled attempt to get around the conflict of
interest inherent in having Mr. Rogers’ law firm represent a
limited liability company controlled, through its tax matters
partner, Jetstream, by Mr. Rogers. Mr. Rogers, through Jet-
stream, was the only individual with the authority to act on
behalf of Sugarloaf and the trading companies, and it is his
conduct that is relevant for determining whether we should
sustain the determined accuracy-related penalties.
   As was the case in Superior Trading, Mr. ‘‘Rogers’ knowl-
edge and experience should have put him on notice that the
tax benefits sought by the form of the transactions would not
be forthcoming and that these transactions would be re-
370        143 UNITED STATES TAX COURT REPORTS            (322)


characterized and stepped together to reveal their true sub-
stance.’’ Id. at 92. We reject his contention that he reason-
ably relied on the advice of tax professionals. See
Neonatology Assocs., P.A. v. Commissioner, 115 T.C. 43, 99
(2000) (establishing a three-factor test for determining
whether reliance on tax professionals may be reasonable
cause), aff ’d, 299 F.3d 221 (3d Cir. 2002). Mr. Rogers’ asser-
tions on brief that he relied upon outside professionals lack
even a smidgen of evidentiary foundation other than his own
testimony.
   Petitioners have not borne their burden of proof under sec-
tion 6664(c) with respect to any of the partnerships, and we
therefore hold that the section 6662(a) and (h) penalty
applies. To be clear, this penalty applies against the trading
companies, for overstating their bases in the receivables, as
well as to Sugarloaf. In Sugarloaf ’s case, it not only over-
stated its basis in the receivables but also overstated its
basis in the trading companies that it subsequently sold,
resulting in a grossly overstated cost of goods sold.
   Further, we find that an accuracy-related penalty of 20%
applies to the portions of the undepayments attributable to
Sugarloaf ’s omissions from gross income and disallowed
deductions. A section 6662(a) penalty applies to portions of
an underpayment of tax due to negligence or disregard of
rules and regulations or to a substantial understatement of
income tax if the amount of the understatement exceeds the
greater of $5,000, $10,000 in the case of a corporation, or
10% of the tax required to be shown on the return. Sec.
6662(b)(1) and (2).
   We conclude that respondent has met his burden of
production with respect to the penalty for negligence or dis-
regard of rules and regulations. Petitioners failed to substan-
tiate the items underlying their deductions and provide a
reasoned and convincing explanation for the deposits. Their
recordkeeping appears to have been scanty to nonexistent,
and noncontemporaneous beyond a Quickbooks log, which we
did not find credible and will not rely on. The cashflows
to and from Sugarloaf are confusing, and Mr. Rogers’
failure to keep records of the alleged contributions to capital
and to explain contemporaneous document equity ownership
totaling up to 215% is negligent at best. Furthermore, for the
same reasons discussed above, Mr. Rogers has fallen well
(322)       KENNA TRADING, LLC v. COMMISSIONER              371


short of his burden of proving reasonable cause and good
faith.
  B. Section 6662A
   Respondent also seeks to impose a section 6662A penalty
on Sugarloaf for its 2004 and 2005 tax years. Section 6662A
imposes a 20% penalty on understatements due to reportable
transactions or listed transactions. Sec. 6662A(a), (b)(2). This
penalty increases to 30% if the taxpayer does not adequately
disclose the transaction. Sec. 6662A(c).
   For the same reasons discussed below with respect to the
2005 tax year, we find that respondent has satisfied his bur-
den of production as to this penalty for 2004. However, the
section 6662A penalty does not apply with respect to the por-
tion of an understatement on which a gross valuation
misstatement penalty is imposed. Sec. 6662A(e)(2)(B). We
have imposed the gross valuation misstatement penalty on
the portions of the 2004 understatement of Sugarloaf that
would be subject to the section 6662A penalty, so that pen-
alty does not apply to any amount for Sugarloaf ’s 2004 tax
year.
   As for Sugarloaf ’s 2005 tax year, respondent wants us to
apply the section 6662A penalty to ‘‘any understatement
attributable to adjustments to Sugarloaf ’s tax characteriza-
tion of the DAT [distressed asset trust] transaction in 2005’’.
Respondent contends that the DAT transaction is a listed
transaction, and Sugarloaf did not disclose it.
   Section 6662A(d) refers us to section 6707A(c)(2) for the
definition of a listed transaction. The Code defines a listed
transaction as a tax avoidance transaction identified by the
Internal Revenue Service (IRS) and points us to the regula-
tions under section 6011. Sec. 6707A(c)(2). The regulations
define a listed transaction as the same as or substantially
similar to any transaction identified by the IRS as such in
a ‘‘notice, regulation, or other form of published guidance’’.
Sec. 1.6011–4(b)(2), Income Tax Regs. A substantially similar
transaction is ‘‘either factually similar or based on the same
or similar tax strategy.’’ Sec. 1.6011–4(c)(4), Income Tax
Regs.
   In these cases, no one disputes that the trust transactions
are substantially similar to the transaction identified in
372          143 UNITED STATES TAX COURT REPORTS                      (322)


