                         T.C. Memo. 1999-133



                       UNITED STATES TAX COURT



  ROBERT S. McDANIEL, JR. AND W. JANE McDANIEL, Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 1622-98.               Filed April 21, 1999.



     George Browning III, for petitioners.

     William R. McCants, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     CHIECHI, Judge:    Respondent determined the following de-

ficiencies in, and accuracy-related penalties under section

6662(a)1 on, petitioners' Federal income tax (tax):


     1
        Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the years at issue. All
Rule references are to the Tax Court Rules of Practice and
                                                   (continued...)
                                   - 2 -



    Year         Deficiency                Accuracy-Related Penalty
    1993             $4,752                         $950
    1994             17,907                        3,581

     The issues remaining for decision are:

     (1) Must petitioners recognize long-term capital gain in the

amount of $48,193 in 1993 or 1994?         We hold that petitioners must

recognize that gain in 1994.

     (2) Are petitioners liable for 1994 for the accuracy-related

penalty under section 6662(a) with respect to the two matters

that they have not conceded?       We hold that they are.

                              FINDINGS OF FACT

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

     At the time the petition was filed, Robert S. McDaniel, Jr.

(Mr. McDaniel) and W. Jane McDaniel (Ms. McDaniel), lived in

Sarasota, Florida.

     Mr. McDaniel is a practicing attorney who has been spe-

cializing in real estate matters since 1969.        In 1981, he and

seven other individuals, including George Palermo (Mr. Palermo)

and Brent Parker (Mr. Parker), formed the Second Street Part-

nership (Second Street or partnership) and became general part-

ners thereof in order to, inter alia, purchase, develop, and hold

for rental income a specified real property located in Sarasota,


     1
        (...continued)
Procedure.
                               - 3 -


Florida (Second Street real property).     The Second Street part-

nership agreement provided that each of its eight partners was to

contribute capital, own partnership assets, and share in part-

nership profits and losses in equal proportions.

     On April 12, 1985, Second Street borrowed $625,000 from the

National Bank of Sarasota, which was evidenced by a note (1985

note).   As security for that note, on the same date Second Street

mortgaged the Second Street real property (Second Street mort-

gage) to the National Bank of Sarasota.    The Second Street

mortgage, which Mr. McDaniel signed, provided in pertinent part:

          9. That the said Lender may, from time to time,
     extend the time of payment of said Note to subsequent
     owners of said lands and Premises, without notice to or
     request from the makers of said Note, and any such
     extension of time of payment shall not release the
     makers from liability on said Note.

                *    *    *    *       *   *    *

          15. That any indulgence or departure at any time
     by the Borrower, its successors or assigns from any of
     the provisions hereof, or of any obligation hereby
     secured, shall not modify the same or relate to the
     future or waive future compliance therewith by the
     Borrower. No act of omission or commission of Lender,
     including, without limitation, any failure to exercise
     any right, remedy or recourse, shall be deemed to be a
     waiver, release or modification of the same, such
     waiver, release or modification to be effected only
     through a written document executed by Lender and then
     only to the extent specifically recited therein.

                *    *    *    *       *   *    *

     Except for any notice required under applicable law to
     be given in another manner, any notice, report, demand
     or other instrument required or permitted to be given
                                  - 4 -


     by this Mortgage shall be given or made in writing
     * * *

                *    *      *     *       *      *    *

     In the case of the Borrower [Second Street], addressed
     to:

          Second Street Partnership * * *

          with a copy to:

          Robert S. McDaniel, Jr. Esq. * * * .

     On April 12, 1988, the 1985 note was refinanced in the

principal amount of $577,500 (1988 note) with Citizens and

Southern Bank of Florida (C&S Bank), the successor to National

Bank of Sarasota.   The 1988 note was secured by the Second Street

mortgage, which was modified where necessary to reflect the terms

of that note.

     On July 28, 1989, the 1988 note in the original principal

amount of $577,500 and a future advance note dated July 28, 1989,

in the original principal amount of $63,500 were replaced,

consolidated, and renewed in the principal amount of $628,250

(1989 note) with C&S Bank.      The 1989 note was secured by the

Second Street mortgage, which was modified where necessary to

reflect the terms of the 1989 note.           According to the 1989 note,

which Mr. McDaniel, inter alia, signed as a general partner, "On

April 12, 1993, the maturity date of this Note, the remaining

unpaid principal balance and accrued interest shall be due and
                              - 5 -


payable in full" (balloon payment).   The 1989 note further

provided in pertinent part:

     All persons or entities now or at any time liable,
     whether primarily or secondarily, for the payment of
     the indebtedness hereby evidenced, for themselves,
     their heirs, legal representatives, successors and
     assigns, respectively, hereby (1) expressly waive
     presentment, demand for payment, notice of dishonor,
     protest, notice of nonpayment or protest, and diligence
     in collection; (2) consent that the time of all pay-
     ments or any part thereof may be extended, rearranged,
     renewed or postponed by the holder hereof and further
     consent that any real or personal property securing
     this Note or any part of such security may be released,
     exchanged, added to or substituted by the holder of
     this Note, without in anywise modifying, altering,
     releasing, affecting or limiting their respective
     liability or the lien of any instrument securing this
     indebtedness; (3) agree that the holder of this Note
     shall not be required first to institute any suit, or
     to exhaust any of its remedies against the maker of
     this Note or any other person or party to become liable
     hereunder, in order to force payment of this Note;
     (4) agree that the maker of this Note may be released
     by the holder hereof from any or all liability under
     this instrument, and such release shall not in any way
     affect or modify the liabilities of the remaining
     parties hereto * * *

(We shall sometimes refer to the indebtedness of Second Street as

evidenced by the 1989 note as the Second Street loan or the

Second Street debt.)

