                        T.C. Memo. 2002-148



                      UNITED STATES TAX COURT



                   STEVEN K. HAN, Petitioner v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 14649-94.                Filed June 12, 2002.



     Richard L. Manning and Ira M. Burman, for petitioner.

     Marjory A. Gilbert and Catherine M. Thayer, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     GALE, Judge:   Respondent determined a deficiency in, and

additions to, petitioner’s Federal income tax for 1988 as

follows:
                                - 2 -


                              Additions to tax
Deficiency       Sec. 6651(a)    Sec. 6653(a)(1)    Sec. 6661

 $31,101             $7,697             $1,766        $7,775

Unless otherwise indicated, all section references are to the

Internal Revenue Code in effect for the year in issue, and all

Rule references are to the Tax Court Rules of Practice and

Procedure.

     In an amendment to petition, petitioner alleged that the

income reported on his 1988 return should be reduced by $27,992

because he erroneously reported interest income that was earned

on funds that belonged to his wholly owned corporation, N.A.

Tours, Inc.   In an amendment to answer to amendment to petition,

respondent asserted that an increased deficiency for 1988 arose

from (1) unreported income from theft of $986,856, dividend

income of $20,641, capital gains from real estate sales of

$107,021, and ordinary income from those sales of $2,638; and (2)

a change in petitioner’s filing status from single to married

filing separately.    Respondent further asserted that the

additions to tax determined in the notice of deficiency under

sections 6651(a), 6653(a)(1), and 6661 for 1988 should apply to

the increased deficiency.
                              - 3 -


     After concessions,1 the issues remaining for decision are:

     (1) Whether petitioner had unreported income of $986,856

from funds diverted from his wholly owned corporations;

     (2) whether petitioner had unreported income of $12,913 from

dividends earned from brokerage accounts held in his name;

     (3) whether petitioner had unreported income of $20,641 from

dividends earned from brokerage accounts held in the names of

petitioner’s nominees;

     (4) whether petitioner had income of $27,992 from interest

earned on funds diverted from his wholly owned corporations;

     (5) whether petitioner is entitled to depreciation

deductions of $9,963 claimed on his return;

     (6) whether petitioner had unreported rental income of

$43,123 from two corporations owned by him;

     (7) whether petitioner is subject to an addition to tax

under section 6653(a)(1) for negligence; and

     (8) whether petitioner is subject to an addition to tax

under section 6661 for substantially understating his income tax.




     1
       In addition to issues settled in a stipulation of settled
issues filed in this case, petitioner conceded on brief that he
is not entitled to a rental expense deduction of $19,410 or to an
investment interest expense deduction of $4,271 claimed on his
1988 return. He also conceded that he is liable for an addition
to tax under sec. 6651(a)(1) for failure to timely file his
return.
                               - 4 -


                        FINDINGS OF FACT

     Some facts have been stipulated and are so found.   The

stipulation of facts, first supplemental stipulation of facts,

second supplemental stipulation of facts, and attached exhibits

are incorporated herein by this reference.   Petitioner resided in

Lincolnwood, Illinois, when he filed the petition in this case.

Petitioner’s Retail Travel and Consolidator Activities

     In 1981, petitioner, who also is known as Kee Soo Han,

incorporated Air America Travel Services, Inc. (Air America), an

Illinois corporation, the principal place of business of which

was in Chicago, Illinois.   At all times, petitioner was Air

America’s sole shareholder.   Air America sold airline tickets to

the general public as a retail travel agent.   During 1984, Air

America also started doing business as a consolidator2 for

Northwest Airlines, Inc. (Northwest).3   Air America’s

consolidator activities primarily involved selling airline




     2
       A consolidator is a third-party seller of airline tickets
written on blank tickets imprinted with the airline carrier’s
name, called ticket stock, issued by an airline carrier. The
consolidator sells the ticket stock wholesale to retail travel
agents, called subagents, at a price lower than the price at
which retail travel agencies usually sell airline tickets to the
general public.
     3
       For some of the relevant period, Northwest Airlines, Inc.,
operated under the name “Northwest Orient Airlines”.
                               - 5 -


tickets in Korean ethnic communities in the United States for

flights between the United States and Korea.

     Beginning in 1984, petitioner incorporated six wholly owned

corporations, operating in different localities under the “NA

Tours” name, to conduct his consolidator business (hereinafter in

the aggregate referred to as the NA Tours companies).   In August

1984, petitioner incorporated K-P Travel, Inc. (K-P Travel), an

Illinois corporation.   In June 1986, petitioner changed K-P

Travel’s name to N.A. Tours, Inc. (IL NA Tours).   Its principal

place of business was Chicago, Illinois.   In March 1986,

petitioner incorporated NA Tours of California, Inc. (CA NA

Tours), a California corporation, whose principal place of

business was Los Angeles, California.   In June 1986, petitioner

incorporated NA Tour of New York, Inc. (NY NA Tours), a New York

corporation, whose principal place of business was New York, New

York.   In September 1986, petitioner incorporated NA Tours of San

Francisco, Inc. (SF NA Tours), a California corporation, whose

principal place of business was San Francisco, California.     At

some time, petitioner also incorporated NA Tours of Washington,

D.C., whose principal place of business was Washington, D.C., and

NA Tours of Seattle, Washington, whose principal place of

business was Seattle, Washington.   From 1986 until the end of

1988, Air America did not operate as a consolidator, but during
                               - 6 -


that period it continued to operate as a retail travel agent.

Air America returned to doing consolidator business at the end of

1988.   Hereinafter, we will refer to Air America and the NA Tours

companies collectively as petitioner’s or his corporations.

     By 1987, petitioner’s corporations were generating

approximately $50 million in annual gross receipts from their

operations as consolidators for Northwest and had between 70 and

80 employees.   During 1987, petitioner hired David Chung (Chung)

to serve as accountant for his corporations.   Sometime later,

petitioner promoted Chung to controller and vice president of IL

NA Tours.   Among other things, Chung was responsible for

preparing financial statements for the NA Tours companies.

     Petitioner continued to be the sole shareholder and

president of Air America and each of the NA Tours companies

throughout 1988.   When he incorporated each NA Tours company,

petitioner did not contribute any money or property to the

capital of the corporation.   None of the NA Tours companies ever

declared a dividend.   IL NA Tours used the other NA Tours

companies, Air America, and unaffiliated subagents as its

subagents to distribute airline tickets.

     The NA Tours companies continued to operate as consolidators

for Northwest into 1988.   In 1988 IL NA Tours also operated as a
                                 - 7 -


consolidator for Korean Airlines, and the NA Tours companies sold

retail airline tickets.

     Northwest did not require its consolidators to pay for

ticket stock at the time of transfer to the consolidator or upon

the transfer of that ticket stock to the consolidator’s

subagents.   Rather, payment was not due, and a consolidator could

retain the proceeds of a sale of Northwest ticket stock, until

the submission of an “auditor’s coupon” to Northwest.    (An

auditor’s coupon was one copy of the multiple-copy ticket that

served as a permanent record of a ticket sold.)    Before 1987,

auditor’s coupons did not have to be submitted to Northwest until

45 days after each 2-week sales period, when coupons for all

tickets sold during the sales period were due, together with

payment for the tickets less the consolidator’s commission.

Sometime in 1987, Northwest modified its procedures to reduce the

period during which proceeds from the sale of ticket stock could

be retained by a consolidator.    Under the new procedures,

consolidators were required to submit auditor’s coupons for

tickets sold on a weekly basis; Northwest then prepared a sales

report based on the submitted coupons and invoiced the

consolidator, with payment due within 7 days of receipt of the

invoice.
                               - 8 -


     As a consequence of Northwest’s procedures for collecting

payment for ticket stock from its consolidators, petitioner’s

corporations were able to postpone payment for ticket stock for

significant periods.   In addition, before 1987, IL NA Tours was

frequently late in remitting payment to Northwest; after the

initiation of the more expedited procedures in 1987, IL NA Tours’

payment delays intensified.

     During the periods that petitioner’s corporations held

ticket sales proceeds, petitioner would invest them in the stock

market.   Petitioner enjoyed speculating in the stock market,

frequently purchasing heavily margined4 stock.   Petitioner used

various brokerage accounts for purposes of investing his

corporations’ funds, including ticket sales proceeds, in the

stock market.

     During 1987, petitioner opened the following three brokerage

accounts, among others:   (1) Account No. 682-07658 at Merrill


     4
       “Margin” is a method of buying securities on credit
extended by the brokerage firm handling the purchases. The
securities are used as collateral for the loan. The brokerage
firm establishes a margin account for the customer. The initial
amount of funds in the margin account (initial margin) is
regulated by the Federal Reserve Board. In addition, the
brokerage firm specifies the minimum amount (maintenance margin)
below which the balance in the margin account may not fall before
the brokerage firm will request that either more cash or
securities be added to the margin account or the securities be
sold (margin call). Modern Dictionary For the Legal Profession
517 (1993).
                               - 9 -


Lynch Pierce Fenner & Smith, Inc. (Merrill Lynch5) (Merrill Lynch

No. 1), which was opened in the name of Air America and under Air

America’s taxpayer identification number (TIN) but considered to

be IL NA Tours’ account; (2) account No. 879 07787 at Merrill

Lynch (Merrill Lynch No. 2), which was opened in the name of NY

NA Tours and under NY NA Tours’ TIN but considered to be IL NA

Tours’ account; and (3) account No. A19 52547 at E.F. Hutton &

Co., Inc. (Merrill Lynch No. 3), which was opened in the name of

IL NA Tours and under Air America’s TIN and considered to be IL

NA Tours’ account.   Hereinafter, we refer to those three accounts

collectively as the corporate accounts.

Transfers Out Of Corporate Accounts in 19876

     In June 1987 petitioner opened a brokerage account, account

No. 78-36391001 (Allied account), at Allied Capital Group under

his name and Social Security number, but with the designation

“d/b/a Tours of Illinois”.   Notwithstanding this designation, the


     5
       The brokerage firm’s name changed during the periods
relevant to the instant case, and, at some time, it acquired the
brokerage firm E.F. Hutton & Co. For simplicity, hereinafter we
use the term “Merrill Lynch” to refer to the brokerage firm
Merrill Lynch Pierce Fenner & Smith regardless of the name it
used on a specific date.
     6
       The transfers of cash and assets from corporate accounts
to petitioner’s personal accounts or accounts under his personal
control that are discussed in this section are not included in
the amounts that respondent alleges are includible in
petitioner’s income in 1988.
                               - 10 -


account was petitioner’s personal account, the securities

transactions from which were reported on his individual tax

returns.   On August 7 and October 7, 1987, petitioner transferred

$59,582 and $18,257, respectively, from IL NA Tours to the Allied

account.

     In August 1987, petitioner transferred $109,777 of IL NA

Tours’ funds to account No. 879 62934 (Chung No. 2) at Merrill

Lynch, an account which petitioner had opened at some time in

Chung’s name and under Chung’s Social Security number.    Chung,

however, was a nominee only as he had no ownership interest in

Chung No. 2 and received no benefit from the account.    Petitioner

closed Chung No. 2 on April 6, 1988, and transferred the assets

in the account at its closing to account No. 03T 115428 (Chung

No. 4) at Prudential-Bache Securities (Prudential-Bache7), which

he had opened in Chung’s name on or before April 6, 1988.    Chung

No. 4 was funded with stock and money that came directly or

indirectly from IL NA Tours.

     Between January 1 and October 18, 1987, an additional

$259,027 of IL NA Tours’ corporate funds was transferred to

petitioner’s personal control, as follows:

     7
       Prudential-Bache Securities at some time became known as
Prudential Securities, Inc. For simplicity, we will refer to the
brokerage firm throughout the opinion as Prudential-Bache,
regardless of it precise name at any particular time.
                               - 11 -


                 Description                       Amount

     Interbank transfers to bank accounts          $59,500
       in petitioner’s individual name
     Checks payable to petitioner                   32,359
     Checks payable to cash,                        48,100
       endorsed by petitioner
     Checks payable to gambling casinos             52,000
     Check for mortgage payment for property        16,000
       at 4730 N. Hermitage Avenue, Chicago1
     Check payable to brokerage account             34,000
       in name of On Sug Youn2
     Check payable to brokerage account in          17,068
       names of On Sug Youn and Si Joung Youn

         Total                                     259,027
     1
       This real property was purchased by petitioner in 1977,
and when it was sold in 1988, the proceeds were equally divided
between petitioner and his former spouse.
     2
       Other than the fact that she was not an employee of
petitioner or petitioner’s corporations, the record does not
disclose On Sug Youn’s relationship to petitioner. However, the
record does disclose that, in addition to the accounts noted
above, a joint brokerage account with right of survivorship was
established by petitioner under his name and that of On Sug Youn.

     During 1987, one of the corporate accounts, Merrill Lynch

No. 1, held stock in the Gerber Products Co. (Gerber stock).   On

October 13, 1987, petitioner transferred the Gerber stock to

account No. 682 35487 at Merrill Lynch (Chung No. 1), which

petitioner had opened sometime during 1987 in Chung’s name and

under Chung’s Social Security number.   Chung, however, served as

a nominee only for Chung No. 1.   He had no ownership interest in

that account and received no benefit from it.   Petitioner

controlled and directed all activities with respect to Chung No.
                               - 12 -


1, and it belonged to him personally.   Petitioner transferred the

Gerber stock to hide it from a margin call.

     While in Chung No. 1, the Gerber stock was sold on December

24, 1987, for $335,563.    Assets purchased with the Gerber stock

proceeds were transferred from Chung No. 1 on February 16 and 24,

1988, to another account that petitioner had directed Chung to

open at Prudential-Bache, account No. ATY 065408 (Chung No. 38).

Assets in Chung No. 3 were transferred to an account in

petitioner’s name, account No. ATY 066749 at Prudential-Bache (P-

B No. 2) on March 9, 1988.   Petitioner was actively buying and

selling securities in P-B No. 2 during March through May 1988.

The net balance in P-B No. 2 as of March 31, 1988, was $273,855.

The net balance as of April 30, 1988, was $305,642.   During 1988,

petitioner also used funds in P-B No. 2 to pay personal VISA

charges totaling $1,535.   On May 26, 1988, $271,836, which

petitioner’s attorney represented to be the Gerber stock

proceeds, was transferred from P-B No. 2 to a client trust

account established by petitioner’s attorney in connection with a

proposal by petitioner to secure a release from all personal




     8
       As with the other Chung accounts, although Chung No. 3 was
opened under Chung’s name and Social Security number, Chung did
not have an ownership interest therein but instead served only as
petitioner’s nominee. Petitioner owned Chung No. 3 personally.
                               - 13 -


liability to Northwest.   The net balance in P-B No. 2 as of May

31, 1988, was zero.   (See infra pp. 25-26.)

1987 Stock Market Crash

     During October 1987, many stocks listed on the stock market

began to decline in value.   Then, on October 19, 1987, the stock

market declined dramatically (stock market crash) resulting in

substantial decreases in value for many stocks.    Petitioner had

purchased many of the stocks in the corporate accounts on margin,

and he was called upon to furnish additional margin.   When he was

unable to meet the margin calls, the stocks were sold at a loss.

On its 1987 corporate return, IL NA Tours reported net losses of

$6,472,649, some of which resulted from losses incurred by the

corporate accounts following the stock market crash.

Northwest Ticket Recall Program

     The tickets that consolidators wrote on Northwest ticket

stock were not easily distinguishable from ticket stock

originating from other sources.   In 1987, Northwest decided to

redesign the ticket stock in order for consolidator tickets to be

more easily distinguishable.   Consequently, in December 1987

Northwest began a recall of all old ticket stock (ticket recall

program).   Under the terms of the ticket recall program, a

consolidator would not be issued new ticket stock until the

consolidator accounted for all old ticket stock.   The ticket
                              - 14 -


recall program would disclose any ticket stock that a

consolidator had sold but not yet reported to Northwest, because

a consolidator had to return either its old ticket stock or

payment for that stock by a specified date.

     In December 1987, petitioner received notice of the ticket

recall program.   He realized the ticket recall program would

require him to account to Northwest for all amounts his

corporations owed for ticket stock Northwest had previously

issued to them.   Additionally, petitioner realized that neither

he nor his corporations had sufficient funds to pay Northwest

what his corporations owed it for previously issued ticket stock.

Petitioner feared that Northwest would seize his corporations’

assets as payment toward the debt they owed Northwest.

