                        T.C. Memo. 2010-266



                      UNITED STATES TAX COURT


          TAX PRACTICE MANAGEMENT, INC., Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent

     JOSEPH ANTHONY D’ERRICO, Petitioner v. COMMISSIONER OF
                   INTERNAL REVENUE, Respondent


     Docket Nos. 1477-09, 1483-09.    Filed December 7, 2010.



     Adam L. Karp, for petitioners.

     Jeremy L. McPherson, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     HAINES, Judge:   These cases are before the Court

consolidated for purposes of trial, briefing, and opinion.    Tax

Practice Management, Inc. (TPM), and Joseph D’Errico (D’Errico)

separately petitioned the Court for redetermination of the

following deficiencies in Federal income tax:
                               - 2 -

         Tax Practice Management, Inc., docket No. 1477-09

                                                     Penalty
         TYE                 Deficiency             Sec. 6662

     4/30/2005                $40,736                   $8,147

           Joseph Anthony D’Errico, docket No. 1483-09

                                                     Penalty
         TYE                 Deficiency             Sec. 6662

     12/31/2004               $229,836                 $45,967

     The issues for decision after concessions1 are:     (1) Whether

TPM is entitled to deductions of $166,421 for its year ending

April 30, 2005; (2) whether D’Errico must increase his 2004 pass-

through income from three wholly owned S corporations by $44,317;

(3) whether D’Errico received constructive dividend income of

$30,000 from TPM as a result of TPM’s paying $30,000 in rent to

D’Errico’s father for the use of the father’s property at 318




     1
      Petitioners concede that TPM’s gross receipts for its
fiscal year ending Apr. 30, 2005, are understated by $3,000.
Petitioners further concede that the statute of limitations does
not bar pass-through adjustments to D’Errico from his three S
corporations.

     Before trial respondent conceded that TPM’s purchase of a
2001 Cessna 172S airplane in December 2004 is not a constructive
dividend to D’Errico. On brief respondent concedes that D’Errico
did not understate his 2004 income by $43,071. Respondent
further concedes that two of D’Errico’s S corporations, D’Errico
& Wedge, Inc., and D’Errico & McCollor, Inc., are entitled to
claim deductions of management fees of $150,000 and $250,000,
respectively.
                                 - 3 -

Barton Drive in Stateline, Nevada; and (4) whether petitioners

are liable for the accuracy-related penalty.2

                           FINDINGS OF FACT

     Some of the facts have been stipulated and are so found.

The stipulation of facts, together with attached exhibits, is

incorporated herein by this reference.     At the time TPM filed its

petition, its principal place of business was Nevada.    At the

time D’Errico filed his petition, he resided in Nevada.

I.   Background

     On October 9, 2008, respondent sent a notice of deficiency

for the fiscal year ending April 30, 2005, to TPM.     On October

15, 2008, respondent sent a notice of deficiency for 2004 to

D’Errico.     Petitioners filed timely petitions with this Court.

     In 2002 D’Errico operated a tax preparation business through

three wholly owned calendar year S corporations:    (1) Joseph A.

D’Errico & Associates, Inc. (J&A), in Lake Tahoe, Nevada; (2)

D’Errico & Wedge, Inc. (D&W), in Mission Hills, California; and

(3) D’Errico & McCollor, Inc. (D&M), in Santa Barbara,

California.    Further, in 2002 D’Errico organized TPM, a wholly

owned C corporation with a fiscal year and taxable year ending

April 30.   TPM was organized to provide training and management



     2
      Unless otherwise indicated, all section references are to
the Internal Revenue Code of 1986, as amended, and all Rule
references are to the Tax Court Rules of Practice and Procedure.
Amounts are rounded to the nearest dollar.
                                 - 4 -

services to D’Errico’s tax preparation businesses.       In 2003

D’Errico closed J&A’s operations.     Further, on January 1, 2005,

D’Errico sold 100 percent of the shares of both D&W and D&M to an

unrelated third party.

