                       T.C. Memo. 1996-476



                     UNITED STATES TAX COURT



        LEON L. SICARD AND ELEANOR SICARD, Petitioners v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 11870-93.                 Filed October 22, 1996.



     Jonathan B. Dubitzky and Jesse M. Fried, for petitioners.

     David M. Brodsky and Madlyn B. Coyne, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     WELLS, Judge: The instant matter is before us on

petitioners' motion for reasonable administrative and litigation

costs pursuant to section 7430 and Rule 231.   Unless otherwise

noted, all section references are to the Internal Revenue Code

(Code) in effect at the relevant times, and all Rule references
                               - 2 -

are to the Tax Court Rules of Practice and Procedure.   Neither

party has requested a hearing on petitioners' motion.

Accordingly, we rule on petitioners' motion based on the parties'

submissions and the record in the instant case as a whole.    We

incorporate by reference herein the portions of our opinion on

the merits in the instant case, Sicard v. Commissioner, T.C.

Memo. 1996-173, that are relevant to our disposition of the

motion.

     On April 10, 1996, we issued our opinion in Sicard, in which

we held that a payment received by petitioner Leon Sicard

(petitioner) during 1987 from the White-Sicard Co. partnership

(partnership), of which he was a partner, was a guaranteed

payment within the meaning of section 707(c) and was therefore

includable in his income during the years that it was accrued by

the partnership.1   The years during which the guaranteed payment

was accrued by the partnership were closed at the time the notice

of deficiency in the instant case was issued to petitioners, and

we did not sustain respondent's determination that the payment

was includable in income for the year during which it was

received.   The payment was not included in petitioner's income


1
     The partnership used the accrual method of accounting, while
petitioner used the cash method. A guaranteed payment is
includable in a partner's income for the partner's taxable year
during which the payment is taken into account pursuant to the
partnership's method of accounting. Pratt v. Commissioner, 64
T.C. 203, 212-214 (1975), affd. in part and revd. in part on
another issue 550 F.2d 1023 (5th Cir. 1977).
                                - 3 -

during the years when it was accrued by the partnership because

of an oversight on the part of the accountants for the

partnership and petitioner.

     In general, section 7430(a) provides for the award of

reasonable administrative and litigation costs to a taxpayer who

is a prevailing party in an administrative or court proceeding

brought against the United States involving the determination of

any tax, interest, or penalty pursuant to the Code.    To be a

"prevailing party" a taxpayer must establish that:    (1) The

position of the United States was not substantially justified;

(2) the taxpayer substantially prevailed with respect to either

the amount in controversy or the most significant issue or set of

issues presented; and (3) as pertinent to the instant matter, the

taxpayer met the net worth requirements of 28 U.S.C. sec.

2412(d)(2)(B) (1994) at the time the petition in the case was

filed.   Sec. 7430(c)(4)(A).   Additionally, an award of litigation

costs may be made only where a taxpayer has exhausted available

administrative remedies, sec. 7430(b)(1), and no award of costs

may be made with respect to any portion of an administrative or

judicial proceeding that the taxpayer has unreasonably

protracted, sec. 7430(b)(4).   Moreover, the costs claimed must be

reasonable in amount.   Sec. 7430(c).
                               - 4 -

     Petitioners bear the burden of proving that each of the

foregoing requirements has been satisfied.2   Rule 232(e).   The

requirements are conjunctive, and failure to prove any one will

preclude an award of costs to petitioners.    Minahan v.

Commissioner, 88 T.C. 492, 497 (1987).

     Respondent contends that petitioners have not shown that the

position of the United States was not substantially justified and

that the amount of attorney's fees claimed is not reasonable

because the applicable cost of living adjustment (COLA) was

improperly calculated.   Respondent concedes that petitioners have

satisfied the other requirements for the award of reasonable

administrative and litigation costs.    We shall first consider

whether respondent's position was substantially justified.

     A position is substantially justified if it is justified to

a degree that could satisfy a reasonable person and has a

reasonable basis in both fact and law.    Pierce v. Underwood, 487

U.S. 552, 565 (1988); Nalle v. Commissioner, 55 F.3d 189, 191

(5th Cir. 1995), affg. T.C. Memo. 1994-182; Swanson v.

Commissioner, 106 T.C. 76, 86 (1996).    The determination of

reasonableness is based on all of the facts and circumstances

surrounding the proceedings.   Nalle v. Commissioner, supra at


2
     Because the relevant proceedings in the instant case were
commenced prior to the date of enactment of the Taxpayer Bill of
Rights 2, Pub. L. 104-168, sec. 701, 110 Stat. 1452, 1463 (1996),
respondent does not bear the burden of proving that the position
of the United States was substantially justified.
                               - 5 -

191.   A position has a reasonable basis in fact if there is such

relevant evidence as a reasonable mind might accept as adequate

to support a conclusion.   Pierce v. Underwood, supra at 564-565.