Transfers Out Of Corporate Accounts Into Petitioner’s Personal
Accounts in 1988

     After learning of the ticket recall program, petitioner in

early 1988 transferred approximately $1.3 million from IL NA

Tours corporate funds into a personal brokerage account to

purchase stock held in that account.    IL NA Tours maintained a

money market account, account No. 8-20911 (Albank No. 1), at

Albany Park Bank and Trust (Albank9).   Between January 7 and

     9
       Albany Park Bank & Trust operated under various names
throughout the years. For consistency, we will use the name
“Albank” to refer to that financial institution regardless of its
                                                   (continued...)
                                   - 15 -


February 2, 1988, petitioner transferred $1,294,058 from IL NA

Tours’ Albank No. 1 account into his personal brokerage account

at First Chicago Investment Services, account No. 518-069943

(FCIS account), to fund various purchases of stock for the FCIS

account.     The specific transfers and the stock purchases to which

they were applied were:

         Date             Amount              Shares Purchased

         Jan.   7     $107,250.00           25,000   Navistar Intl.
         Jan.   20     248,277.50           10,000   Marion Labs
         Jan.   21      19,368.69            2,850   Fed. Natl. Mtg.
         Jan.   22       6,706.38            1,000   Fed. Natl. Mtg.
         Jan.   22      42,322.75            6,350   Fed. Natl. Mtg.
         Jan.   22     116,600.00           40,000   Pan Am
         Feb.   1      448,877.50           10,000   Kodak
         Feb.   1       51,362.79            5,000   Lorimar Telepi
         Feb.   2      253,292.50           10,000   Intel

           Total     1,294,058.11

     Between January 28 and February 22, 1988, petitioner sold

all of the stock in the FCIS account that had been purchased with

funds from the Albank No. 1 account, except for the 10,000 shares

of Eastman Kodak Co. (Kodak stock) and the 40,000 shares of Pan

Am Corp. (Pan Am stock), and transferred the resulting proceeds

back to the Albank No. 1 account, in the following amounts:




     9
      (...continued)
exact name at any particular time.
                                      - 16 -


         Date                Amount                Shares Sold

      Jan.      28       $79,914.32            10,200   Fed. Natl. Mtg.
      Feb.      1        195,071.36             7,600   Marion Labs
      Feb.      9        60,979.35              2,400   Marion Labs
      Feb.      12       54,798.16              5,000   Lorimar Telepi
      Feb.      18      256,692.50             10,000   Intel
      Feb.      22      105,246.38             25,000   Navistar Intl.

          Total         752,702.07

On April 4, 1988, petitioner transferred a $4,500 dividend paid

on the Kodak stock in the FCIS account from that account back to

Albank No. 1.        On his 1988 return, petitioner reported the gains

and losses on all of the foregoing sales except with respect to

the Federal National Mortgage Association (Fed. Natl. Mtg.)

stock.

     As noted, the Kodak stock and Pan Am stock were not

liquidated and transferred back to Albank No. 1; instead, each

was subsequently transferred from petitioner’s FCIS account to

other personal accounts of petitioner’s.

     The Kodak stock was transferred from petitioner’s FCIS

account on March 4, 1988 (3 days after Northwest began an audit

of petitioner’s corporations’ consolidator activities, see infra

p. 22), to account No. 03T 112101 at Prudential-Bache (P-B No.

1), another personal account.          The Pan Am stock remained in the

FCIS account until April 11, 1988, when it was transferred to P-B

No. 2, another personal account.          Petitioner’s FCIS account was

then closed.
                              - 17 -


     Petitioner again transferred the Kodak stock on March 17,

1988 (1 day before signing a personal guaranty of his

corporations’ outstanding debts to Northwest, see infra p. 23),

from his personal P-B No. 1 account to account No. 03T 110949 at

Prudential-Bache, which he had opened in January 1988 under the

name and Social Security number of his brother, Sam Han10 (Sam

Han account).   Subsequently, on June 20, 1988, 3 days after

learning that Northwest would file suit against him, see infra

pp. 26-27, petitioner transferred the Kodak stock back to P-B No.

1.   Petitioner sold the Kodak stock on June 21, 1988, for

$445,596.   On June 24, this amount was transferred to a client

trust account pursuant to the terms of a temporary restraining

order obtained by Northwest against petitioner the previous day.

See infra pp. 28-31.

      On his 1988 return, petitioner claimed a loss of $3,280

relating to the sale of the Kodak stock; IL NA Tours did not

claim such a loss on its own return.   Dividends totaling $4,500

were declared on the Kodak stock while it was held in

petitioner’s FCIS account.   As previously noted, those dividends

were deposited into the FCIS account on April 4, 1988.   On the

same day, petitioner returned $4,500 to IL NA Tours’ Albank No. 1


     10
       Sam Han, also known as Seung Soo Han, was not an employee
of any of petitioner’s corporations during 1988.
                              - 18 -


account.   Neither petitioner nor IL NA Tours reported this

dividend income on their 1988 returns.

     Petitioner’s P-B No. 2 account, into which the Pan Am stock

was transferred on April 11, 1988, had had a net balance of

$273,855 on March 31, 1988.   The Pan Am stock in P-B No. 2 was

sold in two portions in April and May 1988.     Petitioner sold

30,000 shares on April 22, 1988, for a net of $77,246 and the

remaining 10,000 shares on May 20, 1988, for a net of $26,897.11

Numerous other transactions occurred in P-B No. 2 during March

through May 1988.   The net balances in P-B No. 2 were $305,642

and zero as of April 30 and May 31, 1988, respectively.

January 1988 Agreement With Northwest Regarding Back Debt

     In furtherance of its ticket recall program, Northwest

advised petitioner on January 21, 1988, that as of that date its

records indicated that the NA Tours companies owed Northwest a

net of $3,231,921 (back debt), and it requested that petitioner,

individually and as president of IL NA Tours, enter into a letter

agreement with Northwest (January agreement) providing for

periodic payment of the back debt.     At that time, Northwest’s

ticket recall program was not complete.     Petitioner agreed to

Northwest’s proposal.   When he signed the January agreement on

     11
       Thus, Pan Am stock purchased for $116,600 was sold for a
total of $104,143. Neither petitioner nor IL NA Tours reported
any loss from the sale of the Pan Am stock on their 1988 returns.
                              - 19 -


January 21, 1988, petitioner knew that IL NA Tours owed Northwest

significantly more than the amount set forth in the January

agreement.

     Under the January agreement, petitioner, as president and

owner of IL NA Tours, agreed to pay Northwest $62,155 per week

toward the back debt.   Those payments were to be in addition to

any current amount petitioner’s corporations owed Northwest for

ticket sales, in order for them to be current by the end of 1988.

     IL NA Tours made at least seven payments of $62,155 each

between February 2 and March 18, 1988.12   Neither petitioner nor

any NA Tours company made any payments to Northwest under the

January agreement after March 18, 1988.

Transfers Out of Corporate Accounts Into the Sam Han Account in
1988

     On January 19 and 20, 1988, immediately before executing the

January agreement, petitioner withdrew $100,000 and $200,000,

respectively, from IL NA Tours’ Albank No. 1 account and placed


     12
       We cannot determine from the record the source from which
IL NA Tours obtained the funds to make these payments to
Northwest. Petitioner contends on brief that the funds he
returned from his FCIS account to IL NA Tours’ Albank No. 1
account were used to meet the corporation’s obligations to
Northwest. The record, however, does not show that the funds
returned to Albank No. 1 from the FCIS account were used to make
those payments to Northwest. Statements in briefs are not
evidence, and they cannot be used as such to supplement the
record. See, e.g., Rule 143(b); Niedringhaus v. Commissioner, 99
T.C. 202, 214 n.7 (1992).
                               - 20 -


those amounts into the Sam Han account.    Petitioner owned and

controlled the Sam Han account; Sam Han had no ownership interest

in it.    Sometime in 1988 before March 8, petitioner placed

$70,000 of IL NA Tours’ funds into Albank No. 3, one of his

personal accounts.    On March 8, 1988, petitioner withdrew $70,000

from Albank No. 3 and placed it into the Sam Han account.      On

March 9, 1988, petitioner withdrew $80,000 from a bank account

maintained by SF NA Tours and placed it into the Sam Han account.

The $80,000 had been transferred in 1987 to the SF NA Tours

account from IL NA Tours’ funds.    Thus, between late January and

early March 1988, cash from IL NA Tours’ accounts totaling

$450,000 was transferred into the Sam Han account.13

Other Transfers From Corporate Accounts to Personal Use in 1988

     From January 1 through April 3, 1988, petitioner withdrew

$28,000 in cash from IL NA Tours’ Albank No. 1 account for his

personal use.

     On January 29, 1988, petitioner took $9,662 from account No.

1-26373 (Albank No. 2), maintained at Albank in the name of IL NA

Tours, and placed it into the Allied account (a personal

brokerage account of petitioner’s).

     13
       During 1988, in addition to the Sam Han account,
petitioner maintained four other brokerage accounts in Sam Han’s
name into which petitioner placed corporate funds. The record
does not provide information as to the disposition of the assets
in those accounts, and they are not in issue in the instant case.
                             - 21 -


     On February 8, 1988, petitioner took $22,000 from account

No. 4-35325 (Albank No. 3) maintained at Albank in his own name,

and put it into his Allied account.   On February 16, 1988,

petitioner transferred $22,000 from IL NA Tours’ Albank No. 1

account to his Albank No. 3 account to cover an overdraft in the

latter caused by the February 8, 1988, transaction.

     Also during 1988, petitioner used corporate funds to pay the

following personal expenses, loans, or gifts:

            Item                                Amount

     Car insurance premiums                   $3,945
     Car repairs                               3,250
     Real estate insurance premiums            3,168
     Real estate taxes                           442
     American Express charges                  4,964
     Life insurance                              213
     Utilities                                   506
     Beverly A. Seman                          1,000
     Florist bills                               305
     Attorney’s fees                           8,233

       Total                                  26,026

Petitioner did not include the corporate payments of personal

expenditures in income on his 1988 return.

     Thus, in addition to the corporate funds used to purchase

the Pan Am and Kodak stock and the $450,000 in transfers of

corporate funds to the Sam Han account, petitioner transferred
                              - 22 -


into personal accounts, or took for personal use, additional

corporate funds totaling $85,688 in 1988.14

     Petitioner reported no dividend income on his 1988 return

from any of his corporations, and the total reported as wages or

salary was $37,500.

Northwest Audit

     Northwest commenced an audit of petitioner’s corporations’

consolidator activities on March 1, 1988.     Petitioner retained an

attorney, Sheldon Belofsky (Belofsky), to represent him and his

corporations in the matter of Northwest’s audit of their

consolidator activities.

     Northwest’s audit of petitioner’s corporations’ consolidator

activities revealed large “round number” withdrawals from

corporate accounts going into various brokerage firm accounts.

The brokerage account statements were not kept at petitioner’s

corporations’ offices, and Northwest had trouble obtaining copies

of the statements from petitioner or from the brokerage firms.

     During the course of Northwest’s audit of petitioner’s

corporations’ consolidator activities, petitioner refused to give

Northwest records of receipts from ticket sales to subagents.

Petitioner also refused to give Northwest’s auditors personal

     14
       This $85,688 does not form any part of the $986,856 in
funds at issue in this case that respondent asserts is taxable
income of petitioner in 1988.
                                - 23 -


financial information.    Joseph J. Hasman (Hasman), an attorney

representing Northwest, came to believe that petitioner’s failure

to provide the records was deliberate.

     In attempting to trace funds, Northwest concluded that

petitioner had opened more than 20 different brokerage accounts

in the names of various individuals into which he placed

corporate funds during 1987 and 1988.

Petitioner’s Guaranty of Corporate Indebtedness to Northwest

     By March 18, 1988, Northwest officials knew that

petitioner’s corporations’ debt to Northwest far exceeded the

$3,231,921 set forth in the January agreement.    Consequently, at

Northwest’s request, on March 18, 1988, petitioner, individually

and on behalf of his corporations, executed a written personal

guaranty (Guaranty).     Under the Guaranty, petitioner personally

guaranteed the prompt payment to Northwest at maturity of all the

past and future monetary obligations of petitioner’s corporations

which arose out of ticket sales.

     One day before signing the Guaranty, petitioner transferred

the contents of P-B No. 1, an account in his name, to the Sam Han

account, registered in his brother’s name.    This transfer

included the Kodak stock at issue in this case, as well as stocks

valued at $582,356 and debit memos of $573,610 not at issue in

this case.   In addition, as noted previously, on March 8, 1988,
                               - 24 -


petitioner had taken $70,000 from an account in his name (Albank

No. 3) (which amount he had taken earlier in the year from IL NA

Tours) and placed it into the Sam Han account.   Also, on March 9,

petitioner had taken $80,000 from a corporate account of SF NA

Tours and placed it into the Sam Han account.

     Belofsky was not made aware of the Guaranty or its terms

before petitioner signed it.   After learning of the Guaranty,

Belofsky on March 28 protested its execution and validity to

Hasman, arguing that petitioner had signed the Guaranty without

benefit of counsel and without consideration, and therefore that

it should be returned to petitioner.

Interim Agreement

     On April 7, 1988, petitioner entered into an interim

agreement (Interim Agreement) with Northwest, on behalf of

himself, IL NA Tours, NY NA Tours, and Air America.   In the

Interim Agreement, Northwest agreed to give petitioner’s

corporations 1,000 tickets of Northwest ticket stock subject to

prepayment requirements and strict accounting rules, which

included petitioner’s agreement to pay Northwest $500,000 as a

partial prepayment for the ticket stock.   Petitioner admitted in

the Interim Agreement that petitioner’s corporations had received

proceeds from the sale of Northwest ticket stock to subagents

which had not been forwarded to Northwest.   Petitioner further
                              - 25 -


admitted that, while the total amount not forwarded was unknown,

petitioner’s corporations had not forwarded and now owed

Northwest an amount in excess of $8 million.

     In addition, in the Interim Agreement petitioner personally

guaranteed the debts of petitioner’s corporations arising from

the sale of Northwest tickets received in 1988 (but not before)

and agreed to pledge any unencumbered assets of petitioner’s

corporations to secure future corporate debts to Northwest.

Petitioner further agreed to make a full and complete disclosure

to Northwest of all personal and corporate financial records,

including bank and brokerage accounts.

     After the Interim Agreement was signed, Belofsky continued

to challenge the validity of the Guaranty and to request its

return.   Belofsky also asserted that the Guaranty did not form

any basis for the Interim Agreement.

Petitioner’s Proposal for Release of His Liabilities Under the
Guaranty and the Interim Agreement

     On May 20, 1988, Belofsky wrote a letter to Northwest

seeking a return of petitioner’s Guaranty and his release from

liability under the Interim Agreement.   As consideration for the

release and the return of the Guaranty, Belofsky proposed that

petitioner would liquidate the “‘Gerber’ account” and give the

proceeds to Northwest to be applied first against the amounts

petitioner’s corporations owed Northwest for ticket stock issued
                               - 26 -


to those corporations after January 1, 1988, and then to the

amounts owed for ticket stock issued before that date.   Belofsky

further advised Northwest that he would have petitioner deposit

with Belofsky the proceeds of the “‘Gerber’ account”, which he

would then hold until he received appropriate documentation from

Northwest.

     At the time this letter was written, the Gerber stock

proceeds, as well as numerous other assets, including the Pan Am

stock, had been transferred to one of petitioner’s personal

accounts, P.B. No. 2.15   On May 26, 1988, petitioner transferred

$271,836 in cash from P-B No. 2 to account No. 14196956 (ANB No.

2), a client trust account with American National Bank (American

National), which Belofsky had established for petitioner.

     Northwest did not accept Belofsky’s proposal.

Northwest’s Litigation Against Petitioner and His Corporations

     On June 16, 1988, Northwest advised Belofsky that

Northwest’s analysis of petitioner’s corporations’ consolidator

activities showed that petitioner and his corporations owed

     15
       As previously noted, the Gerber stock was transferred by
petitioner from one of the corporate accounts (Merrill Lynch No.
1) to petitioner’s personal account, Chung No. 1, on Oct. 13,
1987. The stock was sold for $335,563 on Dec. 24, 1987, and the
proceeds were held in Chung No. 1 until Feb. 24, 1988, when all
assets in that account were transferred to another personal
account of petitioner’s, Chung No. 3. On Mar. 9, 1988,
petitioner transferred the assets in Chung No. 3 to another
personal account, P.B. No. 2.
                              - 27 -


Northwest $14,947,176, computed on the basis of auditor’s coupons

after giving credit for commissions earned.    The following day

Hasman informed Belofsky that Northwest intended to file suit

against petitioner and petitioner’s corporations because,

Northwest maintained, petitioner had refused to cooperate or

comply with the Interim Agreement.     Thereafter, on June 20, 1988,

Northwest filed a multicount complaint against petitioner

individually and against petitioner’s corporations for, among

other things, specific performance of the Interim Agreement,

breach of oral contract, express guaranty, fraudulent conversion,

unjust enrichment, imposition of a constructive trust, and

injunctive relief (Northwest litigation).16    In its complaint,

Northwest further alleged that petitioner had failed to comply

with the Interim Agreement by, inter alia, refusing to disclose

all of the bank and brokerage account records of petitioner and

his corporations.   Throughout the Northwest litigation, Belofsky

represented both petitioner and his corporations.

     Northwest decided to sue petitioner individually and to

include a fraudulent conversion count against him because

Northwest’s audit had revealed that substantial amounts of the


     16
       Petitioner, IL NA Tours, and Air America filed answers in
the Northwest litigation, but NY NA Tours, CA NA Tours, and SF NA
Tours did not. A default judgment was subsequently entered
against the latter three corporations.
                              - 28 -


money petitioner’s corporations owed Northwest had been

transferred from corporate accounts into individual accounts in

petitioner’s name or the names of relatives or employees.

