                          T.C. Memo. 1997-49



                        UNITED STATES TAX COURT



            RICHARD AND BRENDA NELON, Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 1253-94.                       Filed January 28, 1997.



     E. K. Morley, for petitioners.

     Amy J. Sargent, for respondent.



                MEMORANDUM FINDINGS OF FACT AND OPINION

     GERBER, Judge:     In a notice of deficiency dated October 21,

1993, respondent determined the following income tax deficiencies

and additions with respect to petitioner Richard Nelon's Federal

income taxes:
                                       - 2 -

                                          Additions to Tax
                          Sec.           Sec.            Sec.           Sec.
Year       Deficiency    6651(f)   6653(b)(1)(A)      6653(b)(1)        6654
                                     1
1986        $77,772        -0-        $58,329              -0-         $3,762
1988         75,917        -0-           -0-           $56,938          4,855
1989         90,355     $67,766          -0-              -0-           6,110
1990         79,886      59,915          -0-              -0-           5,261
1991         96,053      72,040          -0-              -0-           5,526
      1
        In addition, with respect to the taxable year 1986, respondent has
determined an addition to tax pursuant to sec. 6653(b)(1)(B) in an amount
equal to 50 percent of the interest due on the underpayment attributable to
fraud.

Respondent also determined a deficiency and additions to tax

against petitioners, jointly, for the 1987 taxable year.

                                            Additions to Tax
                                          Sec.                Sec.
       Year         Deficiency       6653(b)(1)(A)            6661
                                       1
       1987          $93,523             $70,142             $23,381
             1
               Respondent also determined, with respect to the taxable
       year 1987, an addition to tax pursuant to sec. 6653(b)(1)(B) in an
       amount equal to 50 percent of the interest due on the underpayment
       attributable to fraud.

Finally, as an alternative position, respondent determined that

if the Court does not find liability for sections 6651(f) and/or

6653(b), then the delinquency addition to tax should apply in

each year and the negligence addition should also be applied for

1986, 1987, and 1988.

       After concessions, the remaining issues for our

consideration are:         (1) Whether petitioner Richard Nelon is

liable for additions to tax for fraud under section

6653(b)(1)(A)1 and (B) for the taxable years 1986 and 1987 and



       1
       Section references are to the Internal Revenue Code in
effect for the taxable years at issue. Rule references are to
this Court’s Rules of Practice and Procedure.
                                - 3 -


under section 6653(b)(1) for the taxable year 1988; (2) whether

petitioner Richard Nelon is liable for additions to tax for

fraudulent failure to file income tax returns under section

6651(f) for the taxable years 1989 through 1991; (3) whether

petitioner Richard Nelon is liable, in the alternative, for a 25-

percent addition to tax under section 6651(a)(1); and (4) whether

petitioner Richard Nelon is liable, in the alternative, for a 5-

percent addition to tax under section 6653(a)(1)(A) and (B) for

1986 and 1987 and section 6653(a)(1) for 1988.

                          FINDINGS OF FACT2

     Petitioners Richard and Brenda Nelon resided in

Rutherfordton, North Carolina, at the time the petition in this

case was filed.3    Richard Nelon (petitioner) left high school

when he was 16 years old, and he is inexperienced in bookkeeping

and financial matters.    Petitioner operated a logging business in

the area around Rutherfordton as a sole proprietorship.    This

activity was his primary source of income during the years 1986

through 1991.    The activity in question was physically demanding

and dangerous work.    In practice, petitioner would have to cut

the standing timber, put it on the truck, and deliver the logs to

the yard.

     2
       The stipulations of facts and the exhibits are
incorporated by this reference.
     3
         Brenda Nelon is a party only with respect to the 1987 tax
year.
                                - 4 -


       Petitioner received compensation in the amounts and years at

issue:

       Year           Amount              Payer
       1986           $24,026        Bristol Industries, Inc.
       1986           142,338        Gilkey Lumber Co.
       1987           249,006        Gilkey Lumber Co.
       1988           241,859        Gilkey Lumber Co.
       1989           293,790        Gilkey Lumber Co.
       1990           254,340        Gilkey Lumber Co.
       1991           295,872        Gilkey Lumber Co.