The inquiry must be based on the facts reasonably available to

the Commissioner when the position was maintained.    Coastal

Petroleum Refiners, Inc. v. Commissioner, 94 T.C. 685, 689

(1990).   The fact that the Commissioner loses on the merits does

not establish that a position was not substantially justified,

but it is a factor to be considered.   Nalle v. Commissioner,

supra at 192; Wilfong v. United States, 991 F.2d 359, 364 (7th

Cir. 1993); Estate of Perry v. Commissioner, 931 F.2d 1044, 1046

(5th Cir. 1991); Powers v. Commissioner, 100 T.C. 457, 471

(1993).   The failure of the evidence favoring the Commissioner's

position to persuade the trier of fact does not mean that the

Commissioner's position did not have a reasonable basis in fact

unless that evidence is unusually scanty or unworthy of belief.

VanderPol v. Commissioner, 91 T.C. 367, 370 (1988).   The

Commissioner cannot escape an award of costs pursuant to section

7430 simply because a case presents questions of fact, Minahan v.

Commissioner, supra at 500-502, or of witness credibility,

Windsor Production Corp. v. Commissioner, T.C. Memo. 1995-556.      A

position is not substantially justified in law if legal precedent

does not substantially support the Commissioner's position given

the facts available to the Commissioner.   Coastal Petroleum

Refiners, Inc. v. Commissioner, supra at 688.
                               - 6 -

     For purposes of petitioners' motion, respondent took a

position in the administrative proceeding when the statutory

notice of deficiency was issued to petitioners on March 11, 1993,

sec. 7430(c)(7)(B), and in the court proceeding when the answer

to the petition was filed on July 26, 1993, Huffman v.

Commissioner, 978 F.2d 1139, 1148 (9th Cir. 1992), affg. in part,

revg. in part and remanding T.C. Memo. 1991-144.   Although

ordinarily the reasonableness of each of those positions is

considered separately to allow respondent to change her position,

id. at 1144-1147, it appears that respondent took the same

position in both the notice and the answer.   In the instant case,

respondent determined that the payment in question, which

petitioner received from the partnership during 1987, was taxable

in that year.   In the answer, respondent denied petitioners'

allegations that the payment represented a guaranteed payment

that was taxable to petitioner in the years when the payment was

accrued by the partnership pursuant to section 707(c) and the

regulations thereunder.

     At those times, respondent argued that the payment in

question was a payment governed by section 707(a) that was

taxable when received, and that the duty of consistency barred

petitioners from contending that the payment was taxable in

closed years.   Petitioners contend that those positions were not

substantially justified based on the facts in the record and the

applicable law.   Those arguments were abandoned by respondent 2
                              - 7 -

weeks prior to trial, and, at trial, respondent instead argued

that petitioner had implicitly adopted the cash method of

accounting for the payment in question.   Respondent refers to the

change of theories as a "narrowing" of positions resulting from

development of facts through discovery after the court proceeding

was commenced and suggests that respondent maintained a range of

positions that included the accounting method theory during the

administrative and court proceedings in the instant case.   In the

arguments opposing the motion, respondent barely mentions the

initial arguments, essentially abandons any attempt to defend

them,3 and relies on the argument ultimately asserted at trial in

order to show that the position of the United States in the

instant case was substantially justified.

     We treat respondent as having conceded that the arguments

with respect to section 707(a) and the duty of consistency that

were maintained when the notice was issued and the answer was

filed were not substantially justified.   Moreover, although we

are not inclined to accept that the theory respondent put forth

at trial was included in respondent's position from the outset of

the proceedings, even if we were to assume that it was, we would

not find respondent's position substantially justified.




3
     We note that respondent never pleaded the duty of
consistency as an affirmative defense in the proceeding before
this Court, as required by Rule 39.
                               - 8 -

     As noted above, respondent decided to rely exclusively on

the accounting method theory 2 weeks prior to the trial of the

instant case, after petitioners had complied with respondent's

discovery requests and respondent had rejected petitioners'

offers to settle the case.4   Although respondent claims that the

change constituted a "narrowing" of theories that resulted from

development of the facts through discovery during the course of

the Tax Court proceeding, respondent does not set forth any

specific facts that prompted the change when respondent became

aware of them, and petitioners contend that no facts were

developed that would form the basis of a new position.

Petitioners allege, and respondent does not deny, that the theory

respondent ultimately advanced at trial was adopted shortly after

it was suggested to respondent's counsel by "IRS experts in

Washington".

     Petitioners also allege, and respondent does not deny, that,

on the day when respondent informed petitioners' counsel that

respondent would rely on the accounting method theory,

respondent's counsel acknowledged that her research on it was

4
     Respondent indicates that the case was not settled because
certain facts crucial to petitioners' claims were only
established by petitioner's testimony at trial and that
petitioners' ability to establish those facts turned on
petitioner's credibility. Respondent has not suggested that the
information contained in petitioner's testimony was not available
prior to the trial. Moreover, respondent's abandonment 2 weeks
prior to trial of the contention that the payment in issue was
not a guaranteed payment suggests that respondent believed that
petitioners would be able to establish that claim.
                                 - 9 -

incomplete because of the need to prepare a draft stipulation of

facts for trial.   This circumstance indicates to us that the

change in theory was not fully considered when it was put forward

and was hastily made when the weakness of respondent's initial

arguments was exposed.   The circumstances of the change suggest

the presence of an unreasonable "'litigate now, think later'

mentality" on respondent's part.     Beaty v. United States, 937

F.2d 288, 293 (6th Cir. 1991).

