                  T.C. Memo. 2010-84



                UNITED STATES TAX COURT



   FRANKLIN M. AND ERLINDA L. SYKES, Petitioners v.
     COMMISSIONER OF INTERNAL REVENUE, Respondent



Docket No. 7275-08.              Filed April 21, 2010.



     R determined a deficiency and an accuracy-related
penalty pursuant to sec. 6662(a), I.R.C., for the 2004 tax
year. After R’s concessions, the issues for decision are:
(1) Whether Ps are entitled to a casualty loss deduction
pursuant to sec. 165(c), I.R.C.; and (2) whether Ps are
liable for the accuracy-related penalty pursuant to sec.
6662(a), I.R.C.

     Held: Ps are liable for the deficiency and the
accuracy-related penalty.



Franklin M. Sykes, pro se.

Donna F. Herbert, for respondent.
                               - 2 -

             MEMORANDUM FINDINGS OF FACT AND OPINION


     WHERRY, Judge:   This case is before the Court on a petition

for redetermination of an alleged income tax deficiency that

respondent determined for petitioners’ 2004 tax year.   After

concessions by respondent,1 the issues for decision are:   (1)

Whether petitioners are entitled to a $28,877 casualty loss

claimed on Schedule A, Itemized Deductions, pursuant to section

165(c) for water damage sustained to their home; and (2) whether

petitioners are liable for a section 6662 accuracy-related

penalty.2

                         FINDINGS OF FACT

     Some of the facts have been stipulated, and the stipulated

facts and accompanying exhibits are hereby incorporated by

reference into our findings.   At the time they filed their

petition, petitioners resided in California.

     On or about September 29, 2004, petitioners’ home sustained

water damage due to the bursting of a bathroom sink water pipe.

Petitioners submitted a claim to their insurance company and



     1
      Respondent conceded expense adjustments of $1,913 relating
to auto and travel, $2,091 relating to depreciation for
petitioners’ home, and $4,681 relating to mortgage interest for
petitioners’ home.
     2
      Unless otherwise indicated, all section references are to
the Internal Revenue Code of 1986, as amended and in effect for
the tax year at issue, and all Rule references are to the Tax
Court Rules of Practice and Procedure.
                               - 3 -

received a settlement check on or about February 23, 2005, in the

amount of $4,330.51.   The insurance company’s evaluation of the

damage was based on a building repair estimate of $6,098.71, from

which the company subtracted a $1,000 deductible and $768.20 for

depreciation.

     Petitioners allege that the loss relating to the water

damage was greater than that allowed by their insurance claim.

They claim that the value of their home was reduced by

approximately $45,000 as a result of the water damage, creating

an additional casualty loss for the 2004 tax year of $40,080.3

Petitioners base the estimate of their loss on an appraisal of

their home conducted by Mr. Albert L. Romero.4   Mr. Romero’s

appraisal estimates the value of petitioners’ property as of

November 1, 2004.   It assumes that the property was in “average

overall condition during the effective date of the appraisal” and

states that “Adjustments were made for room count (at $10M per

room / $8M per bath) and gross living area (at $40 per SF

rounded).”   Petitioners use the adjustment values in Mr. Romero’s


     3
      With adjustments the total casualty loss claimed on
petitioners’ Form 1040X, Amended U.S. Individual Income Tax
Return, for 2004 was $28,877.
     4
      The parties dispute the admissibility of Mr. Romero’s
appraisal under Rule 143(g), formerly Rule 143(f). Because of
respondent’s objection and petitioners’ failure to call the
appraiser as a witness to identify his expert report and to be
available for cross-examination about the report, it is
inadmissible. In any event, the outcome of the case does not
turn on the admissibility of the appraisal.
                                 - 4 -

appraisal to estimate the amount of the damage caused by the

burst pipe.   Additionally, petitioners base their estimate on the

“loss of use” of the portion of their home that suffered water

damage during the period they conducted the repairs.

                               OPINION

I.    Burden of Proof

      The Commissioner’s determination of a taxpayer’s liability

is generally presumed correct, and the taxpayer bears the burden

of proving that the determination is improper.    See Rule 142(a);

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

to section 7491(a), the burden of proof on factual issues that

affect the taxpayer’s tax liability may be shifted to the

Commissioner.   Petitioners have not established that they meet

the requirements under section 7491(a)(1) and (2) for such a

shift.   Consequently, the burden of proof remains on them.

Moreover, deductions are a matter of legislative grace, and

petitioners bear the burden of proving that they are entitled to

any of the deductions claimed.     INDOPCO, Inc. v. Commissioner,

503 U.S. 79, 84 (1992).   A taxpayer must keep sufficient records

to substantiate any deductions claimed.    Sec. 6001.