The payers supplied Forms 1099 to respondent and petitioner

reflecting the above-listed payments.    During the aforementioned

years, petitioner did not make any estimated payments of income

tax.    Petitioner also did not file any income tax returns for the

years at issue.    Petitioner maintained some records of his

expenses for his logging business in the form of receipts, which

he could not locate for purposes of trial.

       Sometime in 1985, petitioner hired Larry R. Melton (Melton)

to paint his residence.    Melton, who was not a qualified tax

adviser, was involved in a tax protester group.    The primary

precept of members of the protester group was that they were not

subject to Federal income taxes.    Consonant with that belief,

Melton advised that petitioner was not required to pay taxes to

the U.S. Government.    Petitioner accepted Melton's advice, and he

joined the protester group, attended meetings, and paid dues

during 1987 and 1988.    Beginning with his 1986 taxable year,

petitioner did not file a Federal income tax return in accord
                                - 5 -


with his belief that he was not subject to the Federal income

tax.

       An accountant prepared petitioner's 1985 Federal income tax

return.    In 1989, respondent audited petitioner's 1985 return.

Petitioner represented himself in the audit process and did not

agree with the adjustments respondent's agent proposed or that he

owed additional tax for his 1985 tax year.      Petitioner believed

that his income and deductions for 1985 had been correctly

reported.    Petitioner took no further action, the additional tax

was assessed, and respondent seized petitioner's bank account for

satisfaction of the assessed deficiency.      The results of his 1985

audit during 1989 made petitioner angry and frustrated.      Because

of that experience and following the seizure of the proceeds of

his bank account in 1989, petitioner chose to no longer maintain

a bank account.

       On June 15, 1992, respondent's agent, David Walden (Walden),

advised petitioner by letter that his 1986 through 1991 tax years

were being subjected to examination.      Brenda Nelon's 1987 taxable

year was also under examination by Walden.      By a June 25, 1992,

letter, Walden was advised that petitioner was under no

obligation to communicate with respondent's agents and that

petitioner was not subject to the Federal income tax.      The letter

also acknowledged that petitioner did not file Federal income tax

returns for the years in question.      The letter was written by
                                 - 6 -


another person but was signed by petitioner.    Petitioner did not

meet with Walden or produce requested records or documents.

     On October 21, 1993, respondent issued a statutory notice of

deficiency to petitioner, determining deficiencies in income tax

for the 1986, 1988, 1989, 1990, and 1991 tax years and related

additions to tax.    On the same date, respondent also issued a

statutory notice of deficiency to both Richard Nelon and Brenda

Nelon for the taxable year 1987, determining a deficiency in

income tax and related additions to tax.

     At trial, petitioner acknowledged that he did not file

income tax returns for 1986 through 1991 and that he followed the

advice of Melton and the protester group that he did not have to

pay income taxes.    After trial, the parties filed a stipulation

of settled issues.     Among the issues settled, respondent conceded

that there was no deficiency in income tax due from, nor

overpayment due to, petitioner Brenda Nelon for the taxable year

1987.   The parties also stipulated that petitioner was entitled

to deductions in connection with his logging business, as

follows:

                Year                  Amount
                1986                 $127,038
                1987                  189,342
                1988                  188,927
                1989                  218,969
                1990                  194,088
                1991                  210,687
                               - 7 -


                              OPINION

     The parties have agreed that petitioner earned income and

incurred deductions for the 1986 through 1991 taxable years.     The

only remaining controversy is whether petitioner is liable for

the addition to tax for fraud or, in the alternative, negligence

and failure to file.   For 1986 and 1987, section 6653(b)(1)(A)

and for 1988 section 6653(b)(1) provide for an addition to tax in

an amount equal to 75 percent of the underpayment that is

attributable to fraud.   For 1986 and 1987, section 6653(b)(1)(B)

provides for an additional amount equal to 50 percent of the

interest due on any part of the underpayment attributable to

fraud.   Section 6653(b)(2) provides that if any portion of an

underpayment is due to fraud, the entire underpayment is treated

as fraudulent, unless the taxpayer proves some portion of the

underpayment is not due to fraud.