Throughout the Northwest litigation, petitioner denied any

personal liability to Northwest.

     Northwest claimed damages in excess of $17.9 million in its

complaint,17 alleging that petitioner and his corporations had

fraudulently converted, and/or were unjustly enriched by, at

least $14.9 million.   Northwest included one count in its

complaint against petitioner alone, based upon the Guaranty.

From the initiation of the Northwest litigation until its

settlement, petitioner and his corporations conceded that his

corporations, but not petitioner individually, were liable to

Northwest for ticket sales proceeds that had not been remitted.

Petitioner and his corporations also did not agree with

Northwest’s calculation of the amount owed Northwest, claiming

that petitioner’s corporations owed Northwest just under $9

million.

     On June 23, 1988, Northwest sought a temporary restraining

order (TRO) in an attempt to (i) prevent petitioner and his

     17
       The $17.9 million included net sales proceeds of $14.9
million that Northwest alleged it was owed for ticket stock sold
by petitioner’s corporations plus an estimated net value of $3
million for 4,800 tickets for which petitioner and his
corporations had not accounted to Northwest.
                              - 29 -


corporations from misappropriating, dissipating, or losing ticket

sales proceeds or assets in which the proceeds might have been

invested, as well as blank, unsold ticket stock, and (ii) require

petitioner and his corporations to disclose bank and brokerage

account information.   Northwest was granted the TRO that same

day.   The TRO, among other things, restrained petitioner and his

corporations from transferring, encumbering, investing,

dissipating, using, or otherwise disposing of proceeds from

Northwest tickets sold before April 8, 1988 (or any assets in

which the proceeds might have been invested), except to deposit

the proceeds in an account over which Northwest had signatory

authority and control or otherwise upon Northwest’s or the

court’s authorization.   The TRO further ordered petitioner and

his corporations to make a full disclosure of all books, records,

and documents pertaining to the sale of tickets and the proceeds

thereof, including bank and brokerage account statements.

Finally, the TRO prohibited petitioner and his corporations from

distributing, transferring, or otherwise disposing of any blank,

unsold Northwest tickets delivered to them on or before the date

of the Interim Agreement.   At the time the TRO was granted, the

sale of Northwest tickets constituted approximately 90 percent of

petitioner’s corporations’ business activity.   The TRO was

renewed periodically through at least November 22, 1988.
                               - 30 -


     To effect compliance with the TRO, Hasman and Belofsky

agreed that Belofsky, as sole trustee, would hold in client trust

accounts those funds that Northwest discovered had been diverted

from petitioner’s corporations’ accounts.     Consequently, at

various times, in addition to ANB No. 2 (which contained the

proceeds from the sale of the Gerber stock), see supra pp. 25-26,

Belofsky established other client trust accounts at American

National to comply with the TRO.     Those client trust accounts

included account No. 80082106 (ANB No. 1), account No. 14199580

(ANB No. 3), account No. 14199939 (ANB No. 4), account No.

322447700 (ANB No. 5), and account No. 901679 (ANB No. 6)

(collectively the ANB accounts).18    Belofsky used petitioner’s

Social Security number for the ANB accounts during their

existence.19   Belofsky acted at all times in a custodial capacity

with respect to the ANB accounts.

     On June 24, 1988, with Hasman’s authorization, Belofsky

transferred $445,596, representing the proceeds of the sale of


     18
       The record indicates that other ANB accounts were
maintained to which petitioner’s or petitioner’s corporations’
funds may have been deposited directly or indirectly. However,
the record does not provide sufficient information relating to
those accounts to enable us to make further findings of fact with
respect to them. Accordingly, we do not address those accounts.
     19
       Petitioner received various backup withholding tax
credits with respect to the ANB accounts in his name during 1989,
1990, and 1991.
                              - 31 -


the Kodak stock, from petitioner’s personal P-B No. 1 account

into ANB No. 1.

     Notwithstanding the granting of the TRO, Northwest remained

frustrated in its efforts to obtain information from petitioner

regarding bank and brokerage accounts into which ticket sales

proceeds had been transferred.   On July 1, 1988, Hasman wrote

Belofsky advising him of petitioner’s refusal to provide

financial documents and Hasman’s opinion that such conduct

violated the TRO, and urging Belofsky to counsel petitioner on

the need to comply with the TRO so as to “resolve the growing

need for court supervision of your client’s conduct”.   More

specifically, Hasman wrote:

          I was advised yesterday that our [Northwest’s]
     auditors’ review of the sparse documents which Mr. Han
     and Mr. Chung have made available disclosed six
     brokerage accounts, about which Northwest had no prior
     knowledge because of Mr. Han’s prior refusal to
     disclose those accounts, or documentation which would
     lead to disclosure of those accounts. This appears to
     be a pattern that your client has been following,
     namely, withholding information and documentation which
     would lead to the disclosure of relevant financial and
     other information necessary to conduct the ongoing
     audit. We believe that the withholding of
     documentation which would lead to disclosure of
     accounts in which Mr. Han and his companies have
     transferred funds has been and continues to be
     intentional and in violation of the requirement * * *
     of the TRO, which requires the defendants to allow my
     client “immediate access” to books, records and
     documents.
                               - 32 -


     Subsequently, on July 18, 1988, with Hasman’s approval,

Belofsky deposited a check for $80,000, drawn on the Sam Han

account, to ANB No. 3, but Northwest was not made aware of the

existence of the Sam Han account at this time.20   Northwest’s

auditors uncovered the Sam Han account sometime shortly before

September 2, 1988, when Hasman wrote Belofsky demanding an

explanation.21   The Sam Han account was the subject of an

amendment to the TRO sought by Northwest and granted on October

14, 1988, which specifically identified and “froze” it.      As of


     20
       In an Aug. 4, 1998, letter to Belofsky, Hasman reiterated
complaints about petitioner’s recalcitrance in disclosing
information:

     Enclosed marked Attachments I through IV is the current
     list of information and documents requested from Mr.
     Han quite some time ago, but still not turned over.

          Even a cursory review of Attachments I through IV
     belies your recent statements that we are close to
     having all of the significant information that we need
     to complete our audit. When I see unaccounted for wire
     transfers and withdrawals in the quarter or half
     million dollar ranges, I cannot help but become very
     skeptical about the reasons Mr. Han has not been
     forthcoming with this information.

          * * * We are learning of new accounts, other
     previously undisclosed assets and other information
     suggesting that there may be “more out there” than Mr.
     Han has misled us to believe.
     21
       Hasman’s Sept. 2, 1988, letter states: “We * * * demand
prompt written explanation of who Seung Soo Han is. Our ticket
money has been traced into Prudential-Bach account ATY-110949
[i.e., the Sam Han account], standing in that person’s name”.
                               - 33 -


December 31, 1988, the Sam Han account contained assets with a

value of $137,128.    The record does not reflect what happened to

the remainder ($232,872) of the $450,000 that petitioner had

transferred to the Sam Han account between January 19 and March

9, 1988.22

       Thus, including the so-called Gerber account proceeds

transferred in May 1988 from P.B. No. 223 to ANB No. 2 (in

connection with Belofsky’s proposal for gaining petitioner’s

release from personal liability), by yearend 1988 the following

amounts were on deposit in accounts governed by the terms of the

TRO:




       22
       The foregoing analysis of the Sam Han account disregards
the transfers of the Kodak stock into and out of that account on
Mar. 17 and June 20, 1988, respectively.
       23
       By late May 1988, P-B No. 2 contained the proceeds from
the sale of the Gerber stock and from the sale of the Pan Am
stock, as well as other assets. The Gerber stock proceeds are
not included in the amounts that respondent alleges are
includible in petitioner’s income in 1988, although the Pan Am
stock proceeds are.
                               - 34 -



 Account             Amount                Source

 ANB No. 2       $271,836      “Gerber account” proceeds from P-B
                                 No. 2
 ANB No. 1           445,596   Kodak stock proceeds from P-B No. 1
 ANB No. 3            80,000   Sam Han account
 Sam Han acct.       137,128   TRO amended to cover 10/14/88
                 1
   Total          934,560
     1
       An additional client trust account established by Belofsky
at American National, account No. 14199939 (ANB No. 4), contained
$35,852 transferred thereto on Aug. 15, 1988, from petitioner’s
Allied account pursuant to Hasman’s Aug. 2 authorization.
Although the Allied account contained amounts transferred from
corporate accounts in 1987 and 1988, these transfers are not
included in the amounts that respondent alleges are includible in
petitioner’s income in 1988.

Northwest’s Exercise of Letters of Credit From Petitioner’s
Corporations

     On July 26, 1988, Northwest exercised a letter of credit in

the amount of $54,000 from petitioner’s corporations.   Northwest

exercised a second letter of credit in the amount of $50,000 from

petitioner’s corporations on August 22, 1988.   It exercised a

third letter of credit in the amount of $146,000 from

petitioner’s corporations on August 24, 1988.

     The foregoing letters of credit were secured by various

assets of petitioner’s corporations held by Albank as well as

real property owned by petitioner personally.
                               - 35 -


Recordation of ANB Accounts in IL NA Tours’ Workpapers

     In August 1988, in connection with the preparation of

financial statements for IL NA Tours covering the period January

1 through June 30, 1988, Chung prepared workpapers that recorded

the balances in the ANB accounts at that time as assets of IL NA

Tours.   Chung obtained information for this purpose from

Belofsky.

Northwest’s Conclusions From Its Audit

     Northwest’s auditors completed the audit of petitioner’s

corporations’ consolidator activities on or about August 31,

1988.    Northwest concluded that, as of August 31, 1988, after

crediting the letters of credit exercised and the commissions

Northwest owed petitioner’s corporations, petitioner and his

corporations owed Northwest approximately $15,439,468.

Petitioner did not agree with Northwest’s calculation of the

amount owed.

     As a result of the audit, Northwest’s auditors concluded on

the basis of the information then available to Northwest that

during 1987 and 1988 petitioner had transferred $15,096,879 of

the proceeds from the sale of Northwest’s ticket stock into

brokerage accounts of which Northwest then had knowledge

(contested accounts), he had transferred $4,102,049 from the

contested accounts into various other accounts, he had withdrawn
                              - 36 -


$2,355,319 which Northwest’s audit could not trace, and only

$8,639,511 could be attributable to losses in the stock market.

Northwest’s auditors never were able to determine what petitioner

had done with the $2,355,319 cash withdrawn from the contested

accounts.   Shortly after conclusion of the audit, on or about

September 2, 1988, Northwest reiterated to petitioner that he and

his corporations could no longer sell Northwest’s tickets.

Disbursements From ANB Accounts During Northwest Litigation

     During the pendency of the Northwest litigation (June 20,

1988, through its settlement on December 31, 1990), Northwest did

not receive any amount from the ANB accounts.    Northwest asked

petitioner and Belofsky to release the funds in the ANB accounts

to it during 1988, but petitioner refused because he wanted to

keep control over the funds for purposes of negotiating a

settlement.

     In August 1989, with Northwest’s permission, Belofsky used

$7,313 of the funds in ANB No. 3 to redeem petitioner’s personal

residence from sale for back taxes.    Petitioner did not report

the $7,313 as income on his 1989 return.

Settlement of the Northwest Litigation

     Petitioner and Northwest agreed to settle the Northwest

litigation and executed an agreement to that effect (settlement

agreement) on December 31, 1990.   In the settlement agreement,
                              - 37 -


petitioner and petitioner’s corporations, among other things,

agreed to pay Northwest $865,000 from ANB account Nos. 2, 3, 4,

and 5,24 with any remaining balance to become the property of

petitioner and his corporations.   Pursuant thereto, Northwest

received $865,000 from ANB Nos. 2 and 5, and the remaining

balance of $5,674 in those two accounts was paid to petitioner

and his corporations.   The entire balance in ANB No. 3 ($94,722

including accrued interest) and in ANB No. 425 ($43,147 including

accrued interest) became the property of petitioner and his

corporations.   Northwest also acknowledged in the settlement

agreement that Belofsky held the ANB accounts solely as a

custodian pursuant to the terms of the TRO.   The settlement

agreement further provided that the entire balance in the Sam Han

account (then approximately $192,000) would be assigned by

petitioner and his corporations to Northwest, as well as any

amounts remaining in Chung Nos. 1, 2, 3, and 4.26   The record does

     24
       As of Jan. 2, 1991, ANB No. 5 contained funds that had
been transferred to it from ANB No. 6 in February 1989. At the
time of the transfer to ABN No. 5, ANB No. 6 contained funds that
had been transferred to it from ANB No. 1. Additionally, on May
1, 1989, $500 had been transferred from ANB No. 6 to ANB No. 5.
     25
       As noted previously, the corporate funds that were
transferred to ANB No. 4 form no part of the $986,856 that
respondent contends is includible in petitioner’s income in 1988.
     26
       The source and disposition of funds in 1991 pursuant to
the settlement agreement were:
                                                   (continued...)
                                - 38 -


not show what amount, if any, Northwest received from Chung Nos.

1, 2, and 4.    The settlement agreement did not address the P-B

No. 2 account.

     Subsequent to the execution of the settlement agreement,

petitioner paid Belofsky $14,800 from ANB No. 3 and $31,400 from

ANB No. 4 for his services.

     26
      (...continued)
             Amount       Interest
              from         earned        Amount and disposition to
  Source     source       1988-91        Pet./Pet. Corp. Northwest

Chung#1 to
  Chung#3
  to P-B#2
  to ANB#2    $271,836    $54,930            $3,749      $323,017

FCIS to
  P-B#1 to
  ANB#1 to
  ANB#6 to
  ANB#5        445,596     98,312             1,925       541,983

Albank #1 &
  Albank #3
  & Mayfair
  Bank to
  Sam Han      137,128        N/A              -0-        196,441

Chung #3         N/A         N/A               -0-          4,502

Albank#1 &
  Albank#3
  & Mayfair
  Bank to
  Sam Han
  to ANB#3      80,000     14,722             94,722         -0-

Allied
  to ANB#4      35,852      7,295             43,147         -0-
                               - 39 -


Corporate Returns and Other Corporate Information

     For 1987, IL NA Tours filed a Form 1120, U.S. Corporation

Income Tax Return, which did not indicate that it constituted a

consolidated tax return.    The 1987 return reported gross receipts

of $34,146,381 and a net loss after net operating loss deduction

of $287,241.   The Schedule L, Balance Sheets, reflected total

assets of $10,159,061, accounts payable of $16,875,904, capital

losses of $6,472,649, and no stockholder equity as of yearend

1987.

     For 1988, IL NA Tours filed a Form 1120 which did not

indicate that it constituted a consolidated tax return.    IL NA

Tours’ 1988 return reported gross receipts of $9,272,913 and a

net loss of $2,211,399 before any net operating loss deduction.

As of yearend 1988, Schedule L reflected total assets of

$9,578,469, accounts payable of $18,597,355, capital losses of

$6,472,649, other liabilities of $100,967, and capital stock of

$10,000 (common stock).    The 1988 return does not reflect any

loans to or from shareholders at the beginning or close of the

year.   The return also does not reflect any purchases or sales of

stock, nor any income from interest or dividends.    For 1988, IL

NA Tours did not have any current earnings and profits nor any

accumulated earnings and profits.
                              - 40 -


     IL NA Tours did not file any Federal income tax returns

after its 1988 return.

     Air America filed returns for 1988 and 1989, but not for the

years 1990 through 1995.

     Neither Air America’s nor IL NA Tours’ returns for 1987 or

1988 reported any transactions related to the brokerage accounts

under individual names to which Northwest had traced corporate

funds.   Regarding those brokerage accounts, for 1987 petitioner

reported on his return selected transactions relating only to his

FCIS account, his Allied account, and various other brokerage

accounts not at issue in this case.    For 1988, petitioner

reported only selected sales of stock in his FCIS account, his

Allied account, and P-B No. 1 on his return.

Dividend Income Issue

     During 1988, the following amounts of dividend income were

paid on stocks held in the accounts noted:    $3,525 in Chung No. 1

(on March 1), $211 in Chung No. 3, $4,500 in the FCIS account (on

April 4, 1988), $16,905 in the Sam Han account, and $8,412 in P-B

No. 2 (during March 1988).

     Petitioner reported no dividend income on his 1988 return.

Interest Income Issue

     On January 30, 1989, Belofsky forwarded Forms 1099, Interest

Income, to Chung which reported that ANB Nos. 1 through 4 had
                                - 41 -


earned interest income during 1988 totaling $27,992.     Petitioner

reported the $27,992 in interest as income on his 1988 return.

The $27,992 interest income remained in the ANB accounts during

1988.     Petitioner obtained backup withholding credits in 1989,

1990, and 1991 with respect to the ANB accounts.

