                       T.C. Memo. 2004-279



                     UNITED STATES TAX COURT



                GLENN A. MORTENSEN, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 25991-96.             Filed December 15, 2004.


     Wendy S. Pearson, Terri A. Merriam, and Jennifer A. Gellner,

for petitioner.

     Nhi T. Luu-Sanders and Catherine Caballero, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     GOLDBERG, Special Trial Judge:   Respondent determined that

petitioner is liable for a section 6662(a) accuracy-related

penalty of $784 for the taxable year 1991.   Unless otherwise

indicated, section references are to the Internal Revenue Code in
                               - 2 -

effect for the year in issue, and all Rule references are to the

Tax Court Rules of Practice and Procedure.

      The sole issue before this Court is whether petitioner is

liable for the section 6662(a) accuracy-related penalty for

negligence or disregard of rules or regulations in the year in

issue.

                          FINDINGS OF FACT

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

The first, second, third, and fourth stipulations of facts and

the attached exhibits are incorporated herein by this reference.

Petitioner resided in Hixson, Tennessee, on the date the petition

was filed in this case.

I.   Walter J. Hoyt III and the Hoyt Partnerships

      The accuracy-related penalty at issue in this case arises

from an adjustment of a partnership item on petitioner’s 1991

Federal income tax return.   This adjustment is the result of

petitioner’s involvement in certain partnerships organized and

promoted by Walter J. Hoyt III (Mr. Hoyt).

      Mr. Hoyt’s father was a prominent breeder of Shorthorn

cattle, one of the three major breeds of cattle in the United

States.   In order to expand his business and attract investors,

Mr. Hoyt’s father had started organizing and promoting cattle

breeding partnerships by the late 1960s.     Before and after his

father’s death in early 1972, Mr. Hoyt and other members of the
                               - 3 -

Hoyt family were extensively involved in organizing and operating

numerous cattle breeding partnerships.    From about 1971 through

1998, Mr. Hoyt organized, promoted to thousands of investors, and

operated as a general partner more than 100 cattle breeding

partnerships.   Mr. Hoyt also organized and operated sheep

breeding partnerships in essentially the same fashion as the

cattle breeding partnerships (collectively the “investor

partnerships” or “Hoyt partnerships”).    Each of the investor

partnerships was marketed and promoted in the same manner.

     Beginning in 1983, and until removed by this Court due to a

criminal conviction, Mr. Hoyt was the tax matters partner of each

of the investor partnerships that are subject to the provisions

of the Tax Equity & Fiscal Responsibility Act of 1982, Pub. L.

97-248, 96 Stat. 324.   As the general partner managing each

partnership, Mr. Hoyt was responsible for and directed the

preparation of the tax returns of each partnership, and he

typically signed and filed each return.    Mr. Hoyt also operated

tax return preparation companies, variously called “Tax Office of

W.J. Hoyt Sons”, “Agri-Tax”, and “Laguna Tax Service”, that

prepared most of the investors’ individual tax returns during the

years of their investments.   Petitioner’s 1991 return was

prepared in this manner and was signed by Mr. Hoyt.    From

approximately 1980 through 1997, Mr. Hoyt was a licensed enrolled

agent, and as such he represented many of the investor-partners
                                - 4 -

before the Internal Revenue Service (IRS) until he was

disenrolled as enrolled agent in 1998.

     Beginning in February 1993, respondent generally froze and

stopped issuing income tax refunds to partners in the investor

partnerships.    The IRS issued prefiling notices to the investor-

partners advising them that, starting with the 1992 taxable year,

the IRS would disallow the tax benefits that the partners claimed

on their individual returns from the investor partnerships, and

the IRS would not issue any tax refunds these partners might

claim attributable to such partnership tax benefits.

     Also beginning in 1993, an increasing number of investor-

partners were becoming disgruntled with Mr. Hoyt and the Hoyt

organization.    Many partners stopped making their partnership

payments and withdrew from their partnerships, due in part to

respondent’s tax enforcement.    Mr. Hoyt urged the partners to

support and remain loyal to the organization in challenging the

IRS’s actions.    The Hoyt organization warned that partners who

stopped making their partnership payments and withdrew from their

partnerships would be reported to the IRS as having substantial

debt relief income, and that they would have to deal with the IRS

on their own.

     On June 5, 1997, a bankruptcy court entered an order for

relief, in effect finding that W.J. Hoyt Sons Management Company

and W.J. Hoyt Sons MLP were both bankrupt.    In these bankruptcy
                                 - 5 -

cases, the U.S. trustee moved in 1997 to have the bankruptcy

court substantively consolidate all assets and liabilities of

almost all Hoyt organization entities and all of the investor

partnerships.   On November 13, 1998, the bankruptcy court entered

its Judgment for Substantive Consolidation, consolidating all the

above-mentioned entities for bankruptcy purposes.    The trustee

then sold off what livestock the Hoyt organization owned or

managed on behalf of the investor partnerships.

      Mr. Hoyt and others were indicted for certain Federal

crimes, and a trial was conducted in the U.S. District Court for

the District of Oregon.   The District Court described Mr. Hoyt’s

actions as “the most egregious white collar crime committed in

the history of the State of Oregon.”     Mr. Hoyt was found guilty

on all counts, and as part of his sentence in the criminal case

he was required to pay restitution in the amount of $102 million.

This amount represented the total amount that the United States

determined, using Hoyt organization records, was paid to the Hoyt

organization from 1982 through 1998 by investor-partners in

various investor partnerships.

II.   Petitioner and His Investment

      Petitioner has a college education with a bachelor of

science degree in engineering.    During the year in issue,

petitioner was employed as a field engineer.    At the time that he

invested in the Hoyt partnerships, petitioner did not have any
                               - 6 -

significant investment experience, and he did not have any

experience with farming or cattle.

     Petitioner first learned about the Hoyt partnerships from a

coworker in late 1985 or early 1986.   At the suggestion of this

coworker, who was already an investor in a Hoyt partnership,

petitioner decided to look into making an investment.

Petitioner, along with a group of four or five other coworkers,

acquired an informational packet from the Hoyt organization.

     Petitioner first invested in the Hoyt partnerships in 1986.

Prior to investing, petitioner received promotional materials

prepared by the Hoyt organization, some of which he had acquired

in his initial request for information.   Petitioner relied on

these promotional materials which, in general, provided

rationales for why the partnerships were good investments and why

the purported tax savings were legitimate.   One document on which

petitioner relied, entitled “Hoyt and Sons -- The 1,000 lb. Tax

Shelter”, provided information concerning the Hoyt investment

partnerships and how they purportedly would provide profits to

investors over time.   The document emphasized that the primary

return on an investment in a Hoyt partnership would be from tax

savings, but that the U.S. Congress had enacted the tax laws to

encourage investment in partnerships such as those promoted by

Mr. Hoyt.   The document stated that an “investment in cattle [is

arranged] so the cash required to keep it going is only about
                               - 7 -

seventy five percent” of an investor’s tax savings, while the

other twenty-five percent of the tax savings is “a thirty percent

return on investment.”   This arrangement purportedly provided

protection to investors:   “If the cows do die and the sky falls

in, you have still made a return on the investment, and no matter

what happens you are always better off than if you paid taxes.”