     As a condition to making the Second Street loan, C&S Bank,

the lender, required Mr. McDaniel and Ms. McDaniel to, and each

did, execute a guaranty agreement (guaranty) under which each of

them guaranteed C&S Bank, inter alia, to make prompt payment of
                              - 6 -


all sums payable under the 1989 note.     Each guaranty provided in

pertinent part:

          2. Guarantor does hereby irrevocably and uncondi-
     tionally guarantee to the Lender the prompt payment of
     the principal, interest and other sums payable under
     the Note (including any extensions, modifications or
     renewals of the Note) * * *

                  *   *   *   *       *    *    *

          5. The Lender may enforce the provisions hereof
     from time to time as often as occasion therefor may
     arise, and the Lender shall not be required to first
     exercise any rights against any other person or party
     primarily or secondarily liable in respect to the loan
     or the obligations of Guarantor hereunder and shall not
     be required first to initiate, pursue or exhaust any
     remedies available to it against any other person or
     party or to resort to or enforce any security in its
     possession or under its control.

          6. No course of dealing or delay or omission on
     the part of the Lender in exercising or enforcing any
     of its rights or remedies under the Note, Instruments
     of Security, or hereunder shall impair or be prejudi-
     cial to the rights and remedies of the Lender hereunder
     and the enforcement hereof. The Lender may extend,
     modify or postpone the time and manner of payment and
     performance of the Note, Instruments of Security and
     this Agreement, make advances and disbursements under
     the Note and Instruments of Security, all without
     notice to or consent by the Guarantor and without
     thereby releasing, discharging or diminishing its
     rights and remedies against the Guarantor hereunder.
     Guarantor waives notice of acceptance of this Agree-
     ment, notice of the occurrence of any default under the
     Note, Instruments of Security, or hereunder, and pre-
     sentments, demands, protests and notices of any and all
     action at any time taken or omitted by the Lender in
     connection with the loan or this Agreement.

          7. Guarantor further consents to the Lender
     exchanging, surrendering, repledging or otherwise
     dealing with the aforesaid items without impairing this
     Guarantee and hereby waive[s] notice thereof to or
                               - 7 -


     obtaining the consent therefor of the Guarantor.
     Guarantor hereby consents to the partial or total
     release of Borrower or other persons primarily or
     secondarily liable to Lender for Borrower's indebted-
     ness. No act of omission of any kind by the Lender
     shall affect or impair this Guarantee and the Lender
     shall have no duties to the Guarantor. * * *

     During the mid-to-late 1980's, the partnership interest of

each of five of the general partners of Second Street, excluding

Mr. Palermo, Mr. McDaniel, and Mr. Parker, was purchased by the

then remaining general partners, and either C&S Bank or its

successor NationsBank of Florida, N.A. (NationsBank) expressly

released each of those five partners from any liability with

respect to the Second Street loan.     By the end of 1991, Mr.

McDaniel, Mr. Parker, and Mr. Palermo were the only general

partners of Second Street.

     Since at least some time in 1991, Second Street was ex-

periencing negative cash-flows, which required its three general

partners to make monthly contributions to it.     In May 1992, Mr.

McDaniel was unable to continue making his share of those con-

tributions.   He approached Mr. Palermo, informed him that he was

unable to continue making monthly contributions to Second Street,

and offered to deed Mr. Palermo his partnership interest.     By

quitclaim deed dated May 12, 1992, Mr. McDaniel transferred his

interest in the Second Street real property to George Palermo

Architect, Inc.   On May 14, 1992, Mr. McDaniel assigned his

interest in Second Street to George Palermo Architect, Inc.      At
                                - 8 -


the time of that assignment, Mr. McDaniel's capital account

balance in Second Street was a negative balance in the amount of

$48,193 (negative capital account balance).    By corrective

quitclaim deed dated September 9, 1993, Mr. McDaniel transferred

his interest in the Second Street real property to the part-

nership.    Although Mr. McDaniel had transferred his interest in

the Second Street real property and assigned his partnership

interest, Mr. McDaniel continued to see Mr. Palermo on a daily

basis throughout the years at issue.

       Mr. McDaniel did not receive an oral release or a written

release in May 1992 with respect to any of Second Street's

obligations, including the Second Street loan, when he quit-

claimed his interest in the Second Street real property, and

assigned his partnership interest, to George Palermo Architect,

Inc.    Nor did he receive any such release at any other time.

       During 1992, Mr. Parker, one of Second Street's general

partners, commenced a bankruptcy proceeding under chapter 11 in

the Bankruptcy Court for the Middle District of Florida, Tampa

Division.    On November 20, 1992, that Court granted Mr. Palermo

relief "from the Automatic Stay provisions of 11 U.S.C. Section

362(a)".    In 1993, Mr. Palermo brought an action against Mr.

Parker to dissolve Second Street.

       The balloon payment required by the terms of the 1989 note

came due on April 12, 1993.    That payment was not made, and Mr.
                               - 9 -


Palermo met during 1993 with personnel of NationsBank about

possible refinancing of the Second Street debt.    He also met with

Joseph M. Martens (Mr. Martens) who was employed by Amresco

Institutional, Inc. (Amresco), NationsBank's agent, and who

became responsible for the management of the Second Street loan

sometime during the first six months of 1993.   (Hereinafter, we

shall refer collectively to NationsBank and Amresco as Nations-

Bank/Amresco or the Bank.)   The topic of Mr. McDaniel's liability

with respect to the Second Street loan did not arise in Mr.

Palermo's discussions during 1993 with personnel of Nations-

Bank/Amresco.

     Even though the 1989 note had matured on April 12, 1993, Mr.

Martens recommended in July 1993 that the Bank not take any

action with respect to it until completion of Mr. Parker's

bankruptcy proceeding.   That was because, under the proposed

bankruptcy plan relating to Mr. Parker, Mr. Parker's interest in

the Second Street real property was to be transferred to Mr.

Palermo, and the Bank considered Mr. Palermo to be a valued

customer who had sufficient liquidity and personal income to

support the debt service on the Second Street loan.