II.   TPM

      In his notice of deficiency, respondent denied TPM the

following deductions:

            Expense                          Amount

      Sec. 179 expense                      $102,000
      Depreciation                             7,130
      Airplane expenses                       11,287
      Auto expenses                            5,143
      Meals & entertainment                    1,257
      Travel                                   4,581
      Repairs & maintenance                    1,790
      Supplies                                 3,233
      Rent                                    30,000
        Total                                166,421


      In December 2004 TPM purchased a 2001 Cessna 172S airplane

(the airplane) for $137,500.     The airplane was delivered to TPM

on December 23, 2004, at Minden Airport in Nevada.       On December

24, 2004, D’Errico received the airplane on behalf of TPM and

flew it to several destinations in California and Nevada on a

test flight before returning to Minden Airport the next day to

finalize the transaction.     D’Errico testified that he met with

clients to discuss TPM’s fees during this trip.        The test flight

was the only time the airplane was used in 2004.
                               - 5 -

     On December 29, 2004, TPM entered into an airplane leasing

agreement with Flying Start Aero, an airplane operator.    Pursuant

to the airplane leasing agreement, Flying Start Aero leased the

airplane from TPM for purposes of making the airplane available

to the public for rent.   The airplane leasing agreement states

that the airplane was leased to Flying Street Aero to generate

revenue for the purpose of offsetting TPM’s airplane operating

costs.   In 2005 the only use of the airplane was for rental and

training purposes.   TPM paid expenses of $11,287 with respect to

the airplane during the fiscal year ending April 30, 2005.

     Additionally, respondent denied TPM’s claimed $30,000

deduction for rent paid to Anthony D’Errico, D’Errico’s father,

pursuant to a lease agreement for use of the father’s property at

318 Barton Drive in Stateline, Nevada (the Barton Drive

property).   The Barton Drive property is a three-bedroom home.

D’Errico testified that he used the top-level bedroom and top-

level common areas for his personal use and that the two bottom

bedrooms and common areas were converted into offices for TPM.

Accordingly, TPM entered into a sublease agreement with D’Errico

at an annual rate of $9,000 in exchange for use of the Barton

Drive property.

     Respondent denied additional deductions TPM claimed for

automobile expenses, meals and entertainment, travel, repairs and

maintenance, and supplies.   D’Errico testified that TPM
                                - 6 -

established an expense reimbursement program whereby D’Errico

could incur expenses on behalf of TPM and submit them to TPM for

reimbursement.    TPM produced D’Errico’s hand-written notes

documenting expense reimbursements, as well as D’Errico’s

personal credit card statements reflecting each of TPM’s claimed

expenses.   D’Errico testified that he kept a log describing the

nature of these expenses as they relate to TPM’s business;

however, he did not produce this log at trial.

III. D’Errico

     In 2004 J&A filed Form 1120S, U.S. Income Tax Return for an

S Corporation, reporting an interest expense of $22,034.    J&A was

inactive in 2004; however, D’Errico testified that the interest

expense accrued on accounts payable due from J&A to TPM for TPM’s

management fee.    D’Errico provided hand-written notes of TPM’s

accounts receivable to evidence this amount due.    These notes do

not attribute TPM’s accounts receivable to an amount due from J&A

and do not describe the source of the amounts due.

     As the sole shareholder of J&A, D’Errico included the

interest expense deduction claimed by J&A on Schedule E,

Supplemental Income and Loss, of his Form 1040, U.S. Individual

Income Tax Return.    In his notice of deficiency, respondent

denied D’Errico the $22,034 interest deduction.

     Respondent further denied deductions D’Errico claimed on

Schedule E attributable to his ownership interest in D&M for
                               - 7 -

auto/truck expenses and travel expenses of $4,650 and $2,024,

respectively.   Similarly, respondent denied deductions D’Errico

claimed on Schedule E attributable to his ownership interest in

D&W for auto/truck expenses and travel expenses of $4,650 and

$10,959, respectively.   D’Errico provided hand-written notes

listing the above-referenced expenses as well as personal credit

card statements to substantiate the claimed deductions.

D’Errico’s hand-written notes do not include any description of,

or reasons for, the expenses incurred.

     Finally, as discussed above, TPM paid D’Errico’s father

$30,000 in rent for use of the Barton Drive property.     D’Errico

testified that he used the top-level bedroom and top-level common

areas of the Barton Drive property for his personal use and that

the two bottom bedrooms and common areas were converted into

offices for TPM.   In his notice of deficiency, respondent

determined TPM’s $30,000 rent payment to be a constructive

dividend to D’Errico.

