                          T.C. Memo. 1997-506



                        UNITED STATES TAX COURT



                  ELOISE GADDY JOENS, Petitioner v.
            COMMISSIONER OF INTERNAL REVENUE, Respondent



       Docket No. 6306-95.                      Filed November 10, 1997.



       Edward P. Phillips, for petitioner.

       William B. McCarthy, for respondent.



                           MEMORANDUM OPINION


       PARR, Judge:   Respondent determined deficiencies in, and

additions to, petitioner's Federal income taxes as follows:

                                              Additions to Tax

Year    Deficiency     Sec. 6653(b)(1)     Sec. 6653(b)(2)       Sec. 6661
1982     $9,668            $4,834        50% of the interest       $2,417
                                         due on $9,668

1983     22,915           11,458         50% of the interest       5,729
                                         due on $22,915

1984    127,635           63,818         50% of the interest      31,112
                                         due on $127,635
                                 -2-


     All section references are to the Internal Revenue Code in

effect for the taxable years in issue, and all Rule references

are to the Tax Court Rules of Practice and Procedure, unless

otherwise indicated.    All dollar amounts are rounded to the

nearest dollar.

     After concessions, the issues for decision are: (1) Whether

petitioner qualifies as an innocent spouse under section 6013(e)

for 1982, 1983, and 1984.    We hold she does not.    (2) Whether

petitioner is liable for additions to tax for fraud under section

6653(b) for 1982, 1983, and 1984.      We hold she is.    (3) Whether

petitioner is liable for additions to tax for substantial

understatement for 1982, 1983, and 1984.      We hold she is.

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

The stipulated facts and the accompanying exhibits are

incorporated into our findings by this reference.        At the time

the petition in this case was filed, petitioner resided in

Boynton Beach, Florida.1

General Background

     Petitioner married Nelson Emmens (Emmens) in 1981.

Petitioner and Emmens filed joint returns for 1982, 1983, and

1984, reporting adjusted gross income of ($5,803), $17,956, and

$24,759, respectively, and total taxes of $231, $1,690, and

$2,857, respectively.

     1
          At the time of trial, petitioner had remarried and was
a resident of Urbandale, Iowa.
                                  -3-


     Petitioner and Emmens were divorced in 1994.     However,

petitioner had not lived with Emmens since May 1988, when he was

arrested for narcotics violations.      Emmens has been incarcerated

since that time and is currently serving a 17-year sentence at

the Federal penitentiary in Jesup, Georgia.

Legitimate Business Activities

     From 1978 until December 1984, petitioner owned and operated

the Lake Clarke Beauty Salon (the beauty salon) through a

partnership with her first husband, Bobby Buckner.     In 1982,

1983, and 1984, the beauty salon reported net income of $4,944,

$8,448, and $838, respectively.     Petitioner received a 50-percent

distribution of such amounts.    Petitioner managed the beauty

salon on her own after separating from her first husband and

continued to do so after she married Emmens.     Petitioner kept

records for the beauty salon and ensured that tax returns for the

business were filed.

     During the years in issue, Emmens was a self-employed

locksmith.   Emmens operated the business as a sole proprietorship

in 1981 and 1982, and incorporated the business as Nelson

Locksmith, Inc. (Nelson Locksmith or the corporation) in 1983.

In 1982, Nelson Locksmith generated a $8,276 net loss, reflected

on the joint return filed by petitioner and Emmens.     In 1983,

Emmens reported $1,200 in wages from Nelson Locksmith.

Petitioner and Emmens owned the building in which Nelson
                                  -4-


Locksmith operated, and the corporation paid them $1,500 per

month rent.    On the 1983 joint return, petitioner and Emmens

reported rental income from Nelson Locksmith of $12,301.2

     Emmens sold Nelson Locksmith in January 1984.    On their 1984

joint return, petitioner and Emmens reported a $20,753 gain

attributable to the sale of the business and rental income of

$2,243.

     Petitioner was an authorized signatory on the bank accounts

of Nelson Locksmith.    Additionally, petitioner occasionally wrote

checks on this account for both business and personal purposes.

Criminal Activity

     During the years in issue, Emmens was involved in narcotics

trafficking.    He and various other individuals, including John

Sydoriak (Sydoriak) and Vincent Kadyszewski (Kadyszewski),

smuggled substantial amounts of marijuana and cocaine into the

United States from the Bahamas.

     The typical narcotics transaction would proceed as follows.