     For 1989, 1990, and 1991, section 6651(f) provides for a

maximum addition to tax of 75 percent if any failure to file is

fraudulent.   If the failure to file is not due to reasonable

cause and it is not fraudulent, section 6651(a) provides for a

maximum addition to tax of 25 percent.

     The addition to tax in the case of fraud is a civil sanction

provided primarily as a safeguard for the protection of the

revenue and to reimburse the Government for the heavy expense of
                                 - 8 -


investigation and the loss resulting from the taxpayer's fraud.

Helvering v. Mitchell, 303 U.S. 391, 401 (1938).

     Respondent bears the burden of proving fraud by clear and

convincing evidence.   Sec. 7454(a); Rule 142(b).   Respondent's

burden is met if it is shown that petitioner intended to evade

taxes known to be due and owing by conduct intended to conceal,

mislead, or otherwise prevent the collection of taxes, and that

there is an underpayment of tax.     Stoltzfus v. United States, 398

F.2d 1002, 1004 (3d Cir. 1968); Rowlee v. Commissioner, 80 T.C.

1111, 1123 (1983); Acker v. Commissioner, 26 T.C. 107, 112

(1956).

     The existence of fraud is a question of fact to be resolved

upon consideration of the entire record.     DiLeo v. Commissioner,

96 T.C. 858, 874 (1991), affd. 959 F.2d 16 (2d Cir. 1992).    Fraud

is never presumed but, rather, must be established by affirmative

evidence.   Edelson v. Commissioner, 829 F.2d 828 (9th Cir. 1987),

affg. T.C. Memo. 1986-223.    Direct evidence of the requisite

fraudulent intent is seldom available, but fraud may be proved by

circumstantial evidence.     Spies v. United States, 317 U.S. 492,

499 (1943); Rowlee v. Commissioner, supra at 1123.    The

taxpayer's entire course of conduct may establish the requisite

intent.   Otsuki v. Commissioner, 53 T.C. 96, 105-106 (1969).
                              - 9 -


     Over the years, courts have developed various factors, or

"badges", which tend to establish fraud.     Recklitis v.

Commissioner, 91 T.C. 874, 910 (1988).     These include:   (1) A

pattern of understatement of income; (2) inadequate books and

records; (3) failure to file tax returns; (4) concealment of

assets; (5) failure to cooperate with tax authorities; (6) income

from illegal activities; (7) implausible or inconsistent

explanations of behavior; (8) an intent to mislead which may be

inferred from a pattern of conduct; (9) lack of credibility of

the taxpayer's testimony; (10) dealings in cash.     Laurins v.

Commissioner, 889 F.2d 910, 913 (9th Cir. 1989), affg. Norman v.

Commissioner, T.C. Memo. 1987-265; Edelson v. Commissioner, supra

at 832; Bradford v. Commissioner, 796 F.2d 303, 307 (9th Cir.

1986), affg. T.C. Memo. 1984-601; Petzoldt v. Commissioner, 92

T.C. 661, 699 (1989); Rowlee v. Commissioner, supra at 1125.

These badges of fraud are nonexclusive.     Miller v. Commissioner,

94 T.C. 316, 334 (1990).

     The list of the badges of fraud, however, is illustrative.

We consider the totality of the facts and circumstances of each

case to determine whether there is fraudulent intent.       King's

Court Mobile Home Park, Inc. v. Commissioner, 98 T.C. 511, 516

(1992); Recklitis v. Commissioner, supra.
                              - 10 -


     Respondent contends that the following facts, taken as a

whole, prove that petitioner had the intent to fraudulently evade

paying income tax on at least some part of the underpayment for

the years in issue:   (1) His failure to file income tax returns

for the years 1986 through 1991; (2) through that failure to

file, a corresponding consistent failure to report substantial

amounts of income from the logging business; (3) the failure to

maintain books and records of the amounts derived from the

logging business; (4) his failure to pay estimated income taxes

for the years in question; and (5) the cashing, rather than

depositing, of checks derived from the logging business.