     NationsBank/Amresco adopted Mr. Marten's recommendation and

decided to bill Second Street for interest only.   Monthly pay-

ments of interest only continued to be made by Mr. Palermo.     The

Bank did not notify Mr. McDaniel or Ms. McDaniel of the failure
                               - 10 -


by Second Street to make the balloon payment due on April 12,

1993, or the arrangement to make monthly payments of interest

only.

       Throughout, inter alia, the period 1992-1994, personnel of

the Bank prepared various internal documents (written internal

reports) which were to be used, inter alia, to keep senior

management of the Bank informed and in which they described the

status of any activity with respect to the 1989 note and, inter

alia, the respective guaranties of that note by Mr. McDaniel and

by Ms. McDaniel.    Written internal reports dated June 1992 and

December 1992 that were prepared by Bob Thomas of Nations-

Bank/Amresco listed Mr. McDaniel and Ms. McDaniel as guarantors

of the Second Street loan, indicated that Mr. McDaniel was no

longer a partner in Second Street, contained financial analyses

of Mr. McDaniel and Ms. McDaniel based on the most recent fi-

nancial statements that they provided to the Bank, and stated

that

       THE BANK WILL NOT RELEASE MCDANIEL'S AND PARKER'S
       GUARANTEES, EVEN THOUGH THEY PROVIDE NO FALLBACK.
       HOWEVER, PARKER COULD BE DISCHARGED IN BANKRUPTCY.
       * * * BASED ON PALERMO'S LIQUIDITY AND NET WORTH, HE
       IS CAPABLE OF SERVICING THE DEBT IRRESPECTIVE OF THE
       OCCUPANCY OF THE BUILDINGS. * * *

       A written internal report dated June 1993 that was prepared

by Mr. Martens listed Mr. McDaniel and Ms. McDaniel as guarantors

of the Second Street loan, indicated that Mr. McDaniel was no
                              - 11 -


longer a partner in Second Street, contained financial analyses

of Mr. McDaniel and Ms. McDaniel based on the most recent fi-

nancial statements that they provided to the Bank, and stated

that "The bank will not release McDaniel's and Parker's guar-

antees."

     In a written internal report dated July 1993, Mr. Martens

recommended that the Second Street loan remain in so-called

accrual status pending completion of Mr. Parker's bankruptcy

proceeding.   That report stated in pertinent part:

     The loan has matured. Guarantor Parker has filed a
     personal Chapter 11 bankruptcy. The Reorganization
     Plan has not yet been confirmed. The Plan proposes to
     give Parker's interest in the subject property to the
     other remaining guarantor, Palermo. Palermo intends to
     dissolve partnership and refinance loan upon final
     approval of the bankruptcy court. The General Bank has
     indicated a desire to retain the loan and they consider
     Palermo to be a desirable banking customer. However
     the General Bank will not take the loan until Parker's
     bankruptcy has been resolved and Parker removed from
     the debt. The loan will remain past due pending com-
     pletion of Parker's bankruptcy.

                *    *    *    *    *    *    *

     The guarantor Palermo has significant liquidity and
     personal income to support any operating deficiency.
     The other guarantor Parker provides no support to the
     loan because of his impending bankruptcy.

                *    *    *    *    *    *    *

     Following the final resolution of Parker's bankruptcy,
     Palermo will receive sole ownership of the subject
     property. This action is expected to be completed
     9/93. Palermo has strong financial capacity to per-
     sonally support the loan. The general bank has in-
     dicated a desire to retain Palermo individually and
                              - 12 -


     will likely refinance the loan and take it back into
     their portfolio, once Parker has been removed from the
     relationship.

     Written internal reports dated December 31, 1993, and June

30, 1994, that were prepared by Mr. Martens continued to list Mr.

McDaniel and Ms. McDaniel as guarantors of the Second Street

loan, indicated that Mr. McDaniel was no longer a partner in

Second Street, and contained financial analyses of Mr. McDaniel

and Ms. McDaniel based on the most recent statements that they

provided to the Bank.   In the written internal report dated

December 31, 1993, Mr. Martens stated that Mr. Palermo "continues

to pay interest on the matured note and has agreed to pay all

delinquent real estate taxes upon renewal of the loan."     As was

true of the written internal reports dated June 1992, December

1992, June 1993, and December 31, 1993, the written internal

report dated June 30, 1994, discloses that the Bank was eval-

uating petitioners' assets as a possible collection source.

Throughout the duration of the Second Street loan, Nations-

Bank/Amresco affirmatively decided not to, and did not, discharge

Mr. McDaniel from his liability to the Bank as a guarantor of

that loan.

     After having waited for about a year in order to permit Mr.

Parker's bankruptcy matter to be resolved, and it having been

resolved in early 1994, the Bank finally lost patience with

respect to the Second Street loan.     On April 21, 1994, Mr.
                              - 13 -


Martens, on behalf of NationsBank/Amresco, sent a letter to Mr.

Palermo (April 21, 1994 letter) demanding payment of the Second

Street loan.   The April 21, 1994 letter notified Mr. Palermo that

the 1989 note was in immediate default, that the Bank was giving

Second Street 14 days within which to cure the default, and that

if the obligations under that note were not fully satisfied by

May 5, 1994, the Bank intended to accelerate all sums due there-

under and to commence collection activity.

     After having received the April 21, 1994 letter, Mr. Palermo

gave it to Mr. McDaniel and asked him to respond to it.   By

letter dated April 26, 1994, Mr. McDaniel informed Mr. Martens

that Mr. Palermo had arranged for alternative financing that was

expected to close no later than June 15, 1994, and requested that

no action be taken by NationsBank/Amresco until that date.

     In order to refinance the Second Street debt to the Bank,

around August 1994 Mr. Palermo asked Northern Trust Bank of

Florida, N.A. (Northern Trust) to approve a $590,000 loan to

Second Street, whose general partners since March 1, 1994, were

Mr. Palermo and George Palermo Architect, Inc.   During the

negotiations in 1994 with Northern Trust, Northern Trust did not

solicit any financial information or personal guaranties or other

agreements from Mr. McDaniel or from Mr. Parker.   The collateral

for the loan by Northern Trust to the partnership was to be the

Second Street real property, Mr. Palermo's unconditional guaranty
                               - 14 -


of that loan, and Mr. Palermo's pledge of certificates of deposit

in the amount of $230,000.   Northern Trust decided to structure

the loan from it to Second Street as a purchase by it from

NationsBank/Amresco of the 1989 note.