II.   Casualty Loss Expenses

      Section 165(a) allows as a deduction any loss sustained

during the taxable year and not compensated for by insurance or

otherwise.    Section 165(c) limits the allowance of losses in the
                                 - 5 -

case of individuals.   Section 165(c)(3) allows as a deduction to

an individual certain losses commonly referred to as casualty

losses.   A casualty loss is allowable to a taxpayer for a loss of

property not connected with a trade or business or a transaction

entered into for profit if the loss results from “fire, storm,

shipwreck, or other casualty”.    See id.   Pursuant to section

165(h)(2), a net casualty loss is only allowed to the extent it

exceeds 10 percent of adjusted gross income.

     The amount of the casualty loss allowed under sec. 165(a) is

the lesser of the fair market value of the property immediately

before the casualty reduced by the fair market value of the

property immediately after the casualty; or “The amount of the

adjusted basis prescribed” in section 1.1011-1, Income Tax Regs.,

“for determining the loss from the sale or other disposition of

the property involved.”   Sec. 1.165-7(b)(1), Income Tax Regs.

     The method of valuation to be used in determining a casualty

loss is prescribed in section 1.165-7(a)(2), Income Tax Regs.,

which provides as follows:

     (i) In determining the amount of loss deductible under * * *
     [section 165], the fair market value of the property
     immediately before and immediately after the casualty shall
     generally be ascertained by competent appraisal. This
     appraisal must recognize the effects of any general market
     decline affecting undamaged as well as damaged property
     which may occur simultaneously with the casualty, in order
     that any deduction under * * * [section 165] shall be
     limited to the actual loss resulting from damage to the
     property.
                               - 6 -

     (ii) The cost of repairs to the property damaged is
     acceptable as evidence of the loss of value if the taxpayer
     shows that (a) the repairs are necessary to restore the
     property to its condition immediately before the casualty,
     (b) the amount spent for such repairs is not excessive, (c)
     the repairs do not care for more than the damage suffered,
     and (d) the value of the property after the repairs does not
     as a result of the repairs exceed the value of the property
     immediately before the casualty.

Only the amount of the loss resulting from physical damage to

property is deductible under section 165.   Squirt Co. v.

Commissioner, 51 T.C. 543, 547 (1969), affd. 423 F.2d 710 (9th

Cir. 1970).

     In 2007 petitioners retained Albert L. Romero, an allegedly

certified appraiser, to assess the value of their home after

sustaining the water damage.   In his appraisal Mr. Romero

determined that the fair market value of petitioners’ home as of

November 1, 2004, was $715,000, not taking into account the water

damage.   However, petitioners claim that the value of their home

in September 2004, before the pipe burst, was $700,000.

Petitioners allege that the appraisal conducted by Mr. Romero was

overstated due to the “rapidly increasing appreciation of

property in Southern California during the period in question”

and hence, the comparable property values he used were not

reliable.   However, Mr. Romero used six comparable properties in

his appraisal, showing values of $660,500, $718,500, $728,500,

$712,000, $742,000, and $746,500.   To support their position that

Mr. Romero’s appraisal was overstated, petitioners cite
                               - 7 -

zillow.com, an online appraisal service, to estimate that the

fair market value of their home in 2004, not taking into account

the water damage, was approximately $700,000.

     To determine the value of their home after the water damage,

petitioners use Mr. Romero’s valuations of $10,000 per bedroom,

$8,000 per bathroom and $40/square foot, calculating a loss of

approximately $44,831.20.   This calculation assumes the complete

removal of two bedrooms, a bathroom, and various common areas

from their home.   In summary, petitioners claim the value of

their home after the water damage was $655,000, resulting

approximately in a $45,000 casualty loss.

     A review of the evidence compels us to conclude that both

petitioners’ estimates of the before and after values of their

home do not constitute “competent appraisals”, nor are they

otherwise adequate to satisfy the requirements of the statute and

regulations.   Petitioners provide no probative evidence as to why

Mr. Romero’s before appraisal of $715,000 is “overstated” or why

their estimate of $700,000 is more reliable.    Further,

petitioners provide no probative evidence that their calculation

of the casualty loss, based on Mr. Romero’s per-room and square-

foot valuations, is an accurate portrayal of the amount of the

damage.   Petitioners are not experts in the area of home

valuation, and yet they have provided no evidence to the Court

that their $45,000 estimate for the water damage is properly
                                - 8 -

calculated.    Petitioners did not call any witnesses or even

themselves to substantiate the valuation of their casualty loss,

nor did they submit any supplemental materials to establish that

their estimation is reliable.