Notice 2008–34, 2008–1 C.B. 645. 40 Generally, the IRS
requires a taxpayer to disclose listed transactions on a state-
ment attached to the taxpayer’s return. Sec. 1.6011–4(e)(1),
Income Tax Regs. In these cases, the IRS issued the notice
on March 24, 2008, well after Sugarloaf filed its 2005 tax
return on October 14, 2006. The regulations in effect for the
tax years at issue covered just such a situation, requiring the
taxpayer to file a disclosure statement ‘‘as an attachment to
the taxpayer’s tax return next filed after the date the trans-
action is listed’’. Sec. 1.6011–4(e)(2)(i), Income Tax Regs. Nei-
ther Sugarloaf nor its tax matters partner filed such a disclo-
sure statement. Section 6664(d)(1) provides a reasonable
cause and good faith defense to the section 6662A penalty,
but only if the transaction is disclosed. Thus, the 30% pen-
alty applies to the portion of Sugarloaf ’s 2005 understate-
ment that stems from the trust transactions to the extent the
understatement is not already subject to the 40% section
6662(h) gross valuation misstatement penalty. See sec.
6662A(e)(2)(B).
V. Conclusion
  Contrary to Mr. Rogers’ contentions throughout these
cases, the 2004 partnership structures did not materially
  40 Mr.  Rogers, on Sugarloaf ’s behalf, contends that Notice 2008–34,
2008–1 C.B. 645, is invalid as a violation of Executive Order 12866, 3
C.F.R. 638 (1994). He believes that Notice 2008–34, supra, is a significant
regulatory action, and that under Executive Order 12866 the Office of
Management and Budget (OMB) must review proposed significant regu-
latory action. Because OMB did not do so, Mr. Rogers argues the notice
is invalid. In so arguing, he ignores section 10 of the executive order,
which states:
  Nothing in this Executive order shall affect any otherwise available judi-
  cial review of agency action. This Executive order is intended only to im-
  prove the internal management of the Federal Government and does not
  create any right or benefit, substantive or procedural, enforceable at law
  or equity by a party against the United States, its agencies or instru-
  mentalities, its officers or employees, or any other person. [Exec. Order
  No. 12866, 3 C.F.R. at 649.]
Mr. Rogers cannot challenge Notice 2008–34, supra, as not in compliance
with the executive order. See Blak Invs. v. Commissioner, 133 T.C. 431,
447 (2009) (rejecting for the same reason a taxpayer’s challenge to tem-
porary regulations under Executive Order 12866), supplemented by T.C.
Memo. 2012–273.
(322)       KENNA TRADING, LLC v. COMMISSIONER              373


differ from the 2003 structures at issue in Superior Trading,
LLC. Like Arapua in Superior Trading, LLC, the Brazilian
retailers in these cases were also redeemed out of the parent
partnership (in that case, Warwick), resulting in a deemed
sale of the receivables to Sugarloaf. And Mr. Rogers provided
no convincing evidence that the structure in these cases had
any objective independent of the shifting of losses from a tax-
indifferent party to a tax-motivated party.
   The 2005 trust transactions differed little from the 2004
transactions. They suffer from the same fatal flaws as the
2004 transactions—namely, the planned and near-contem-
poraneous redemption of the Brazilian retailers. Further, the
form of the transaction, when appropriately stepped together,
consists of a sale of receivables to the investors. We treat it
as such. In addition, the 2005 trust transaction was devoid
of economic substance, and we will therefore issue an order
stating that Mr. and Mrs. Rogers are not entitled to the sec-
tion 166 deduction they claimed on their 2005 tax return.
   This Opinion makes abundantly clear that neither the
2004 partnership transaction nor the 2005 trust transaction
works, and we have discussed myriad reasons why not.
These reasons constitute ‘‘alternative holdings, each by itself
sufficient to sustain respondent’s adjustments’’. Superior
Trading, LLC v. Commissioner, T.C. Memo. 2012–110, slip
op. at 7.
   Moreover, Jetstream, through Mr. Rogers, failed to
successfully carry its burden of proof with respect to any of
Sugarloaf ’s claimed deductions on its 2004 and 2005 tax
returns. Mr. Rogers similarly failed to provide convincing
explanations for the challenged gross receipts in Sugarloaf ’s
2004 and 2005 tax years.
   Sugarloaf is liable for the 40% gross valuation
misstatement penalty for the 2004 tax year for overstating
the bases of its interests in the holding companies sold to
investors. The remaining partnerships in these cases are
likewise liable for the 40% gross valuation misstatement pen-
alty for overstating their bases in the receivables. Sugarloaf
is further liable for a 20% accuracy-related penalty under
section 6662(a) and (b)(1) for the portions of the underpay-
ments due to the disallowed deductions for the 2004 and
2005 tax years and the amounts of income omitted from its
2004 and 2005 tax returns. Sugarloaf is also liable for a 30%
374           143 UNITED STATES TAX COURT REPORTS                     (322)


penalty under section 6662A for the reportable transaction
understatement attributable to the 2005 trust structure.
  The Court has considered all of the parties’ contentions,
arguments, requests, and statements. To the extent not dis-
cussed herein, the Court concludes that they are moot, irrele-
vant, or without merit. 41
                      Appropriate orders will be issued at docket
                    Nos. 27636–09 and 30586–09, decision will
                    be entered under Rule 155 in docket No. 671–
                    10, and decisions will be entered for
                    respondent in all other cases.