     In the instant case, petitioner did not file income tax

returns for the taxable years 1986 through 1991.    The parties

have stipulated this fact.   It is also without dispute that

petitioner did not report relatively large amounts of income and

expenses in connection with his logging business.

     An initial analysis reveals that some of the badges of fraud

are present.   Petitioner earned substantial amounts of income

that were not reported, did not keep adequate records, and failed

to provide records to or meet with respondent's agent.    Due to

the 1989 audit of his 1985 Federal income tax return and the

seizure of his bank account, petitioner decided to close his bank

account and, to some extent, deal in cash.   Petitioner, however,
                               - 11 -


did not misrepresent, secrete, or attempt to deceive.    Although

we do not approve of petitioner's reasons for failing to file

returns and failing to submit to respondent's examination, those

events, on this record, do not satisfy respondent's burden to

clearly and convincingly prove fraud.

     On this record, we do not find that petitioner's

underpayment was due to an intent to evade taxes known to be due

and owing by conduct intended to conceal, mislead, or otherwise

prevent the collection of taxes.    Stoltzfus v. United States,

supra at 1004; Rowlee v. Commissioner, supra at 1123; Acker v.

Commissioner, supra at 112.

      Respondent places great emphasis on the fact that

petitioner had an accountant for the 1985 taxable year,

contending that this reflects a history of filing timely tax

returns, and thus petitioner knew of the filing requirements.

Petitioner, however, did not set out to evade tax he thought to

be due.   Instead, he came to believe that he was not obligated to

file a Federal tax return and that he had no obligation to pay

Federal tax.   On this record, we find that his belief was not an

intentional attempt to fraudulently evade the payment of tax.

     Respondent also argues that petitioner attempted to conceal

assets by dealing in cash.    Petitioner's resolve to close his

bank account and, therefore, use cash was not coupled with his
                              - 12 -


belief that he was not obligated to pay tax.   Petitioner, based

on his belief, failed to file his 1986 and later years' returns.

It was only after his bank account was seized in 1989 in

connection with the audit of his 1985 tax return that petitioner

closed his bank account.   By 1989, petitioner had failed to file

several Federal income tax returns.    Petitioner believed that he

had correctly reported his income and deductions for 1985 by

using a professional return preparer (accountant).   Petitioner,

who is not well educated or versed in business and tax matters,

represented himself in the 1985 audit.   From his perspective he

had properly filed his 1985 return, and the resulting seizure of

his bank account caused him to react by closing the bank account.

There is no indication that the 1989 audit of petitioner's 1985

return involved the so-called protester arguments or that he

failed to cooperate with respondent's agent.

     Petitioner did not cooperate with the revenue agent in the

determination of his tax liability for 1986 through 1991.   On

occasion, this has been found to be an indicium of fraud.   See

Rowlee v. Commissioner, 80 T.C. at 1125; Grosshandler v.

Commissioner, 75 T.C. 1, 20 (1980); Gajewski v. Commissioner, 67

T.C. 181, 200 (1976), affd. without published opinion 578 F.2d

1383 (8th Cir. 1978).   Here, however, petitioner did not attempt

to deceive or mislead the revenue agent.   Instead, he
                               - 13 -


acknowledged that he did not file any Federal income tax returns

and provided his reasons for not meeting with the agent or filing

returns.    In this regard, tax protester arguments, even though

meritless and frivolous, without more, do not necessarily amount

to fraud.    Kotmair v. Commissioner, 86 T.C. 1253, 1262 (1986).4

Petitioner's failure to cooperate here was to his own detriment.

Respondent had received Forms 1099 from the company(ies) that had

paid petitioner for harvested timber in each year.    Petitioner,

by his failure to come forward, however, did not obtain the

benefit of the deductions to which he was entitled in connection

with the harvesting of timber.    His failure to cooperate did not

keep respondent from being able to determine his income or

receipts.