After an explanation of the tax benefits, the document asked:

“Now, can you feel good about not paying taxes, and feeling like

you were not, somehow, abusing the system, or doing something

illegal?”

     A section of the “1,000 lb. Tax Shelter” document that was

devoted to a discussion of audits by the IRS, stated that the

partnerships would be “branded an ‘abuse’ by the Internal Revenue

Service and will be subject to automatic” and “constant audit”.

Statements in the document compared the IRS to children, stating

that IRS employees did not have the “proper experience and

training” and “working knowledge of concepts required by the

Internal Revenue Code” to evaluate the partnerships.   In a

section of the document titled “Tax Aspects”, the following

“warning” was given:

     Out here, tax accountants don’t read brands, and our cowboys
     don’t read tax law. If you don’t have a tax man who knows
     you well enough to give you specific personal advice as to
     whether or not you belong in the cattle business, stay out.
     The cattle business today cannot be separated from tax law
     any more than cattle can be separated from grass and water.
     Don’t have anything to do with any aspect of the cattle
                                 - 8 -

     business without thorough tax advice, and don’t waste much
     time trying to learn tax law from an Offering Circular.

Despite this warning, the document spent numerous pages

explaining the tax benefits of investing in a Hoyt partnership,

and explaining why investors should trust only Mr. Hoyt’s

organization to prepare their individual tax returns:

     It is the recommendation of the General Partner, as outlined
     in the private placement offering circular, that a
     prospective Partner seek independent advice and counsel
     concerning this investment. * * * The Limited Partners
     should then authorize the Tax Office of W.J. Hoyt Sons to
     prepare their personal returns. * * * Then you have an
     affiliate of the Partnership preparing all personal and
     Partnership returns and controlling all audit activity with
     the Internal Revenue Service. * * * Then, all Partners are
     able to benefit from the concept of “Circle the Wagons,” and
     no individual Partner can be isolated and have his tax
     losses disallowed because of the incompetence or lack of
     knowledge of a tax preparer who is not familiar with the
     law, regulations, format, procedures, and operations
     concerning the Partnership that are required to protect the
     Limited Partners from Internal Revenue audits. * * * If a
     Partner needs more or less Partnership loss any year, it is
     arranged quickly within the office, without the Partner
     having to pay a higher fee while an outside preparer spends
     more time to make the arrangements.

Finally, the document warned that there remained a chance that “A

change in tax law or an audit and disallowance by the IRS could

take away all or part of the tax benefits, plus the possibility

of having to pay back the tax savings, with penalties and

interest.”

     At the time that he initially made the investment in 1986,

petitioner believed that the investment would produce a profit

and provide retirement income.
                               - 9 -

     In July 1986, petitioner invested in a Hoyt partnership

known as Durham Genetic Engineering 1986-1 (DGE 86-1).    However,

this partnership was “rescinded” later that year, forcing

petitioner to invest in another partnership known as Shorthorn

Genetic Engineering 1986 Ltd. (SGE 86).   On December 22, 1986,

petitioner signed a series of four documents relating to his

investment in SGE 86.   The first document was titled “1986

Acknowledgement”.   This document provided: “This is to

acknowledge I became a Partner in DGE 1986-1 on/or about July 22,

1986, and that I owned an undivided 1/30th interest in the

partnership on that date through a binding oral and/or written

agreement * * * .   I agree to adopt and to be bound by all the

terms of the Partnership Agreement.”   The second document, titled

“Instructions to the Managing General Partner and and [sic]

Acknowledgement of Certain Agreements”, provided in relevant

part:

     (1) I [petitioner] hereby give you [Mr. Hoyt] the
     irrevocable authority to sign my name to a Certificate of
     Assumption of Primary Liability Form on a full recourse
     Promissory Note in the amount of $75,000.00 that will become
     part of a transfer of debt agreement between me, the
     Partnership and HOYT & SONS RANCHES, said note having been
     delivered to pay for breeding cattle purchased from HOYT &
     SONS RANCHES, an Oregon Partnership, in Burns, Oregon, which
     are to be held as breeding cattle by the above named
     Partnership. This authorizes you to sign my name on notes
     that were made for the purchase of Registered Shorthorn
     Breeding cattle from HOYT & SONS RANCHES, and no other
     purpose. I understand I will owe this amount directly to
     HOYT & SONS RANCHES and not to my Partnership. I understand
     I must pay this debt myself. It is my goal to pay it out of
     my share of the Partnership profits.
                             - 10 -

The third document, titled “Instructions to Hoyt and Sons Ranches

-- Acknowledgement of Appointment of Power of Attorney”,

provided:

     (1) I have given Walter J. Hoyt III the irrevocable
     authority to sign my name to a Certificate of Assumption of
     Primary Liability Form as part of a transfer on a full
     recourse Promissory Note in the amount of $75,000.00, that
     will become part of a transfer of debt agreement between me,
     the Partnership known as Shorthorn Genetic Engineering 1986
     Ltd., and HOYT & SONS RANCHES, said note having been
     delivered to HOYT & SONS RANCHES to pay for breeding cattle
     purchased from HOYT & SONS RANCHES, an Oregon Partnership,
     in Burns, Oregon, which are to be held as breeding cattle by
     the above named Partnership. This authorizes Mr. Hoyt to
     sign my name on the notes that were made for the purchase of
     Registered Durham Breeding cattle from HOYT & SONS RANCHES,
     and no other purpose. I understand I will owe this amount
     directly to HOYT & SONS RANCHES, and not to my partnership.

                          * * * * * * *

     (4) My goal is that the value of my share of the cattle
     owned by the Partnership, in which you have a secured party
     interest, must never fall below the amount for which I am
     personally liable. If the value of my cattle does fall
     below the amount of my loan, and you become aware of that,
     you must so notify me within thirty days in order that I may
     make a damage claim to W.J. Hoyt Sons Management Company for
     possible default on the Share-Crop Operating Agreement,
     and/or the cattle fertility warranties.

The final document was titled “Subscription Agreement --

Shorthorn Genetic Engineering 1986 Ltd. -- Series ‘C’ Units”.

This document expressed petitioner’s intent to make a capital

contribution to and become a limited partner of SGE 86 by

purchasing units valued at $75,000.   Included with this document

was a “Power of Attorney” form, which provided in relevant part:

          The UNDERSIGNED hereby constitutes and appoints Walter
     J. Hoyt III his/her true and lawful attorney with power and
                              - 11 -

     authority to act in the UNDERSIGNEDS’ behalf in the
     execution, acknowledging, and filing of the documents as
     follows:

          1.   The Partnership agreements for filing, and

          2. Any documents which may be required to effect the
     restructuring, amending, or continuation of the Partnership,
     the admission of any substituted or added Partner, or the
     dissolution and termination of the Partnership, provided
     such restructuring, continuation, admission or dissolution
     and termination are in accordance with the terms of the
     Partnership Agreement, and

          3. Any and all documents required to be executed by a
     substituted, substituting or added Partner, to effectuate
     the transfer of a Partner’s interest in the Partnership, and

          4. Any other instrument, application, certificate, or
     affidavit which may be required to be filed by the
     Partnership under the laws of any State or any Federal or
     local agency or authority, and

          5. Any promissory notes, bills-of-sale or other
     instruments required for the conduct of the Partnership
     business, including a certificate of assumption of primary
     liability form attached to promissory notes and held by the
     lender for which the UNDERSIGNED becomes personally liable
     directly to the lender for recourse debt of the Partnership
     in order to pay his initial capital contribution to the
     partnership.

