                  T.C. Summary Opinion 2003-36



                     UNITED STATES TAX COURT



             GUY NATHANIEL GAY, JR., Petitioner, AND
                KIMBERLY S. GIBSON, Intervenor v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 3241-01S.                Filed April 17, 2003.



     Guy Nathaniel Gay, Jr., pro se.

     Kimberly S. Gibson, pro se.

     James R. Rich, for respondent.



     DINAN, Special Trial Judge:    This case was heard pursuant to

the provisions of section 7463 of the Internal Revenue Code in

effect at the time the petition was filed.   The decision to be

entered is not reviewable by any other court, and this opinion

should not be cited as authority.   Unless otherwise indicated,
                                - 2 -

subsequent section references are to the Internal Revenue Code in

effect for the year in issue.

     Respondent determined a deficiency in petitioner’s Federal

income tax of $7,746, and an accuracy-related penalty of $1,549,

for the taxable year 1998.   The sole issue for decision is

whether petitioner is entitled to relief from joint and several

liability for the deficiency and penalty pursuant to section

6015.

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

The stipulations of fact and the attached exhibits are

incorporated herein by this reference.    Petitioner resided in

Wilson County, North Carolina, on the date the petition was filed

in this case.

     Petitioner is a college graduate and is an executive vice

president of Reliant Management Group, a management fund that

works with criminal justice programs.    During the year in issue,

petitioner’s primary employment was initially at the North

Carolina Department of Corrections as the head of probation and

parole in Wake County, and later at a management firm called

Civigenics, Inc.   He received from these employers taxable wages

of $14,898 and $35,613, respectively.    Federal income taxes were

withheld by both of these employers.    In addition, petitioner

received compensation from various other sources totaling

$10,048.
                                 - 3 -

     Intervenor is currently a legal secretary with a private law

firm.   During the year in issue, intervenor’s primary employment

was as a court reporter for the Superior Court of the State of

North Carolina.   As compensation for this employment, intervenor

earned both wages and nonemployee compensation.    The wages she

earned in 1998, totaling $27,302, were reported on a Form W-2,

Wage and Tax Statement.   In addition to these wages, intervenor

received nonemployee compensation from the State as well as from

private attorneys in connection with her preparation of

transcripts.   The State paid her $14,399.85 during 1998 and

reported this amount on a Form 1099-MISC, Miscellaneous Income.

One law firm paid her $2,595 and another law firm paid her $805;

both of these amounts were also reported on Forms 1099-MISC.

Finally, various attorneys paid her amounts totaling $2,494 which

were not reported on any form.    No Federal income taxes were

withheld from the nonemployee compensation which the State paid

to intervenor.

     Petitioner and intervenor were married in 1990, they

separated in 1996, and they reconciled in October 1998.    During

1998, the year in issue, petitioner resided with intervenor from

October through December.   They separated permanently in February

2000, and they were divorced pursuant to a May 11, 2001, order by

the General Court of Justice, District Court Division, Wake

County, North Carolina.   As the result of a settlement
                                - 4 -

conference, petitioner and intervenor entered into an agreement

on July 9, 2001.   This agreement provided that

     Defendant [intervenor] shall assume full financial
     responsibility and shall pay the 1998 income tax liability,
     penalties and interest which currently total approximately
     $10,500.00. Defendant shall indemnify Plaintiff
     [petitioner] and shall hold him harmless for the payment of
     said tax liability.

This provision was incorporated into an Equitable Distribution

Consent Order and Judgment filed by the State court on May 17,

2002.

     Petitioner and intervenor filed a joint Federal income tax

return for taxable year 1998.    The return was prepared by a

return preparer, Jay Martin, before it was signed by petitioner

and intervenor.    Mr. Martin was an acquaintance of intervenor and

primarily dealt with her rather than petitioner in preparing the

return.   Due to an error by Mr. Martin, the $14,399 earned by

intervenor in 1998 was not reported on the return.    For an

unknown reason, the $805 in income which intervenor earned in

1998 and which was reported on a Form 1099-MISC also was not

reported on the return.   Neither petitioner nor intervenor

thoroughly reviewed the return, and neither corrected the omitted

items of income, prior to signing the return.

     Only what appears to be a portion of the statutory notice of

deficiency is in the record.    The notice recites the following

items of income as nonemployee compensation paid to petitioner

and intervenor:
                               - 5 -

     Paid to intervenor:
          NC Admin. Office of the Courts       $14,399
          Smith Anderson, et al.                   805
          Twiggs Abrams Strickland & Trehy       2,595
     Paid to petitioner:
          Educational Testing Service              454
          National Institute of Corrections      1,650

The calculation of the amount of the deficiency appearing in the

notice of deficiency is not in the record.    Respondent concedes

that both of the amounts paid to petitioner and the $2,595 amount

paid to intervenor were in fact reported on their return.

Respondent asserts, and petitioner does not dispute, that the

amounts listed in the notice as having been paid to petitioner

were not taken into account in the calculation of the deficiency.

These amounts are therefore not at issue.    Because the $2,595

item, which was taken into account in the calculation, has been

conceded by respondent, the only adjustments remaining at issue

are the $14,399 and $805 items of unreported income paid to

intervenor.   The accuracy-related penalty determined by

respondent was for a substantial understatement of income tax

under section 6662(d)(1).

     After the issuance of the notice of deficiency, petitioner

submitted a Form 8857, Request for Innocent Spouse Relief, to the

Internal Revenue Service requesting relief pursuant to section

6015.   Although no notice of determination appears in the record,

respondent states that relief has been denied under section

6015(b), (c), and (f).
                               - 6 -

     Spouses who file a joint Federal income tax return generally

are jointly and severally liable for the payment of the tax shown

on the return or found to be owing.    Sec. 6013(d)(3); Cheshire v.

