                        T.C. Memo. 2004-146



                      UNITED STATES TAX COURT



                   PAUL MCGOWAN, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 13587-01.             Filed June 21, 2004.


     Daniel L. Britt, Jr., for petitioner.

     Travis T. Vance III, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     FOLEY, Judge:   The issues for decision are whether

petitioner is liable for deficiencies and fraud penalties

relating to 1991, 1992, and 1993.
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                         FINDINGS OF FACT

     In 1968, petitioner began operating McGowan Construction

Company, Inc. (the Company), an S corporation.    Petitioner is the

president and sole shareholder of the Company.

     In 1987, petitioner married Bonnie Cason, owner and operator

of Bonnie’s Sportswear, a wholesale garment manufacturing

business.   Soon after they were married, petitioner hired Leonard

Kisalus, Ms. Cason’s accountant, to set up the Company’s

accounting and payroll records and prepare tax returns.    Mr.

Kisalus prepared the Company’s 1987 through 1993 returns and

petitioner’s 1985 through 1993 returns.

     In 1990, petitioner purchased a computer for the Company,

and Mr. Kisalus installed, on the computer, an accounting

software program to record general ledger, payroll, invoice, and

accounts receivable information.   Petitioner’s secretaries did

not have any previous bookkeeping experience, but Mr. Kisalus

trained them to manage the Company’s bookkeeping

responsibilities.

     Each year petitioner and his secretaries maintained a

handwritten ledger to record all work performed, invoices

prepared, and customer checks received.     The secretaries opened

the Company’s mail and collected customer checks.    They would

match each check with its corresponding invoice and record, in
                               - 3 -

the handwritten ledger, that the invoice had been paid.     In

addition, the secretaries recorded, in the general ledger, the

customer checks they deposited in the Company’s account and used

this information to prepare monthly financial statements.

     From 1990 through 1993, petitioner and his secretaries

recorded the receipt of all of the customer checks in

petitioner’s handwritten ledger.   During this period, petitioner

cashed, or deposited into his personal bank account, customer

checks and used the proceeds for his personal benefit.    The

Company’s balance sheets for each year in issue reflected

significant balances in the shareholder equity accounts

(shareholder accounts), which included shareholder loan, capital

stock, retained earnings, and current earnings.

     Beginning in 1990, Ms. Cason became concerned because some

of the customer checks were not being deposited into the

Company’s account.   Ms. Cason informed Mr. Kisalus that she did

not want to file a 1990 joint return.   Mr. Kisalus asked

petitioner whether all customer checks were being accounted for,

and petitioner told Mr. Kisalus that all of the income was being

recorded in the Company’s books.   Based upon petitioner’s

assurance, and Mr. Kisalus’s belief that Ms. Cason would qualify

as an innocent spouse even if petitioner were underreporting his
                                - 4 -

income, Mr. Kisalus convinced Ms. Cason to sign a 1990 joint

return.

     Prior to signing a 1991 return, Ms. Cason sought legal

advice to determine whether she would qualify as an innocent

spouse if petitioner failed to report all of his income on their

joint return.   Ms. Cason subsequently refused to sign a 1991

joint return with petitioner.   Her failure to do so precipitated

petitioner and Ms. Cason’s 1992 separation and 1994 divorce.    Ms.

Cason subsequently contacted the Internal Revenue Service and

alleged that petitioner had taken funds from the Company and not

reported those funds on his returns.

     Mr. Kisalus had access to, but did not review, the

handwritten ledger, accounts receivable, and invoices.    He relied

exclusively on the bank records and financial statements (i.e.,

prepared from the information in the general ledger) to prepare

the Company’s 1991, 1992, and 1993 returns.

     By notice of deficiency dated September 6, 2001, respondent

determined deficiencies of $103,299, $36,968, and $67,180 and

fraud penalties, pursuant to section 6663,1 of $77,474, $27,726,

and $50,385 relating to 1991, 1992, and 1993, respectively.