When petitioner entered into the investment, he believed that he

would be liable for the promissory notes, but he also believed

that cattle existed that could be sold to cover the debt.

     On December 31, 1986, Mr. Hoyt signed a “Certificate of

Assumption of Primary Liability” on petitioner’s behalf.    This

document provided that petitioner “personally assumes primary

liability for the prompt payment when due of any and all

liability or indebtedness of the Partnership” in the amount of
                                - 12 -

$122,000.   While the documents signed by petitioner described

above pertain to SGE 86, this document signed by Mr. Hoyt

referred to the partnership known as Shorthorn Genetic

Engineering 1984-2 (SGE 84-2).

     In 1989, petitioner received from the Hoyt organization a

copy of this Court’s opinion in Bales v. Commissioner, T.C. Memo.

1989-568.   Mr. Hoyt touted the Bales opinion as proof that the

Hoyt partnerships were legal, and that the IRS was incorrect in

challenging their tax claims.    Petitioner did not read the entire

opinion, instead relying on information from the Hoyt

organization interpreting the opinion.

     Beginning sometime in the early 1990s, petitioner started

attending a number of monthly meetings of Hoyt partners that were

held near petitioner’s home.    At these meetings, petitioner would

discuss various issues pertaining to the partnerships with the

other partners, including a number of partners who had visited

the Hoyt ranches.   Petitioner considered attendance at these

meetings, as well as any time that he was “actively aware of the

proceedings of the business”, to be material participation with

respect to his investment.

     Throughout the years of his involvement with the Hoyt

organization, petitioner’s investment was transferred between

partnerships without any action being taken by petitioner.

Petitioner believed that Mr. Hoyt was using his power of attorney
                                - 13 -

to do the necessary paperwork, and, if asked, petitioner would

accept any suggestions made by the Hoyt organization for changes

to his investment.   Petitioner believed that at least one reason

for the changes was to maximize tax savings available to him.

Petitioner typically did not receive any type of verification

that his partnership interest had been successfully transferred,

or that his name had been taken off any promissory notes that had

been signed on his behalf.

     The underlying partnership adjustment in this case was made

with respect to a partnership known as Durham Shorthorn Breeding

Syndicate 1987-C (DSBS 87-C).    There are no documents in the

record pertaining to any investment by petitioner in DSBS 87-C.

     Petitioner made substantial cash payments to the Hoyt

organization during the years 1986 through 1997; petitioner

estimates that the total amount of these payments was

approximately $93,000.   These payments included the remittance of

his tax refunds, the payment of quarterly and monthly

installments on his promissory notes, special “assessments”

imposed by the partnerships, and contributions to purported

individual retirement account plans maintained by the Hoyt

organization.   Petitioner has received only nominal amounts of

his contributions back from the Hoyt organization.    Before and

after the year in issue, petitioner received numerous documents

purporting to show both the legitimacy of the Hoyt partnerships
                                      - 14 -

and the legality of the tax claims being made by the Hoyt

organization.      The Hoyt organization also portrayed employees of

the IRS as incompetent and claimed that they were engaging in

unjust harassment of Hoyt investors.              Petitioner trusted these

documents and believed and relied upon what the Hoyt organization

told him.

III.    Petitioner’s Federal Tax Claims

       Petitioner reported the following on his Federal income tax

returns in each of the respective years:

                              1986       1987       1988      1989      1990

       Wage income          $43,112    $40,033     $46,858   $44,813   $45,734
       Interest income        3,126      2,010       1,974     2,633     3,577
       Other income1            -0-      1,754         -0-     1,608       -0-
       Partnership losses   141,260     24,931      33,712    23,741    20,180
       Tax liability            -0-        464       1,054       926     1,181
             1
               The other income was derived from capital gain from the sale of a
       residence in 1987, and income from pensions and annuities in 1989.

The amounts listed above for 1986 are those amounts that appear

on the amended return filed by petitioner for that year.                 On the

original return, petitioner had reported a partnership loss of

$27,170 and an investment tax credit of $17,412, both derived

from the “rescinded” partnership DGE 86-1.              The original return

also reflected zero tax liability.              The amended return,

reflecting a $141,260 loss from SGE 84-2, explained the reason

for the amended return as follows:

       During 1986, the Taxpayers [sic] became a General Partner in
       the Partnership known as Durham Genetic Engineering 1986-1.
       Taxpayers’ partnership purchased a group of registered
       cattle during 1986. After the Partnership began business,
       the Taxpayers elected to accept rescission of their
                                  - 15 -

     partnership interest offered by the Managing General Partner
     on behalf of the Partnership, and no longer claim any loss
     or Investment Tax Credit allocated to them by that
     Partnership.

     As a former General Partner, the Taxpayers now adopt the
     position they became a co-owner/joint tenant in the herd of
     cattle that was purchased in the name of the partnership on
     the date of purchase, which they paid for by signing a full
     recourse promissory note on Dec. 28, 1986. The Taxpayers
     have now elected to combine their cattle with another
     Partnership known as [SGE 84-2]. Accordingly, the Taxpayers
     are now reporting the 1986 expenses from the cattle owned by
     them on Schedule E, and the depreciation on Schedule F.

     Taxpayers now claim, or will claim in 1987, the Investment
     Tax Credit on their cattle as a transferee of used
     transition property that was placed in service by the
     transferor prior to the transfer. The Taxpayers have
     obtained certain rights in a binding purchase agreement
     signed by the transferor prior to December 31, 1985, for the
     purchase of the cattle.

After filing the 1986 return, petitioner also filed a Form 1045,

Application for Tentative Refund, based on a carryback of a

claimed net operating loss (NOL) of $98,148 from 1986.            This form

reflected the following:

                                           1983     1984      1985

     Adjusted gross income               $34,618   $43,487   $38,065
     Tax liability on original return      4,821     7,517     6,210
     Tax liability after NOL carryback       -0-       -0-       -0-

In addition to this Form 1045, there is in the record a copy of

another Form 1045 that reflects a credit carryback rather than an

NOL carryback.    It is unclear whether this form was submitted to

respondent; regardless, it is clear that the Form 1045 reflecting

the NOL carryback was meant to supersede the other form.               The

superseded Form 1045 reflected a carryback of a $16,868 general
                              - 16 -

business credit from petitioner’s taxable year 1986.     While

application of the credit purportedly would have resulted in the

elimination of petitioner’s regular tax liability in 1983, 1984,

and 1985, petitioner would have reported liability for

alternative minimum tax of $855 in 1984 and $992 in 1985.

     By letter dated May 23, 1988, respondent notified petitioner

that SGE 84-2's taxable year 1987 was under review.    This letter

stated in relevant part:

     Our information indicates that you were a partner in the
     above partnership during the above tax year. Based upon our
     review of the partnership’s tax shelter activities, we have
     apprised the Tax Matters Partner that we believe the
     purported tax shelter deductions and/or credits are not
     allowable and, if claimed, we plan to examine the return and
     disallow the deductions and/or credits. The Internal
     Revenue Code provides, in appropriate cases, for the
     application [of various penalties].