Three boats would depart from Delray Beach, Florida (Delray

Beach), and travel to Bimini, Bahamas (Bimini).    The boats were



     2
          The parties stipulated that for 1983 Nelson Locksmith
paid petitioner and Emmens $1,500 per month, and that they
reported $12,301 of rental income on their joint return. We
realize that the reported rental income for 1983 is less than
$18,000 ($1,500 x 12). The record is silent as to whether
petitioner and Emmens received $1,500 each month for 12 months in
1983. Thus, we find that the $5,699 is a concession by
respondent in favor of petitioner.
                                  -5-


equipped with highly sophisticated electronics which were

installed and maintained by a social acquaintance of Emmens and

petitioner.   The electronics allowed the boats to scan the

communication frequencies of the Drug Enforcement Agency (DEA),

Customs Agency (Customs), and local law enforcement agencies.

Additionally, the boats could communicate with each other, and

with other individuals involved in the operation on the mainland.

Petitioner would assist in monitoring these communications from

the mainland.

     Once the boats arrived in Bimini, they would wait for a

plane to approach.   They would then contact the plane by radio,

and put a flag on top of one of the boats so the pilot could

distinguish where they were located.    Once this was accomplished,

the plane would drop the drugs into the water.   The first boat

would then serve as a "scout" boat, and the remaining two boats

would serve as "pick up" boats.

     On a typical drug run, the participants would leave Delray

Beach at approximately 3 or 4 a.m. and not return until evening.

The participants would usually remain on the boats for

approximately 12 to 18 hours for such transactions.   Accordingly,

the participants would bring food and other supplies along on

such trips.   Petitioner would occasionally outfit the boats with

these needed supplies for the trips.
                                -6-


     Petitioner had an active role in the drug smuggling

operation.   She was present during conversations regarding the

drug smuggling.   On at least one occasion, she helped "off-load"

drugs from a boat in Delray Beach after a transaction.

Furthermore, petitioner had access to large amounts of cash and

would occasionally "pay-out" other participants in the operation.

     In addition to conducting the smuggling operation by boat,

Emmens also began to utilize planes for the narcotics

transactions.   In furtherance of this scheme, he purchased

several planes.

     Emmens earned a substantial income from the drug business,

mostly in cash.   Petitioner used some of this cash to purchase

expensive gifts for both herself and Emmens, including a parcel

of real estate and various items of jewelry.    In addition,

petitioner traveled to Paris, France, on the Concorde.

     On May 11, 1988, Emmens landed one of his planes, which was

carrying a load of cocaine, on the private airstrip located

behind his and petitioner's home.     As he was taxiing the plane

into the hangar, a Customs helicopter landed; Customs agents

thereafter arrested Emmens for narcotics violations.    Emmens

pleaded guilty to narcotics trafficking and was sentenced to 210

months in prison and fined.

     Within 24 hours of his arrest, the Internal Revenue Service

(IRS) obtained a search warrant for his and petitioner's
                                 -7-


residence.    Upon execution of the warrant, Special Agents for the

IRS found no financial records pertaining to Emmens and

petitioner.   At that time, Emmens was in Federal custody and

access to the residence was under petitioner's control.

Petitioner had removed many items from the residence, including a

file cabinet containing financial records.   Special Agents also

found a floor safe in the residence that was open and empty.

     Thereafter, the tax investigation, which proceeded

separately from the narcotics investigation, was expanded to

include petitioner and Kadyszewski, in addition to Emmens.

Petitioner and Emmens were subsequently indicted for tax evasion

under section 7201 for 1982, 1983, and 1984.   Kadyszewski was

indicted for conspiracy.   Emmens pleaded guilty to tax evasion

for 1984.    The terms of the plea agreement included the dismissal

of the criminal tax case against petitioner and the dismissal of

the remaining criminal tax counts against Emmens.   Kadyszewski

subsequently went to trial and was convicted for conspiracy to

defraud the United States.

Real Estate

     Prior to her marriage to Emmens, petitioner owned a

residence on Flamango Lakes Drive3 in West Palm Beach, Florida

(the Flamango Lakes property or the property).   Petitioner and


     3
          In light of some confusion at trial, we note that
petitioner owned a residence on "Flamango Lakes Drive", and not
"Flamingo Lakes Drive."
                                 -8-


Emmens held their wedding at the property and lived there for a

period of time.   When petitioner and Emmens decided to move, they

put the Flamango Lakes property up for sale.    The purchase of a

new residence, however, was not contingent on the sale of the

Flamango Lakes property.   The property was not sold and was

subsequently converted into rental property in June 1984.

Petitioner maintained the monthly rental income records

pertaining to the Flamango Lakes property.