       Additionally, petitioners have provided no evidence to

sustain their assertion that “the casualty loss was not only the

cost of tearing out, replacing the walls; and, remediating the

mold; but, the substantial loss of use of space, which was not a

part of the insurance company assessment.”     With regard to the

costs of the repair work, petitioners have not provided the Court

with any documentation that shows the actual cost or extent of

the repairs, either in the form of receipts or work reports.

Further, petitioners have submitted no evidence concerning any

loss of use of the residence or any costs associated with such

alleged loss of use other than cryptic notes of the appraiser,

Mr. Romero, stating that adjustments were made for “$10,000 per

room, $8,000 per bathroom, and $40 per square foot.”     Mr.

Romero’s notes do not explain why these estimates were computed

or how the amounts were determined.     Regardless of whether

petitioners could quantify the “loss of use” of their property,

only loss for actual physical damage is deductible under section

165.
                                 - 9 -

     The burden of proving the amount of the casualty loss is on

petitioners, and they have not established that they are entitled

to more than has been allowed.

III. Section 6662 Penalties

     Under section 7491(c), respondent bears the burden of

production with respect to petitioners’ liability for the section

6662(a) penalty.   This means that respondent “must come forward

with sufficient evidence indicating that it is appropriate to

impose the relevant penalty.”     Higbee v. Commissioner, 116 T.C.

438, 446 (2001).

      Section 6662(a) and (b)(1), (2), and (3) imposes an

accuracy-related penalty equal to 20 percent of any portion of an

underpayment attributable to a taxpayer’s negligence or disregard

of rules or regulations, a substantial understatement of tax, or

a substantial valuation misstatement.    Respondent alleges that

petitioners’ actions constitute either negligence or disregard of

the rules or regulations.   Therefore, the Court will not address

whether petitioners’ actions constitute a substantial

understatement of tax or a substantial valuation misstatement.

     Section 6662(c) defines “negligence” as “any failure to make

a reasonable attempt to comply with the provisions of” the

Internal Revenue Code.   “‘Negligence’ also includes any failure

by the taxpayer to keep adequate books and records or to

substantiate items properly.”    Sec. 1.6662-3(b)(1), Income Tax
                                 - 10 -

Regs.     “[D]isregard” of rules and regulations means any

“careless, reckless, or intentional disregard” of rules and

regulations.     Sec. 6662(c).   “A disregard of rules or regulations

is ‘careless’ if the taxpayer does not exercise reasonable

diligence to determine the correctness of a return position that

is contrary to the rule or regulation.”     Sec. 1.6662-3(b)(2),

Income Tax Regs.

      The accuracy-related penalty is not imposed with respect to

any portion of the underpayment as to which the taxpayer acted

with reasonable cause and in good faith.     Sec. 6664(c)(1).   The

determination of whether the taxpayer acted with reasonable cause

and in good faith depends upon all the pertinent facts and

circumstances.     Sec. 1.6664-4(b)(1), Income Tax Regs.   Relevant

factors include the taxpayer’s efforts to assess his proper tax

liability, including the taxpayer’s reasonable and good faith

reliance on the advice of a professional such as an accountant.

Id.     Further, an honest misunderstanding of fact or law that is

reasonable in the light of the experience, knowledge, and

education of the taxpayer may indicate reasonable cause and good

faith.     Id.

        Petitioners submitted no evidence with respect to the

section 6662 penalty.     In their petition for redetermination

petitioners claim that their accountant at the time “didn’t know

what he was doing.”     However, petitioners did not call their
                              - 11 -

accountant as a witness at trial, nor did they testify themselves

as to his alleged incompetence.   See Neonatology Associates, P.A.

v. Commissioner, 115 T.C. 43, 99-100 (2000), affd. 299 F.3d 221

(3d Cir. 2002).

     Petitioners also failed to keep adequate books and records

and/or to substantiate properly the items in question.    Such a

failure is evidence of negligence.     See sec. 1.6662-3(b), Income

Tax Regs.   Consequently, we conclude that respondent has met his

burden of production for his determination of the

accuracy-related penalty based on negligence or disregard of

rules or regulations.   Additionally, with regard to that

determination, petitioners have failed to meet their burden of

proving that they acted with reasonable cause and in good faith.

We therefore sustain respondent’s determination that petitioners

are liable for the accuracy-related penalty on the underpayment

associated with the disallowed itemized deductions of

petitioners.

     We have considered all of the other arguments made by the

parties, and, to the extent that we have not specifically

addressed them, we conclude they are without merit.


                                           Decision will be entered

                                     under Rule 155.