By similar letter dated May 9, 1989, respondent notified

petitioner that another of his Hoyt partnerships, Timeshare

Breeding Service (TBS), was under review with respect to its

taxable year 1988.

     In January 1992, respondent mailed Hoyt investors, including

petitioner, a letter regarding the application of section 469

(relating to passive activity loss limitations).   That same

month, Mr. Hoyt mailed a letter to investors, including

petitioner, setting forth arguments that Hoyt investors

materially participated in their investments within the meaning

of section 469.   In this letter, Mr. Hoyt stated that
                              - 17 -

respondent’s assertions in the preceding letter were incorrect,

and that the investors should do what was necessary to

participate in their investment at least 100 or 500 hours per

year, depending upon the circumstances, in order to meet the

section 469 requirements.   Mr. Hoyt stated that the time

investors spent in recruiting new investors, as well as “reading

and thinking about these letters”, would count toward the

material participation hourly requirements.    Finally, in this

letter Mr. Hoyt emphasized that “The position of your partnership

is that it is not a tax shelter”, because tax shelters “are never

recognized for Federal income tax purposes.”    By letter dated

February 11, 1992, respondent mailed petitioner a notice stating:

          In Mr. Hoyt’s letter misleading and/or inaccurate
     premises were made which may directly affect you and your
     decision-making process in filing your 1991 individual tax
     return.
          First, a “tax shelter” is not necessarily synonymous
     with a “sham” investment. Low income housing credits, your
     personal residence, and real estate rentals are examples of
     tax shelters. It is an oversimplification to state tax
     shelters are never recognized for Federal income tax
     purposes.
          The letter stated that I failed to include number seven
     of the regulations which addresses the facts and
     circumstances test. Enclosed is the exact wording of this
     test, Regulation 1.469-5T(a)(7), and example #8 which refers
     to this regulation. Also enclosed is paragraph (b) that is
     referred to in paragraph (a)(7). Section 1402 noted in
     paragraph (b) defines income subject to self-employment tax.
     In the past, and currently, Mr. Hoyt has used Revenue
     Rulings 56-496, 57-58, and 64-32 as authorities for
     investors having met the material participation requirement.
     These rulings and the court cases he has cited are prior to
     the enactment of section 469 and all refer to section 1402.
     Please note in (b)(2) that meeting the material
     participation requirement of Section 1402 is specifically
                              - 18 -

     excluded from being taken into account for having met the
     material participation requirement of section 469 in using
     the facts and circumstances test of (a)(7).
          Whether a person meets the material participation
     requirement of section 469 is a factual determination. The
     Reg. 1.469-5T(f)(2)(ii) defines investors’ activities that
     are not considered in meeting the hourly requirement.
     Simply signing a statement or making an election are not a
     means in meeting the requirement. Although Section 469 may
     not have existed at the time of your initial investment, it
     is law that investors have to address in claiming investment
     losses today. Contrary to Mr. Hoyt’s statement, time spent
     reading and thinking about this issue should not be
     considered as material participation hours for 1992.
          If this letter is somewhat confusing or you are
     questioning the accuracy of this letter, I recommend you
     consider having an independent accountant or attorney review
     this matter with you.

Petitioner also received several notices informing him that

respondent was beginning an examination of the various

partnerships in which petitioner was involved, including DSBS 87-

C.   Petitioner received such notices dated August 21, 1989, May

21, 1990, August 13, 1990, February 19, 1991 (two notices),

February 3, 1992, and February 18, 1992.   Finally, respondent had

frozen the refunds petitioner claimed on his 1987 and 1988

Federal income tax returns that were derived from the Hoyt

partnership losses.   In late 1988 and mid-1989, petitioner twice

inquired into the status of the 1987 refund; respondent

subsequently notified petitioner by letter that his 1984 through

1988 accounts were being audited.

     When petitioner received any correspondence from respondent,

petitioner would send copies to the Hoyt organization; petitioner

would take no further action or seek advice concerning the
                               - 19 -

information that he was receiving from respondent.    Petitioner

interpreted the letters that he was receiving from respondent to

mean that respondent was “claiming that we’re not running a

legitimate business and that they are going to disallow any

deductions or credits that we had claimed.”

     On April 22, 1992, after the year in issue but before filing

his return for that year, petitioner signed a series of documents

evidencing petitioner’s intention to invest in the partnership

SGE 84-2.

     Petitioner filed an individual Federal income tax return for

his taxable year 1991, the year in issue.    He reported the

following on this return:

     Wage income                  $48,405
     Interest income                4,512
     SGE 84-2 loss                (39,160)
     DSBS 87-C loss               (16,720)
     Capital gain                  13,003
     Farm income                    4,824
     IRA contribution deduction    (2,000)
     Adjusted gross income         12,864
     Tax liability                    724

The losses from SGE 84-2 and DSBS 87-C were reported on Schedules

K-1, Partner’s Share of Income, Credits, Deductions, Etc., issued

to petitioner by the partnerships for the partnerships’ taxable

years ending in 1991.    Both the capital gain and the IRA

contribution deduction reported on petitioner’s return are

derived from SGE 84-2.    Although it appears from the return that

the farm income is related to petitioner’s Hoyt investment, it is
                              - 20 -

unclear how this amount of income was calculated or earned.

Attached to the return was a “Material Participation Statement”,

on which petitioner averred that he spent 121 hours during 1991

working in various Hoyt-related activities.   The 1991 return was

signed by Mr. Hoyt as the return preparer on June 18, 1992, and

it was signed by petitioner on July 26, 1992.

     Starting with the 1986 return and the Form 1045, and

continuing through the 1991 return, Mr. Hoyt or a member of the

Hoyt organization prepared petitioner’s tax forms.   Upon signing

the returns, petitioner did not know how the Hoyt-related items

were derived; he knew only that Mr. Hoyt or a member of his

organization had entered the items on the Schedules K-1 and on

the returns, and he assumed the items were therefore correct.

Petitioner did not have the returns reviewed by an accountant or

anyone else outside the Hoyt organization prior to signing them.

     The section 6662(a) accuracy-related penalty in this case is

derived solely from the loss that petitioner claimed in 1991 with

respect to DSBS 87-C.   Respondent issued a Notice of Final

Partnership Administrative Adjustment (FPAA) to petitioner with

respect to DSBS 87-C that reflected the disallowance of various

deductions claimed on the partnership return for its taxable year

ending in 1991.   Because a timely petition to this Court was not

filed in response to the FPAA issued for DSBS 87-C, respondent

made a computational adjustment assessment against petitioner
                              - 21 -

with respect to the FPAA.   The computational adjustment changed

petitioner’s claimed DSBS 87-C loss of $16,720 to income of

$4,421, increasing petitioner’s tax liability by $3,918, from

$724 to $4,642.   In the notice of deficiency underlying this

case, respondent determined that petitioner is liable for the

section 6662(a) accuracy-related penalty for negligence or

disregard of rules or regulations with respect to the entire

amount of the underpayment resulting from the DSBS 87-C

computational adjustment.

                              OPINION

I.   Evidentiary Issues

      As a preliminary matter, we address evidentiary issues

raised by the parties in the stipulations of facts.   The parties

reserved objections to a number of the exhibits and paragraphs

contained in the stipulations, all on the grounds of relevancy.