     On October 18, 1994, Northern Trust acquired the 1989 note

from NationsBank/Amresco for $595,252.65, which amount was the

sum of (1) the outstanding principal balance of $590,850 and

(2) the accrued, unpaid interest of $4,402.65, which were due

under that note.    On the same date, a replacement promissory note

(replacement note) in the amount of $590,850 payable to Northern

Trust was executed on behalf of Second Street by Mr. Palermo as a

general partner and by Mr. Palermo as president of George Palermo

Architects, Inc., the other general partner of Second Street.

The replacement note replaced the 1989 note of Second Street to

the Bank.    The first page of the replacement note stated that it

had an effective date of April 12, 1993, and an execution date of

October 18, 1994.   All of the other documents relating to the

replacement note issued by Second Street to Northern Trust

contained the date of October 18, 1994, or a later date, and none

of them contained the date of April 12, 1993.

     At a time not disclosed by the record, an account of a type

not disclosed by the record (account) was established for pe-

titioners' daughter Holly McDaniel to be used for her college

education.   The sources of the funds in that account were Mr.
                                - 15 -


McDaniel, Ms. McDaniel, and Mr. McDaniel's father.    Another

source for the funds in that account was a mutual fund that Mr.

McDaniel established for Holly McDaniel shortly after she was

born.   Mr. McDaniel and Ms. McDaniel managed the account that was

established for Holly McDaniel.    During 1994, whenever Holly

McDaniel needed funds, an amount of money would be transferred

from the account to her checking account.

     Petitioners filed a joint tax return (return) for 1992

sometime after April 5, 1993.    Second Street filed and issued to

Mr. McDaniel a Schedule K-1, Partner's Share of Income, Credits,

Deductions, Etc., for 1992, which reported that Mr. McDaniel had

a separately stated long-term capital gain of $48,193.    Petition-

ers did not report that gain in their 1992 return.    Instead,

petitioners included Form 8082, Notice of Inconsistent Treatment

or Amended Return (Form 8082), with their 1992 return.    In that

form, petitioners reported that Second Street had incorrectly

reported Mr. McDaniel's negative capital account balance as a

long-term capital gain.   Petitioners attached the following

explanation to the Form 8082 that they filed with their 1992

return:

          During 1992, Robert S. McDaniel, Jr. and Second
     Street Partnership agreed that Mr. McDaniel would no
     longer be required to make additional capital contribu-
     tions to the partnership in exchange for Mr. McDaniel
     giving up his 25% interest in the partnership. Mr.
     McDaniel remains contingently liable for partnership
     liabilities, his share of which is reported on the 1992
                              - 16 -


     Schedule K-1 as $55,821. Most of this liability bal-
     ance is represented by a first mortgage loan held by a
     bank for which partnership real property is pledged.
     The partners, including Mr. McDaniel, personally signed
     the loan agreement for which they have joint and sev-
     eral liability. The bank has not released Mr. McDaniel
     from his obligation under the loan agreement.

          At the time of Mr. McDaniel's 1992 agreement with
     the partnership, as described above, he had a negative
     capital account balance of $48,193. His negative
     capital account balance was incorrectly reported by the
     partnership on his Schedule K-1 as a long-term capital
     gain. Mr. McDaniel believes that the correct treatment
     of his negative capital account balance on his Schedule
     K-1 is to report the $48,193 on line J, box (d), "With-
     drawals and Distributions".

          The partnership's incorrect assumption that his
     negative capital account balance results in long-term
     capital gain is inappropriate inasmuch as Mr. McDaniel
     continues to be contingently liable for $55,821 in
     partnership liabilities. At such time that Mr.
     McDaniel's share of partnership liabilities are repaid
     by the partnership, or otherwise settled, the appropri-
     ate tax treatment of Mr. McDaniel's negative capital
     account balance on withdrawal from the partnership can
     be determined.

     Petitioners filed their 1993 return sometime after October

10, 1994.   Petitioners filed their 1994 return sometime after

April 15, 1995.   In their 1994 return, petitioners erroneously

claimed a dependency exemption for their daughter Holly McDaniel.

     Petitioners did not report any income attributable to Mr.

McDaniel's negative capital account balance in their 1993 return,

their 1994 return, or any other return that they filed.
                               - 17 -


     Respondent issued a notice of deficiency (notice) to pe-

titioners for their taxable years 1993 and 1994. In that notice,

respondent determined, inter alia, that (1) petitioners realized

long-term capital gain in the amount of $48,193 for 1994, which

resulted from the reduction in petitioners' share of the Second

Street loan and (2) that petitioners are liable for 1993 and 1994

for the accuracy-related penalty under section 6662(a).

                               OPINION

     Petitioners bear the burden of proving that respondent's

determinations in the notice are erroneous.   See Rule 142(a);

Welch v. Helvering, 290 U.S. 111, 115 (1933).

     The parties agree that petitioners must recognize $48,193 of

long-term capital gain pursuant to sections 752(b), 731(a), and

741 for the year in which Mr. McDaniel was relieved of his

liability as a guarantor of the Second Street loan.   The parties

disagree as to the year in which Mr. McDaniel was relieved of

that liability.   Petitioners contend that Mr. McDaniel was

discharged in 1993 from his liability as a guarantor of the

Second Street loan.   Respondent contends that he was discharged

from that liability in 1994.

     In support of their position, petitioners rely on Fla. Stat.

Ann. sec. 620.735(2) and (3) (West 1992) (repealed effective Jan.
                              - 18 -


1, 1998).2   Section 620.735 of the Florida Statutes Annotated

(section 620.735) provides in pertinent part:

     620.735. Effect of dissolution on partner's existing
     liability.--

          (1) The dissolution of the partnership of itself
     does not discharge the existing liability of any part-
     ner.