Depreciation and Rental Income Issues

        During 1988, petitioner, through a land trust, owned real

property at 5528 N. Lincoln Avenue, Chicago, Illinois (Lincoln

Avenue I property) and at 5524-5526 N. Lincoln Avenue (Lincoln

Avenue II property) (collectively, the Lincoln Avenue

properties).     Petitioner was the sole owner of the Lincoln Avenue

properties.

        During 1987 and 1988, the offices of Air America and IL NA

Tours were located on the first and second floors, respectively,

of the Lincoln Avenue I property.     After 1988, Air America

occupied the entire Lincoln Avenue I property.     On its 1987

return, IL NA Tours claimed a deduction of $37,810 for rent

expense in the “Other deductions” category of expenses.     Air

America did not deduct rent expense on its 1987 return other than

a deduction for equipment rent.     On their 1988 returns, Air

America reported rent expense of $12,425 in the “Other

deductions” (line 26) category of expenses, and IL NA Tours

reported rent expense of $41,127 in the “Other deductions”
                             - 42 -


category of expenses as well as in the “Rents” (line 16)

category.

     During 1987, petitioner received rental income.    He

deposited checks received from rentals in an account at Albank.

On Schedule E, Supplemental Income Schedule, of his 1987 return,

petitioner reported $16,800 in rents received, $23,080 of

expenses other than depreciation, depreciation of $11,875, and a

net loss of $18,155 related to the Lincoln Avenue II property.

He did not report any rents or expenses related to the Lincoln

Avenue I property on that return.

     On Schedule E of his 1988 return, petitioner reported rents

received of $10,430, other expenses other than depreciation of

$19,410, depreciation of $10,744, and a net loss of $19,724

related to the Lincoln Avenue II property; he reported no rental

activity related to the Lincoln Avenue I property.

     During the audit of petitioner’s 1988 return, petitioner

told the revenue agent conducting the audit that the $41,127

deducted by IL NA Tours and the $12,425 deducted by Air America

for rents, in total $53,552, constituted rents they had paid him

for use of space in the Lincoln Avenue I property.     The revenue

agent included $43,123 of unreported rental income relating to

the Lincoln Avenue I property in petitioner’s income for purposes

of determining the deficiency for 1988.   The revenue agent
                              - 43 -


derived the $43,123 unreported rental income by subtracting

(erroneously) from the $53,552 rental income relating to the

Lincoln Avenue I property the $10,430 that petitioner had

received and reported in income relating to the Lincoln Avenue II

property.   During trial preparation, petitioner reiterated to

respondent’s counsel that during 1988 Air America and IL NA Tours

had paid him $53,552 for use of the Lincoln Avenue I property.

Petitioner’s 1988 Return

      Petitioner did not review his 1988 return before he signed

it.   On that return, petitioner deducted $2,450 for real estate

taxes on Schedule A, Itemized Deductions, that were paid by his

corporations.   He also deducted $3,991 of unreimbursed employee

expenses even though his corporations paid his employee expenses.

In addition, petitioner deducted $4,271 of investment interest on

Schedule A of the return to which he concedes he is not entitled.

On Schedule E of the return, petitioner deducted $19,410 for

expenses other than depreciation related to the Lincoln Avenue II

property.   Respondent disallowed this deduction for lack of

substantiation, and petitioner now concedes that he is not

entitled to it.
                              - 44 -


                              OPINION

Diverted Corporate Funds Issue

     In early 1988, petitioner transferred $1,294,058 from an

account of one of his corporations (Albank No. 1) into a personal

brokerage account, the FCIS account, to purchase stock held in

that account.   Before the end of February 1988, all but two

blocks of the stock purchased (i.e., the Pan Am and Kodak stock)

had been sold, and the proceeds transferred from petitioner’s

FCIS account back to his corporation’s Albank No. 1 account.    The

stock so liquidated was generally sold at a profit.   As a result,

with respect to the $1,294,058 taken from the corporate account,

petitioner was able both to return $752,702 to the corporation

and to retain in his FCIS account stock purchased with $565,478

in corporate funds (i.e., $116,600 for the Pan Am stock plus

$448,878 for the Kodak stock).

     On March 4, 1988, petitioner transferred the Kodak stock

from his FCIS account to another personal account, P-B No. 1.    On

March 17, 1988, petitioner transferred the Kodak stock from P-B

No. 1 to the Sam Han account (which he controlled).   He

transferred the Kodak stock back to P-B No. 1 on June 20, 1988.

On June 24, 1988, petitioner sold the Kodak stock for a net of
                               - 45 -


$445,59827 and transferred the proceeds to ANB No. 1, a custodial

account governed by the TRO.   In January 1991, pursuant to the

settlement agreement, Northwest received $541,983 and petitioner

and his corporations received $1,925 from ANB No. 5 (which had

been funded with money transferred from ANB No. 1 through ANB No.

6).   See supra note 26.

      On April 11, 1988, petitioner transferred the Pan Am stock

to another personal brokerage account, P-B No. 2, which contained

the proceeds of the Gerber stock (diverted from a corporate

account in 1987) as well as other assets of petitioner’s.      The

Pan Am stock was then sold on April 22 and May 20, 1988, for a

net of $104,143.28   On May 26, 1988, petitioner transferred

$271,836 in cash from P-B No. 2 to ANB No. 2, a custodial account

governed by the TRO.   In January 1991, pursuant to the settlement

agreement in the Northwest litigation, Northwest received

$323,017 and petitioner and his corporations received $3,749 from

ANB No. 2.   See supra note 26.

      With respect to the transfers between the corporate Albank

No. 1 account and petitioner’s FCIS account, respondent

determined that the “net” amount taken from and not returned to

      27
       Petitioner reported the loss from the sale of the Kodak
stock on his individual return; IL NA Tours did not report it.
      28
       The loss on the sale of the Pan Am stock was not reported
by petitioner or by IL NA Tours on their respective returns.
                              - 46 -


the corporate account by yearend constituted taxable income to

petitioner; that is, respondent determined that the $1,294,058

transferred from the corporate account to purchase stock in the

personal brokerage account, less $757,20229 in stock sales

proceeds returned to the corporate account, or $536,856, was

additional income to petitioner in 1988.   Respondent proposed no

adjustment to petitioner’s taxable income as a result of the

profitable (or losing) sales of the stocks for which the proceeds

were returned to Albank No. 1.30   Thus, respondent’s determination

of additional income as a result of the transfers between the

corporate Albank No. 1 account and petitioner’s personal FCIS

account equaled $536,856, even though stocks purchased with

corporate funds totaling $565,478 were retained in petitioner’s

FCIS account as the net result of the transfers.

     In addition, during the first 3 months of 1988, petitioner

transferred a total of $450,000 in cash from corporate accounts

into the Sam Han account.   On July 18, 1988, a check for $80,000


     29
       For this purpose, respondent treated the stock proceeds
returned to the corporate account ($752,702), as well as a $4,500
dividend paid on the Kodak stock on Apr. 4, 1988, and transferred
from petitioner’s FCIS account to the corporate Albank No. 1
account on the same day, as amounts returned.
     30
       Petitioner in any event reported the gains and losses
from the sale of all but one of these stocks on his 1988 return
(although he now contends that he held the stocks as an agent of
his corporations).
                                 - 47 -


drawn on the Sam Han account was deposited into ANB No. 3, a

custodial account governed by the TRO.    On October 14, 1988, the

TRO was amended specifically to cover the Sam Han account.    The

account contained assets of $137,128 at yearend 1988.    Pursuant

to the settlement agreement, (i) in January 1991, petitioner and

his corporations received $94,722 and Northwest received nothing

from ANB No. 3, and (ii) on April 1, 1991, Northwest received the

balance remaining in the Sam Han account, which at that time was

$196,441.   See supra note 26.

     The $450,000 that petitioner transferred to the Sam Han

account from corporate accounts, together with the “net” of

$536,856 in funds taken from and not returned to the corporate

Albank No. 1 account by yearend, make up the $986,856 that

respondent asserts in an amendment to his answer was diverted by

petitioner from his corporations in 1988.

     Respondent contends that the entire $986,856 is ordinary

income which must be included in petitioner’s income for 1988.

In the alternative, respondent contends that the $986,856 should

be deemed a distribution from IL NA Tours in excess of

petitioner’s basis in the stock which must be included in his

income for 1988.   The unreported income issue constitutes new

matter resulting in an increased deficiency.   Respondent has the

burden of proving any new matter or increased deficiency.    Rule
                               - 48 -


142(a); Truesdell v. Commissioner, 89 T.C. 1280, 1296 (1987).

Petitioner bears the burden of proof with respect to the

determinations made in the notice of deficiency.31   Rule 142(a).

     Generally, unless otherwise provided, gross income under

section 61 includes net accessions to wealth from whatever source

derived.    Commissioner v. Glenshaw Glass Co., 348 U.S. 426, 431

(1955).    A gain

     constitutes taxable income when its recipient has such
     control over it that, as a practical matter, he derives
     readily realizable economic value from it. That occurs
     when cash * * * is delivered by its owner to the
     taxpayer in a manner which allows the recipient freedom
     to dispose of it at will, even though it may have been
     obtained by fraud and his freedom to use it may be
     assailable by someone with a better title to it.
     [Rutkin v. United States, 343 U.S. 130, 137 (1952);
     citations omitted.]

See also United States v. Rochelle, 384 F.2d 748, 751 (5th Cir.

1967); McSpadden v. Commissioner, 50 T.C. 478, 490 (1968).

The economic benefit accruing to the taxpayer is the controlling

factor in determining whether a gain is income.    Rutkin v. United

States, supra; United States v. Rochelle, supra.

     Under the “claim of right” doctrine, it is well settled that

unlawful, as well as lawful, gains are included within the


     31
       Sec. 7491 does not apply to this case because the
examination commenced before July 22, 1998, the effective date of
that section. See Internal Revenue Service Restructuring and
Reform Act of 1998, Pub. L. 105-206, sec. 3001(c)(1), 112 Stat.
727.
                                - 49 -


definition of gross income.    James v. United States, 366 U.S. 213

(1961) (money obtained from embezzlement); Rutkin v. United

States, supra (money obtained by extortion); Leaf v.

Commissioner, 33 T.C. 1093 (1960) (money diverted from wholly

owned insolvent corporation to defraud corporation’s creditors),

affd. per curiam 295 F.2d 503 (6th Cir. 1961).     Generally, a

taxpayer who unlawfully and fraudulently obtains funds is liable

for taxes on the full amount of the funds if the taxpayer

receives the money without the consensual recognition of an

obligation to repay and there is no restriction on the

disposition of the money.     James v. United States, supra at 219;

Mais v. Commissioner, 51 T.C. 494, 498-499 (1968); Leaf v.

Commissioner, supra at 1096.    The mere possibility that demands

may eventually be made for refunds or that the taxpayer has an

obligation to make requested refunds in a later taxable year does

not relieve the taxpayer of tax on the diverted funds.      James v.

United States, supra; United States v. Rosenthal, 470 F.2d 837,

842 (2d Cir. 1972); Leaf v. Commissioner, supra; see also Stovall

v. Commissioner, 762 F.2d 891 (11th Cir. 1985), affg. T.C. Memo.

1983-450; Quinn v. Commissioner, 524 F.2d 617, 625 (7th Cir.

1975), affg. 62 T.C. 223 (1974).    However, where repayment is

effected during the same taxable year as the taking, the taxpayer

is not taxed on the amounts repaid.      Mais v. Commissioner, supra;
                              - 50 -


Leaf v. Commissioner, supra; Stovall v. Commissioner, T.C. Memo.

1983-450.

     Funds distributed by a corporation to its shareholders with

respect to their stock over which the shareholders have dominion

and control generally are taxed under the provisions of section

301(c).   Where a shareholder diverts corporate funds or uses

corporate property for his personal benefit, not proximately

related to corporate business, the shareholder must include the

value of the benefit in income as a constructive dividend.    E.g.,

Truesdell v. Commissioner, supra at 1294-1295; Falsetti v.

Commissioner, 85 T.C. 332, 356 (1985).   However, “‘Not every

corporate expenditure incidentally conferring economic benefit on

a shareholder is a constructive dividend.’”   Loftin & Woodard,

Inc. v. United States, 577 F.2d 1206, 1215 (5th Cir. 1978)

(quoting Crosby v. United States, 496 F.2d 1384, 1388 (5th Cir.

1974)); Hood v. Commissioner, 115 T.C. 172, 179-180 (2000).     The

determinative factor is whether the distribution was primarily

for the shareholder’s benefit, in which case it is taxable to the

shareholder as a constructive dividend, or primarily for the

corporation’s benefit, in which case it is not a constructive

dividend.   Crosby v. United States, supra at 1389; Hood v.

Commissioner, supra at 180.
                              - 51 -


     Additionally, in general, “a taxpayer need not treat as

income moneys which he did not receive under a claim of right,

which were not his to keep, and which he was required to transmit

to someone else as a mere conduit.”     Diamond v. Commissioner, 56

T.C. 530, 541 (1971), affd. 492 F.2d 286 (7th Cir. 1974).    Thus,

money a taxpayer receives in his or her capacity as a fiduciary

or agent does not constitute taxable income to that taxpayer,

Herman v. Commissioner, 84 T.C. 120, 134-136 (1985); Heminway v.

Commissioner, 44 T.C. 96, 101 (1965), and a shareholder who takes

personal control of corporate funds is not taxable on them so

long as it is shown that he held the funds as an agent of the

corporation and/or deployed them for a corporate purpose, AJF

Transp. Consultants, Inc. v. Commissioner, T.C. Memo. 1999-16,

affd. without published opinion 213 F.3d 625 (2d Cir. 2000); St.

Augustine Trawlers, Inc. v. Commissioner, T.C. Memo. 1992-148,

affd. sub nom. O’Neal v. Commissioner, 20 F.3d 1174 (11th Cir.

1994); Alisa v. Commissioner, T.C. Memo. 1976-255.

     In the instant case, petitioner admits that he transferred

corporate funds totaling $986,856 into his personal accounts

during early 1988.   Respondent contends that petitioner diverted

the $986,856 and hid it in brokerage accounts he controlled

because he intended to defraud Northwest of the moneys

petitioner’s corporations owed it.     Respondent maintains that
                              - 52 -


petitioner increased his net wealth by $986,856 when he reduced

that amount to his personal dominion and control.   Therefore,

respondent asserts, petitioner’s income should be increased by

$986,856 for 1988.

     Petitioner contends, however, that the $986,856 is not

taxable to him because he did not withdraw those funds from the

corporate accounts for his own benefit; rather, he placed them

into his personal accounts in his capacity as an agent for IL NA

Tours and for its benefit to protect the funds from seizure by

Northwest.   Petitioner maintains that he did not use the $986,856

for personal purposes, but that he used the funds to benefit IL

NA Tours, including transferring funds from his personal accounts

to the ANB accounts which were used first to negotiate a

settlement with Northwest in order for IL NA Tours to remain in

business and then to pay corporate debts owed Northwest.

     Petitioner relies on Stone v. Commissioner, 865 F.2d 342,

343 (D.C. Cir. 1989), revg. and remanding Rosenbaum v.

Commissioner, T.C. Memo. 1983-113, in support of his agency

theory.   In Stone, the Commissioner determined that the

taxpayers, a corporate officer (who also was a shareholder in the

corporation) and the corporation’s attorney (who also served as

one of its directors), had to include in income $4 million of

corporate funds which had been derived from a series of
                               - 53 -


transactions designed to defraud the U.S. Government and which

had been placed in secret Swiss bank accounts over which the

taxpayers exercised control.   The Court of Appeals concluded that

the funds need not be included in income.    The Court of Appeals

stated

     even when a corporate officer is its sole shareholder
     (and thus in ultimate control), and he transfers
     corporate funds to his personal checking account, and
     his dealings with the corporation are “extremely
     informal,” there is no constructive dividend so long as
     he can show that his intent “was to use such funds for
     corporate purposes as an agent of the corporation.”
     * * * [Id. (quoting Nasser v. United States, 257 F.
     Supp. 443, 449 (N.D. Cal. 1966)).]

     Petitioner contends that the following facts demonstrate

that he was acting on behalf of his corporations as an agent, to

benefit the corporations, when he withdrew corporate funds and

placed them into personal accounts:     (1) He returned funds to IL

NA Tours to facilitate IL NA Tours’ meeting its obligations to

remit $62,155 per month to Northwest; (2) except for a nominal

amount, he did not use the funds for personal purposes but

instead invested them for corporate purposes; i.e., in an effort

to save his corporations by earning money with which to repay

Northwest; (3) he made personal guaranties of the corporate

debt;32 (4) he transferred funds to the ANB accounts, the control

     32
       Petitioner also argues in this connection that he
mortgaged personal assets in order to obtain letters of credit
                                                    (continued...)
                               - 54 -


over which he gave to Belofsky and the transfers to which were

made within 1988, so by yearend 1988 petitioner had ceded control

back to IL NA Tours; (5) Belofsky used the funds in the ANB

accounts to settle the lawsuit with Northwest which related to

debts IL NA Tours owed Northwest; and (6) Chung recorded the ANB

accounts as assets of IL NA Tours on the June 30, 1988, balance

sheet and on IL NA Tours’ 1988 corporate return.