                              OPINION

I.   Burden of Proof

     Respondent’s determinations in the notice of deficiency are

presumed correct, and petitioners bear the burden of proving them

incorrect.   See Rule 142(a)(1).   Petitioners do not argue that

the burden of proof shifts to respondent pursuant to section

7491(a), nor have they shown that the threshold requirements of
                                  - 8 -

section 7491(a) have been met for any of the determinations at

issue.      Accordingly, the burden remains on petitioners to prove

that respondent’s determination of deficiencies in their income

tax is erroneous.

II.   TPM

      Deductions are a matter of legislative grace, and the

taxpayer must prove he is entitled to the deductions claimed.

Rule 142(a); New Colonial Ice Co. v. Helvering, 292 U.S. 435, 440

(1934).      Section 162(a) provides that “There shall be allowed as

a deduction all the ordinary and necessary expenses paid or

incurred during the taxable year in carrying on any trade or

business”.      Taxpayers are required to maintain records sufficient

to establish the amounts of allowable deductions and to enable

the Commissioner to determine the correct tax liability.     Sec.

6001; Shea v. Commissioner, 112 T.C. 183, 186 (1999).

      If a factual basis exists to do so, the Court may in some

contexts approximate an allowable expense, bearing heavily

against the taxpayer who failed to maintain adequate records.

Cohan v. Commissioner, 39 F.2d 540, 543-544 (2d Cir. 1930); see

sec. 1.274-5T(a), Temporary Income Tax Regs., 50 Fed. Reg. 46014

(Nov. 6, 1985).     However, in order for the Court to estimate the

amount of an expense, the Court must have some basis upon which

an estimate may be made.      Vanicek v. Commissioner, 85 T.C. 731,

742-743 (1985).     Without such a basis, any allowance would amount
                                 - 9 -

to unguided largesse.     Williams v. United States, 245 F.2d 559,

560-561 (5th Cir. 1957).

     Items described in section 274 are subject to strict

substantiation rules.     No deduction shall be allowed for, among

other things, traveling expenses, entertainment expenses, gifts,

and expenses with respect to “listed property” defined in section

280F(d)(4) “unless the taxpayer substantiates by adequate records

or by sufficient evidence corroborating the taxpayer’s own

statement”:   (1) The amount of the expense or other item; (2) the

time and place of the travel, entertainment or use, or date and

description of the gift; (3) the business purpose of the expense

or other item; and (4) in the case of entertainment or gifts, the

business relationship to the taxpayer of the recipients or

persons entertained.    Sec. 274(d).     We may not use the Cohan

doctrine to estimate expenses covered by section 274(d).      See

Sanford v. Commissioner, 50 T.C. 823, 827 (1968), affd. per

curiam 412 F.2d 201 (2d Cir. 1969); sec. 1.274-5T(a), Temporary

Income Tax Regs., supra.

     A.    The Airplane

     Subject to certain limitations, taxpayers purchasing

qualifying property may elect under section 179 to deduct the

cost of the property in the year the property is placed in

service.   Qualifying section 179 property includes tangible

property that is depreciable under section 168 and is described
                              - 10 -

in section 1245(a)(3) or computer software that is depreciable

under section 167 and described in section 1245(a)(3), but only

if the property is acquired for use in the “active conduct of a

trade or business.”   Sec. 179(d)(1).   As used in section 179 the

term “trade or business” has the same meaning as in section 162

and the regulations thereunder, and therefore property held

merely for the production of income does not qualify as section

179 property.   Sec. 1.179-2(c)(6)(i), Income Tax Regs.   “[A]ctive

conduct” as used in section 179 means that the taxpayer actively

participates in the management or operations of the trade or

business.   Sec. 1.179-2(c)(6)(ii), Income Tax Regs.

     TPM received the airplane on December 24, 2004, and D’Errico

subsequently flew it on a test flight to several locations in

California and Nevada.   D’Errico testified that he also met with

clients during this trip to discuss TPM’s fees.    This test flight

was the only use of the airplane before December 29, 2004, when

TPM entered into the airplane leasing agreement with Flying Start

Aero for purposes of making the airplane available to the public

for rent.   During the remainder of TPM’s fiscal year, the only

use of the airplane was for rental and training purposes.   We

must first decide whether TPM acquired the airplane for use in

its trade or business.

      To determine whether a taxpayer is conducting a trade or

business requires an examination of the facts involved in each
                                  - 11 -

case.    Higgins v. Commissioner, 312 U.S. 212, 217 (1941).        For a

taxpayer to be engaged in a trade or business, the primary

purpose for engaging in the activity must be for income or

profit.     Commissioner v. Groetzinger, 480 U.S. 23, 35 (1987).