          (2) A partner is discharged from any existing
     liability upon dissolution of the partnership by an
     agreement to that effect between himself, the part-
     nership creditor and the person or partnership con-
     tinuing the business. The agreement may be inferred
     from the course of dealing between the creditor having
     knowledge of the dissolution and the person or part-
     nership continuing the business.

          (3) When a person agrees to assume the existing
     obligations of a dissolved partnership, the partners
     whose obligations have been assumed shall be discharged
     from any liability to any creditor of the partnership
     who, knowing of the agreement, consents to a material
     alteration in the nature or time of payment of the
     obligations.


     2
         Petitioners maintain that

          This is a situation in which the application of
     Florida Statute §620.735(2) and (3) are necessary to
     allow some fairness to Petitioners who seek to offset
     income from the relief of liabilities with losses
     incurred in Tax Year 1993.

While the fact that petitioners incurred losses in 1993 explains
why they are taking the position that they must recognize the
gain in question for that year, that fact is irrelevant to our
resolving the issue presented. See Fla. Stat. Ann. sec. 620.735
(West 1992).
                              - 19 -


     We turn initially to petitioners' position under section

620.735(3) because they address that position first on brief.

There are three requirements prescribed by that provision in

order to come within its terms:    (1) A person must agree to

assume the existing obligations of a dissolved partnership;

(2) the creditor of that partnership must know of the agreement

by a person to assume the existing obligations of a dissolved

partnership; and (3) such creditor must consent to a material

alteration in the nature or time of payment of those obligations.

     With respect to the first requirement, petitioners contend

that in 1992 Mr. Palermo agreed to assume Mr. McDaniel's "share

of the partnership obligations."    In support of that contention,

petitioners rely on Mr. McDaniel's testimony.    Mr. McDaniel

testified (1) on the one hand, that he could not remember the

discussion that he had had with Mr. Palermo regarding the part-

nership's liabilities and (2) on the other hand, that Mr. Palermo

"was to assume * * * my share of the partnership obligations."

We found Mr. McDaniel's testimony regarding Mr. Palermo's alleged

assumption of Mr. McDaniel's share of the liabilities of Second

Street to be inconsistent and not helpful.    We also found Mr.

Palermo's testimony on this matter to be inconsistent and not

helpful.   Mr. Palermo testified that he believed that what he and

Mr. McDaniel agreed to in 1992 was that Mr. Palermo was to assume

Mr. McDaniel's interest in Second Street and the responsibilities
                             - 20 -


of the partnership, which Mr. Palermo defined as "The management

of the partnership; the financial obligations; the management of

the partnership; basically taking over his partnership interest."

Mr. Palermo admitted during his testimony that there was never

any written release, and he did not recall any oral release, of

Mr. McDaniel from the obligations of Second Street.   Consis-

tently, Mr. Palermo gave the following testimony about the Second

Street loan:

     I don't think that ever came up as a specific topic.
     Our relationship was very informal. And I looked at
     this as an opportunity to obtain a larger interest in
     the partnership, which would allow me to manage it
     better.

Inconsistently, Mr. Palermo further testified that he did not

expect Mr. McDaniel to pay any obligations concerning the part-

nership.

     We are not persuaded from the testimony of Mr. McDaniel and

Mr. Palermo (1) that during 1992 Mr. Palermo agreed, either

orally or in writing, to assume Mr. McDaniel's liability as a

guarantor of the Second Street loan and (2) that either Mr.

McDaniel or Mr. Palermo believed that Mr. McDaniel was in fact

discharged from that liability.   In this regard, it is signifi-

cant that other general partners of Second Street who terminated

their respective interests in that partnership during the mid-to-

late 1980's received express releases by the partnership's

creditors from any liability for the obligations of the part-
                              - 21 -


nership.   In addition, as respondent points out, Mr. McDaniel has

been specializing in real estate law since 1969 and must have

known that, in order to be relieved of his share of the part-

nership's liabilities, he had to obtain from the Bank a formal

release of his liability as a guarantor of the Second Street

loan.   The most favorable interpretation of the testimony of Mr.

McDaniel and Mr. Palermo would be that they merely assumed that

if Mr. Palermo were to receive Mr. McDaniel's share of the

partnership assets, Mr. Palermo should pay the partnership

obligations.   Such an assumption does not satisfy the requirement

of section 620.735(3) that "a person agrees to assume the ex-

isting obligations of a dissolved partnership".   On the instant

record, we find that petitioners have failed to meet their burden

of showing that Mr. Palermo agreed to assume Mr. McDaniel's share

of the obligations of Second Street.   We further find on that

record that petitioners have failed to establish that the first

requirement of section 620.735(3) (i.e., that "a person agrees to

assume the existing obligations of a dissolved partnership") is

satisfied.

     Assuming arguendo that we had found that Mr. Palermo agreed

to assume Mr. McDaniel's share of the obligations of Second

Street, petitioners also must show under section 620.735(3) that

NationsBank/Amresco knew of that agreement in 1993.   Petitioners

admit that "There was no testimony that NationsBank was told that
                              - 22 -


Palermo was assuming the existing obligations of the partner-

ship."   However, petitioners assert that "the bank knew Palermo

was shouldering the obligation to pay the partnership obligations

after McDaniels [sic] removed himself from the partnership."    In

support of their position, petitioners point, inter alia, to

several of the written internal reports, including those dated

June 1992, December 1992, June 1993, and July 1993.    Respondent

contends that there is "no evidence that the bank was aware on

[sic] any discharge of petitioners' liability in 1993."