     Respondent disputes petitioner’s claim that he had a

corporate purpose for depositing the $986,856 into his personal

brokerage accounts.    Respondent contends that petitioner diverted

the funds, and shuffled them through a maze of accounts, to

defraud Northwest so that he could keep the funds for himself.

     Whether petitioner was acting as an agent of his corporation

is a question of fact.   See Pittman v. Commissioner, 100 F.3d

1308, 1314 (7th Cir. 1996) (question of fact whether

shareholder’s diversion of corporate funds constitutes

constructive dividend), affg. T.C. Memo. 1995-243.   We look to

petitioner’s testimony and the objective facts to ascertain

petitioner’s intent.   See, e.g., Busch v. Commissioner, 728 F.2d

945, 948 (7th Cir. 1984) (objective factors used to determine

intent), affg. T.C. Memo. 1983-98; Spheeris v. Commissioner, 284

     32
      (...continued)
that were subsequently exercised by Northwest to satisfy
obligations of his corporations.
                               - 55 -


F.2d 928, 931 (7th Cir. 1960) (legal relationship between closely

held corporation and its shareholders as to payments to the

latter “must be established by a consideration of all relevant

factors indicating the true intent of the parties.”), affg. T.C.

Memo. 1959-225; Kaplan v. Commissioner, 43 T.C. 580, 595 (1965).

     We note at the outset that petitioner was not a credible

witness.    We found his testimony implausible and unconvincing.

It was at times vague, evasive, self-serving, and contradictory.

He had selective recall relating to the 1987 and 1988

transactions and the assets in issue in the instant case.     We are

not required to accept self-serving testimony, particularly where

it is implausible and there is no persuasive corroborating

evidence.   E.g., Frierdich v. Commissioner, 925 F.2d 180, 185

(7th Cir. 1991) (“The statements of an interested party as to his

own intentions are not necessarily conclusive, even when they are

uncontradicted.”), affg. T.C. Memo. 1989-103 as amended by T.C.

Memo. 1989-393; Lerch v. Commissioner, 877 F.2d 624, 631-632 (7th

Cir. 1989), affg. T.C. Memo. 1987-295; Tokarski v. Commissioner,

87 T.C. 74, 77 (1986).   Additionally, a taxpayer’s testimony as

to intent is not determinative, particularly where it is

contradicted by the objective evidence.    Busch v. Commissioner,

supra at 948; Glimco v. Commissioner, 397 F.2d 537, 540-541 (7th
                              - 56 -


Cir. 1968) (taxpayer’s uncontradicted testimony need not be

accepted), affg. T.C. Memo. 1967-119.

     The objective evidence in the record contradicts

petitioner’s contention that he was acting as an agent in

furtherance of a corporate purpose.    Petitioner points first to

the fact that between January and February 1988, he returned

significant sums to IL NA Tours; that is, of the $1,294,058 that

he initially transferred from an IL NA Tours’ corporate account

to his personal FCIS account, $752,702 was returned to IL NA

Tours before the end of February.33    It is true that this return

of funds to the corporation (which occurred almost exclusively in

February 1988) might support an inference that petitioner was

holding them as the corporation’s agent.    If these were the only

relevant facts, we might be persuaded.    However, petitioner’s

other actions during 1988, discussed below, belie the claim of

agency.




     33
        Petitioner contends that the $752,702 returned to IL NA
Tours was used to meet IL NA Tours’ obligation under the January
agreement to make payments of $62,155 per week to Northwest. The
evidence in the record does not support this contention. In any
event, for purposes of petitioner’s argument that the return of
funds to IL NA Tours indicates agency, it is sufficient that the
funds were in fact returned to the corporation, which is
undisputed.
                              - 57 -


     Petitioner’s next argument is that he did not, except for

nominal amounts, use the funds at issue for personal purposes.34

Instead, according to petitioner, he invested the funds in the

stock market in an effort to produce sufficient earnings so that

Northwest could be repaid and, petitioner further claims, all of

the funds transferred from corporate accounts to personal

accounts were eventually either transferred to the ANB accounts

or frozen by the TRO and used ultimately to negotiate a

settlement of IL NA Tours’ debt to Northwest.

     Petitioner’s argument misstates the facts established by the

record.   Contrary to petitioner’s argument, a significant portion

of the $986,856 at issue in this case has not been accounted for.

The record establishes that from late January through early March

1988, a total of $450,000 was transferred from the accounts of

petitioner’s corporations to the Sam Han account.   The record

further demonstrates that on July 18, 1988, $80,000 from the Sam

Han account was deposited into ANB No. 3 and that at yearend 1988

the balance in the Sam Han account was $137,128.    The record does

not reflect what happened to the remainder ($232,872), and

petitioner has made no effort to address this discrepancy.


     34
       We treat this argument as referring to petitioner’s
actions prior to the issuance of the TRO. Once the TRO was
issued, petitioner was under a court order proscribing his
personal use of the funds. See supra p. 29.
                                - 58 -


Because petitioner’s argument relies on the premise that all of

the funds transferred from corporate accounts were accounted for,

it must fail.

     Petitioner next argues that his making a personal guaranty

of his corporations’ debts to Northwest (as requested by

Northwest in March 1988) is inconsistent with respondent’s theory

that he transferred corporate funds to personal accounts for his

own benefit, and not as an agent of the corporation.    As

petitioner observes on brief:    “What would be the point in

putting corporate money in a personal account and then subjecting

the personal account to the corporate debt?”    A close examination

of the record in this case provides an answer to petitioner’s

rhetorical question; namely, by the time petitioner signed the

Guaranty on March 18, 1988, he had succeeded in transferring the

bulk of the funds at issue into an account in his brother’s name;

i.e., the Sam Han account.   Of the $986,856 at issue, $450,000

was in the Sam Han account, $300,000 of which was moved there

from corporate accounts in early 1988.    An additional $150,000

that had been earlier moved from corporate accounts to accounts

in petitioner’s own name was moved on March 8 and 9, 1988, to the

Sam Han account.   Then, on March 17, 1 day before he signed the

Guaranty, the Kodak stock-–which had been purchased with $488,877

of the remaining funds at issue–-was transferred from
                               - 59 -


petitioner’s personal account to the Sam Han account.   Thus, when

petitioner signed the Guaranty on March 18, he had already taken

steps to place all of the assets at issue except the Pan Am stock

in accounts that did not bear his name, thereby raising practical

barriers to enforcement of the Guaranty against the bulk of the

transferred corporate funds.   The very close proximity of the

Kodak stock transfer and the execution of the Guaranty creates a

strong inference that petitioner made the transfer in

anticipation of signing the Guaranty.   Viewed in that light, the

Guaranty appears to be a ruse designed to mislead Northwest with

respect to petitioner’s good faith.35

     Moreover, any conclusion regarding agency that petitioner

would have us infer from the Guaranty is substantially undermined

by the fact that petitioner almost immediately repudiated it.

Upon learning of the Guaranty a few days after it was signed,


     35
       The fact that petitioner left the Pan Am stock in a
personal account after signing the Guaranty is consistent with a
pattern we discern in his other conduct; namely, making it
possible for Northwest to recover relatively small amounts of the
ticket sales proceeds, in an effort to convince Northwest that he
was cooperating in good faith. This pattern first surfaced at
the beginning of 1988, when petitioner executed the January
agreement acknowledging his corporations’ indebtedness exceeding
$3 million (when he knew the figure was substantially higher) and
promising to retire the debt by yearend 1988 through weekly
payments of approximately $62,000. These weekly payments were in
fact made until mid-March, by which time Northwest had figured
out that petitioner’s defalcations were much greater than $3
million.
                             - 60 -


petitioner’s attorney disavowed it as entered into without

benefit of counsel or adequate consideration.   Petitioner’s

attorney argued that the Guaranty was void and repeatedly sought

its return until the time that Northwest filed suit.

Petitioner’s position throughout the Northwest litigation was

that his corporations, but not he personally, owed Northwest for

whatever ticket sales proceeds were missing.

     Petitioner next points to the transfer of certain of the

funds at issue to the ANB accounts between May and July 1988 as

evidence of his agency.

     Petitioner first points to the transfer of $271,836 to ANB

No. 2, which occurred in May 1988 before Northwest filed suit.

Contrary to petitioner’s position, we believe that careful

scrutiny of that transfer shows that it was made to further

petitioner’s personal interests, to the detriment of the

interests of his corporations.   The record in this case

demonstrates that the May 26, 1988, transfer of $271,836 referred

to by petitioner was from P-B No. 2, a personal account of

petitioner’s, the contents of which are traceable both to the

Gerber stock transferred in 1987 from a corporate to a personal

account36 and to the proceeds of the Pan Am stock that had been

     36
       The Gerber stock had originally been transferred from a
corporate account to Chung No. 1, a personal account of
                                                   (continued...)
                              - 61 -


purchased with corporate funds in January 1988 and initially

placed in petitioner’s FCIS account.37   The May 1988 transfer to

the ANB No. 2 trust account was effected in connection with a

proposal made to Northwest by Belofsky under which petitioner

would be released from all liability under the Guaranty and the

Interim Agreement in exchange for, inter alia, the payover to

Northwest of the proceeds in the “Gerber account”.   Belofsky sent

a letter to Northwest on May 20, 1988, proposing the foregoing

terms and advising Northwest that “I am directing Mr. Han to

deposit with me the proceeds of the ‘Gerber’ account to be held

by me until appropriate documentation is furnished in accordance

with this letter”.   On May 26, 1988, $271,836 was transferred

from P-B No. 2 to ANB No. 2, which had been established by

Belofsky as a client trust account.

     Northwest rejected Belofsky’s offer.   Nonetheless, from the

standpoint of ascertaining whether petitioner was acting as an

agent to serve a corporate purpose, we believe his actions with


(...continued)
petitioner’s, in October 1987, then sold in December 1987. The
Gerber proceeds remained in Chung No. 1 until all contents of
that account were transferred to Chung No. 3 during February
1988. On Mar. 8, 1988, $321,351 was transferred from Chung No. 3
to P-B No. 2.

     37
        As previously noted, the Pan Am stock was transferred
from the FCIS account to P-B No. 2 on Apr. 11, 1988, and
liquidated before the May 26, 1988, transfer of $271,836 from P-B
No. 2 to ANB No. 2.
                              - 62 -


respect to the $271,836 transferred in an effort to consummate

his lawyer’s proposal are significant.

     In transferring the $271,836 to ANB No. 2, petitioner was

attempting to secure release from any personal liability to

Northwest for the more than $8 million he had acknowledged his

corporations owed the airline company.   Under the Guaranty,

petitioner (without benefit of counsel) had guaranteed all past

and future monetary obligations of his corporations that arose

out of ticket sales.   In the Interim Agreement, entered into with

the benefit of counsel, petitioner (i) confined his personal

guaranty to debts arising from the receipt and sale of tickets

received from Northwest in 1988 (but not before); and (ii)

acknowledged on behalf of his corporations that with respect to

pre-1988 ticket sales, his corporations had retained sales

proceeds due and owing to Northwest in an amount exceeding $8

million.   Had petitioner been successful in securing his release

from all personal liability under the foregoing agreements, the

result would have been to saddle his corporations with the sole

liability for debts exceeding $8 million.   The consideration

petitioner proposed to use to secure his release consisted of

$271,836 from a personal account into which corporate funds had

been diverted.   Obviously, this attempt would have “primarily

benefitted” petitioner, see Loftin & Woodard, Inc. v. United
                                - 63 -


States, 577 F.2d at 1215, and been quite detrimental to

petitioner’s corporations, which would have lost a guarantor on

acknowledged debts exceeding $8 million.    Petitioner’s contention

that the transfer of the $271,836 to ANB No. 2 in May 1988

(before Northwest filed suit) indicates that he was acting on

behalf of his corporations is untenable.    Instead, this transfer

demonstrates that petitioner was exercising personal dominion and

control over the funds.

     Petitioner also argues an agency theory with respect to the

remaining transfers of funds to the ANB accounts, all of which

occurred after Northwest filed suit.     Specifically, petitioner

contends that his intent to act as an agent is shown because he

“funded the Belofsky trust accounts”.    Petitioner argues that he

“willingly” relinquished control over the disputed funds to

Belofsky to be held by him in the ANB accounts as trustee, and

that once in the ANB accounts the funds were used in an effort

“to make a deal to keep IL NA Tours in business”.    The argument

concludes:   “Petitioner used these funds as an agent of IL NA

Tours to keep it in business.    When that was no longer possible,

he used these funds to settle its debts.”

     Petitioner’s argument is an attempt to make a virtue out of

a necessity.   Aside from the ANB No. 2 transfer in May,

petitioner did not “willingly” transfer anything to the remaining
                              - 64 -


ANB accounts.   Those transfers were made to comply with the TRO

that Northwest had obtained against petitioner, which mandated

that petitioner produce information on the whereabouts of ticket

sales proceeds and that those proceeds be transferred into

accounts over which Northwest and/or the court exercised control.

Indeed, the record in this case amply demonstrates that the

court’s granting of a TRO against petitioner was insufficient to

cause him to identify all ticket sale assets and transfer them to

trust accounts.   Although an initial $445,596 was transferred to

ANB No. 1 on June 24, 1988, 1 day after the granting of the TRO,

the correspondence between petitioner’s and Northwest’s attorneys

shows that the struggle to force petitioner to provide

information regarding assets continued for several months

thereafter.   On July 1, Northwest’s attorney wrote petitioner’s

attorney (i) advising that the “sparse” documentation provided by

petitioner had enabled Northwest to unearth six additional

accounts; (ii) complaining of petitioner’s “pattern” of

withholding financial and account information to which Northwest

claimed entitlement under the TRO; and (iii) threatening to seek

court supervision if petitioner’s pattern continued.   The

remaining transfers to the ANB accounts (Nos. 3 and 4) occurred
                               - 65 -


after this correspondence.38   The transfers made to the ANB

accounts after Northwest obtained the TRO do not reflect

petitioner’s agency; they were involuntary.

     Petitioner’s claim that he used the funds at issue on behalf

of IL NA Tours, i.e., “to keep it in business”, is contradicted

by the objective evidence in the record.   As late as April 1988,

Northwest remained willing to do business with petitioner and his

corporations, providing them with substantial ticket stock for

resale pursuant to the terms of the Interim Agreement,

notwithstanding that they had acknowledged selling Northwest’s

tickets and failing to remit proceeds in an amount exceeding $8

million.   (Presumably, Northwest made the business calculation

that its chances of ever seeing its money were better if

petitioner’s corporations were allowed to continue operations.)

However, what Northwest perceived as petitioner’s unrelenting

efforts to hide the missing funds from Northwest’s auditors--that

is, his refusal to cooperate in providing the information he had

agreed to provide in the Interim Agreement, even when both sides

acknowledged that ticket proceeds exceeding $8 million had not

been remitted--ultimately prompted Northwest to file suit and


     38
       An additional $137,128 of the funds that the record
establishes were taken from the IL NA Tours’ account and placed
in the Sam Han account was not revealed and made subject to the
TRO until Oct. 14, 1988.
                              - 66 -


obtain a TRO that prohibited petitioner and his corporations from

dealing any further in Northwest tickets.     The record amply

demonstrates that between the execution of the Interim Agreement

in early April and Northwest’s filing suit in mid-June, it became

obvious to Northwest that petitioner was hiding assets and would

not cooperate in providing any restitution of amounts that he

acknowledged were owed by his corporations.    The record is

equally clear that it was petitioner’s actions that caused the

change in Northwest’s attitude, from reluctant creditor willing

to provide additional ticket stock to legal adversary determined

to prohibit petitioner and his corporations from any further

dealings in Northwest tickets.39   Belofsky conceded in his

testimony in this case that the sale of Northwest tickets

constituted 90 percent of petitioner’s corporations’ business

activity at the time.

     On this record, we do not accept petitioner’s contention

that his actions with respect to the funds at issue were for the

primary benefit of his corporations rather than himself.      It is

clear that petitioner’s actions harmed his corporations,



     39
       In this regard, we look to petitioner’s actions both in
the months leading up to Northwest’s filing suit and after the
filing and granting of the TRO, when petitioner’s conduct caused
Northwest to threaten to seek sanctions on several occasions and,
in our view, hardened Northwest’s animosity towards petitioner.
                              - 67 -


effectively forfeiting their ability to do business with

Northwest.   We also conclude that it was reasonably foreseeable

by petitioner that his actions would have this result; we do not

believe petitioner could have thought otherwise, in view of his

conduct and the response it engendered in Northwest in the months

leading up to and following the filing of Northwest’s lawsuit.

We are satisfied from the record that petitioner’s intentions by

mid-1988 were to keep for himself whatever ticket proceeds he

could hide from Northwest’s auditors.   With the exception of ANB

No. 2, the funds in the ANB accounts subject to the TRO were

transferred there despite petitioner’s best efforts.   Although

petitioner tried to thwart Northwest’s discovery of the ticket

proceeds, by not cooperating in disclosing financial information

despite his obligation to do so under the Interim Agreement and

then the TRO, Northwest’s auditors were able to trace and

identify the funds, thereby forcing petitioner to transfer them

to custodial accounts.