Whether an enterprise is conducted as a business for profit is a

matter of intention and good faith.        Am. Props., Inc. v.

Commissioner, 28 T.C. 1100, 1111 (1957), affd. 262 F.2d 150 (9th

Cir. 1958).     The reasonableness of the taxpayer’s belief that the

activity will generate a profit is not relevant.        Hillcone

Steamship Co. v. Commissioner, T.C. Memo. 1963-220.       However, a

mere hope that an activity will generate profits, in the absence

of any specific plan to generate a profit, is inconsistent with

an allegation that the belief is in good faith.       See Sutherland

v. Commissioner, T.C. Memo. 1968-20.

        Thus, whether TPM is entitled to its claimed deductions with

regard to the airplane turns initially on whether TPM has

demonstrated by virtue of D’Errico’s testimony, the test flight,

and the airplane leasing agreement with Flying Start Aero that it

purchased the airplane with the requisite intent, objective, or

motive of making a profit.     Intention is a question of fact to be

determined not only from the direct testimony as to intent but

also from a consideration of all the evidence, including the

conduct of the parties.     Id.   The statement by an interested
                               - 12 -

party of his intention and purpose is not necessarily conclusive.

Id.

      Factors to be considered in determining whether an activity

is engaged in for profit include:   (1) The manner in which the

taxpayer carries on the activity, (2) the expertise of the

taxpayer or her advisers, (3) the time and effort expended by the

taxpayer in carrying on the activity, (4) the expectation that

assets used in the activity may appreciate in value, (5) the

success of the taxpayer in carrying on other similar or

dissimilar activities, (6) the taxpayer’s history of income or

losses with respect to the activity, (7) the amount of occasional

profits, if any, which are earned, (8) the financial status of

the taxpayer, and (9) the elements of personal pleasure or

recreation.   Indep. Elec. Supply, Inc. v. Commissioner, 781 F.2d

724, 726-727 (9th Cir. 1986), affg. Lahr v. Commissioner, T.C.

Memo. 1984-472; Antonides v. Commissioner, 91 T.C. 686, 694 n.4

(1988), affd. 893 F.2d 656 (4th Cir. 1990); Golanty v.

Commissioner, 72 T.C. 411, 426 (1979), affd. without published

opinion 647 F.2d 170 (9th Cir. 1981); sec. 1.183-2(b), Income Tax

Regs.   No single factor or group of factors is determinative.

Golanty v. Commissioner, supra at 426; Dunn v. Commissioner, 70

T.C. 715, 720 (1978), affd. 615 F.2d 578 (2d Cir. 1980); sec.

1.183-2(b), Income Tax Regs.   A final determination is made only

after considering all facts and circumstances.   Indep. Elec.
                               - 13 -

Supply, Inc. v. Commissioner, supra at 727; Antonides v.

Commissioner, supra at 694; Golanty v. Commissioner, supra at

426.

       TPM contends that the airplane was necessary for its

business because at the time of its purchase TPM managed D&W and

D&M and D’Errico was required to travel between Nevada and

California to fulfill TPM’s duties.     Additionally, TPM contends

that the airplane was necessary for traveling throughout

California to meet with clients, to market TPM’s services, and to

present an aura of success.    At trial D’Errico testified that TPM

entered into the airplane leasing agreement with Flying Start

Aero because he did not have the time to fly the airplane for

marketing trips and to meet with clients during tax season.      He

testified that the airplane leasing agreement allowed the

airplane to start “paying for itself” as another source of income

for TPM.

       Respondent contends that the timing of TPM’s purchase of the

airplane defeats the claimed deductions.    At the time of the

purchase, D’Errico was in negotiations to sell D&W and D&M.      The

airplane was purchased on December 25, 2004, and D’Errico sold

D&W and D&M on January 1, 2005.    TPM used the airplane only once

before entering into the airplane leasing agreement on December

29, 2004, and that was for the test flight.
                                - 14 -

     Respondent further argues that TPM never anticipated that

the rental income derived from the airplane leasing agreement

would defray more than a small part of the operating expenses of

the airplane.   Respondent relies on the airplane leasing

agreement, which provides that “* * * [TPM] is leasing said

airplane to * * * [Flying Start Aero] with the intention of

generating some revenue for purpose of offsetting a portion of

the airplane operating costs”.    Accordingly, respondent argues

that TPM has not demonstrated that the airplane was purchased for

use in its trade or business.