     We agree with respondent.   Although petitioners are correct

that the Bank knew in 1993 that Mr. Palermo was "shouldering the

obligation to pay" the 1989 note, that fact does not establish

knowledge on the part of NationsBank/Amresco that Mr. Palermo

assumed Mr. McDaniel's partnership obligations.   Nor do the

written internal reports show that the Bank was aware of any

agreement by Mr. Palermo to assume Mr. McDaniel's partnership

obligations.   To the contrary, those reports, and the testimony

of Mr. Martens, who was responsible for the management of the

Second Street loan during most of 1993 and during 1994 until it

was paid off in October 1994, establish that NationsBank/Amresco

did not release Mr. McDaniel from his guaranty of that loan.    In

addition, when questioned about whether the Bank officials were

aware of his agreement with Mr. McDaniel, Mr. Palermo testified:

"I believe that, through the process of the Parker bankruptcy and
                              - 23 -


our negotiations, they were aware that I was the chief partner

and I had purchased Mr. McDaniel's interest."   Such testimony

does not establish that NationsBank/Amresco was aware of any

assumption by Mr. Palermo of Mr. McDaniel's partnership obliga-

tions.

     On the present record, we find that petitioners have failed

to meet their burden of showing that NationsBank/Amresco knew of

any assumption by Mr. Palermo of Mr. McDaniel's partnership

obligations.   We further find on that record that petitioners

have failed to satisfy their burden of showing that they comply

with the requirement of section 620.735 that a creditor of a

partnership which is dissolved know of any agreement by a person

to assume that partnership's existing obligations.

     Petitioners have also failed to persuade us on the instant

record that the third and last requirement under section

620.735(3) is satisfied.   That is because they have failed to

show that NationsBank/Amresco consented during 1993 to a material

alteration in the nature or time of payment of the 1989 note.    On

the record before us, we reject petitioners' contention that

NationsBank "made a material alteration in the time of payment of

the partnership loan by not insisting on a lump sum payment of

principal on April 12, 1993 but allowing the payment of interest

only".   The express terms of the 1989 note, the Second Street

mortgage relating thereto, and Mr. McDaniel's guaranty, the first
                                - 24 -


two of which were signed by Mr. McDaniel as a general partner of

Second Street and the last of which was signed by him individu-

ally, permitted the Bank to extend the time of payment under that

note.     The express terms of Mr. McDaniel's guaranty provide that

his obligations as a guarantor of the 1989 note are to be unaf-

fected by, inter alia, the Bank's extension of the time of

payment of that note.

     Moreover, under Florida law, the extension of the time for

payment of a loan is not a material alteration of the terms of

the loan.     In Anderson v. Trade Winds Enters. Corp., 241 So. 2d

174, 178 (Fla. Dist. Ct. App. 1970), the District Court of Appeal

for the Fourth District of Florida stated:

             The individual appellees' answers plead that their
        liability as guarantors was discharged by extensions of
        time for payment which the holder of the note accorded
        the maker. The evidence indicates that the note went
        into default when the first installment was due.
        Thereafter, instead of bringing immediate suit on the
        note, partial payments were accepted. The evidence
        does not indicate, however, that the holder and maker
        of the note legally modified the latter's obligation
        under the note. The extensions of time were gratuitous
        indulgences to avoid litigation. Such extensions,
        therefore, did not affect the guarantors' rights
        against the maker of the note and, therefore, did not
        discharge their liability as guarantors. * * *

In the instant case, the decision by NationsBank/Amresco not to

notify Second Street in writing that the 1989 note was in default

until about a year after Second Street failed to make the balloon

payment that was due on April 12, 1993, did not constitute a
                              - 25 -


material alteration of the obligations under that note.3    Nor did

that decision have any effect on the obligations of Mr. McDaniel

as a guarantor of the 1989 note.

     On the instant record, we find (1) that there was no ma-

terial alteration in the nature or the time of payment of the

1989 note and (2) that the Bank did not consent to any such

alteration.4   We further find on that record that petitioners

have failed to establish that Mr. McDaniel was discharged in 1993

from his guaranty of the Second Street loan under section

620.735(3).

     We turn next to petitioners' position that Mr. McDaniel was

discharged in 1993 from his guaranty under section 620.735(2).

Under that provision, petitioners must show that Mr. McDaniel was

discharged from his guaranty to the Bank by an agreement to that

effect among himself, the Bank, and Mr. Palermo.   We have found

that petitioners have not met their burden of establishing that

Mr. Palermo agreed to assume Mr. McDaniel's share of the part-

     3
        The Bank made that decision because of the pending
bankruptcy proceeding of Mr. Parker, a general partner of Second
Street and another guarantor of the Second Street loan, and the
desire of NationsBank/Amresco to give Mr. Palermo, a valued
customer, the opportunity to come into compliance with the loan
terms as soon as Mr. Parker's bankruptcy proceeding was resolved.
     4
        Even if the terms of the loan had been altered, as noted
above, under the terms of his guaranty Mr. McDaniel's obligation
as a guarantor of the Second Street loan would not have been
affected by any such alteration.
                              - 26 -


nership obligations.   Petitioners contend, however, that an

agreement in 1993 among Mr. McDaniel, the Bank, and Mr. Palermo

to release Mr. McDaniel from his guaranty "can be inferred from

the course of dealing between the bank and Palermo having knowl-

edge that McDaniels [sic] was no longer a partner."   Petitioners

point to, inter alia, the following in an effort to support that

contention:   The Bank did not notify Mr. McDaniel that the

partnership had not timely made the balloon payment that was due

on April 12, 1993, under the 1989 note; the Bank did not notify

Mr. McDaniel or Second Street that the 1989 note was in default

during 1993; the Bank materially changed the terms of the 1989

note and relinquished its right to receive the balloon payment;

the topic of Mr. McDaniel's liability with respect to the 1989

note did not arise in discussions during 1993 between Mr. Palermo

and personnel of the Bank; and the written internal reports of

the Bank that were prepared during 1993 show that the Bank

understood that Mr. McDaniel was discharged from his liability as

a guarantor of the Second Street loan.

     On the record before us, we reject petitioners' position

that an agreement in 1993 among Mr. McDaniel, the Bank, and Mr.