     Because of petitioner’s efforts to keep the funds hidden, we

find petitioner’s remaining evidence of agency, namely, that

Chung recorded the funds in the ANB accounts as assets of IL NA

Tours in workpapers for the corporation’s June 30, 1988,

financial statement and on its 1988 return, unpersuasive.   To the

extent these funds were so recorded, those compilations occurred
                              - 68 -


after Northwest had succeeded in tracing the funds and forcing

them into custodial accounts governed by the TRO.   Thus, these

recordations–-the earliest of which occurred in August 1988–-are

not probative regarding whether petitioner was holding the funds

as an agent before his actions were mandated by the TRO.40

     Petitioner’s vigorous efforts to keep the funds that he had

taken from corporate accounts hidden from Northwest, even when

these actions harmed his corporations, also persuade us that

petitioner exercised personal dominion and control over those

funds in 1988.   In one instance, petitioner may have voluntarily

disclosed diverted corporate funds to Northwest; namely, when the

$271,836 identified by petitioner’s attorney as the proceeds of

the “Gerber account” was transferred from P-B No. 2 to ANB No. 2

on May 26, 1988, in connection with petitioner’s attorney’s

proposal to secure petitioner’s release from liability under the

Guaranty and Interim Agreement.41   However, in line with our



     40
       Respondent objected at trial to the admission of the
workpapers on grounds of authenticity, hearsay, and completeness.
We reserved ruling on those objections. In a separate order, we
have overruled respondent’s objections and admitted the
workpapers as evidence. However, in our view, the workpapers are
not probative regarding petitioner’s intentions or agency, and we
do not rely on them in reaching our findings.
     41
       Whether petitioner voluntary disclosed to Northwest his
purchase of the Gerber stock with his corporations’ funds or
Northwest’s auditors instead traced the transaction is not clear
from the record. In view of the record as a whole, however, the
latter is much more likely.
                              - 69 -


earlier analysis of this transaction, we conclude that petitioner

exercised personal dominion and control over the ANB No. 2 funds

when he sought to employ them to secure his release from any

personal liability with respect to his corporations’ obligations

to Northwest.   Thus, by mid-1988 petitioner had exercised

personal dominion and control over all of the corporate funds

that he had transferred to personal accounts in early 1988.

     Although we conclude petitioner had exercised dominion and

control over the funds at issue by mid-1988, the question remains

whether the taxability of the funds to petitioner is affected by

the fact that some of the funds were returned to custodial

accounts or otherwise made subject to the TRO before yearend

1988.   Funds over which a taxpayer has obtained dominion and

control, lawfully or unlawfully, are not taxable to him to the

extent they are repaid before yearend.   Mais v. Commissioner, 51

T.C. 494 (1968); Leaf v. Commissioner, 33 T.C. 1093 (1960);

Stovall v. Commissioner, T.C. Memo. 1983-450; see also Hammer v.

Commissioner, T.C. Memo. 1989-396 (amounts returned by

shareholder to corporation in subsequent year not taxable where

shareholder derives no benefit); Rev. Rul. 65-254, 1965-2 C.B. 50

(deduction allowable under section 165 with respect to embezzled

funds in the year of repayment).   In Leaf v. Commissioner, supra

at 1096, we held that a controlling shareholder who takes funds
                               - 70 -


from his corporation when it is insolvent is taxable on the

portion of the funds that he keeps for his own purposes but not

on the portion that is returned to the corporation or its

creditors before yearend.    A difficult issue in this case is

whether the transfer of funds into accounts subject to the TRO

constitutes a repayment to the corporation within the meaning of

the foregoing authorities.

     Respondent’s position is that it does not.    Respondent

argues that petitioner maintained dominion and control over the

funds after their transfer into the ANB accounts.    Respondent

cites several factors:    The ANB accounts were maintained in

petitioner’s name and Social Security number with

petitioner’s attorney as trustee; petitioner reported the

interest earned on ANB account funds in 1988 on his return and

received backup withholding credits in certain years;

disbursements were made from the ANB accounts to pay personal

expenses of petitioner; petitioner refused Northwest’s repeated

requests that funds in the ANB accounts be released to Northwest

in payment of his corporations’ acknowledged indebtedness; the

ANB accounts were used as security for petitioner’s attorney’s

fees and were used to negotiate and settle petitioner’s personal

liability to Northwest.
                              - 71 -


     We do not agree that petitioner maintained dominion and

control over the funds that were placed in accounts subject to

the TRO.   We note first that the relevant inquiry here is

petitioner’s dominion and control vis-a-vis his corporations, not

in relation to Northwest.   Respondent at times appears to suggest

the contrary, as when he argues that petitioner’s refusal to turn

the funds in the ANB accounts over to Northwest indicates

petitioner’s exercise of dominion and control.   But in refusing

to release the ANB account funds to Northwest, petitioner could

have been acting equally on behalf of his corporations and of

himself, since both were defendants in Northwest’s complaint, and

the funds subject to the TRO were being held, in effect, to

secure whatever claims Northwest might have against petitioner or

his corporations.

     We also do not find persuasive of petitioner’s dominion and

control such factors as the ANB accounts’ being established under

petitioner’s name and Social Security number, petitioner’s

initially reporting the interest earned in the accounts on his

own 1988 return, or petitioner’s being given backup withholding

credits with respect to the accounts.   Relying on petitioner’s

nominal ownership would elevate form over substance.   Similarly,

the position a taxpayer takes on his return is relevant, but far

from dispositive.   Respondent’s suggestion that petitioner’s
                                - 72 -


attorney served as custodian for the accounts overlooks the fact

that Belofsky at all times served as counsel for both petitioner

and his corporations.    The one disbursement for petitioner’s

personal expenses from an ANB account–-to pay delinquent taxes on

petitioner’s residence–-was made with Northwest’s permission.42

     Respondent’s contention that funds in the ANB accounts

served as security for petitioner’s attorney’s fees finds little

support in the record.    Pursuant to the settlement of the

Northwest litigation, petitioner and his corporations in 1991

received all amounts remaining in the ANB accounts after payment

to Northwest of $865,000.    The payment to Northwest was satisfied

with funds from ANB Nos. 2 and 5 (a successor to ANB No. 1), with

the remaining balance of $5,674 in those accounts going to

petitioner and his corporations.    Petitioner accordingly received

the entire contents of ANB Nos. 3 and 4, totaling $137,869.

Belofsky was subsequently paid a total of $14,800 from ANB No. 3

and $31,400 from ANB No. 4.43    Moreover, as noted, Belofsky

served as counsel to both petitioner and his corporations; thus

payment of his fees to some extent served a corporate purpose.



     42
       Moreover, this expenditure arguably served Northwest’s
interests as a creditor, by preserving assets available to
satisfy a judgment.
     43
          The funds in ANB No. 4 are not at issue in this case.
                                - 73 -


     Of singular importance, we disagree with respondent’s

contention that the funds in the ANB accounts were used to

satisfy petitioner’s personal liability to Northwest.    We do not

believe that respondent, who has the burden of proof, has shown

by a preponderance of the evidence that the ANB funds were used

to satisfy petitioner’s, as opposed to his corporations’,

liabilities to the airline.   Northwest’s complaint was filed, and

the TRO obtained, against petitioner and his corporations.

Northwest at all times pursued its complaint against the

foregoing defendants44 and likewise entered the settlement

agreement with both petitioner and his corporations.    The

corporations, not petitioner, had operated as consolidators for

Northwest; i.e., Northwest’s ticket stock had been provided to

and sold by the corporations.    Thus, petitioner’s corporations

were primarily liable to Northwest for the ticket stock or the

proceeds from its sale.   In our view, this is why Northwest, in

addition to filing suit against both petitioner and his

corporations, also had sought petitioner’s personal guaranty of

his corporations’ indebtedness to Northwest, refused to surrender

the Guaranty, and based one count of the complaint on it.



     44
       Default judgments were entered against NY NA Tours, CA NA
Tours, and SF NA Tours, but petitioner’s other corporations
remained defendants until settlement.
                              - 74 -


Starting almost immediately after its execution, petitioner

vigorously challenged the validity of the Guaranty.

     Respondent also attempts to demonstrate that the funds in

the ANB accounts were used to satisfy petitioner’s personal

liabilities, and therefore remained under his personal dominion

and control, by emphasizing that Northwest had asserted claims of

fraudulent conversion and unjust enrichment against petitioner

personally.   Since Northwest had asserted claims against

petitioner personally, respondent’s argument goes, use of the

funds in the custodial accounts to settle the Northwest

litigation satisfied petitioner’s personal liabilities.

Respondent in effect attempts to negate any significance of the

transfer of the funds to custodial control by arguing that

petitioner incurred personal liability by virtue of taking funds

from his corporation that were owed to the corporation’s

creditor, so that when the funds were paid over to the creditor,

the liabilities extinguished were those of petitioner rather than

the corporation.   In the circumstances of this case, we think the

argument is specious.   Any controlling shareholder who takes

funds from his corporation when it is insolvent will likely have

exposure to a claim of fraudulent conversion, unjust enrichment,

or similar charges from the corporation’s creditors.   If, as

respondent argues, this factor means that the return of funds to
                               - 75 -


the corporation or its creditors satisfies the shareholder’s

liability and therefore serves a shareholder rather than a

corporate purpose, we think the exception provided in Leaf v.

Commissioner, 33 T.C. 1093 (1960), for wrongfully appropriated

funds that are returned within the same year would be nullified.

Mr. Leaf received a criminal conviction for taking funds from his

insolvent corporation, but he was not taxable on the amounts

returned in the year of the taking.     Respondent’s argument

regarding the satisfaction of petitioner’s personal liabilities

to Northwest is inconsistent with the holding in Leaf, and we

accordingly reject it.

     On this record, respondent has not shown that the funds in

the ANB accounts were held in 1988, or ultimately used in 1991,

to satisfy petitioner’s, as opposed to his corporations’,

obligations to Northwest.

     As a consequence, we find that the deposit of funds into

accounts subject to the TRO represented a deployment of the funds

for corporate purposes.    The ANB accounts and the Sam Han account

were subject to the TRO.    As a result, no transfer or other

disposition of the funds in the accounts could be made without

Northwest’s or the court’s authorization.     The TRO was granted

upon a showing that Northwest had a substantial likelihood of

prevailing in its claim that the accounts contained proceeds from
                              - 76 -


the sale of Northwest’s ticket stock that were owed to Northwest.

We find that in 1988 the accounts in effect served to secure

Northwest’s rights against petitioner and his corporations, and

in 1991 a substantial portion of the accounts was in fact paid in

settlement of Northwest’s claims asserted against petitioner and

his corporations.   Consequently, by yearend 1988 the funds in the

ANB accounts and the Sam Han account were being held under court

supervision to satisfy liabilities that were as much petitioner’s

corporations’ as petitioner’s.

     In these circumstances, we conclude that the funds in the

ANB accounts and the Sam Han account by yearend 1988 had been

repaid or returned to petitioner’s corporations in that year and

accordingly are not taxable to petitioner under Leaf and like

cases applying the exception to the claim of right doctrine.       We

base our conclusion that these funds had been returned to the

corporations for purposes of this exception on several factors.

First, petitioner no longer had dominion and control over the

funds once they were subject to the TRO.   Although respondent

argues that petitioner’s attorney’s role as custodian of the ANB

accounts demonstrates petitioner’s maintenance of dominion and

control, the facts do not support this characterization.     The

disbursements for petitioner’s personal expenses were made only

with Northwest’s approval.   Further, Northwest’s attorney
                               - 77 -


testified in this proceeding that petitioner’s attorney’s actions

with respect to the ANB accounts were at all times consistent

with his custodial function.

     Second, the cases that have considered the exception for the

repayment of taken funds within the same taxable year have

countenanced a range of circumstances as constituting repayment

or return.   In Leaf v. Commissioner, supra, the sole shareholder-

taxpayer had taken funds from his insolvent corporation.    After

the corporation’s creditors filed an involuntary bankruptcy

petition against it and within the same year as the taking, the

taxpayer “repaid to * * * [the corporation] or its creditors” a

portion of the funds.   Id. at 1095.    We held the shareholder was

taxable only on the funds “not returned to the corporation or its

creditors” in the year of the taking.     Id. at 1096; see also Mais

v. Commissioner, 51 T.C. 494, 499 (1968) (dicta) (portion of

embezzled funds turned over in year of embezzlement to third

party to be held for victim not taxable); Stovall v.

Commissioner, T.C. Memo. 1983-450 (shareholder’s diversions from

corporation not taxable to extent used in year of diversion to

purchase certificates of deposit in corporation’s name).    We are

mindful that the Court of Appeals for the Seventh Circuit, to

which an appeal in this case would ordinarily lie, has for

purposes of the same-year repayment exception distinguished
                                - 78 -


between actual repayment and the giving of a promissory note,

holding the latter insufficient to prevent wrongfully taken funds

from being taxed to the taker.     Quinn v. Commissioner, 524 F.2d

617 (7th Cir. 1975), affg. 62 T.C. 223 (1974).    Nonetheless, we

are satisfied that petitioner’s transfer of funds to the ANB

accounts and the subjection of the Sam Han account to the TRO

constitute repayments for purposes of the exception.    These

amounts were “returned to the corporation or its creditors”

because petitioner lost control of the funds to a third-party

custodian who held them as security for a creditor’s claim

against his corporations.

     We now apply our findings concerning petitioner’s exercise

of dominion and control by mid-1988 over, and his return before

yearend of a portion of, the funds at issue in this case.

     The $986,856 at issue is best understood as comprising (1)

the $536,856 “net” proceeds petitioner retained after the

multiple transfers in early 1988 between the corporate Albank No.

1 account and his personal FCIS account, and (2) the $450,000 in

cash transferred from corporate accounts to the Sam Han account.

     The $536,856 “net” proceeds are traceable to the Kodak stock

and the Pan Am stock, purchased with $448,878 and $116,600 of

corporate funds, respectively.45
     45
          The total amount used to purchase these two blocks of
                                                      (continued...)
                              - 79 -


     In accordance with our earlier analysis, petitioner

exercised dominion and control over the Kodak stock before

returning the proceeds from its sale to his corporations (by

virtue of the transfer of those proceeds to the ANB No. 1 account

on June 24, 1988).   Specifically, after being moved from

petitioner’s FCIS account to the P-B No. 1 account, to the Sam

Han account and back to P-B No. 1, the Kodak stock was sold on

June 24, 1988, for a net of $445,598, which was transferred that

same day to ANB No. 1.   Since petitioner purchased the Kodak

stock with diverted corporate funds of $448,878 and returned only

$445,598 to his corporations, he is chargeable with $3,280 in

income as a result ($448,878 - $445,598 = $3,280).46



(...continued)
stock exceeds respondent’s determination because petitioner sold
the other stocks purchased with corporate funds at a profit and
returned the augmented proceeds to a corporate account. Because
of this augmentation of the returned proceeds, respondent’s
computation of the “net” proceeds retained by petitioner–-
measured by the amount taken less the amount returned–-is less
than the actual corporate funds retained by petitioner and
invested in the Kodak and Pan Am stock. See discussion supra
pp. 45-46.
     46
       As noted earlier, petitioner reported the loss from the
sale of Kodak stock on his 1988 return. Since the diminution in
the stock’s value occurred while it was under petitioner’s
dominion and control, and he is chargeable with the income
resulting from his return to his corporations of Kodak stock
proceeds that were less than the corporate funds used to acquire
the stock, we conclude that petitioner is entitled to the loss as
claimed.
                               - 80 -


     Similarly, with respect to the Pan Am stock, because we have

concluded that petitioner by mid-1988 had exercised personal

dominion and control over the assets diverted from his

corporations (and was not holding them as a mere agent of his

corporations), petitioner exercised dominion and control over the

Pan Am stock.   However, the evidence adduced by respondent shows

that, unlike the Kodak stock, neither the Pan Am stock nor its

proceeds were returned to petitioner’s corporations before

yearend 1988.   The Pan Am stock remained in the FCIS account from

its purchase on January 22, 1988, until April 11, 1988, when

petitioner transferred it to another personal account, P-B No. 2.

P-B No. 2 already contained substantial assets, including the

proceeds from the Gerber stock, with a net value of $273,855 on

March 31, 1988, just prior to its receipt of the Pan Am stock.

(The Gerber stock had been liquidated on December 24, 1987, for

$335,563, and the contents of the account containing the Gerber

stock proceeds, then totaling $321,351, had been transferred to

P-B No. 2 on March 9, 1988.)   On May 26, 1988, petitioner

transferred $271,836 in cash from P-B No. 2 to ANB No. 2, a

custodial account that Belofsky had set up in connection with his

proposal to secure petitioner’s release from any personal

liability to Northwest.   Belofsky represented to Northwest that

ANB No. 2 was being funded with the “‘Gerber’ account” proceeds.
                                - 81 -


Because the P-B No. 2 account had been the recipient of the

Gerber stock proceeds, the Pan Am stock proceeds, and other

assets of petitioner’s before petitioner transferred $271,836 in

cash from the account to fund ANB No. 2, the question arises

whether the amount so transferred is traceable to the Gerber

stock, the Pan Am stock, or some other asset of petitioner’s.