     As discussed above, pursuant to Rule 142(a)(1) respondent’s

determinations in the notice of deficiency are presumed correct,

and petitioners bear the burden of proving them incorrect.     We do

not find it necessary to analyze all the factors discussed above.

TPM has not demonstrated that the airplane was acquired with the

requisite intent or motive of making a profit.    Other than

D’Errico’s self-serving testimony, TPM has not presented any

evidence that it contemplated using the airplane for purposes of

TPM’s management or marketing operations.    Further, the airplane

leasing agreement specifically provides that TPM entered into the

agreement with the intention of generating revenue to offset the

airplane’s operating costs.   The Court of Appeals for the Ninth

Circuit has held that a profit motive does not exist where

“activities represented mere attempts to recoup some of * * *
                               - 15 -

[the taxpayers’] costs”.    Carter v. Commissioner, 645 F.2d 784,

786 (9th Cir. 1981), affg. T.C. Memo. 198-202.    The record lacks

evidence providing any clear indication that TPM possessed the

requisite profit motive and intent in purchasing the airplane.

Because TPM did not acquire the airplane for use in its trade or

business, it is unnecessary for us to analyze the other

requirements of section 179.    Accordingly, TPM has failed to meet

its burden of proof, and we sustain respondent’s determinations

with regard to the section 179 expense.

     As discussed above, section 162(a) allows for the deduction

of ordinary and necessary expenses paid or incurred during the

taxable year in carrying on any trade or business.    Further,

section 167(a) allows as a depreciation deduction a reasonable

allowance for the “exhaustion, wear and tear” of property (1)

used in a trade or business or (2) held for the production of

income.   Having determined that TPM did not acquire the airplane

for use in its trade or business, we further sustain respondent’s

determinations with regard to the depreciation and airplane

expenses.

     B.     Rent

     Section 162(a)(3) provides for a deduction for ordinary and

necessary rental expenses incurred in carrying on a trade or

business.    TPM claimed a deduction of $30,000 for rent paid to

D’Errico’s father for use and possession of the Barton Drive
                                - 16 -

property.   Respondent argues that TPM did not use the Barton

Drive property in connection with its trade or business.    Rather,

respondent contends that D’Errico used the property for his

personal purposes.   D’Errico testified that he used the top-level

bedroom and top-level common areas of the Barton Drive property

for his personal use and that the two bottom bedrooms and common

areas were converted into TPM’s offices.   TPM argues that this

latter portion of the Barton Drive property was used exclusively

for client meetings, bookkeeping, and marketing.    TPM further

argues that D’Errico’s personal use of the Barton Drive property

was limited to the top-level bedroom and top-level common areas.

TPM presented a sublease entered into between TPM and D’Errico as

evidence of this arrangement.

     We find TPM’s argument to be unpersuasive.    Outside of

D’Errico’s testimony, TPM has failed to produce any records of

business-related activities conducted at the Barton Drive

property or any evidence supporting TPM’s need for offices at the

Barton Drive property.   TPM’s two primary clients, D&W and D&M,

were both located in California and conducted their businesses in

California.   Further, TPM’s rent payments were not made to an

unrelated third party but rather to D’Errico’s father.

Accordingly, TPM has failed to meet its burden of proof, and we

sustain respondent’s determination with regard to the rent

expenses.
                                - 17 -

     C.   Repairs and Maintenance

     TPM claimed a deduction for repairs and maintenance expenses

incurred in connection with its use of the Barton Drive property.

Because we have decided that TPM has failed to establish that it

conducted business-related activities at the Barton Drive

property, any expenses incurred in connection with the Barton

Drive property could not have been incurred in connection with

TPM’s trade or business.   Accordingly, we sustain respondent’s

determination with regard to repairs and maintenance expenses.

     D.   Meals and Entertainment

     The heightened substantiation requirements of section 274

apply to meal and entertainment expenses.    The only evidence TPM

produced to substantiate meal and entertainment expenses was

D’Errico’s personal credit card statements and D’Errico’s

testimony that TPM reimbursed him for such costs.     Accordingly,

TPM has failed to document such expenses with the specificity

required by section 274, and we sustain respondent’s

determination with regard to meals and entertainment.