     Petitioner and Emmens moved from the Flamango Lakes property

in 1984 to a house in Antiquers Aerodrome (the Aerodrome

property), a development in Delray Beach in which all the homes

have access to a private airstrip.     The Aerodrome property, which

was purchased for $250,000 in cash, had four bedrooms, three

baths, a pool, and a hangar in the backyard.    The record owner of

the Aerodrome property, however, was Palm Beach Property

Investments, Inc. (Palm Beach Property Investments), which was

incorporated by Kadyszewski.   The corporation was used to conceal

the ownership of the Aerodrome property.    Although petitioner and

Emmens lived at this property, they did not pay rent to Palm

Beach Property Investments.    Further, petitioner was present at a

meeting of the Antiquers Aerodrome homeowner's board where the

titling of the property in a corporate name was discussed.

Petitioner and Emmens lived at the Aerodrome property for 1 year,

and then moved to a residence on Gardenia Street (the Gardenia
                                -9-


residence) in Delray Beach.4   The Gardenia residence was a

waterfront home.

     In addition to these various houses, petitioner bought a

vacant lot in Antiquers Aerodrome in 1986 (the lot).    The

purchase price of the lot was approximately $72,000.    The entire

purchase price was financed by Kadyszewski.

Automobiles

     In March 1982, petitioner purchased a 1982 Cadillac Eldorado

for $28,250.

     In January 1984, petitioner and Emmens purchased a 1984

Chevrolet Cavalier for $16,095 as a birthday present for

petitioner's daughter.   As part of the $5,000 down payment for

this vehicle, petitioner wrote a check for $4,000.   In addition,

Palm Beach Property Investments held title to another Cadillac

that petitioner and Emmens utilized.

Boats and Airplanes

     Emmens and Kadyszewski owned various boats and airplanes

which were used in the narcotics smuggling operation.    The record

owners of these boats and planes, however, were corporations



     4
          It is unclear from the record how long petitioner and
Emmens lived at the Gardenia residence. At some point, however,
petitioner and Emmens moved back to Antiquers Aerodrome to a
different house, as Emmens was arrested on the private airstrip.
The parties stipulated that "[t]he address of [the Aerodrome]
property was later changed..." At trial, however, petitioner
referred to 2 different residences in the Antiquers Aerodrome
development, the second of which had a safe.
                                 - 10 -


designed to conceal ownership.     One such corporation was Flo-Mar,

Inc. (Flo-Mar).

     In November 1982, Flo-Mar, through its agent Kadyszewski,

purchased a 1983 Offshore Open Fisherman boat for $25,000.

     Petitioner, who was a notary public, notarized the transfer

of the boat titles among the various corporations.

     In November 1984, Flo-Mar, through its agent Emmens,

purchased a 1979 Cessna airplane for $60,000, $30,000 of which

was paid in cash.

     Emmens was the president of Aladen Air Service, Inc.

(Aladen), and petitioner was the secretary/treasurer.    In

addition to being a corporate officer of Aladen, petitioner was

an authorized signatory on the corporation's bank account.    In

April 1984, Aladen purchased a 1974 Cessna airplane for $114,500.

Petitioner was aware of this purchase.

     On occasion, petitioner and Emmens used these boats and

planes for social purposes.

Discussion

     We begin by noting that, as a general rule, the

Commissioner's determinations are presumed correct, and the

taxpayer bears the burden of proving otherwise.    Rule 142(a);

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

however, bears the burden of proof as to the addition to tax for

fraud.   Sec. 7454(a); Rule 142(b).
                                - 11 -


     Respondent used the net worth method to calculate

petitioner's income for the years in issue.    Indirect methods of

computing a taxpayer's income, such as the net worth method, are

appropriate where the taxpayer fails to maintain records

sufficient to enable the Commissioner to determine the taxpayer's

correct tax liability.    Holland v. United States, 348 U.S. 121

(1954).    The use of the net worth method was appropriate here, as

petitioner did not keep adequate financial records, and

"sanitized" her residence following Emmens' arrest.

     Petitioner has not challenged, at trial or on brief, the

accuracy of respondent's determinations in the notice of

deficiency.   She claims only that she is not liable for the

deficiencies and additions to tax for the years in issue because

she is entitled to innocent spouse status and did not participate

in or have any knowledge of her then-husband's illegal

activities.