Palermo to release Mr. McDaniel from his liability as a guarantor

of the 1989 note may be inferred within the meaning of section

620.735(2) from the course of dealing during that year between

Mr. Palermo and the Bank.   The foregoing points on which pe-
                                - 27 -


titioners rely are not established by the record and/or are

irrelevant to a determination of whether such an agreement may be

so inferred.

     We note initially that the Bank had no duty to notify Mr.

McDaniel as a guarantor of the 1989 note that the partnership had

not timely made the balloon payment under that note.    Nor was the

Bank required to notify Mr. McDaniel as a guarantor of any

default under the 1989 note.5    Furthermore, contrary to petition-

ers' contention, the Bank exercised its right under the 1989 note

to delay collection of the balloon payment and did not materially

change the terms of, or forgo its right to receive the balloon

payment under, that note.   Indeed, after the Bank notified Second

Street in April 1994 that the Second Street loan was in default,

the partnership obtained financing from Northern Trust, which it

used in October 1994 to pay off that loan.    In addition, Mr.

Palermo's testimony that the topic of Mr. McDaniel's liability

did not arise in his discussions during 1993 with personnel of

     5
        It is noteworthy that Mr. Palermo did inform Mr. McDaniel
that the balloon payment had not been timely made, at least some
time shortly before Mr. McDaniel wrote Mr. Martens on Apr. 26,
1994, with respect to the Apr. 21, 1994 letter that Mr. Martens
had sent to Mr. Palermo informing him that NationsBank/Amresco
considered the 1989 note to be in default. Since Mr. McDaniel
continued to see Mr. Palermo on a daily basis throughout the
years at issue after he assigned his partnership interest to Mr.
Palermo in May 1992, we believe that it is likely that Mr.
McDaniel was aware well before April 1994 that Second Street had
not made the balloon payment.
                              - 28 -


NationsBank/Amresco does not establish, as petitioners assert,

that there was a clear inconsistency between Mr. McDaniel's

guaranty and later conduct by NationsBank/Amresco.   Moreover,

petitioners concede that, unlike the other partners who withdrew

from Second Street during the mid-to-late 1980's and each of whom

received from the creditor bank of Second Street an express

release from his/her liability for the partnership obligations to

such bank, Mr. McDaniel did not obtain an express release by

NationsBank/Amresco from his guaranty of the Second Street loan.

Finally, contrary to petitioners' contention, the written inter-

nal reports of the Bank that were prepared during 1993 and 1994

were consistent with the written internal reports prepared during

1992.   Those reports show that throughout 1993 Nations-

Bank/Amresco considered Mr. McDaniel to be a guarantor of the

1989 note.   Indeed, as late as June 30, 1994, the Bank was

evaluating the assets of, inter alia, Mr. McDaniel as a guarantor

of the Second Street loan, and Mr. Martens testified that the

Bank affirmatively decided not to discharge him from that guar-

anty.

     Significantly, the U.S. Court of Appeals for the Eleventh

Circuit, to which an appeal in this case normally would lie, has

considered whether, pursuant to section 620.735(2), a guarantor

of a loan was discharged from his guaranty.   See Weiss v. Com-

missioner, 956 F.2d 242 (11th Cir. 1992), vacating and remanding
                                - 29 -


T.C. Memo. 1990-492.    In Weiss, the taxpayer Robert B. Weiss (Mr.

Weiss) entered into a partnership agreement in November 1978 with

three other individuals (Hillman group partners) for the purpose

of purchasing and operating a motel.     See id. at 243.     In Feb-

ruary 1979, in connection with the financing of that partnership

(Hillman group/Weiss partnership), Mr. Weiss personally guar-

anteed the participation of Flagship Bank of Tampa (Flagship) in

$300,000 of a $1,000,000 loan to the partnership from another

bank.    See id.   On October 5, 1979, because the Hillman

group/Weiss partnership needed an infusion of capital, one of the

Hillman group partners requested Mr. Weiss and the other partners

to contribute additional capital to the partnership (capital

call).    All of the Hillman group partners satisfied their share

of that capital call, but Mr. Weiss did not.    See id.      As a

result, on November 19, 1979, one of the Hillman group partners

notified Mr. Weiss that the Hillman group/Weiss partnership had

acquired his partnership interest on November 15, 1979, pursuant

to a provision in the Hillman group/Weiss partnership agreement

that permitted such an acquisition if a partner failed to satisfy

a capital call within 30 days.    The Commissioner of Internal

Revenue had determined, inter alia, that, because Mr. Weiss was

relieved of his partnership liability on or before November 15,

1979, he realized a short-term capital gain on his share of the

Hillman group/Weiss partnership liabilities for which he was no
                              - 30 -


longer responsible.   See id. at 243-244.   After examining section

620.735(2), the Court of Appeals stated:

     No express or inferred agreement existed here. There
     was no express agreement between Weiss and the Hillman
     Group partners relieving Weiss of liability; Flagship
     did not expressly release Weiss from his personal
     guarantee; and nothing in the course of dealings be-
     tween the Hillman Group and Flagship permits the in-
     ference that Flagship released Weiss from his personal
     guarantee.

           Because the Tax Court did not indicate what course
     of dealings showed that Weiss was relieved of liabil-
     ity, we suppose that Flagship's extension of a $200,000
     line of credit to the Hillman Group somehow influenced
     the Tax Court. But this credit extension is in no way
     inconsistent with the fact that Flagship still consid-
     ered Weiss personally liable on his guarantee of the
     loan participation. Without a clear inconsistency
     between the written guarantee and later conduct by
     Flagship, we see no reason to infer that Weiss had been
     discharged from his obligation pursuant to the guaran-
     tee. For example, we might decide that Weiss was
     relieved from his liability by the course of dealings
     if, without expressly releasing Weiss, Flagship had
     substituted a new written guarantee from the Hillman
     Group or one of its members after Weiss' partnership
     interest was terminated. Or, for another example, we
     might also have decided that Weiss was released if, in
     the course of dealings, Flagship had been forced to
     recover on their loan participation and sought recovery
     only from the Hillman Group and not from Weiss. But
     here nothing in the record shows that Flagship had
     released Weiss from his personal guarantee. [Id. at
     245.]