     The facts in the instant case support petitioners'

contention that the payment in question was a guaranteed payment;

they do not support respondent's contention that petitioner had

adopted the cash method of accounting for the payment.    The

record establishes that the payment was not included in

petitioner's income when the partnership accrued it due to an

oversight on the part of the accountants for the partnership and

petitioner; it does not suggest that petitioner consciously

adopted a cash method of accounting for the payment.    Although

respondent relies on the circumstances surrounding the failure to

report the payment in the years when it was accrued by the

partnership to show the reasonableness of the accounting method

theory, respondent has not cited any authority that supports the

position that a taxpayer could be held to have adopted a method

of accounting given the circumstances presented in the instant

case.
                              - 10 -

      The case principally relied on by respondent, Diebold, Inc.

v. United States, 891 F.2d 1579 (Fed. Cir. 1989), is

distinguishable on its facts and did not involve a question of

the adoption of a method of accounting in circumstances analogous

to those presented in the instant case.5   Furthermore,

petitioners' counsel informed respondent prior to trial of a

memorandum opinion of this Court (Evans v. Commissioner, T.C.

Memo. 1988-228) that held that a taxpayer did not adopt a method

of accounting where the taxpayer erroneously reported items of

income and did not consciously adopt the method.     Respondent did

not attempt to distinguish, or even discuss, that case in the

posttrial briefs filed in the instant case.   Moreover, as noted

in our opinion on the merits, petitioner's use of the cash method

to report the payments would have been contrary to the law

governing the taxation of guaranteed payments, and such a method

would not have been binding on petitioner even if he had adopted

it.   Sicard v. Commissioner, T.C. Memo. 1996-173.    Consequently,

we conclude that respondent's accounting method theory was

unreasonable and that therefore respondent's position in the

instant case was not substantially justified.   Nalle v.

Commissioner, 55 F.3d at 191-193.

      Respondent also objects to the date from which petitioners

calculated the COLA applicable to the award of attorney's fees

5
     A revenue ruling relied on by respondent, Rev. Rul. 90-38,
1990-1 C.B. 57, is similarly distinguishable.
                               - 11 -

pursuant to section 7430.    Petitioners calculated the COLA from

1981, but respondent contends that the COLA should be calculated

from January 1, 1986.    October 1, 1981, and January 1, 1986, are

the respective dates on which COLA's were provided pursuant to

the Equal Access to Justice Act (EAJA), 28 U.S.C. sec. 2412

(1994), and section 7430.    Swanson v. Commissioner, 106 T.C. at

100.    Section 7430 has its roots in the EAJA, and, during 1986,

Congress amended that section to conform it more closely to the

EAJA, adopting the EAJA's $75 per hour limitation on attorney's

fees and the EAJA's existing COLA language.    Bayer v.

Commissioner, 98 T.C. 19, 24 (1992).    We recently discussed the

question of the appropriate date from which the COLA applicable

to awards of attorney's fees should be calculated as follows:

            Our position on this issue was addressed in Bayer
       v. Commissioner, 98 T.C. 19 (1992), where we concluded
       that Congress, in providing for cost of living
       adjustments in section 7430, intended the computation
       to start on the same date the COLA's were started under
       the EAJA; i.e. October 1, 1981. Citing Lawrence v.
       Commissioner, 27 T.C. 713 (1957), revd. on other
       grounds 258 F.2d 562 (9th Cir. 1958), we stated that we
       would continue to use 1981 as the correct year for
       making the COLA calculation, unless, of course, the
       Court of Appeals to which appeal lay had held
       otherwise. [Swanson v. Commissioner, supra at 100;
       citations omitted.]

       As noted in our opinion on the merits, petitioners resided

in Hampton, New Hampshire, at the time they filed their petition.

Consequently, the instant case is appealable to the U.S. Court of

Appeals for the First Circuit, which has not addressed the

question of whether the COLA adjustment is to be made from 1981
                              - 12 -

or 1986.   Accordingly, we shall follow our holding in Bayer v.

Commissioner, supra, and conclude that the applicable date from

which the COLA adjustment is to be made is October 1, 1981.

     Accordingly, we find the amount of costs requested by

petitioners, after taking into account the modifications to which

the parties have agreed,6 is reasonable and award petitioners

administrative and litigation costs in the amount of $74,044.35.7

     To reflect the foregoing,

                                         An appropriate order

                                    and decision will be entered.




6
     The parties have agreed that the amount of costs claimed by
petitioners should be reduced by $3,555.85.
7
     The amount awarded includes the costs related to
petitioners' motion. Where respondent's position justifies the
recovery of costs, any reasonable fees to recover those costs are
themselves recoverable. INS v. Jean, 496 U.S. 154, 162-166
(1990); Huffman v. Commissioner, 978 F.2d 1139, 1148-1149 (9th
Cir. 1992), affg. in part, revg. in part and remanding T.C. Memo.
1991-144; Powers v. Commissioner, 100 T.C. 457, 492 (1993).