We address here those objections that were not withdrawn by the

parties at trial.   Federal Rule of Evidence 4021 provides the

general rule that all relevant evidence is admissible, while

evidence which is not relevant is not admissible.   Federal Rule

of Evidence 401 provides that “‘Relevant evidence’ means evidence

having any tendency to make the existence of any fact that is of

consequence to the determination of the action more probable or



      1
      The Federal Rules of Evidence are applicable in this Court
pursuant to sec. 7453 and Rule 143(a).
                               - 22 -

less probable than it would be without the evidence.”    While

certain of the exhibits and stipulated facts are given little to

no weight in our finding of ultimate facts in this case, we hold

that the exhibits and stipulated facts meet the threshold

definition of “relevant evidence” under Federal Rule of Evidence

401, and that the exhibits and stipulated facts therefore are

admissible under Federal Rule of Evidence 402.    Accordingly, to

the extent that the Court did not overrule the relevancy

objections at trial, we do so here.

II.   The Section 6662(a) Accuracy-Related Penalty

      Section 6662(a) imposes an addition to tax of 20 percent on

the portion of an underpayment attributable to any one of various

factors, one of which is “negligence or disregard of rules or

regulations”.   Sec. 6662(a) and (b)(1).   “Negligence” includes

any failure to make a reasonable attempt to comply with the

provisions of the Internal Revenue Code, and “disregard of rules

or regulations” includes any careless, reckless, or intentional

disregard.   Sec. 6662(c).   The regulations under section 6662

provide that negligence is strongly indicated where:    A taxpayer

fails to make a reasonable attempt to ascertain the correctness

of a deduction, credit or exclusion on a return which would seem

to a reasonable and prudent person to be “too good to be true”

under the circumstances * * * .    Sec. 1.6662-3(b)(1)(ii), Income

Tax Regs.
                               - 23 -

     Negligence is defined as the “‘lack of due care or failure

to do what a reasonable or ordinarily prudent person would do

under the circumstances.’”    Neely v. Commissioner, 85 T.C. 934,

947 (1985) (quoting Marcello v. Commissioner, 380 F.2d 499, 506

(5th Cir. 1967), affg. in part and remanding in part on another

ground 43 T.C. 168 (1964)); see Pasternak v. Commissioner, 990

F.2d 893, 902 (6th Cir. 1993), affg. Donahue v. Commissioner,

T.C. Memo. 1991-181.    Negligence is determined by testing a

taxpayer’s conduct against that of a reasonable, prudent person.

Zmuda v. Commissioner, 731 F.2d 1417, 1422 (9th Cir. 1984), affg.

79 T.C. 714 (1982).    Courts generally look both to the underlying

investment and to the taxpayer’s position taken on the return in

evaluating whether a taxpayer was negligent.    Sacks v.

Commissioner, 82 F.3d 918, 920 (9th Cir. 1996), affg. T.C. Memo.

1994-217.   When an investment has such obviously suspect tax

claims as to put a reasonable taxpayer under a duty of inquiry, a

good faith investigation of the underlying viability, financial

structure, and economics of the investment is required.    Roberson

v. Commissioner, T.C. Memo. 1996-335, affd. without published

opinion 142 F.3d 435 (6th Cir. 1998) (citing LaVerne v.

Commissioner, 94 T.C. 637, 652-653 (1990), affd. without

published opinion sub nom. Cowles v. Commissioner, 949 F.2d 401

(10th Cir. 1991), affd. without published opinion 956 F.2d 274

(9th Cir. 1992); Horn v. Commissioner, 90 T.C. 908, 942 (1988)).
                                  - 24 -

       The Commissioner’s decision to impose the negligence penalty

is presumptively correct.2      Rule 142(a); Pasternak v.

Commissioner, supra at 902.       Thus, a taxpayer has the burden of

proving that respondent’s determination is erroneous and that he

did what a reasonably prudent person would have done under the

circumstances.       Bixby v. Commissioner, 58 T.C. 757, 791 (1972).

III.       Application of the Negligence Standard

       Although petitioner had no background in farming or

ranching, and petitioner did not consult any independent

investment advisers, petitioner made the decision to invest in a

cattle ranching activity as a means to provide for retirement.

As part of his initial investment in the Hoyt partnerships,

petitioner provided Mr. Hoyt with the authority to sign

promissory notes on his behalf in an amount of at least $75,000.

Petitioner also gave Mr. Hoyt the authority to control a number

of aspects of his investment, without requiring any confirmation

or consultation with petitioner.       Nevertheless, petitioner placed

his trust entirely with the promoters of the investment and, as

discussed in detail below, he did not adequately investigate

either the legitimacy of the partnerships or the implications of



       2
      While sec. 7491 shifts the burden of production and/or
burden of proof to the Commissioner in certain circumstances,
this section is not applicable in this case because respondent’s
examination of petitioner’s return did not commence after July
22, 1998. See Internal Revenue Service Restructuring and Reform
Act of 1998, Pub. L. 105-206, sec. 3001(c), 112 Stat. 727.
                               - 25 -

the promissory notes.   This trust continued even when the Hoyt

organization switched petitioner’s investment from partnership to

partnership, at times without notifying petitioner or verifying

the status of the promissory notes that had been signed on

petitioner’s behalf.    We conclude that petitioner was negligent

in signing the power of attorney forms and in entering into the

investment.

     In the years 1986 through 1991, petitioner used the Hoyt

investment to report a total Federal income tax liability of

$4,349 on income totaling $290,149.     In addition, petitioner

filed the Form 1045 which purportedly completely eliminated his

Federal income tax liabilities for 1983 through 1985, resulting

in a requested refund of $18,548.    Petitioner claimed these tax

benefits based solely on the advice that he received from the

promoters of the investment and from other Hoyt investors--

petitioner never questioned the amounts on the tax returns, and

he never had the returns reviewed by a tax professional.

Furthermore, the promotional materials that petitioner received

had clearly indicated that there were substantial tax risks in

making an investment.   Nevertheless, petitioner did not inquire

into the tax claims being made on his tax returns by the Hoyt

organization with anyone outside the organization.     This failure

to inquire is especially notable with respect to petitioner’s

1986 return and amended return.    In preparing petitioner’s
                               - 26 -

amended return for that year, the Hoyt organization prepared a

statement in which it was claimed that petitioner’s partnership

interest had been switched from DGE 86-1 to SGE 84-2.   At that

time, however, petitioner had signed partnership agreements and

other documents pertaining only to SGE 86; the investment

documents in the record show that petitioner did not invest in

SGE 84-2 until April 1992.   Furthermore, the Hoyt organization

reported to petitioner that the claimed investment tax credit of

$17,412 that was no longer available was being replaced by a loss

of $141,260.   Petitioner accepted at face value that these

amounts were accurate, even when the amounts were of such size

that they purportedly completely eliminated petitioner’s tax

liability for 3 prior years.