Issue 1.   Innocent Spouse Status

     Respondent determined that petitioner and Emmens had

unreported income of $41,908 in 1982, $58,745 in 1983, and

$262,147 in 1984.   The majority of this income came from

narcotics trafficking.   Petitioner asserts that she is not liable

for the resulting deficiencies in, and additions to, Federal

income tax for the years in issue because she qualifies as an

innocent spouse pursuant to section 6013(e).
                                - 12 -


     Spouses who file a joint return generally are jointly and

severally liable for its accuracy and the tax due, including any

additional taxes, interest, or penalties determined on audit of

the return.   Sec. 6013(d).   However, section 6013(e) provides an

exception.    A spouse (commonly referred to as an innocent spouse)

is relieved of tax liability if that spouse proves:   (1) A joint

return was filed for the years in issue; (2) the return contained

a substantial understatement (defined in section 6013(e)(3) as

any understatement over $500) of tax attributable to grossly

erroneous items of the other spouse; (3) in signing the return,

the spouse seeking relief did not know, and had no reason to

know, of the substantial understatement; and (4) it would be

inequitable to hold the relief-seeking spouse liable for the

deficiency attributable to the understatement.    Sec. 6013(e)(1);

Flynn v. Commissioner, 93 T.C. 355, 359 (1989).

      The spouse seeking relief bears the burden of proving that

each of the four requirements has been satisfied.   Rule 142(a);

Stevens v. Commissioner, 872 F.2d 1499, 1504 (11th Cir. 1989),

affg. T.C. Memo. 1988-63; Russo v. Commissioner, 98 T.C. 28, 31-

32 (1992); Sonnenborn v. Commissioner, 57 T.C. 373, 381 (1971).

Failure to prove any one of the four statutory requirements will

prevent innocent spouse relief.    Stevens v. Commissioner, supra;

Bokum v. Commissioner, 94 T.C. 126, 138-139 (1990), affd. 992

F.2d 1132 (11th Cir. 1993).
                                - 13 -


     The parties have stipulated that joint returns were filed

for the years in issue.   Respondent contends, however, that

petitioner does not meet the remaining section 6013 requirements.

     Thus, the controversy herein focuses on three issues:         (1)

Whether the substantial understatements are attributable to

grossly erroneous items of petitioner's then-husband, Emmens; (2)

whether petitioner did not know, and had no reason to know, of

the substantial understatements when she signed the return in

each of the years in issue; and (3) whether it would be

inequitable to hold petitioner liable for the income tax

deficiencies attributable to such substantial understatements.

     Based on the entire record, we find that the omissions from

income are not grossly erroneous items attributable to Emmens

alone, that petitioner knew or had reason to know of the

understatements when she signed the returns, and that it is not

inequitable to hold her liable for tax.

     Grossly Erroneous Items

     Petitioner must establish that there was a substantial

understatement of tax attributable to grossly erroneous items of

her then-husband, Emmens.   Sec. 6013(e)(1)(B).       "Understatement"

is defined as the amount of tax required to be shown on the

return less the amount of tax shown on the return, reduced by any

rebate.   Sec. 6661(b)(2)(A).   A substantial understatement is any

understatement that exceeds $500.        Sec. 6013(e)(3).   Any item
                                - 14 -


omitted from gross income is grossly erroneous.    Sec.

6013(e)(2)(A).    In addition, any claim of a deduction in an

amount for which there is no basis in fact or law is grossly

erroneous.   Sec. 6013(e)(2)(B).    A deduction has no basis in fact

when the expense for which the deduction is taken was not made,

and a deduction has no basis in law if the expense is not

deductible under well-established legal principles or if no

substantial legal argument can be made to support its

deductibility.    Douglas v. Commissioner, 86 T.C. 758, 762-763

(1986).

     Respondent determined that petitioner and Emmens had

unreported income of $41,908 in 1982, $58,745 in 1983, and

$262,147 in 1984.    The majority of this income came from

narcotics trafficking.    Omissions from gross income are grossly

erroneous.   Sec. 6013(e)(2).   The understatement of tax for each

year attributable to the omitted income is substantial because it

exceeds $500.    Sec. 6013(e)(3).

     Respondent contends that petitioner was an integral part of

the narcotics trafficking operation and that she played a

significant role in both the generation and concealment of the

unreported income.    Petitioner claims that she never engaged in

her then-husband's narcotics trafficking operation and was

completely unaware of his involvement with drug smuggling until

the date of his arrest, May 11, 1988.    Therefore, petitioner
                                 - 15 -


contends, section 6013(e)(1)(B) is satisfied because the omitted

income came solely from her then-husband's narcotics trafficking.

     Petitioner's testimony that she was completely unaware of

her then-husband's narcotics trafficking is implausible.