                                APPENDIX

Kenna Trading, LLC, Jetstream Business Limited, Tax Mat-
ters Partner, docket No. 7551–08; Connemara Trading
Group, LLC, Jetstream Business Limited, Tax Matters
Partner, docket No. 7552–08; Zugersee Trading, LLC, Jet-
stream Business Limited, Tax Matters Partner, docket No.
7553–08; Bielersee Trading, LLC, Jetstream Business Lim-
ited, Tax Matters Partner, docket No. 7554–08; Ridgeway
Fund, LLC, Jetstream Business Limited, Tax Matters
Partner, docket No. 7555–08; Grey Stone Trading, LLC, Jet-
stream Business Limited, Tax Matters Partner, docket No.
7556–08; Turnberry Trading, LLC, Jetstream Business Lim-
ited, Tax Matters Partner, docket No. 7618–08; Northgate
Trading, LLC, Jetstream Business Limited, Tax Matters
Partner, docket No. 7625–08; Thornhill Trading, LLC, Jet-
stream Business Limited, Tax Matters Partner, docket No.
9021–08; Saddlebrook Trading, LLC, Jetstream Business
Limited, Tax Matters Partner, docket No. 9035–08; Suten
Fund, LLC, Jetstream Business Limited, Tax Matters
Partner, docket No. 9036–08; Remington Trading, LLC, Jet-
stream Business Limited, Tax Matters Partner, docket No.
   41 For instance, we find Mr. Rogers’ contention that respondent’s failure

to audit the subtrusts’ returns is fatal to be without merit. Likewise, re-
spondent’s statement in his answer in docket No. 671–10 that he prepared
the answer without benefit of the administrative file does not render the
determined deficiency arbitrary and capricious. Finally, we reject Mr. Rog-
ers’ claim to a deduction for Sugarloaf for income reported by Warwick on
its 2003 tax return but purportedly never received.
(322)      KENNA TRADING, LLC v. COMMISSIONER          375


9037–08; R B Taylor Trading, LLC, Jetstream Business Lim-
ited, Tax Matters Partner, docket No. 9038–08; Riversedge
Fund, LLC, Jetstream Business Limited, Tax Matters
Partner, docket No. 9039–08; Murtensee Trading, LLC,
Arrowhead Fund, LLC, Tax Matters Partner, docket No.
9040–08; Monte Rosa Fund, LLC, Jetstream Business Lim-
ited, Tax Matters Partner, docket No. 9041–08; Ofenpass
Fund, LLC, Jetstream Business Limited, Tax Matters
Partner, docket No. 9042–08; Knight Trading, LLC, Jet-
stream Business Limited, Tax Matters Partner, docket No.
9121–08; Essex Fund, LLC, Jetstream Business Limited, Tax
Matters Partner, docket No. 9122–08; Lyman Trading, LLC,
Jetstream Business Limited, Tax Matters Partner, docket
No. 9123–08; Dent-Blanche Fund, LLC, Jetstream Business
Limited, Tax Matters Partner, docket No. 9124–08; Harlan
Fund, LLC, Jetstream Business Limited, Tax Matters
Partner, docket No. 9125–08; Grand-Combin Fund, LLC, Jet-
stream Business Limited, Tax Matters Partner, docket No.
9126–08; Larkspur Trading, LLC, Jetstream Business Lim-
ited, Tax Matters Partner, docket No. 9127–08; Lakeview
Trading, LLC, Jetstream Business Limited, Tax Matters
Partner, docket No. 9128–08; Davis Fund, LLC, Jetstream
Business Limited, Tax Matters Partner, docket No. 14094–
08; Cumnor Trading, LLC, Jetstream Business Limited, Tax
Matters Partner, docket No. 16796–08; Bodensee Fund, LLC,
Jetstream Business Limited, Tax Matters Partner, docket
No. 19924–08; Ironwood Trading, LLC, Windmere Fund,
LLC, Tax Matters Partner, docket No. 19925–08; Zurichsee
Trading, LLC, Jetstream Business Limited, Tax Matters
Partner, docket No. 13980–09; Zugersee Trading, LLC, Jet-
stream Business Limited, Tax Matters Partner, docket No.
13981–09; Warner Fund, LLC, Jetstream Business Limited,
Tax Matters Partner, docket No. 13982–09; Riversedge Fund,
LLC, Jetstream Business Limited, Tax Matters Partner,
docket No. 13983–09; Gary R. Fears, docket No. 27636–09;
John E. Rogers & Frances L. Rogers, docket No. 30586–09;
Sugarloaf Fund, LLC, Jetstream Business Limited, Tax Mat-
ters Partner, docket No. 671–10.

                      f