     1
        Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the years in issue, and
all Rule references are to the Tax Court Rules of Practice and
Procedure.
                               - 5 -

     In 1998, petitioner was convicted, pursuant to section

7206(1), of filing false tax returns and, pursuant to section

7206(2), of aiding or assisting the filing of false tax returns

relating to 1991, 1992, and 1993.   The convictions were

subsequently affirmed on appeal and became final.

     On December 4, 2001, petitioner, while residing in Townsend,

Georgia, filed his petition with this Court.

                              OPINION

     Petitioner concedes that he underreported his 1991 through

1993 taxes, but contends that the liabilities were determined

after the 3-year and 6-year periods of limitations set forth in

section 6501(a) and (e), respectively.   Respondent contends that

the determinations are timely because petitioner’s underpayments

are due to fraud and thus are not subject to either the 3-year or

6-year limitations period.   Sec. 6501(c)(1).

     Petitioner’s conviction, pursuant to section 7206(1), is a

badge of fraud and estops him from contesting that he filed false

1991, 1992, and 1993 returns and that an underpayment exists for

these years.   Bradford v. Commissioner, 796 F.2d 303, 307-308

(9th Cir. 1986), affg. T.C. Memo. 1984-601; Considine v. United

States, 683 F.2d 1285, 1287 (9th Cir. 1982); Wright v.

Commissioner, 84 T.C. 636, 643-644 (1985).      Respondent cannot

rely on petitioner’s conviction to sustain his burden of
                                - 6 -

establishing fraud but must clearly and convincingly prove that

petitioner intended to evade tax.    Sec. 7454(a); Rule 142(b);

Parks v. Commissioner, 94 T.C. 654, 660-661 (1990); Wright v.

Commissioner, supra at 643-644.     This burden is met where

respondent proves conduct intended to conceal, mislead, or

otherwise prevent the collection of tax.     Parks v. Commissioner,

supra at 661.   Fraud is not to be imputed or presumed but rather

must be established by some independent evidence.     Beaver v.

Commissioner, 55 T.C. 85, 92 (1970).

     Respondent has failed to meet his burden.    Respondent’s

witnesses either supported petitioner’s contentions or presented

contradictory and unconvincing testimony.    In addition, the

typical indicia of an intent to evade tax are not present.

Petitioner maintained adequate records, made all pertinent

information available to his secretaries (i.e., who prepared

records for Mr. Kisalus to use in preparing petitioner’s returns)

and subsequently to the Internal Revenue Service, cooperated with

the Internal Revenue Service’s investigation, and did not employ

any scheme to conceal income.   Petitioner and his secretaries

recorded, in the handwritten ledger, the receipt of all customer

checks (i.e., those cashed or deposited in his personal account).

Mr. Kisalus, on whom petitioner relied, did not, however, use

this ledger to prepare the Company’s returns.
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     Petitioner questioned Mr. Kisalus about the shareholder

accounts and believed that the checks he converted to personal

use were included in these accounts.        While he knowingly

underreported his income during the years in issue, petitioner,

who had an eighth grade education, believed that any disparity

between his reported income and the amounts reflected in the

shareholder accounts would ultimately be reconciled and that, at

some point, he would pay the appropriate amount of tax relating

to all of his income.     Inexplicably, respondent failed to address

petitioner’s apparent confusion relating to these shareholder

accounts (i.e., respondent did not question any witnesses about

this issue or address it on brief).        In essence, respondent

rested on petitioner’s conviction and ignored this critical issue

relating to petitioner’s intent to evade tax.

     Accordingly, respondent’s determinations relating to 1991,

1992, and 1993 are barred.

     Contentions we have not addressed are irrelevant, moot, or

meritless.

     To reflect the foregoing,


                                               Decision will be entered

                                          for petitioner.

[REPORTER’S NOTE: This opinion was amended by Order dated Sept. 14, 2004.]
