                           T.C. Summary Opinion 2013-9



                          UNITED STATES TAX COURT



    JOHN MCCORMACK AND MARCELLA MCCORMACK, Petitioners v.
         COMMISSIONER OF INTERNAL REVENUE, Respondent



      Docket No. 25758-11S.                          Filed February 11, 2013.



      John McCormack and Marcella McCormack, pro sese.

      Tyler N. Orlowski, for respondent.



                               SUMMARY OPINION


      HAINES, Judge: This case was heard pursuant to the provisions of section

7463 of the Internal Revenue Code in effect when the petition was filed. Pursuant

to section 7463(b), the decision to be entered is not reviewable by any other court,

and this opinion shall not be treated as precedent for any other case.
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      In a notice of deficiency dated September 19, 2011, respondent determined a

deficiency in petitioners’ 2009 Federal income tax of $18,420 and a section 66621

accuracy-related penalty of $3,684. After concessions by the parties,2 the issues for

decision are: (1) whether petitioners may depreciate and deduct section 179

expenses for a Mercedes-Benz (MB) 450 GL automobile purchased in October

2009; (2) whether petitioners may deduct losses from their rental real estate

activities under the passive activity loss rules in section 469; and (3) whether

petitioners are liable for accuracy-related penalties under section 6662(a).

                                      Background

      Some of the facts are stipulated and are so found. The stipulation of facts and

the attached exhibits are incorporated herein by this reference. Petitioners resided in

California at the time their petition was filed.




      1
       Unless otherwise indicated, section references are to the Internal Revenue
Code in effect for 2009, and Rule references are to the Tax Court Rules of Practice
and Procedure.
      2
        Petitioners concede that their 2009 Federal income tax return omitted from
income $160 of ordinary dividends, $15 of taxable interest, $140 of qualified
dividends, and $920 of short-term capital gains. Respondent concedes $12,169 of
mortgage interest expense and $2,369 of real estate tax expenses petitioners claimed
as rental expenses on Schedule E, Supplemental Income and Loss.
                                         -3-

       In 2009 Mr. McCormack was employed in the San Francisco area by Ranger

Pipelines, Inc. Mrs. McCormack was employed by the City of San Francisco Fire

Department. They have two children. They reported on their 2009 Form 1040,

U.S. Individual Income Tax Return, combined wages of $254,627 with an adjusted

gross income of $187,074 after deducting a loss of $41,818 on Schedule C, Profit or

Loss From Business, a loss of $20,552 on Schedule E, and a loss of $5,183 on the

sale of a car.

       Mr. McCormack had been attempting for several years to develop a home

renovation and repair business. The business was named Northside Construction

and was identified as such on Schedule C. During 2009 Northside Construction had

two jobs that generated $5,360 of gross receipts. The $41,818 loss deducted for the

business was based primarily on $33,600 of depreciation and section 179 expense

taken for the purchase of a 2007 MB 450 GL automobile that was acquired on

October 5, 2009.3 Respondent disputes the depreciation and section 179 expense,

asserting that the car was used for personal, family, and household purposes.

Petitioners claim that the car was used 100% of the time for business use in

Northside Construction and for transportation by Mrs. McCormack for her San


       3
      Form 4562, Depreciation and Amortization, lists an acquisition date of
September 1, 2009, but the sales contract lists October 5, 2009. We apply the later
date.
                                          -4-

Francisco Fire Department responsibilities. Mr. McCormack kept a log for his

business use of a Silverado truck on behalf of Ranger Pipelines, Inc., but did not

keep the log in the automobile. Mrs. McCormack did not keep a log. Moreover,

petitioners both admitted using the MB 450 GL automobile for personal, family, and

household purposes.

      Petitioners also purchased a residential rental property in Auburn, Georgia, in

2005. The Auburn property generated $4,200 in gross rents in 2009. Petitioners

paid $2,026 to a management company that year. The $20,552 loss reported on

Schedule E was primarily due to mortgage interest of $12,169 and real estate taxes

of $2,369. Respondent has conceded the mortgage interest and real estate tax

deductions but disputes the loss reported on Schedule E under the passive activity

loss rules of section 469. Petitioners claim that they actively participated in the

management of the property and that the entire Schedule E $20,552 loss should be

allowed.