Respondent's witness, Sydoriak, testified as to petitioner's

function in the drug smuggling operation.       At trial, Sydoriak

indicated that petitioner helped outfit the boats with food

supplies for the drug runs.    Once the boats were underway,

petitioner also assisted in monitoring radio transmissions.

Furthermore, Sydoriak testified regarding specific instances

where petitioner was directly handling large sums of cash and

drugs.

     Although Sydoriak was not an irreproachable witness, we find

that his testimony was credible.      Sydoriak had extremely detailed

knowledge of the operation in general and had no incentive to

testify other than truthfully.

     Moreover, based on petitioner's testimony, we find it highly

unlikely that she had no involvement in the operation and was

completely unaware of the narcotics trafficking until 1988.

Petitioner testified that she flew to Paris on the Concorde in

1985.    Petitioner claimed that she did not pay for her ticket,

but flew there with a girlfriend who had bought a ticket on a

"buy one-get one free" arrangement.       Petitioner testified that

she thought her girlfriend was just being "nice".       While in
                                 - 16 -


Paris, petitioner opened a bank account (the account).         At trial,

petitioner testified that she did not want to open the account,

but her friend insisted.   Petitioner claims that her girlfriend

even gave her the $3,000 with which to open the account.

Petitioner claims the reason she opened the account was so she

could be "a lady of the '80s".     Coincidentally, petitioner

testified that deposits could also be made to the account from

the Bahamas, the very location from which Emmens, her then-

husband, was smuggling narcotics.         Furthermore, the husband of

petitioner's girlfriend was also involved in the drug business

with Emmens.

     Thus, we reject petitioner's argument that the substantial

understatement was attributable solely to Emmens' grossly

erroneous items.   We find that petitioner assisted Emmens in drug

smuggling and enjoyed the benefits of the illegally generated and

unreported income.   Petitioner did not satisfy this second

requirement and is not entitled to innocent spouse relief.

Knowledge of Understatements on the Returns

     Assuming however, arguendo, that petitioner satisfied the

grossly erroneous requirement, she still is not entitled to

innocent spouse status.    To be entitled to relief as an innocent

spouse, petitioner must show that, in signing the joint returns

for the years in issue, she did not know and had no reason to
                                - 17 -


know of the substantial understatements of tax.   Sec.

6013(e)(1)(C).

     In Stevens v. Commissioner, 872 F.2d 1499, the Court of

Appeals for the Eleventh Circuit, in refusing to grant innocent

spouse relief, approved our application of its "reason to know"

standard.   The Court of Appeals stated that the "reason to know"

standard is based on whether a "reasonably prudent taxpayer under

the circumstances of the spouse at the time of signing the return

could be expected to know that the tax liability stated was

erroneous or that further investigation was warranted".    Id. at

1505; see also Sanders v. United States, 509 F.2d 162 (5th Cir.

1975).   The test establishes a "duty of inquiry" on the part of

the alleged innocent spouse.    Stevens v. Commissioner, supra.    As

pointed out in Mysse v. Commissioner, 57 T.C. 680, 699 (1972), a

spouse cannot close her eyes to facts that might give her reason

to know of unreported income.   Furthermore, the alleged innocent

spouse's role as homemaker and complete deference to the

husband's judgment concerning the couple's finances, standing

alone, are insufficient to establish that a spouse had no "reason

to know".   Stevens v. Commissioner, supra at 1506.

     In deciding whether petitioner had "reason to know" of the

substantial understatements when she signed the returns, we take

into account:    (1) Her level of education; (2) her involvement in

the family's business and financial affairs; (3) the presence of
                                - 18 -


expenditures that appear lavish or unusual when compared to the

family's past levels of income, standard of living, and spending

pattern; and (4) the culpable spouse's evasiveness and deceit

concerning the couple's finances.        Kistner v. Commissioner, 18

F.3d 1521, 1525 (11th Cir. 1994), revg. T.C. Memo. 1991-463;

Stevens v. Commissioner, supra.     The foregoing factors are

considered "because, ordinarily, they predict what a prudent

person would realize regardless of the other spouse's evasiveness

or deceit".    Bliss v. Commissioner, 59 F.3d 374, 379 (2d Cir.

1995), affg. T.C. Memo. 1993-390.

     Petitioner did not have a college education.       She never had

any formal courses in bookkeeping or accounting.       She was,

however, the owner of her own business, Lake Clarke Beauty Salon.