     E.   Travel

     The heightened substantiation requirements of section 274

also apply to travel expenses.    Sec. 274(d)(1).   TPM produced

receipts and D’Errico’s personal credit card statements to

substantiate travel expenses.    D’Errico testified that he kept a

log describing the nature of these expenses, but he failed to
                               - 18 -

produce this log at trial.   Other than D’Errico’s testimony, TPM

has not produced any evidence describing the business purpose of

the claimed travel expenses.   Accordingly, we sustain

respondent’s determination with regard to the travel expenses.

     F.   Auto Expenses

     Passenger automobiles and any other property used as a means

of transportation are generally “listed property” as defined by

section 280F(d)(4).   Secs. 274(d)(4), 280F(d)(4)(A)(i) and (ii).

Accordingly, with certain exceptions, taxpayer’s deducting car

and truck expenses must satisfy the strict substantiation

requirements of section 274.   TPM has produced D’Errico’s hand-

written notes and D’Errico’s personal credit card statements

documenting auto expenses of $5,143.    However, these documents do

not provide sufficient evidence that such expenses were actually

incurred as part of TPM’s trade or business.   Accordingly, TPM

has failed to meet the substantiation requirements of section

274, and we sustain respondent’s determination with regard to the

auto expenses.

     G.   Supplies

     TPM has produced nothing more than receipts, D’Errico’s

personal credit card statements, and D’Errico’s testimony to

substantiate the claimed deduction for supplies.   TPM has failed

to establish that such costs were incurred with a business
                                - 19 -

purpose.   Accordingly, we sustain respondent’s determination with

regard to the supplies.

III. D’Errico

     A.    S Corporation Pass-Through Deductions

           1.   Interest Expense

     Section 163(a) allows a deduction for interest expenses

incurred by a taxpayer within the taxable year on indebtedness.

In 2004 J&A claimed an interest expense of $22,034 attributable

to accounts payable due from J&A to TPM for TPM’s management fee.

D’Errico provided hand-written notes of TPM’s accounts receivable

to evidence this amount due.    As the sole shareholder of J&A,

D’Errico included the interest expense claimed by J&A on his

individual income tax return.

     D’Errico has provided little more than his own testimony in

support of the interest expense claimed by J&A.    His hand-written

notes do not attribute TPM’s accounts receivable to J&A and do

not describe the source of the amounts due.    Further, even if the

hand-written notes provided evidence that the interest expense

due from J&A to TPM had accrued, they do not provide any proof

that the expense was paid.   Accordingly, we sustain respondent’s

determination with regard to the interest expense.

     D’Errico contends that the interest expense should be

sustained because TPM included that amount as interest income on

its Form 1120, U.S. Corporation Income Tax Return.    Having
                               - 20 -

determined that D’Errico has failed to establish that J&A was

entitled to its claimed interest expense deduction, D’Errico is

correct in that this item must receive consistent treatment in

determining TPM’s tax liability.      Accordingly, an adjustment must

be made to remove $22,034 of interest income attributable to

TPM’s accounts receivable from J&A in the relevant tax years.

            2.   Auto/Truck and Travel

     As the sole shareholder of D&M, D’Errico claimed flow-

through deductions on his individual tax return for auto/truck

expenses and travel expenses attributable to D&M of $4,650 and

$2,024, respectively.    Similarly, as the sole shareholder of D&W,

D’Errico claimed flow-through deductions on his individual tax

return for auto/truck expenses and travel expenses attributable

to D&W of $4,650 and $10,959, respectively.      As discussed above,

auto/truck expenses and travel expenses are subject to the strict

substantiation requirements of section 274.      D’Errico has failed

to sufficiently document the nature and purpose of these

expenses.    Further, D’Errico did not testify about any specific

facts regarding these expenses.      Accordingly, we sustain

respondent’s determination with regard to the auto/truck expenses

and travel expenses.

     B.     Constructive Dividend

     Section 301 requires a taxpayer to include in gross income

amounts received as dividends.      Generally, a dividend is a
                               - 21 -

distribution of property by a corporation to its shareholders out

of its earnings and profits.   Sec. 316(a).   A dividend need not

be formally declared or even intended by a corporation.       Noble v.

Commissioner, 368 F.2d 439, 442 (9th Cir. 1966), affg. T.C. Memo.