      Petitioners also contend that they should not be liable for any section 6662(a)

penalties because they relied on Carl T. Childs, doing business as Childs Tax &

Acct. Service, Inc., to prepare their returns. Mr. Childs has a degree in accounting

from Golden Gate University but is not a certified public accountant. He was given

a summary of expenses with no receipts and told by petitioners that the automobile
                                          -5-

was used 100% of the time for the business of Northside Construction and by Mrs.

McCormack for fire department responsibilities.

                                      Discussion

I. Burden of Proof

      Generally, the Commissioner’s determination of a deficiency is presumed

correct, and the taxpayer bears the burden of proving it incorrect. See Rule 142(a);

Welch v. Helvering, 290 U.S. 111, 115 (1933). Moreover, deductions are a matter

of legislative grace, and the taxpayer bears the burden of proving his entitlement to

any deductions claimed. See INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84

(1992); New Colonial Ice Co. v. Helvering, 292 U.S. 435, 440 (1934).

II. Section 179 Expense

      Subject to certain limitations, taxpayers purchasing qualifying property may

elect under section 179 to deduct the cost of the property in the year the property is

placed in service. Qualifying section 179 property includes tangible property that is

depreciable under section 168 and is described in section 1245(a)(3), but only if the

property is acquired for use in the “active conduct of a trade or business.” Sec.

179(d)(1). “[A]ctive conduct” means that the taxpayer actively participates in the

management or operations of the trade or business. Sec. 1.179-2(c)(6)(ii), Income

Tax Regs.
                                         -6-

      Although both petitioners testified that the automobile acquired in October

2009 was used 100% of the time in either Northside Construction or for services as

an employee of the fire department, both admitted that the automobile was also used

for personal, family, and household purposes.

      An automobile is a “listed property”, sec. 280F(d)(4); sec. 1.280F-6(b)(1)(i),

Income Tax Regs. and is subject to the special limitations of section 280F(d),

which provides in part:

             SEC. 280F(d). Definitions and Special Rules.--For purposes of
      this section--

                    (1) Coordination with Section 179.-- Any deduction
             allowable under section 179 with respect to any listed
             property shall be subject to the limitations of subsections
             (a) and (b), and the limitation of paragraph (3) of this
             subsection, in the same manner as if it were a depreciation
             deduction allowable under section 168.

                          *      *      *       *     *      *      *

                    (3) Deductions of Employee.--

                          (A) In general.--Any employee use of listed
                   property shall not be treated as use in a trade or business
                   for purposes of determining the amount of any
                   depreciation deduction allowable to the employee * * *
                   unless such use is for the convenience of the employer and
                   required as a condition of employment.
                                           -7-

                           (B) Employee use.--For purposes of subparagraph
                    (A), the term “employee use” means any use in
                    connection with the performance of services as an
                    employee.

      There is no evidence in the record that the city of San Francisco required its

fire department personnel to use their own automobiles while employed for the city,

nor is there any evidence to suggest that the city failed to supply vehicles to its

employees to provide fire department services for its citizens. On the contrary, Mrs.

McCormack testified that during 2009 she used fire engines and ambulances

provided by the city and did not otherwise keep a record of mileage for the

automobile use as an employee. Consequently, Mrs. McCormack’s use of the

automobile as an employee of the city of San Francisco is not treated as business use

for purposes of the Internal Revenue Code. When Mrs. McCormick’s use of the

automobile as an employee is coupled with the admitted personal use of the

automobile for family and household purposes and the limited business use by Mr.