Commissioner, 115 T.C. 183, 188 (2000), affd. 282 F.3d 326 (5th

Cir. 2002).   However, relief from joint and several liability is

available to certain taxpayers under section 6015.   There are

three avenues for relief under this section--section 6015(b),

(c), and (f).

     The first avenue for relief is section 6015(b).    This

provision provides full or apportioned relief from joint and

several liability for an understatement of tax on a joint return

if, among other requirements, the taxpayer requesting relief

“establishes that in signing the return he or she did not know,

and had no reason to know” of the relevant portion of the

understatement of tax on the return.   Sec. 6015(b)(1)(C), (b)(2).

Generally, the spouse seeking relief has reason to know of the

understatement if he has reason to know of the transaction that

gave rise to the understatement.   Jonson v. Commissioner, 118

T.C. 106, 115 (2002).

     The second avenue for relief is section 6015(c).    This

provision provides proportionate relief through allocation of a

deficiency between individuals who filed a joint return and who

are no longer married, who are legally separated, or who have

been living apart for the preceding 12 months.   Among other
                                 - 7 -

limitations, relief under section 6015(c) with respect to an item

giving rise to all or a portion of a deficiency is not available

to a taxpayer who had actual knowledge of that item.     Sec.

6015(c)(3)(C).    A taxpayer has actual knowledge of an item if he

has:

       an actual and clear awareness (as opposed to reason to know)
       of the existence of an item which gives rise to the
       deficiency (or portion thereof). In the case of omitted
       income * * * the electing spouse must have an actual and
       clear awareness of the omitted income. * * *

Cheshire v. Commissioner, supra at 195.

       Petitioner admits that he knew what intervenor’s employment

was during 1998, and that he knew that she derived a significant

amount of income from that employment both in the form of wages

and in the form of separate payments made by the State and

private attorneys for the preparation of transcripts.     In fact,

petitioner stated in his request for section 6015 relief that “I

find especially hard to believe she [intervenor] would not report

the part time monies earned from the AOC as this was her primary

employer and also the amount earned was over $14,000.00.”       We

therefore find that petitioner had actual knowledge of the

omitted income.    Id.   Consequently, he is not entitled to relief

pursuant to section 6015(b) or (c).      Sec. 6015(b)(1)(C), (b)(2),

(c)(3)(C).

       The third avenue for relief under section 6015 is the

equitable relief which may be afforded by section 6015(f).       This
                                - 8 -

relief is available to taxpayers who are not otherwise entitled

to section 6015 relief if, taking into account all the facts and

circumstances, it is inequitable to hold the taxpayer liable for

any unpaid tax or deficiency (or portion thereof).    Sec.

6015(f)(1) and (2).   Because equitable relief is discretionary,

we review the Commissioner’s denial of relief for an abuse of his

discretion.    Cheshire v. Commissioner, supra at 198.    The

Commissioner’s exercise of discretion is entitled to due

deference; in order to prevail, the taxpayer must demonstrate

that in not granting relief, the Commissioner exercised his

discretion arbitrarily, capriciously, or without sound basis in

fact or law.    Woodral v. Commissioner, 112 T.C. 19, 23 (1999);

Mailman v. Commissioner, 91 T.C. 1079, 1082-1084 (1988).

     As directed by section 6015(f), the Commissioner has

prescribed procedures in Revenue Procedure 2000-15, 2000-1 C.B.

447, that the Commissioner will use in determining whether an

individual qualifies for relief under that section.      Section 4.03

of the revenue procedure lists several nonexclusive factors to be

considered in determining eligibility for relief.    In his trial

memorandum, respondent explained his application of these factors

in the present case as follows:

          The factors favoring the granting of relief to
     petitioner herein are: (1) petitioner is divorced from
     Kimberly; (2) Kimberly is under an obligation to pay the
     liability; and (3) the liability for which relief is sought
     is solely attributable to Kimberly.
                               - 9 -

          The factors weighing against relief are: (1)
     petitioner had knowledge of the omitted income giving rise
     to the deficiency, an extremely strong factor, and (2)
     petitioner will not suffer economic hardship if relief is
     not granted.

          Respondent did not abuse his discretion in determining
     that relief should not be granted to petitioner. The
     overriding factor which weighs against the granting of
     relief is petitioner’s knowledge of the items giving rise to
     the understatement.

     An important factor in this case is that the deficiency and

penalty are solely attributable to intervenor in that the

unreported income was earned solely by her.   Furthermore,

intervenor most likely derived the primary benefit from this

income and from an initial lack of payment of taxes with respect

thereto:   Intervenor and petitioner were separated for 9 months

during 1998 and, while petitioner had Federal income taxes

withheld from his income, intervenor had nothing withheld from

the unreported income.

     The most important factor in this case is intervenor’s legal

obligation under the North Carolina court’s order to either

directly pay the 1998 Federal tax liability or indemnify

petitioner for his payment thereof.    We note that this Court is

not being called upon to discern intervenor’s legal obligations

under the North Carolina court order because neither respondent

nor intervenor disputes the fact that intervenor is legally

obligated to pay the deficiency in this case.   Furthermore,
                             - 10 -

neither respondent nor intervenor assert that intervenor lacks

the ability to fulfill her legal obligation.

     Contrary to respondent’s determination, we find that the

above factors favoring equitable relief clearly outweigh the fact

that petitioner had actual knowledge of the unreported income.

Under the circumstances of this case, we find that it was an

abuse of discretion for respondent to deny petitioner relief from

liability for the deficiency and penalty pursuant to section

6015(f).

     Reviewed and adopted as the report of the Small Tax Case

Division.

     To reflect the foregoing,

                                      Decision will be entered

                                 for petitioner.