     Petitioners attempt to distinguish Weiss.    They contend that

"Weiss did not present a situation, such as the instant case,

where the loan became due and the payment was changed from a

balloon payment to payment of interest only."    As discussed

above, we reject petitioners' position that the terms of the 1989
                                - 31 -


note were materially altered, "and the payment [under that note]

was changed from a balloon payment to a payment of interest

only."   We conclude that petitioners have failed in their attempt

to distinguish Weiss v. Commissioner, supra, from the present

case.6

     On the record before us, we find that petitioners have

failed to carry their burden of showing that Mr. McDaniel was

discharged in 1993 from his guaranty of the Second Street loan

under section 620.735(2).

     In contrast to the course of dealings between Mr. Palermo

and NationsBank/Amresco during 1993, their course of dealings

during 1994 supports respondent's position that Mr. McDaniel was

released in 1994 from his guaranty of the Second Street loan.

The Bank notified Mr. Palermo in the April 21, 1994 letter that

the 1989 note was in default.    Mr. McDaniel wrote to NationsBank

on April 26, 1994, in order to request on behalf of Second Street

that the Bank forbear from taking any action with respect to that

default until June 15, 1994.    Mr. Palermo was able to obtain

     6
        Even if petitioners had established the distinction that
they allege between the instant case and Weiss v. Commissioner,
956 F.2d 242 (11th Cir. 1992), vacating and remanding T.C. Memo.
1990-492, we would find any such distinction to be irrelevant to
our determination of whether it could be inferred from the course
of dealings during 1993 between Mr. Palermo and NationsBank/
Amresco that Mr. McDaniel was discharged in that year from his
guaranty of the 1989 note.
                              - 32 -


alternative financing for Second Street from Northern Trust.      On

October 18, 1994, Northern Trust acquired the 1989 note from

NationsBank/Amresco for $595,252.65, which amount was the sum of

(1) the outstanding principal balance of $590,850 and (2) the

accrued, unpaid interest of $4,402.65, which were due under that

note.   On the same date, a replacement note payable to Northern

Trust in the amount of $590,850 was executed on behalf of Second

Street by Mr. Palermo as a general partner and by Mr. Palermo as

president of George Palermo Architects, Inc., the other general

partner of Second Street.   The replacement note replaced the 1989

note of Second Street to the Bank.     The collateral for the

replacement note was the Second Street real property, Mr.

Palermo's unconditional guaranty, and Mr. Palermo's pledge of

certificates of deposit in the amount of $230,000.     Northern

Trust did not solicit or obtain from Mr. McDaniel any guaranty or

other agreement by him to be liable, contingently or otherwise,

with respect to the replacement note issued by Second Street to

Northern Trust.

     Based on our examination of the entire record in this case,

we find that petitioners have failed to show that Mr. McDaniel

was discharged in 1993 from his guaranty of the Second Street

loan.   We further find on that record that petitioners have
                              - 33 -


failed to show that Mr. McDaniel was not discharged in 1994 from

that guaranty.7

     Section 6662(a) imposes an addition to tax equal to 20

percent of the underpayment of tax attributable to, inter alia,

negligence or disregard of rules or regulations under section

6662(b)(1).   For purposes of section 6662(a), the term "neg-

ligence" includes any failure to make a reasonable attempt to

comply with the Code, and "disregard" includes any careless,

reckless, or intentional disregard.    See sec. 6662(c).   Neg-

ligence has also been defined as a lack of due care or a failure

to do what a reasonable person would do under the circumstances.

See Leuhsler v. Commissioner, 963 F.2d 907, 910 (6th Cir. 1992),

affg. T.C. Memo. 1991-179; Antonides v. Commissioner, 91 T.C.

686, 699 (1988), affd. 893 F.2d 656 (4th Cir. 1990); Neely v.

Commissioner, 85 T.C. 934, 947 (1985).

     The accuracy-related penalty under section 6662(a) does not

apply to any portion of an underpayment if it is shown that there

was reasonable cause for, and that the taxpayer acted in good

faith with respect to, such portion.    See sec. 6664(c)(1).   The

determination of whether a taxpayer acted with reasonable cause

and in good faith depends upon the pertinent facts and circum-

     7
        We have considered all of the contentions of petitioners
that are not discussed herein, and we find them to be without
merit and/or irrelevant.
                              - 34 -


stances, including the taxpayer's efforts to assess his or her

proper tax liability and the knowledge and experience of the

taxpayer.   See sec. 1.6664-4(b)(1), Income Tax Regs.

     As we understand petitioners' position, they contend that

they are not liable for 1994 for the accuracy-related penalty

under section 6662(a) with respect to petitioners' underpayment

of tax for that year that is attributable to their failure to

report in their 1994 return long-term capital gain of $48,192 and

their erroneously claiming in that return a dependency exemption

for their daughter Holly McDaniel.8    Petitioners make no argument

with respect to that position in their opening brief.    In their

reply brief, they assert:

          The Respondent has taken the position that all the
     adjustments made by the agent are the result of neg-
     ligence of the Petitioners. Specific acts of negli-
     gence have not been shown. Negligence penalties should
     not be assessed against the Petitioners.

     Petitioners, not respondent, have the burden of proving that

respondent's determinations in the notice, including the de-

terminations under section 6662, are erroneous.    See Rule 142(a).

On the record before us, we find that petitioners have failed to

satisfy that burden.   Accordingly, we sustain respondent's

determinations under section 6662(a) for 1994 with respect to

     8
        Petitioners concede respondent's determinations under
sec. 6662 with respect to the other items that result in
petitioners' underpayment for each of the years at issue.
                             - 35 -


petitioners' underpayment of tax for that year that is attribut-

able to their failure to report in their 1994 return long-term

capital gain of $48,193 and their erroneously claiming in that

return a dependency exemption for their daughter Holly McDaniel.

     To reflect the foregoing and the concessions of petitioners,

                                        Decision will be entered

                                   for respondent.