     When it came time to prepare petitioner’s tax returns and

claim the losses being reported by the Hoyt partnerships,

petitioner relied on the very people who were receiving the bulk

of the tax savings generated by the claims.   Thus, the same

individuals who sold petitioner an interest in the Hoyt

partnerships and who managed the purported ranching operations

also prepared the partnerships’ tax returns, prepared

petitioner’s tax returns, and received from petitioner most of

the tax savings that resulted from the positions taken on his

returns.
                               - 27 -

      With respect to 1991, the year in issue in this case,

petitioner claimed that he incurred $55,880 in losses from the

Hoyt partnerships.    Petitioner did not know how these losses were

derived; he knew only that the Hoyt organization had reported the

amounts on the Schedules K-1 and on his tax return.      Petitioner

claimed these losses despite the fact that respondent had been

warning petitioner, at least since May 1988, that there were

potential problems with the tax claims being made on both the

partnership returns and on petitioner’s returns.   Prior to

signing his 1991 return, petitioner had received at least 12

separate letters from respondent alerting petitioner to suspected

problems or alerting petitioner to reviews that had been

commenced with respect to various Hoyt partnerships in which he

was involved.   Despite these letters, petitioner did not further

investigate the partnership losses, such as by consulting an

independent tax adviser, before claiming the losses as deductions

on his 1991 return.   We conclude that petitioner was negligent in

1991 in claiming the Hoyt partnership loss at issue in this case;

namely, the $16,720 loss from DSBS 87-C.

IV.   Alleged Defenses to the Accuracy-Related Penalty

      Section 6664(c)(1) provides that the section 6662(a)

accuracy-related penalty is not imposed “with respect to any

portion of an underpayment if it is shown that there was a

reasonable cause for such portion and that the taxpayer acted in
                                - 28 -

good faith with respect to such portion.”     “The determination of

whether a taxpayer acted with reasonable cause and in good faith

is made on a case-by-case basis, taking into account all

pertinent facts and circumstances.”      Sec. 1.6664-4(b)(1), Income

Tax Regs.    The extent of the taxpayer’s effort to ascertain his

proper tax liability is generally the most important factor.        Id.

     A.     Petitioner’s Investigation and Reliance on Others

     Good faith reliance on professional advice concerning tax

laws may be a defense to the negligence penalties.      United States

v. Boyle, 469 U.S. 241, 250-251 (1985); see also sec. 1.6664-

4(b)(1), Income Tax Regs.     However, “Reliance on professional

advice, standing alone, is not an absolute defense to negligence,

but rather a factor to be considered.”      Freytag v. Commissioner,

89 T.C. 849, 888 (1987), affd. 904 F.2d 1011 (5th Cir. 1990),

affd. 501 U.S. 868 (1991).     In order to be considered as such,

the reliance must be reasonable.     Id.   To be objectively

reasonable, the advice generally must be from competent and

independent parties unburdened with an inherent conflict of

interest, not from the promoters of the investment.      Goldman v.

Commissioner, 39 F.3d 402, 408 (2d Cir. 1994), affg. T.C. Memo.

1993-480; LaVerne v. Commissioner, 94 T.C. at 652; Rybak v.

Commissioner, 91 T.C. 524, 565 (1988); Edwards v. Commissioner,

T.C. Memo. 2002-169.     Furthermore, the taxpayer must show that

any expert rendering an opinion with respect to an investment had
                                - 29 -

the expertise and knowledge of the pertinent facts necessary to

render such an opinion.     Barlow v. Commissioner, 301 F.3d 714,

724 (6th Cir. 2002), affg. T.C. Memo. 2000-339; Freytag v.

Commissioner, supra at 888.

          1.   Reliance on the Hoyt Organization and Partners

     Petitioner argues that he should escape the negligence

penalty because he relied in good faith on various individuals

with respect to the Hoyt investment:     Mr. Hoyt and other members

of the Hoyt organization, tax professionals hired by the Hoyt

organization, and other Hoyt investor-partners.

     It is clear in this case that the advice petitioner received

from the Hoyt organization, if any, concerning the partnership

loss deduction that resulted in the underpayment underlying the

penalty was not objectively reasonable.    First, we note that

petitioner has not established that he received any advice at all

concerning the deduction.    Although petitioner relied on Mr. Hoyt

and his organization to prepare the return, petitioner does not

even suggest that he directly questioned Mr. Hoyt or his

organization about the nature of the tax claims.    Instead, when

petitioner signed the return, he did not question or seek advice

from anyone concerning the large partnership loss at issue--he

merely assumed the items on the return were proper.

Nevertheless, assuming arguendo that petitioner did receive

advice from Mr. Hoyt or someone within his organization, any such
                                - 30 -

advice that he received is in no manner objectively reasonable.

Mr. Hoyt and his organization created and promoted the

partnership, they completed petitioner’s tax return, and they

received the bulk of the tax benefits from doing so.    For

petitioner to trust Mr. Hoyt or members of his organization for

tax advice and/or to prepare his return under these circumstances

was inherently unreasonable.

     In addition to members of the Hoyt organization itself,

petitioner argues that he relied on tax professionals hired by

the Hoyt organization and on other Hoyt investors.    Petitioner,

however, has only established that he believed that the Hoyt

organization and the other partners had consulted with tax

professionals.    Petitioner has not established in what manner he

personally relied upon any such professionals, or even the

details of what advice the professionals provided that would be

applicable to petitioner’s situation with respect to the year in

issue.   Furthermore, because all of these individuals were

affiliated with the Hoyt organization, it would have been

objectively unreasonable for petitioner to rely upon them in

claiming the tax benefits advertised by that very organization.

           2.    Petitioner’s Early Investigation

     Petitioner next argues that he had reasonable cause for the

underpayment because he made a reasonable investigation into the

partnership.     Petitioner asserts that this investigation yielded
                              - 31 -

no indication of wrongdoing by Mr. Hoyt, and that an “average

taxpayer” was unable to discover this wrongdoing.    As we have

held, any reliance by petitioner on materials provided by the

Hoyt organization and its partners was not objectively

reasonable.   Petitioner, however, argues that his investigation

went further than the Hoyt promotional materials and other Hoyt

partners.

     Petitioner’s testimony at trial concerning his investigation

into the partnership can be summarized as follows.   After

acquiring the informational packet from the Hoyt organization,

petitioner mailed the packet to his father so that his father

could show it to a tax professional.   Petitioner’s father

subsequently told petitioner that “The attorney looked over it

and he said there was nothing illegal.”   In addition, one of the

group of petitioner’s coworkers who was also interested in

investing decided to contact the IRS for information.    This

coworker told petitioner that “there was no indication from the

IRS that there was anything wrong with Hoyt or anything like

that.”   Finally, a second coworker traveled to California “to go

to their [Hoyt’s] offices and also * * * to at least one ranch to

be sure that it was a viable business and that there was actually

people running a business and there was actually cows involved.”

     Assuming arguendo the veracity of petitioner’s version of

events, we do not find that petitioner reasonably relied upon any
                              - 32 -

advice from a tax professional concerning the Hoyt investment.

Petitioner’s testimony concerning his reliance on his father’s

tax professional--to whom petitioner did not pay any fee for

advice--was vague and lacked any degree of detail.    In

particular, it remains unclear exactly what information was

contained in the packet that petitioner asserts he sent to his

father.   Petitioner also did not provide the name of the

professional, and while he initially testified that the

professional was a tax lawyer, he later referred to him a his

father’s “tax accountant”.   Petitioner provided no

contemporaneous written statement from the professional, and he

testified that because of his father’s death he was unable to

discover the professional’s name prior to trial.   Petitioner’s

description of the advice from the professional was also vague,

consisting merely of a broad and conclusory statement that

nothing about the investment was illegal.   Petitioner admits that

he did not personally speak with the professional, that he did

not provide him with any details concerning his particular

investment with the Hoyt organization, and that he was unsure how

much of the informational packet the professional reviewed.