     Petitioner was actively buying and selling securities

through the P-B No. 2 account in March through May 1988, as well

as making personal charges against the proceeds in the account by

means of a credit card.   The Gerber and Pan Am stock proceeds

were commingled with other personal funds of petitioner’s and

were used to offset losses in other stocks in the account that

had been purchased on margin.    The statements for P-B No. 2 in

the record do not show a clear source of the funds for the

$271,836 transfer to ANB No. 2.    However, because petitioner’s

attorney represented to Northwest that the $271,836 transfer to

ANB No. 2 was the proceeds of the “Gerber account”, we treat this

as an admission by petitioner that the amount transferred was

from that source and no other.    Consequently, we find that no

portion of the Pan Am stock proceeds was transferred to ANB No.

2.   Instead, the record in this case establishes that the Pan Am

stock was transferred from petitioner’s FCIS account to

petitioner’s P-B No. 2 account on April 11, 1988, sold in two
                                - 82 -


blocks on April 22 and May 20, 1988, for a net total of $104,143,

and commingled with other personal funds of petitioner’s.    Since

the record establishes that petitioner used $116,600 in corporate

funds to purchase the Pan Am stock and that the Pan Am stock and

its proceeds are traceable to a personal account of petitioner’s,

respondent has met his burden of showing that petitioner had

unreported income of $116,600 in 1988 as a result of the Pan Am

stock transactions.47

     With respect to the $450,000 in cash that petitioner

transferred in early 1988 from corporate accounts to the Sam Han

account, petitioner’s exercise of personal dominion and control

over all transferred assets by mid-1988 renders the cash in the

Sam Han account taxable to him except to the extent that the

record shows that amounts in the Sam Han account were transferred

to custodial accounts or otherwise made subject to the TRO.    The

record establishes that $80,000 was transferred on July 18, 1988,

from the Sam Han account to ANB No. 3, a custodial account

subject to the TRO.     In addition, Northwest’s auditors discovered

the Sam Han account in August or early September 1988, and the

TRO was amended specifically to cover it on October 14, 1988.

Respondent has shown that $450,000 in cash from corporate

     47
        Since petitioner sold the Pan Am stock for $104,143 in
1988, he may be entitled to a loss on its disposition. We
anticipate that the parties will address this matter in their
Rule 155 computations.
                              - 83 -


accounts was transferred into the Sam Han account in 1988, that

$80,000 was transferred to a custodial account, and that $137,128

in assets remained in the Sam Han account after it was discovered

and made subject to the TRO in late 1988, leaving $232,872 in

cash that petitioner took from his corporations unaccounted for.

     Respondent has also shown petitioner’s habit of spending

corporate funds for personal items; for example, respondent has

shown that in 1987 petitioner caused corporate funds of $52,000

to be paid to gambling casinos, $16,000 to be paid on the

mortgage loan on his personal residence, and $51,068 to be paid

into accounts in the names of women who were not employees of

petitioner’s corporations,48 and in 1988 that petitioner diverted

to personal purposes additional corporate funds of $85,688 (that

are not included in the unreported income pled by respondent in

his answer).

     Consequently, we find that respondent has shown that

petitioner dissipated for personal purposes or otherwise

exercised dominion and control over the $232,872 in cash

transferred to the Sam Han account that is not otherwise

accounted for.   Accordingly, we conclude that petitioner has
     48
       In this regard, it is also significant that the
diversions we note for 1987 occurred before the stock market
crash; that is, they occurred before the exigencies of the losses
from the stock market crash and Northwest’s ticket recall program
that petitioner contends caused him to divert corporate assets in
order to “hide” them from Northwest.
                                  - 84 -


unreported income in that amount as a result of diversions from

his corporations.

     The amounts we conclude petitioner diverted from his

corporations to personal use in 1988 are:

                    Description             Amount

              Kodak stock proceeds          $3,280
              Pan Am stock proceeds        116,600
              Sam Han account              232,872

                Total                      352,752

The question remains whether the amounts we have concluded are

unreported income of petitioner are taxable as ordinary income

under section 61(a) or as constructive dividends under section

301(c).   Respondent, relying principally on Leaf v. Commissioner,

33 T.C. at 1095, contends that the amounts are taxable under

section 61(a) because they were wrongfully appropriated in a

fraud upon a third party dealing with the corporation.

Petitioner, citing our opinion in Truesdell v. Commissioner, 89

T.C. 1280 (1987), contends that section 301(c) governs the

taxation of any amounts that we conclude were transferred from IL

NA Tours to him.    For the reasons outlined below, we agree with

petitioner.

     In Leaf, we held that amounts that had been taken by a

shareholder from his wholly owned corporation for his own use

(and not returned within the year of the taking) at a time when
                                - 85 -


the corporation was insolvent were taxable to the shareholder

under the predecessor of section 61(a).49   The taxpayer had not

argued, and we did not consider, whether these amounts were

constructive dividends taxable under section 301(c).   In a more

recent case, Truesdell v. Commissioner, supra, the Commissioner

likewise argued that a shareholder who diverted funds from his

wholly owned corporation was taxable under section 61(a).    The

taxpayer argued that the amounts were constructive dividends,

taxable pursuant to the terms of section 301(c).   We agreed with

the taxpayer, stating:

     As a general proposition, where a taxpayer has dominion
     and control over diverted funds, they are includable in
     his gross income under section 61(a), unless some other
     modifying Code section applies. The latter is the
     situation here, since Congress has provided that funds
     (or other property) distributed by a corporation to its
     shareholders over which the shareholders have dominion
     and control are to be taxed under the provisions of
     section 301(c). [Id. at 1298; citation omitted.]

We distinguished Leaf on the grounds that the taxpayer therein

had fraudulently transferred funds that should have been

available to creditors, in contemplation of bankruptcy.    By

contrast, the diverted funds in Truesdell had not been wrongfully

appropriated from other shareholders or in fraud of creditors.

“We need not and do not express an opinion on the need to apply a

constructive dividend analysis in a situation where the

     49
          Sec. 22(a), I.R.C. 1939.
                                - 86 -


shareholder utilized the corporation to steal from, embezzle

from, or otherwise defraud other stockholders or third parties

dealing with the corporation or shareholder.”    Id. at 1297; see

also United States v. Peters, 153 F.3d 445 (7th Cir. 1998)

(citing Truesdell with approval).

     Respondent contends that the instant case should be governed

by Leaf rather than Truesdell because petitioner took the funds

at issue to defraud a third party (Northwest) dealing with the

corporation.   We disagree.   The unreported income issue is new

matter which respondent raised by amendment to answer to the

amended petition.    Therefore, respondent has the burden of proof

on this issue.   Rule 142(a).   Respondent has not shown by a

preponderance of the evidence that the funds taken by petitioner

belonged to Northwest as opposed to IL NA Tours or one of the

other corporations of which petitioner was the sole shareholder.

Northwest issued the ticket stock to petitioner’s corporations at

a large discount.    Money for the ticket stock was due after the

tickets were sold.   The corporations were entitled to substantial

commissions for the sold tickets.    There is no evidence that IL

NA Tours, or any of petitioner’s other corporations, segregated

the funds due Northwest or that the consolidator agreement

required them to do so.   In addition, the NA Tours companies

served as consolidators for Korean Air Lines, and Air America and
                              - 87 -


IL NA Tours operated as retail travel agents, for which services

additional compensation could be earned.    Thus, at any time, the

funds commingled in corporate accounts could include IL NA Tours’

profit share from ticket sales and commissions earned, in

addition to any funds petitioner’s corporations owed Northwest

and any other airline companies for which they sold tickets.

     The fact that Northwest was not entitled to all the funds at

issue finds further support in the fact that pursuant to the

settlement of the Northwest litigation in 1990, Northwest agreed

that petitioner and his corporations would receive $143,543 of

the corporate funds (plus accrued interest) that Northwest

alleged, and petitioner concedes in the instant case, were taken

by him and placed in personal accounts.    The record does not

disclose why Northwest agreed that petitioner and his

corporations would receive some of the disputed funds.    What the

record does establish is that petitioner’s corporations, unlike

the corporation in Leaf, were not adjudicated bankrupt; instead,

the creditor in the instant case compromised its claim for

something less than all the debtors’ assets.

     We accordingly conclude that respondent has failed to show

that the facts in the instant case bring it under the rule in

Leaf.   Our conclusion that the amounts petitioner took from his

corporations should be taxed pursuant to section 301(c) finds
                               - 88 -


further support in the fact that the record strongly suggests,

and respondent has certainly failed to show otherwise, that the

amounts in issue were previously subject to tax at the corporate

level.    IL NA Tours reported gross receipts exceeding $34 million

on its 1987 return.    Respondent concedes that the losses in

excess of $6 million in the corporate investment accounts

occasioned by the 1987 stock market crash were reported on that

return.   IL NA Tours reported gross receipts exceeding $9 million

on its 1988 return, a dropoff that is consistent with the

disruption in its sale of Northwest tickets in that year.    These

gross receipts figures suggest that the Northwest ticket sales

that were the source of petitioner’s diversions were reported at

the corporate level.

     In Truesdell, we quoted with approval the following

observation of the Court of Appeals for the Eighth Circuit:     “We

believe that the only way that the diverted income already taxed

to the corporation can be taxed to the individual taxpayers is by

the treatment of such diversions as dividends and corporate

distributions.”    Truesdell v. Commissioner, 89 T.C. at 1299

(quoting Simon v. Commissioner, 248 F.2d 869, 876-877 (8th Cir.

1957)).    Because the record strongly suggests that the amounts

petitioner diverted from his corporations were subject to tax at

the corporate level, we are quite reluctant to find them taxable
                              - 89 -


to him pursuant to section 61(a); in the absence of better proof

by respondent, we decline to do so and hold that the taxation of

the amounts at issue is governed by section 301(c).

     Under section 301, the distribution is treated as a dividend

if it meets the requirements of section 316.   Under section

316(a), dividends are taxable to the shareholder as ordinary

income to the extent of the earnings and profits of the

corporation, and any amount received by the shareholder in excess

of earnings and profits is considered a nontaxable return of

capital to the extent of the shareholder’s basis in his stock.

Any amount received in excess of both the earnings and profits of

the corporation and the shareholder’s basis in his stock is

treated as gain from the sale or exchange of property.

     Respondent concedes that IL NA Tours had no current or

accumulated earnings and profits.   Petitioner had no basis in his

IL NA Tours stock.50   Accordingly, the $352,752 that we have



     50
       IL NA Tours’ 1988 return lists capital stock on its
balance sheet of $10,000, although petitioner testified that he
only lent money to his corporations. Even if petitioner
contributed $10,000 to IL NA Tours, we are satisfied that
petitioner had no basis in his IL NA Tours’ stock. We have found
that petitioner took an additional $85,688 from IL NA Tours
during 1988 that was not included in the amount that respondent
has pled as unreported income, and petitioner reported salary
income of only $37,500 on his 1988 return. Thus there were
diversions from IL NA Tours in 1988 that exceeded any possible
basis petitioner had in the stock of the corporation.
                                   - 90 -


found petitioner diverted from his corporations in 1988 is to be

treated as a gain from the sale or exchange of property.

Dividend Income Issue

        In the notice of deficiency, respondent determined that

petitioner had unreported income for 1988 of $12,91251 relating

to dividend income credited to his FCIS account and to P-B No. 2.

Petitioner has the burden of proving that he did not underreport

his income relating to those accounts.        Rule 142(a).   Respondent

contends that petitioner did not offer any credible evidence

regarding this issue.

     By amendment to his answer, respondent additionally asserted

that petitioner had unreported income for 1988 of $20,641

relating to dividends credited during 1988 to the Sam Han, Chung

No. 1, and Chung No. 2 accounts.        The parties agree that those

three accounts received dividend income totaling $20,641 during

1988.        Respondent has the burden of proving the increased

deficiency relating to the $20,641 dividend income.          Rule 142(a).

As previously noted, the Sam Han, Chung No. 1, and Chung No. 2

accounts were owned and controlled by petitioner.

     Petitioner contends that none of the $33,554 in dividends in

the original determination or the amended pleadings is taxable


        51
       The parties have stipulated that the dividends paid on
stocks in the FCIS and P-B No. 2 accounts totaled $12,912.
                              - 91 -


to him because he held the funds in his FCIS account, P-B No. 2,

the Sam Han account, Chung No. 1, and Chung No. 2 as an agent of

IL NA Tours.   Thus, petitioner contends, the funds belonged to IL

NA Tours, and it should have reported the dividend income for

1988 on its own return.   Respondent contends, however, that

petitioner must include the $33,554 in his income for 1988

because the principal in the foregoing brokerage accounts was

under his sole dominion and control when the dividends were

earned, and therefore such dividends were income to him under the

“fruit of the tree” doctrine in Lucas v. Earl, 281 U.S. 111

(1930).

     We have concluded and held herein that petitioner exercised

dominion and control over the funds diverted in 1988 and is

taxable on them except to the extent the funds were returned to

custodial accounts within the 1988 taxable year.   With respect to

respondent’s original determination concerning the $12,912 in

dividends in the FCIS and P-B No. 2 accounts, we hold that

petitioner has failed to show error in the determination and

accordingly sustain it.   The $4,500 dividend on the Kodak stock

in the FCIS account was paid on April 4, 1988, when petitioner

had dominion and control over the FCIS account and before the

Kodak stock proceeds were transferred to a custodial account on
                               - 92 -


June 24, 1988.52   The $8,412 in dividends recorded in the P-B No.

2 account was paid during March 1988, before any amounts in that

account were transferred to a custodial account.   Moreover, there

is no evidence that any portion of this dividend income was paid

over to a custodial account.

     We turn to the remaining dividend income for which

respondent bears the burden of proof.   Stocks in the Sam Han

account earned dividends totaling $16,905 throughout 1988.

Although petitioner had dominion and control over the account at

least until Northwest’s auditors discovered it in early September

1988 (which resulted in the TRO’s being amended to specifically

cover it), a substantial portion of the contents of the account

was made subject to custodial control before yearend 1988;

specifically, $80,000 was transferred from the Sam Han account to

ANB No. 3 on July 18, 1988, and the remaining contents in the Sam

Han account at yearend 1988, after it had been made subject to

the TRO, equaled $137,128.   In these circumstances, we conclude

that respondent has failed to show that the dividends earned in

the Sam Han account were not transferred to custodial control

before yearend 1988.   We accordingly hold that petitioner is not

     52
       Although petitioner transferred $4,500 from his FCIS
account to IL NA Tours’ Albank No. 1 account on the same day the
FCIS account received the $4,500 dividend, respondent effectively
reduced his deficiency assertion by that amount when he treated
this $4,500 as a return of funds to IL NA Tours.
                                - 93 -


taxable on the $16,905 in dividends earned in the Sam Han

account.

     The balance of the dividend income for which respondent

bears the burden was earned in Chung No. 1 ($3,525 on March 1,

1988) and Chung No. 3 ($211).    Respondent has shown that

petitioner had dominion and control over Chung No. 1 when the

dividends were earned.   Further, respondent has shown that the

transfers out of Chung No. 1 into Chung No. 3, which are

traceable to ANB No. 2, occurred before the dividends at issue

were paid.   Accordingly, respondent has shown that the dividends

in Chung No. 1 were not transferred to ANB No. 2 or any other

custodial control.   Therefore, we sustain respondent’s averment

that petitioner has unreported dividend income of $3,525 in

connection with his control of Chung No. 1.    With respect to

Chung No. 3, the record does not disclose when the $211 in

dividends (paid on a money market fund) in that account was paid.

Moreover, because there were transfers from Chung No. 3 to P-B

No. 2 to ANB No. 2, and the money market dividends could

reasonably be described as “Gerber account” proceeds (in

accordance with petitioner’s characterization of those

transferred amounts that we have elsewhere treated as an

admission), we conclude that respondent has failed to show that

the dividends paid in the Chung No. 3 account were not
                               - 94 -


transferred to custodial control before yearend 1988.        We

therefore hold that petitioner does not have unreported dividend

income of $211 in connection with his control of the Chung No. 3

account.