McCormack, the Court holds that the business use of the automobile was less than

50%. Therefore, pursuant to section 1.280F-3T(c)(1), Temporary Income Tax Regs.,

49 Fed. Reg. 42708 (Oct. 24, 1984):

      Limitation on the method of cost recovery under section 168 when
      business use of property not greater than 50%--(1) Year of acquisition.
      --If any listed property * * * is not predominantly used in a qualified
      business use * * * in the year it is acquired, the recovery deductions
                                          -8-

      allowed under section 168 for the property for that taxable year and for
      succeeding taxable years are to be determined using the straight
      line method over its earnings and profits life * * *. Additionally, the
      taxpayer is not entitled to make any election under section 179 with
      respect to the property for that year. [Emphasis added.]

Petitioners may not deduct section 179 expenses for the MB 450 GL automobile

purchased October 5, 2009. Furthermore, because of the failure to substantiate

business use by means of a log or otherwise, no depreciation on the automobile, a

listed property, may be claimed.

III. Passive Activity Losses

      Section 469 generally disallows passive activity losses for any taxable year. A

passive activity loss is defined as the excess of the aggregate losses from all passive

activities for a taxable year over the aggregate income from all passive activities for

that year. Sec. 469(d)(1). Passive activities include any trade or business in which

the taxpayer does not materially participate, sec. 469(c)(1), or, to the extent provided

in regulations, any activity with respect to which expenses are allowable as a

deduction under section 212, sec. 469(c)(6)(B).

      Rental activity is generally treated as per se passive regardless of whether the

taxpayer materially participates. Sec. 469(c)(2), (4). There is, however, an

exception for passive activity losses up to $25,000 under section 469(i) for a

taxpayer who actively participates in rental real estate activities. Taxpayers may
                                           -9-

satisfy the active participation requirement by participating in management decisions,

such as approving new tenants, deciding rental terms, and arranging services and

repairs. Madler v. Commissioner, T.C. Memo. 1998-112. Petitioners claim to have

actively participated in the management of the Auburn, Georgia, rental even though

they retained a management company for the property in 2009. Respondent disputes

active participation.

      The active participation issue is irrelevant because the $25,000 amount begins

to phase out when the taxpayer’s adjusted gross income, determined without regard

to any passive activity loss, exceeds $100,000, and is phased out entirely when the

taxpayer’s adjusted gross income reaches $150,000. Sec. 469(i)(3)(F)(iv). Without

the passive activity loss taken, petitioner’s adjusted gross income for 2009 is

$207,626. See Moss v. Commissioner, 135 T.C. 365, 371-372 (2010). Therefore,

they are not entitled to deduct any passive activity losses in excess of gross rentals

under section 469(i)(3).

IV. Accuracy-Related Penalties

      Respondent determined in the notice of deficiency that petitioners are liable

for a section 6662 accuracy-related penalty of $3,684 for 2009.

      Section 6662(a) and (b)(1) and (2) provides for the imposition of an accuracy-

related penalty equal to 20% of the underpayment attributable to any substantial
                                           -10-

understatement of income tax or to negligence or disregard of rules or regulations.

However, no penalty will be imposed under section 6662(a) if the taxpayers establish

that they acted with reasonable cause and in good faith. Sec. 6664(c)(1).

Circumstances that indicate reasonable cause and good faith include reliance on the

advice of a tax professional or an honest misunderstanding of the law that is

reasonable in the light of all the facts and circumstances. Sec. 1.6664-4(b), Income

Tax Regs.; see Higbee v. Commissioner, 116 T.C. 438, 449 (2001). The taxpayers

have the burden of proving that they acted with reasonable cause and in good faith.

Rule 142(a).

         Petitioners dispute the penalty respondent determined, claiming that they

relied upon their accountant to file an accurate return. However, the record reveals

that Mr. Childs, the accountant, relied upon representations made by petitioners, not

the other way around. Therefore, the petitioners are liable for the section 6662(a)

penalty.

         In reaching these holdings, the Court has considered all arguments made and,

to the extent not mentioned, concludes that they are moot, irrelevant, or without

merit.
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To reflect the foregoing,


                                    Decision will be entered

                            under Rule 155.