     At trial, petitioner admitted that he knew Melton was not an

accountant or an attorney experienced in tax matters, but he

believed Melton's advice that he did not owe tax.    Petitioner is

not well versed in tax and financial matters and has only limited

formal education.    We cannot say that his holding to so-called

protester tenets was with intent to defraud or misrepresent.       In



     4
       We stated in Kotmair v. Commissioner,86 T.C. 1253, 1262
(1986) that the taxpayer's protester arguments "may have been
meritless, frivolous, wrongheaded, and even stupid, but we cannot
hold that they amounted to fraud, without something more. Were
we to do so, every failure-to-file protester case would be
automatically converted into a fraud case."
                                - 14 -


general, a taxpayer's negligence, whether slight or gross, is not

enough to prove fraud.     Kellett v. Commissioner, 5 T.C. 608, 616

(1945).

     Respondent maintains that petitioner's failure to file

timely income tax returns was part of a pattern of fraud.

Although a taxpayer's failure to file is prima facie evidence of

negligence for purposes of section 6653(a), see Emmons v.

Commissioner, 92 T.C. 342, 350 (1989), affd. 898 F.2d 50 (5th

Cir. 1990), it is insufficient in and of itself to prove fraud.

Rowlee v. Commissioner, supra at 1123.

     The record here simply does not show any affirmative acts of

concealment or misrepresentation so as to constitute fraud, such

as filing false information or attempting to mislead respondent.

Zell v. Commissioner, 763 F.2d 1139, 1146 (10th Cir. 1985), affg.

T.C. Memo. 1984-152.     For respondent to sustain her position as

to the fraud addition to tax, it is not enough that respondent

can show the taxpayer to be devious.     See Kreps v. Commissioner,

351 F.2d 1, 7 (2d Cir. 1965), affg. 42 T.C. 660 (1964); Shaw v.

Commissioner, 27 T.C. 561, 569-570 (1956), affd. 252 F.2d 681

(6th Cir. 1958); Gano v. Commissioner, 19 B.T.A. 518, 532-533

(1930).   The evidence must be clear and convincing.   In the

instant case, we find that the evidence falls short of being
                               - 15 -


clear and convincing.    Accordingly, we find that petitioner is

not liable for additions to tax or penalties based on fraud.

     In the alternative, respondent determined that petitioner is

liable for the additions to tax for failure to timely file for

all the years in issue.   Section 6651(a)(1) imposes an addition

to tax for a taxpayer's failure to file timely returns required

to be filed (including income tax returns), unless the taxpayer

can establish that such failure "is due to reasonable cause and

not due to willful neglect".    The addition to tax is 5 percent of

the amount required to be shown on the return for each month

beyond the return's due date, not exceeding 25 percent.   Sec.

6651(a)(1).   Petitioner bears the burden of showing respondent's

determination to be in error and that there was reasonable cause

for his failure to timely file.    Rule 142(a).

     Respondent, in the alternative, also determined a 5-percent

addition to tax for each of the years 1986 through 1988 for

negligence or intentional disregard of rules or regulations.

Section 6653(a)(1)(A) for 1986 and 1987 and section 6653(a)(1)

for 1988 provide for a 5-percent addition to tax if any part of

the underpayment is due to negligence or intentional disregard of

rules and regulations.    If section 6653(a)(1)(A) applies for 1986

and 1987, then section 6653(a)(1)(B) provides for a further

addition to tax equal to 50 percent of the interest attributable
                               - 16 -


to that portion of the underpayment resulting from negligence or

intentional disregard of rules and regulations.      Negligence is

defined as a lack of due care or failure to do what a reasonable

and prudent person would do under the circumstances.       Neely v.

Commissioner, 85 T.C. 934, 947 (1985).       Petitioner bears the

burden of showing that he was not negligent.      Rule 142(a); Bixby

v. Commissioner, 58 T.C. 757, 791-792 (1972).

     Petitioner did not contend, either at trial or on brief,

that his failure to file returns was due to reasonable cause or

that his actions were reasonable.    On this record, we find that

petitioner is liable for additions to tax for failure to file and

negligence for the years indicated above.      In addition, we find

that petitioner is liable for additions to tax under section 6654

as determined by respondent.

     To reflect the foregoing,

                                     Decision will be entered under

                                 Rule 155.