     Petitioner contends further, however, for the first time on

brief that respondent failed to give him the benefit of all of

the incidents of ownership of the brokerage accounts asserted to

be under his dominion and control.      According to petitioner,

these brokerage accounts in large part purchased stocks on

margin; and they incurred margin interest costs of $67,193, which

was deducted directly from the brokerage accounts and for which

respondent did not give petitioner credit.      Petitioner

additionally alleges that the brokerage accounts incurred capital

losses of $15,764 for which respondent did not give petitioner

credit.    Petitioner contends that if he must include the

dividends in his income, then he should also be allowed to claim

the capital losses of $15,764 and margin interest deductions of

$67,193.   Respondent counters that petitioner’s untimely claim of

additional losses and deductions prejudices respondent because he

is effectively precluded from attempting to show that petitioner

had additional unreported gains from other personal brokerage

accounts into which corporate funds were diverted but which were

not included in the deficiencies asserted.
                             - 95 -


     This Court generally will not consider issues that are

raised for the first time on brief, particularly where the

belated claim would prejudice a party.   Rules 34(b)(4), 41(a) and

(b); Foil v. Commissioner, 92 T.C. 376, 418 (1989), affd. 920

F.2d 1196 (5th Cir. 1990); Markwardt v. Commissioner, 64 T.C.

989, 997 (1975); see also Toyota Town, Inc. v. Commissioner, T.C.

Memo. 2000-40, affd. sub nom. Bob Wondries Motors, Inc. v.

Commissioner, 268 F.3d 1156 (9th Cir. 2001).     Leave to amend a

pleading should be given, however, “when justice so requires”.

Rule 41(a).

     We note first that we have concluded herein that petitioner

is effectively not the owner of the dividends respondent

attributed to him from the Sam Han and Chung No. 1 accounts.

These two accounts contain $54,372 of the $67,193 in margin

interest for which petitioner seeks an offset.    Moreover, the

evidence adduced by respondent in this case demonstrates that

petitioner had additional unreported income of $85,688 in 1988

that respondent nonetheless did not use as a basis to amend his

pleadings to assert an increased deficiency.   In these

circumstances, we conclude that respondent would be prejudiced if

petitioner were permitted to raise for the first time on brief

his entitlement to margin interest deductions and capital losses.

Also, the belated income offsets to which petitioner might be
                               - 96 -


entitled fall short of the additional unreported income noted

above.   Consequently, the interests of justice do not require

that petitioner be permitted to raise new issues on brief.

Interest Income Issue

     On his 1988 return, petitioner included $27,992 of interest

income attributable to the ANB accounts.    The ANB accounts were

opened and maintained throughout 1988 and beyond under

petitioner’s Social Security number.    Petitioner obtained backup

withholding tax credits in 1989, 1990, and 1991 for the ANB

accounts.   In an amendment to petition, petitioner alleged that

the interest income should not be included in his income because

the ANB accounts belonged to IL NA Tours, and therefore the

corporation should have reported it.

     Petitioner contends that the ANB accounts were reflected as

assets on IL NA Tours’ June 1988 financial statement and on its

1988 corporate return.    Petitioner maintains that he had no power

to control the ANB accounts after they were funded, he did not

receive the interest, and the funds in the ANB accounts,

including the interest earned on those funds, were not intended

to benefit him.    He further contends that money in the ANB

accounts was used for IL NA Tours’ benefit and, ultimately, to

pay its debts.    Petitioner asserts that his accountant

erroneously included the interest on petitioner’s return.
                              - 97 -


Respondent contends, however, that petitioner properly reported

the interest income on his return because it was earned on funds

he had taken from his corporations and converted to his own

dominion and control.

     In line with our earlier holding that the transfer of funds

to the ANB accounts before yearend 1988 constitutes a return of

those funds to petitioner’s corporations, it follows that the

interest earned on the funds in the ANB accounts in 1988 is not

taxable to petitioner.   We so hold.

Depreciation Issue

     On his 1988 return, petitioner reported rental income of

$10,430 and deducted rental expenses of $19,410 in addition to

depreciation of $10,74453 relating to the Lincoln Avenue II

property.   Respondent determined that petitioner was not entitled

to deduct the rental expenses or the depreciation.   Petitioner

has conceded that he is not entitled to deduct the rental

expenses.   Petitioner has the burden of proving that he is

entitled to the depreciation deduction.   Rule 142(a).

     Petitioner contends that he is entitled to a depreciation

deduction of $9,963 relating to the Lincoln Avenue II property.

He maintains that he bought the property during 1984 for either

$150,000 or $160,000 and that he financed the purchase with a
     53
       The parties have stipulated that the appropriate
depreciation, if any is allowable, is $9,963.
                               - 98 -


mortgage in his name which he paid.      Petitioner asserts that

respondent did not cross-examine him on his testimony nor offer

any evidence that petitioner did not pay for the property in

1984.

      Respondent contends that petitioner has failed to establish

the cost of the property or that he used his own funds to acquire

it.   Accordingly, respondent contends, petitioner has failed to

prove his basis in the property or his entitlement to the

depreciation claimed.

      To show entitlement to a deduction for depreciation,

petitioner must establish, among other things, the depreciable

basis of the property.   See Delsanter v. Commissioner, 28 T.C.

845, 863 (1957), affd. in part, revd. and remanded on another

issue 267 F.2d 39 (6th Cir. 1959).      The evidence in the record

relating to basis in the Lincoln Avenue II property consists

solely of petitioner’s self-serving statements, which we reject

because they are uncertain, ambiguous, and uncorroborated.      See

Frierdich v. Commissioner, 925 F.2d at 185; Tokarski v.

Commissioner, 87 T.C. at 77.   Accordingly, petitioner has not

established basis and may not deduct depreciation with respect to

the Lincoln Avenue II property in 1988.      We therefore sustain

respondent’s determination.
                              - 99 -


Rental Income Issue

     During 1988, Air America and IL NA Tours occupied space on

the first and second floors, respectively, of the Lincoln Avenue

I property.   On their 1988 returns, Air America deducted $12,425

and IL NA Tours deducted $41,127 for rent in the “Other

deductions” category on the returns.   In addition, IL NA Tours

deducted $41,127 in the “Rent” category of its return.54

     On his 1988 return, petitioner reported $10,430 in rental

income relating to the Lincoln Avenue II property but did not

report any rental income relating to the Lincoln Avenue I

property.   During the examination of petitioner’s 1988 return,

petitioner told the revenue agent conducting the examination that

the amounts deducted for rent by Air America ($12,425) and IL NA

Tours ($41,127), in total $53,552, were for the use of space in

the Lincoln Avenue I property.   In the notice of deficiency

respondent determined that petitioner had unreported income of

$43,123 relating to rental income attributable to the Lincoln

Avenue I property.55

     54
       Respondent has not put in issue any additional income
that might be associated with the duplicative $41,127 deduction.
     55
       The revenue agent had erroneously subtracted the $10,430
rental income reported on petitioner’s return relating to the
Lincoln Avenue II property from the $53,552 in unreported rental
income relating to the Lincoln Avenue I property. Respondent has
not amended the answer further to include the additional
unreported rental income.
                              - 100 -


     During trial preparation, petitioner reiterated to

respondent’s counsel that during 1988 Air America and IL NA Tours

had paid him rent totaling $53,552 for their use of space in the

Lincoln Avenue I property.   Before trial commenced, however,

petitioner retracted that statement and instead informed

respondent’s counsel that he had discovered he had not received

rent for use of space in the Lincoln Avenue I property from his

corporations.   He claimed further that the rent deducted by IL NA

Tours constituted rent the corporation had paid to various

commercial rental agents on behalf of various subagents of IL NA

Tours.   In support of his statement, petitioner submitted to

respondent’s counsel a number of checks made payable to third

parties with addresses in cities where certain NA Tours companies

were located.   Those companies were separately incorporated

corporations wholly owned by petitioner.   Petitioner bears the

burden of proving that he did not receive the rental income in

issue during 1988.   Rule 142(a).

     Petitioner contends that he did not receive rent from IL NA

Tours or Air America during 1988.   According to petitioner, he

told the revenue agent that he “thought” the $53,552 in rent had

been paid to him for the use of space in his Lincoln Avenue I

property.   He contends that he made the statement at a time when

he did not have any records relating to the transactions.
                              - 101 -


Petitioner maintains that checks he gave respondent’s counsel

during trial preparation compared with cash disbursement

spreadsheets included in certain workpapers in evidence show that

the rent payments did not go to him but instead went to third-

party commercial rental agents that rented space to branch

offices of IL NA Tours.

     Respondent contends that petitioner has not shown that IL NA

Tours and Air America did not pay him rent during 1988.

Respondent asserts that the evidence on which petitioner relies

is not relevant to the issue of rental payments made by IL NA

Tours and Air America to him because none of the checks or cash

disbursement recordations relate to payments for space used by IL

NA Tours or Air America.

     Respondent asserts further that the checks petitioner

submitted do not add up to the $53,552 in total that Air America

and IL NA Tours deducted as rental expense on their corporate

returns.   Respondent contends that petitioner’s pattern of taking

money from his corporations belies his claim that he passed up an

opportunity to take rental income from his corporations,

especially when his activities were being carefully monitored by

Northwest.

     We are persuaded on the basis of the record that petitioner

was in error when he informed the revenue agent and respondent’s
                              - 102 -


counsel that IL NA Tours paid him $41,127 in rent for the use of

space in his Lincoln Avenue I property.   We are persuaded that

the $41,127 deducted on IL NA Tours’ 1988 return consisted of

rental payments for commercial office space in cities where IL NA

Tours maintained branch offices.

     The checks petitioner submitted for 1988 were drawn on bank

accounts maintained by IL NA Tours, NY NA Tours, or CA NA Tours

and total $41,672.28, which approximates the amount IL NA Tours

deducted as rental expense.   Chung signed most of the checks.    He

testified that the office rents reflected in the corporation’s

workpapers were payments for office space rented by branch

offices maintained by IL NA Tours in various cities.    He also

testified that it would have been his practice to obtain the

numbers reflected in the workpapers from the listing of accounts

payable.   As controller of IL NA Tours, Chung would be in a

better position than petitioner to know the recipients of

payments that IL NA Tours had deducted on its 1988 return.

     Respondent’s argument that the payments do not add up to the

$53,552 in issue is misleading inasmuch as those checks relate to

payments made by IL NA Tours, which deducted $41,127.    The

balance of the $53,552 relates to the $12,425 deducted by Air

America.   Petitioner did not submit any checks written on

accounts maintained by Air America.
                              - 103 -


     On the basis of Chung’s corroborating testimony, we are

persuaded that the rental expenses IL NA Tours claimed on its

corporate return did not relate to payments made to petitioner.

Thus, we hold that petitioner did not have unreported rental

income of $41,127 from IL NA Tours in 1988.56

     The rationale we apply to decide whether IL NA Tours paid

petitioner $41,127 in rental income during 1988 does not apply,

however, to the $12,425 deducted by Air America for rental

expense in 1988.   Other than petitioner’s self-serving retraction

of his statements to the revenue agent and respondent’s counsel,

there is no proof that petitioner did not receive the $12,425 he

admitted receiving from Air America for use of space in the

Lincoln Avenue I property.   Petitioner’s arguments relating to

the cash disbursement spreadsheets and to the checks he submitted

to respondent’s counsel are not persuasive as to rental payments

made by Air America since those spreadsheet notations and checks

apply only to IL NA Tours.   Presumably, Air America maintained

its own books and records since it was a separate entity from IL

NA Tours.


     56
       The propriety of IL NA Tours’ deduction of rental
payments for the benefit of other corporations owned by
petitioner is not before the Court and, therefore, we do not
address the question of whether the payments to the third-party
rental agents would have been a deductible expense of IL NA
Tours.
                               - 104 -


     Petitioner told both the revenue agent and respondent’s

counsel that Air America paid him rent for the use of space in

the Lincoln Avenue I property.    Air America maintained its office

at property owned by petitioner and deducted $12,425 for rent

expenses.   The record contains no proof that Air America paid

anyone other than petitioner for rent expenses.    As far as the

record reflects, Air America did not have branch offices.     The NA

Tours companies were separate entities from Air America.

     We do not agree with petitioner that the corporate

workpapers in evidence show that he did not receive rental income

from Air America.    Those documents were records of IL NA Tours,

not Air America.    Moreover, in arguing for the receipt into

evidence of these workpapers, petitioner stressed that these

documents did not constitute all of the books and records for IL

NA Tours and were merely workpapers accumulated by Chung to

assist him in the preparation of IL NA Tours’ tax returns.      Chung

did not testify that those documents constituted all of the

workpapers Chung gathered for that purpose.    Furthermore,

petitioner’s counsel never asked Chung at trial whether Air

America paid rental income to petitioner during 1988.    The normal

inference is that testimony on that matter would have been

unfavorable to petitioner’s position.    See Frierdich v.

Commissioner, 925 F.2d at 185; Tokarski v. Commissioner, 87 T.C.
                               - 105 -


at 77; Bresler v. Commissioner, 65 T.C. 182, 188 (1975); Wichita

Terminal Elevator Co. v. Commissioner, 6 T.C. 1158, 1165 (1946),

affd. 162 F.2d 513 (10th Cir. 1947).     We are not required to

accept petitioner’s self-serving testimony that his corporations

did not pay him rent.   Frierdich v. Commissioner, supra; Liddy v.

Commissioner, 808 F.2d 312, 315 (4th Cir. 1986), affg. T.C. Memo.

1985-107; Laney v. Commissioner, 674 F.2d 342, 349-350 (5th Cir.

1982), affg. in part, revg. in part and remanding on another

issue T.C. Memo. 1979-491.

     On the basis of the foregoing, we hold that petitioner has

not met the burden of proving that he did not have $12,425 in

unreported rental income from Air America in 1988.

Addition to Tax for Negligence Issue

     In the notice of deficiency, respondent determined that

petitioner is liable for an addition to tax for negligence under

section 6653(a)(1) for 1988.   In the amendment to answer to

amendment to petition, respondent alleged that petitioner was

liable for the addition to tax for negligence for the issues

raised in the amendment to answer.

     Section 6653(a)(1) imposes an addition to tax equal to 5

percent of the underpayment if any part of the deficiency was due

to negligence or intentional disregard of rules or regulations.
                               - 106 -


“Negligence” includes a failure to make a reasonable attempt to

comply with the provisions of the Internal Revenue Code.    Sec.

6653(a)(3).   “Disregard” includes any careless, reckless, or

intentional disregard of rules or regulations.   Id.; Crocker v.

Commissioner, 92 T.C. 899, 916-918 (1989); Neely v. Commissioner,

85 T.C. 934, 947-950 (1985).   The negligence addition to tax will

apply if, among other things, the taxpayer fails to maintain

adequate books and records with regard to the items in question.

Crocker v. Commissioner, supra.

     In the stipulation of settled issues, petitioner has

conceded that he understated income and overstated deductions

relating to his 1988 return.   Petitioner has failed to prove that

those items were not due to negligence.   Furthermore, petitioner

has conceded that he would be liable for the addition to tax for

negligence if we decide, as we have in part, that the funds he

took from corporate accounts must be included in his income in

1988.   For 1988, the addition to tax for negligence applies to

the entire deficiency if any part of the deficiency is due to

negligence or intentional disregard of rules or regulations.

Accordingly, we conclude that petitioner is liable for the

addition to tax for negligence under section 6653(a) for the

deficiencies determined in the notice of deficiency and the
                              - 107 -


increased deficiencies asserted in the amendment to answer to the

amended petition to the extent sustained herein.

Addition to Tax for Substantial Understatement of Income Tax
Issue

     In the notice of deficiency, respondent determined that

petitioner is liable for the addition to tax under section 6661

for 1988 because he substantially understated his income tax.      In

the amendment to answer to amendment to petition, respondent

asserts that petitioner is liable for the addition to tax for

substantial understatement of income for the issues raised in the

amendment to answer.   Petitioner has the burden of proof as to

the issues raised in the notice of deficiency, and respondent has

the burden of proof for the new matter and increased deficiency

asserted in the amendment to answer.    Rule 142(a).

     Section 6661(a) imposes an addition to tax equal to 25

percent of the underpayment attributable to an understatement

where there is a substantial understatement of income tax.    An

understatement is substantial if it exceeds the greater of 10

percent of the tax required to be shown or $5,000.     Sec.

6661(b)(1)(A).   An “understatement” is defined as the excess of

the tax required to be shown on the return over the tax actually

shown on the return.   The amount of the understatement is reduced

for section 6661 purposes by the portion of the understatement

which is attributable to the taxpayer’s treatment of an item if
                                - 108 -


there is substantial authority for that treatment, or if relevant

facts affecting the item’s tax treatment are adequately disclosed

in the return.   Sec. 6661(b)(2)(B).

     Petitioner contends merely that the addition to tax for

substantial understatement of tax is computational and will not

apply if we accept his arguments relating to the issues involved

in the instant case.   Thus, petitioner provided no evidence that

he had substantial authority for the understatement, and his tax

return did not disclose the relevant facts sufficient to enable

respondent to identify the potential controversy involved.

Schirmer v. Commissioner, 89 T.C. 277, 285-286 (1987).

Respondent presented evidence at trial through testimony of

witnesses and documents and through the concessions at trial and

in the briefs, sufficient to meet the burden of proving certain

increased deficiencies raised in the amendment to answer to

amendment to petition.   Accordingly, we sustain respondent as to

the imposition of the addition to tax for substantial

understatement of income tax.

     To reflect the foregoing,

                                              Decision will be entered

                                          under Rule 155.