Petitioner began at the beauty salon as a "junior operator" and

eventually purchased the business with her first husband.         As

owner of the beauty salon, petitioner kept records and ensured

that tax returns for the business were filed.       Petitioner managed

the beauty salon on her own after separating from her first

husband and continued to do so after she married Emmens.       In

addition, petitioner also kept records for rental property which

she owned.    Therefore, in considering her level of education, we

find that petitioner had a practical education in business.

     Petitioner was also intimately involved in the family's

financial affairs.   She had access to the family bank accounts;
                                - 19 -


she made deposits to and wrote checks on those accounts.

Furthermore, petitioner was a signatory and wrote checks on

Emmens' locksmith business account.

     Moreover, there were several expenditures that appear lavish

or unusual when compared to the family's past levels of income,

standard of living, and spending pattern.        The family moved to a

new house, purchased new cars, and acquired various planes and

boats which were used in the drug smuggling operation.        The

Aerodrome property was paid for in cash, and some of the other

assets were paid in full.   Petitioner knew the Aerodrome property

was held in a corporate name.   Petitioner testified that she

believed the Aerodrome property belonged to Kadyszewski and that

he was simply being "nice" by letting the family live there rent-

free.   Petitioner also testified that she believed the other

assets, including the plane Emmens was using, "just belonged to

Vince", referring to Kadyszewski.        We are not convinced.

     Additionally, petitioner's claim that Emmens made all of the

household financial decisions does not aid in awarding her

innocent spouse status.   As we noted, a spouse's complete

deference to the husband's judgment concerning the family

finances, standing alone, is insufficient to establish that a

spouse had no reason to know.   Stevens v. Commissioner, supra at

1506.   Furthermore, petitioner's assertion that Emmens was

evasive and deceitful regarding the family finances and his
                               - 20 -


illegal income does not support her contention that she had no

reason to know about the understatements of tax.     Instead of

exculpating petitioner, the evasiveness should have caused her to

question her then-husband's activities and investigate the tax

returns further.   See id. at 1507.     Petitioner testified that

Emmens "was always sticking papers in front of [her] to sign",

kept extremely unusual work hours, and was very secretive about

his business.   Petitioner further testified that he was a

"dominant person"; however, she was not prevented from examining

the returns or any other documents.     A reasonably prudent person

in petitioner's position would have been prompted to inquire

further into the joint tax liability.

     During the years in issue, petitioner lived a lifestyle that

far exceeded the income reported on her and Emmens' joint tax

returns.   Their legitimate locksmith and beauty salon activities

were only marginally profitable.    Accordingly, we find that

petitioner knew, or should have known of the substantial

understatements of tax.

     Not Equitable To Hold Petitioner Liable

     To be entitled to relief as an innocent spouse, petitioner

must show that it would be inequitable to hold her liable for the

deficiencies in tax for the years at issue.     Sec. 6013(e)(1)(D).

Again assuming, arguendo, that petitioner had satisfied the

knowledge requirement, she still is not entitled to innocent
                               - 21 -


spouse status because she failed to prove that it would be

inequitable to hold her liable.

     In deciding whether it is inequitable to hold a spouse

liable for a deficiency, we consider whether the purported

innocent spouse "significantly benefited", either directly or

indirectly, from the unreported income.    Hayman v. Commissioner,

992 F.2d 1256, 1262 (2d Cir. 1993), affg. T.C. Memo. 1992-228;

Belk v. Commissioner, 93 T.C. 434, 440 (1989); Purcell v.

Commissioner, 86 T.C. 228, 241 (1986), affd. 826 F.2d 470 (6th

Cir. 1987); sec. 1.6013-5(b), Income Tax Regs.    Normal support is

not considered a significant benefit.     Terzian v. Commissioner,

72 T.C. 1164, 1172 (1979); sec. 1.6013-5(b), Income Tax Regs.    We

consider the lifestyle to which the taxpayer is accustomed when

considering what constitutes normal support.     Sanders v. United

States, 509 F.2d at 168; Belk v. Commissioner, supra.

     It is also relevant to consider whether the spouse claiming

relief has been deserted, divorced, or separated.    Sec. 1.6013-

5(b), Income Tax Regs.   We note that petitioner is now divorced

from Emmens and has since remarried.    We further recognize,

however, that petitioner was not divorced from Emmens until 1994,

after he had entered into a plea agreement for violation of

section 7201.   The provisions of this plea agreement included the

dismissal of all criminal counts of tax liability against

petitioner.   In addition, we examine the probable future
                                - 22 -


hardships that would be imposed on the spouse seeking relief, if

such relief were denied.   Sanders v. United States, supra.