1965-84.   When a shareholder’s use of corporate property serves

no legitimate corporate purpose, the value of the use of that

property may be includable in the shareholder’s income as a

constructive dividend to the extent of the corporation’s earnings

and profits.    Falsetti v. Commissioner, 85 T.C. 332, 356 (1985).

     For the personal use of corporate property to be treated as

a constructive dividend, it must:   (1) Be nondeductible by the

corporation; and (2) represent some economic gain or benefit to

the shareholder.    Palo Alto Town & Country Vill., Inc. v.

Commissioner, 565 F.2d 1388, 1391 (9th Cir. 1977) (the Tax Court

must find appropriate facts in the record to support a

determination that disallowed expenses constitute constructive

dividends to the taxpayer), affg. in part, revg. in part and

remanding T.C. Memo. 1973-223.   A corporation’s inability to

substantiate a deduction, without more, is not grounds for

treating corporate expenditures as constructive dividends to the

individual.    Erickson v. Commissioner, 598 F.2d 525, 531 (9th

Cir. 1979), affg. in part and revg. in part T.C. Memo. 1976-147;

Palo Alto Town & Country Vill., Inc. v. Commissioner, supra at

1391; Nicholls, North, Buse Co. v. Commissioner, 56 T.C. 1225,
                                - 22 -

1238-1239 (1971); Ashby v. Commissioner, 50 T.C. 409, 417-418

(1968).

     As discussed above, TPM has failed to establish a business

purpose for the $30,000 of rent payments to Anthony D’Errico for

use of the Barton Drive property.    Further, D’Errico testified

that he derived personal benefit from the Barton Drive property.

Despite testifying that his benefit was limited to the top-level

bedroom and top-level common areas, he has not presented any

additional evidence to support his claim.    D’Errico presented two

lease agreements at trial, one between his father and TPM and the

other a sublease between TPM and himself.    These agreements

identically describe the Barton Drive property as the leased

property.    The sublease therefore fails to support D’Errico’s

testimony.     Nowhere does it specify that only a portion of the

Barton Drive property was subject to the sublease, let alone

describe the top-level bedroom and top-level common areas.

D’Errico has therefore failed to establish that he did not derive

a personal benefit from his use of the entire Barton Drive

Property.

     TPM’s Form 1120 for 2004 states that TPM had end-of-year

retained earnings of $68,844.    Accordingly, TPM had sufficient

earnings and profits, and we sustain respondent’s determination

with regard to the constructive dividend.
                                - 23 -

IV.   Section 6662(a) Penalty

        Section 6662(a) and (b)(2) imposes an accuracy-related

penalty upon any underpayment of tax resulting from a substantial

understatement of income tax.     The penalty is equal to 20 percent

of the portion of any underpayment attributable to a substantial

understatement of income tax.     Id.    An understatement is

“substantial” if it exceeds the greater of:      (1) 10 percent of

the tax required to be shown on the return for the taxable year

or (2) $5,000 ($10,000 in the case of a corporation).      Sec.

6662(d)(1).     Section 6662(a) and (b)(1) also imposes a penalty

equal to 20 percent of the amount of an underpayment attributable

to negligence or disregard of rules or regulations.      Negligence

includes any failure to make a reasonable attempt to comply with

the provisions of the Internal Revenue Code, including any

failure to maintain adequate books and records or to substantiate

items properly.     Sec. 6662(c); sec. 1.6662-3(b)(1), Income Tax

Regs.     Petitioners’ failure to produce records substantiating

their claimed deductions supports the imposition of the accuracy-

related penalty for negligence for the years at issue.

      An accuracy-related penalty is not imposed on any portion of

the underpayment as to which the taxpayer acted with reasonable

cause and in good faith.     Sec. 6664(c)(1).   The taxpayer bears

the burden of proof with regard to those issues.       Higbee v.

Commissioner, 116 T.C. 438, 446 (2001).      Petitioners have failed
                              - 24 -

to show reasonable cause, substantial authority, or any other

basis for reducing the penalties.   Accordingly, we find

petitioners liable for the section 6662 penalty for the years at

issue as commensurate with the concessions and our holdings.    See

id.

      In reaching our holdings herein, we have considered all

arguments made, and, to the extent not mentioned above, we

conclude they are moot, irrelevant, or without merit.

      To reflect the foregoing,


                                         Decisions will be entered

                                    under Rule 155.