Furthermore, although the professional purportedly told

petitioner’s father that there were risks involved with the

investment, petitioner did not question the professional

concerning the nature of the risks or otherwise investigate them.
                              - 33 -

In conclusion, we find that petitioner did not reasonably rely on

any advice that he received from the professional through his

father because any such advice was not provided by someone who

had all the necessary information to make an informed decision,

and because the advice was conclusory and did not address any of

the specific risks involved in an investment, including the tax

risks.   See Barlow v. Commissioner, supra; Hunt v. Commissioner,

T.C. Memo. 2001-15.

     We similarly find that any reliance upon petitioner’s

coworkers to investigate the partnership was not reasonable.

With respect to the coworker who purportedly contacted the IRS,

the record is completely devoid of any detail concerning what

information he provided to the IRS or what information he

received in return.   With respect to the coworker who purportedly

traveled to visit a Hoyt ranch, there has been no suggestion that

this coworker had any background in cattle ranching or was

otherwise qualified to investigate the Hoyt organization.    See

Freytag v. Commissioner, supra at 888.

     We note that, even if petitioner did rely upon the

individuals discussed above, any such reliance would have been 5

years before he signed the return that resulted in the penalty at

issue in this case.   Petitioner’s continued reliance on any

information gained from these individuals over such a long period

of time--in light of the large losses being claimed by the
                               - 34 -

partnerships, the discrepancies in the partnerships in which

petitioner was involved, and the continuous warnings being sent

by respondent--was unreasonable under the circumstances.

     In summary, petitioner asserts that his investigation

yielded no indication of wrongdoing by Mr. Hoyt, and that an

“average” taxpayer would have been unable to uncover Mr. Hoyt’s

fraud.    However, we conclude that petitioner was nevertheless

negligent in not adequately investigating the partnership and/or

seeking qualified independent advice concerning it.

     B.   Deception and Fraud by Mr. Hoyt

     Petitioner next argues that he should not be liable for the

negligence penalty because he was defrauded and otherwise

deceived by Mr. Hoyt with respect to his investment in the Hoyt

partnerships.    In this regard, petitioner first argues that the

doctrine of judicial estoppel bars application of the negligence

penalty because the U.S. Government successfully prosecuted Mr.

Hoyt for, in general terms, defrauding petitioner.

     Judicial estoppel is a doctrine that prevents parties in

subsequent judicial proceedings from asserting positions

contradictory to those they previously have affirmatively

persuaded a court to accept.    United States ex rel. Am. Bank v.

C.I.T. Constr., Inc., 944 F.2d 253, 258-259 (5th Cir. 1991);

Edwards v. Aetna Life Ins. Co., 690 F.2d 595, 598-599 (6th Cir.

1982).    Both this Court and the Court of Appeals for the Sixth
                                - 35 -

Circuit, to which appeal in this case lies, have accepted the

doctrine of judicial estoppel.    See Edwards v. Aetna Life Ins.

Co., supra; Huddleston v. Commissioner, 100 T.C. 17, 28-29

(1993).

     The doctrine of judicial estoppel focuses on the

relationship between a party and the courts, and it seeks to

protect the integrity of the judicial process by preventing a

party from successfully asserting one position before a court and

thereafter asserting a completely contradictory position before

the same or another court merely because it is now in that

party’s interest to do so.     Edwards v. Aetna Life Ins. Co., supra

at 599; Huddleston v. Commissioner, supra at 26.    Whether or not

to apply the doctrine is within the sound discretion of the

court, but it should be applied with caution in order “‘to avoid

impinging on the truth-seeking function of the court because the

doctrine precludes a contradictory position without examining the

truth of either statement.’”     Daugharty v. Commissioner, T.C.

Memo. 1997-349 (quoting Teledyne Indus., Inc. v. NLRB, 911 F.2d

1214, 1218 (6th Cir. 1990)), affd. without published opinion 158

F.3d 588 (11th Cir. 1998).

     Judicial estoppel generally requires acceptance by a court

of the prior position and does not require privity or detrimental

reliance of the party seeking to invoke the doctrine.     Huddleston

v. Commissioner, supra at 26.    Acceptance by a court does not
                              - 36 -

require that the party being estopped prevailed in the prior

proceeding with regard to the ultimate matter in dispute, but

rather only that a particular position or argument asserted by

the party in the prior proceeding was accepted by the court.     Id.

     Respondent’s position in this case is in no manner

contradictory to the position taken by the United States in the

criminal conviction of Mr. Hoyt.   See, e.g., Goldman v.

Commissioner, 39 F.3d at 408 (taxpayer-appellants’ argument that

an investment partnership “constituted a fraud on the IRS, as

found by a civil jury * * * and by the tax court * * * cannot

justify appellants’ own failure to exercise reasonable care in

claiming the losses derived from their investment”).   To the

contrary, this Court has sustained a finding of negligence with

respect to investors who had been victims of deception by tax

shelter promoters.   For example, in Klieger v. Commissioner, T.C.

Memo. 1992-734, this Court held that taxpayers in a situation

similar to that of petitioner were negligent.   In Klieger, we

addressed taxpayers’ involvement in certain investments that were

sham transactions that lacked economic substance:

          Petitioners are taxpayers of modest means who were
     euchred by Graham, a typical shifty promoter. Graham sold
     petitioners worthless investments by giving spurious tax
     advice that induced them to reduce their withholding and
     turn their excess pay over to Graham as initial payments to
     acquire interests in “investment programs” that did not
     produce any economic return and apparently never had any
     prospects of doing so. Graham purported to fulfill his
     prophecies about the tax treatment of the Programs by
     preparing petitioners’ tax returns and claiming deductions
                                - 37 -

     and credits that have been disallowed in full, with
     resulting deficiencies* * *. * * *

                           * * * * * * *

          When a tax shelter is a sham devoid of economic
     substance and a taxpayer relies solely on the tax shelter
     promoter to prepare his income tax return or advise him how
     to prepare the return with respect to the items attributable
     to the shelter that the promoter has sold him, it will be
     difficult for the taxpayer to carry his burden of proving
     that he acted reasonably or prudently. Although a tax
     shelter participant, as a taxpayer, has a duty to use
     reasonable care in reporting his tax liability, the promoter
     who prepares the participant’s tax return can be expected to
     report large tax deductions and credits to show a relatively
     low amount of tax due, and thereby fulfill the prophecies
     incorporated in his sales pitch. * * *

We conclude that there are no grounds for application of judicial

estoppel in the present case.

     In a vein similar to his judicial estoppel argument,

petitioner further argues that Mr. Hoyt’s deception resulted in

an “honest mistake of fact” by petitioner when he entered into

his investment.   More specifically, petitioner asserts that he

had insufficient information concerning the losses, and that “all

tangible evidence available to the Hoyt partners supported Jay

Hoyt’s statements.”