     Petitioner contends that she did not enjoy any economic

benefit beyond normal support from the understatement.   In

support of her contention, petitioner claims that Emmens "never

spent any money on her" and that Emmens' girlfriends benefitted

from his unreported income.   This contention overlooks the fact

that petitioner moved to a new house, drove a new Cadillac,

occasionally utilized the planes and boats from the drug

smuggling operation for personal and social use, and generally

lived a lifestyle that exceeded normal support.

     Considering all the facts and circumstances involved herein,

we conclude that it would not be inequitable to hold petitioner

liable for the determined understatement.

     Accordingly, we hold that petitioner is not an innocent

spouse under section 6013(e).

Issue 2.   Addition to Tax for Fraud

     Respondent determined that petitioner is liable for the

addition to tax for fraud under section 6653(b) for the years at

issue.   Petitioner asserts that she is not liable for the

addition to tax for fraud because she lacked fraudulent intent

and had no knowledge of Emmens' illegal activities.

     If any part of an underpayment is due to fraud, a taxpayer

is liable for an addition to tax equal to 50 percent of the
                                - 23 -


underpayment.   Sec. 6653(b).   In addition, there is added to the

tax 50 percent of the interest due on the portion of the

underpayment attributable to fraud.      Sec. 6653(b)(2).   In the

case of joint returns, assessing the addition to tax for fraud

against both taxpayers requires participation of both the husband

and wife in the fraud.   Sec. 6653(b)(4).

     The Commissioner has the burden of proving fraud by clear

and convincing evidence.   Sec. 7454(a); Rule 142(b); Parks v.

Commissioner, 94 T.C. 654, 660 (1990).      First, the Commissioner

must prove that there is an underpayment.      Parks v. Commissioner,

supra.   The Commissioner may not rely on the taxpayer's failure

to carry the burden of proving the underlying deficiency.       Id. at

660-661.   Second, the Commissioner must show that the taxpayer

intended to evade taxes by conduct intended to conceal, mislead,

or otherwise prevent tax collection.      Stoltzfus v. United States,

398 F.2d 1002, 1004 (3d Cir. 1968); Parks v. Commissioner, supra

at 661; Rowlee v. Commissioner, 80 T.C. 1111, 1123 (1983).

     Underpayment

     The Commissioner may prove that the taxpayer underpaid tax

by proving that the taxpayer had a likely source of the

unreported income, Holland v. United States, 348 U.S. 121 (1954);

Parks v. Commissioner, supra; Nicholas v. Commissioner, 70 T.C.

1057 (1978), or, where the taxpayer alleges a nontaxable source,

by disproving the alleged nontaxable source; United States v.
                                 - 24 -


Massei, 355 U.S. 595 (1958); Kramer v. Commissioner, 389 F.2d

236, 239 (7th Cir. 1968), affg. T.C. Memo. 1966-234; Parks v.

Commissioner, supra.     Petitioner does not allege that she had

nontaxable sources of income.    Moreover, we find that

petitioner's involvement in illegal narcotics trafficking

activities was a likely source of the unreported income.

Petitioner and Emmens underpaid the tax due on their joint

returns for each year at issue in which respondent applied the

net worth method.

     Fraudulent Intent

     Respondent must prove by clear and convincing evidence that

petitioner had fraudulent intent.         Parks v. Commissioner, supra

at 664.    Fraud is defined as actual, intentional wrongdoing,

Mitchell v. Commissioner, 118 F.2d 308, 310 (5th Cir. 1941),

revg. 40 B.T.A. 424 (1939), or intentionally committing an act

for the specific purpose of evading a tax believed to be owing,

Webb v. Commissioner, 394 F.2d 366, 377 (5th Cir. 1968), affg.

T.C. Memo. 1966-81.

     The Commissioner may prove fraud by circumstantial evidence

because direct evidence of the taxpayer's intent is rarely

available.    Stephenson v. Commissioner, 79 T.C. 995, 1005-1006

(1982), affd. 748 F.2d 331 (6th Cir. 1984).        The courts have

developed a number of objective indicators or "badges" of fraud,

such as:    (1) A pattern of substantial understatements of income,
                                - 25 -


(2) inadequate books and records, (3) implausible or inconsistent

explanations of behavior, (4) engaging in illegal activities, (5)

failure to cooperate with tax authorities, (6) concealing assets,

and (7) dealing in excessive amounts of cash.    Bradford v.

Commissioner, 796 F.2d 303, 307-308 (9th Cir. 1986), affg. T.C.

Memo. 1984-601; Estate of Mazzoni v. Commissioner, 451 F.2d 197,

202 (3d Cir. 1971), affg. T.C. Memo. 1970-37.   We consider all of

the facts and circumstances of each case to decide if fraudulent

intent is present.   King's Court Mobile Home Park, Inc. v.

Commissioner, 98 T.C. 511, 516 (1992); Recklitis v. Commissioner,

91 T.C. 874, 910 (1988).    Upon examination of the entire record,

we conclude that petitioner's underpayment of Federal income

taxes for 1982, 1983, and 1984 is attributable to fraud.

     A pattern of consistent underreporting of income for several

years, especially when accompanied by other circumstances showing

intent to conceal, such as illegal narcotics trafficking, is

strong evidence of fraud.    Holland v. United States, supra;

Patton v. Commissioner, 799 F.2d 166, 171 (5th Cir. 1986), affg.

T.C. Memo. 1985-148; Estate of Mazzoni v. Commissioner, supra;

Anderson v. Commissioner, 250 F.2d 242, 250 (5th Cir. 1957),

affg. on this issue T.C. Memo. 1956-178.   Petitioner had

unreported income of $41,908 in 1982, $58,745 in 1983, and

$262,147 in 1984.
                                - 26 -


     A taxpayer's failure to keep adequate records is a badge of

fraud.    Bradford v. Commissioner, supra; Lollis v. Commissioner,

595 F.2d 1189, 1192 (9th Cir. 1979), affg. T.C. Memo. 1976-15.

Petitioner did not keep adequate records.

     Implausible or inconsistent explanations of behavior by a

taxpayer can show that he or she had fraudulent intent.       Bradford

v. Commissioner, supra at 307; Grosshandler v. Commissioner, 75

T.C. 1, 20 (1980).    Petitioner's testimony was not credible.

Petitioner's claim that she was uninvolved and completely unaware

of the drug trafficking operation is implausible.

     Engaging in illegal activities is evidence that the taxpayer

intends to evade tax.    Bradford v. Commissioner, supra at 308;

see Patton v. Commissioner, supra (income from illegal activities

is a badge of fraud).    Petitioner engaged in illegal drug

activities during the years in issue.

     A taxpayer's failure to cooperate with the Commissioner's

examining agents is a badge of fraud.     Bradford v. Commissioner,

supra.    Petitioner did not cooperate with respondent's examining

agents.    Instead, she removed several things from her home,

including a file cabinet containing financial records, before IRS

agents could execute a search warrant.

     If a taxpayer conceals assets, it is evidence of fraud.

Bradford v. Commissioner, supra.     Petitioner's home, automobile,
                               - 27 -


and various assets used in the drug trafficking operation were

held by corporations in order to conceal ownership.

     Extensive dealing in large amounts of cash also constitutes

evidence of fraud.   Estate of Mazzoni v. Commissioner, supra.

Various assets used in the drug trafficking operation were paid

for in full, and petitioner's $250,000 home was paid for in cash.

On occasion, petitioner would also "pay-out" other members of the

smuggling operation in cash.

     After scrutinizing the above-mentioned factors, in

combination with the testimony of Sydoriak, we conclude that the

record contains clear and convincing evidence of petitioner's

intent to conceal, mislead, or otherwise prevent the collection

of taxes on the unreported income for the years in issue.    We

hold that the understatements of tax attributable to the

unreported income were due to fraud.    Accordingly, we sustain

respondent's determination that petitioner is liable for

additions to tax for fraud.

Issue 3.   Addition to Tax for Substantial Understatement

     Respondent determined that petitioner is liable for

additions to tax for substantial understatement under section

6661 for the years in issue.   Petitioner asserts that she is

entitled to innocent spouse status and therefore not liable for

the addition to tax for substantial understatement.    We have

found that petitioner is not entitled to innocent spouse status.
                                   - 28 -


       A taxpayer is liable for an addition to tax for substantial

understatement equal to 25 percent of the understatement.5

Pallottini v. Commissioner, 90 T.C. 498 (1988). An understatement

is the excess of the corrected tax over the amount of tax

reflected on the return as filed.           Sec. 6661(b)(2).   An

understatement is "substantial" if it exceeds the greater of

$5,000 or 10 percent of the corrected tax.           Sec. 6661(b)(1).

       There was an understatement each year for the years in

issue.       The understatements were "substantial" because they

exceeded the greater of $5,000 or 10 percent of the corrected

tax.       Accordingly, the additions to tax under section 6661 are

sustained.

       For the foregoing reasons,



                                                 Decision will be entered

                                            under Rule 155.




       5
          This addition to tax does not apply to returns due
after Dec. 31, 1989.