     Reasonable cause and good faith under section 6664(c)(1) may

be indicated where there is “an honest misunderstanding of fact

or law that is reasonable in light of all the facts and

circumstances, including the experience, knowledge and education

of the taxpayer.”   Sec. 1.6664-4(b)(1), Income Tax Regs.

However, “reasonable cause and good faith is not necessarily
                               - 38 -

indicated by reliance on facts that, unknown to the taxpayer, are

incorrect.”     Id.

     For the reasons discussed above in applying the negligence

standard, whether or not petitioner had an “honest mistake of

fact” does not alter our conclusion that petitioner’s actions in

relation to his investment and the tax claims were objectively

unreasonable.    Furthermore, and again for the reasons discussed

above, petitioner’s failure to conduct an objectively reasonable

investigation--beyond what was made available to him by Mr. Hoyt

and his organization--was also negligent.

     C.   The Bales Opinion

     Petitioner next argues that he had reasonable cause for the

underpayment because of this Court’s opinion in Bales v.

Commissioner, T.C. Memo. 1989-568.3     Bales involved deficiencies

asserted against various investors in several different cattle

partnerships marketed by Mr. Hoyt.      This Court found in favor of

the investors on several issues, stating that “the transaction in


     3
      Petitioner also argues that the opinion in Bales v.
Commissioner, T.C. Memo. 1989-568, provided “substantial
authority for the positions taken on petitioner’s 1991 income tax
return.” There is no explicit “substantial authority” exception
to the sec. 6662(a) accuracy-related penalty for negligence.
Hillman v. Commissioner, T.C. Memo. 1999-255 n.14 (citing Wheeler
v. Commissioner, T.C. Memo. 1999-56). While petitioner refers to
the “reasonable basis” exception to the negligence penalty, set
forth in sec. 1.6662-3(b)(3), Income Tax Regs., he does not
specifically argue that the exception applies in this case.
Nevertheless, we note that the record does not establish that
petitioner had a reasonable basis for claiming the partnership
loss at issue in this case.
                               - 39 -

issue should be respected for Federal income tax purposes.”

Bales involved different investors, different partnerships,

different taxable years, and different issues than those

underlying the present case.

     First, petitioner argues that he relied on the Bales opinion

in claiming the deduction for the partnership loss.      Without

further addressing the applicability of Bales to petitioner’s

situation, we find that petitioner has not established that he

relied on Bales in this manner.   While petitioner received the

opinion and may have read a portion of it, there is no evidence

that he, without any background in law or accounting, personally

relied upon the opinion in claiming the relevant partnership

loss.   Rather, petitioner admits that he relied instead on the

interpretation of Bales provided by Mr. Hoyt and members of his

organization, who repeatedly claimed that Bales was proof that

the partnerships and the tax positions were legitimate.        We have

already found that petitioner’s reliance on Mr. Hoyt and his

organization was objectively unreasonable and, as such, not a

defense to the negligence penalty.      Accepting Mr. Hoyt’s

assurances that Bales was a wholesale affirmation of his

partnerships and his tax claims was no less unreasonable.

     Second, petitioner argues that, because this Court was

unable to uncover the fraud or deception by Mr. Hoyt in Bales,

petitioner as an individual taxpayer was in no position to
                                - 40 -

evaluate the legitimacy of his partnership or the tax benefits

claimed with respect thereto.    This argument employs Bales as a

red herring:   Bales involved different investors, different

partnerships, different taxable years, and different facts.    The

taxpayers in Bales were individual investors whose taxable years

involved were 1974 through 1979.    Although the Court held that

the cattle breeding partnerships were bona fide and should not be

disregarded as shams, the taxpayers did not receive all of the

tax benefits they claimed.   However, in Durham Farms #1 v.

Commissioner, T.C. Memo. 2000-159, affd. 59 Fed. Appx. 952 (9th

Cir. 2003), we found that by the early 1980s the Hoyt

organization’s cattle management and record keeping practices

changed dramatically, and most of the records, documents, and tax

returns pertaining to the cattle breeding partnerships were

inaccurate and unreliable.   In fact, many of the cattle

purportedly purchased by the partnerships never existed.

Therefore, all claimed tax benefits were disallowed in full.

Thus, it would not have been reasonable for petitioner to rely

upon Bales in making investments herein and claiming the tax

benefits that Mr. Hoyt promised would ensue.
                              - 41 -

     D.   Fairness Considerations

     Petitioner’s final arguments concerning application of the

accuracy-related penalty are in essence arguments that imposition

of the penalty would be unfair or unjust in this case.

Petitioner argues that “The application of penalties in the

present case does not comport with the underlying purpose of

penalties.”   To this effect, petitioner argues that, in this

case:

     the problem was not Petitioner’s disregard of the tax laws,
     but was Jay Hoyt’s fraud and deception. Petitioner did not
     engage in noncompliant behavior, instead he was the victim
     of a complex fraud that it took Respondent years to
     completely unravel.

     Petitioner made a good faith effort to comply with the tax
     laws and punishing him by imposing penalties does not
     encourage voluntary compliance, but instead has the opposite
     effect of the appearance of unfairness by punishing the
     victim. Indeed, penalties are improper for any investor in
     the Hoyt partnerships on a policy basis alone. [Fn. ref.
     omitted.]

We are mindful of the fact that petitioner was a victim of Mr.

Hoyt’s fraudulent actions.   Petitioner ultimately lost the bulk

of the tax savings that he received, which he had remitted to Mr.

Hoyt as part of his investment and which he never received back.

Nevertheless, petitioner believed that this money was being used

for his own personal benefit--at the time that he claimed the tax

savings, he believed that he would eventually benefit from them.

Petitioner also lost a substantial amount of out-of-pocket cash

which he paid to Mr. Hoyt in the years preceding and following
                               - 42 -

the year in issue.   However, this does not alter our conclusion

that petitioner was negligent with respect to entering the Hoyt

investment, and that he was negligent with respect to the

positions that he took on his 1991 tax return.   Despite Mr.

Hoyt’s actions, the positions taken on the 1991 return signed by

petitioner were ultimately the positions of petitioner, not of

Mr. Hoyt.

V.   Conclusion

      On the basis of the record before the Court, we conclude

that petitioner’s actions in relation to the Hoyt investment

constituted a lack of due care and a failure to do what a

reasonable or ordinarily prudent person would do under the

circumstances.    First, petitioner entered into an investment--in

which he gave Mr. Hoyt the authority to incur personal debts on

his behalf and control his interest in his partnerships--without

adequately investigating the legitimacy of the partnerships.

Second, and foremost, petitioner trusted individuals who told him

that he effectively could escape paying Federal income taxes for

a number of years--petitioner reported a combined tax liability

of $4,349 on $290,149 of income over 6 years starting with 1986,

and reported zero tax liability on $116,170 of AGI for the prior

3 years--based solely upon the tax advice of the individuals

receiving some of the benefits of the tax savings.   Our

conclusion is reinforced by the fact that petitioner received
                              - 43 -

multiple warnings from respondent, warnings that petitioner chose

to ignore.   We find that petitioner was negligent with respect to

entering the Hoyt investment, and that he was negligent with

respect to claiming the DSBS 87-C loss on his return.

     To reflect the foregoing,

                                      Decision will be entered

                                 for respondent.
