                       T.C. Memo. 1996-400



                     UNITED STATES TAX COURT



         ROSEMARIE MEYER, Petitioner v. COMMISSIONER OF
                   INTERNAL REVENUE, Respondent



     Docket No. 16676-94.                    Filed August 27, 1996.




          On the facts, Held: P is not entitled to innocent
     spouse protection within the meaning of sec. 6013(e),
     I.R.C., as to the deficiency, additions, and penalties
     in income tax determined by the Commissioner for 1989.



     James B. Lewis,1 Hedy Pollack Forspan, and Jodi L. Bayrd

(specially recognized), for petitioner.

     William J. Gregg and Thomas J. Kerrigan, for respondent.




     1
      James B. Lewis died shortly after the trial and briefing of
this case.
               MEMORANDUM FINDINGS OF FACT AND OPINION

     NIMS, Judge:     Respondent determined a deficiency in

petitioner's Federal income tax for 1989 of $59,718.     Respondent

also determined the following:    (1) an addition to tax of $3,076

under section 6651(a)(1); (2) an accuracy-related penalty of

$11,944 under section 6662 due to a substantial understatement of

income tax, and (3) an addition to tax of $4,182 under section

6654(a) as a result of the failure of petitioner to pay estimated

income tax.

     After concessions, the sole remaining issue for decision is

whether Rosemarie Meyer (petitioner or Mrs. Meyer) may claim

innocent spouse status under section 6013(e) for 1989.    For the

reasons that follow, we hold that petitioner does not qualify for

such relief.

     All section references, unless otherwise specified, are to

sections of the Internal Revenue Code in effect for the year at

issue, and all Rule references are to the Tax Court Rules of

Practice and Procedure.

     The parties have stipulated to some of the facts and the

Court has so found.   This reference incorporates the stipulation

of facts and attached exhibits.   Mrs. Meyer resided in

Lindenhurst, New York, when she filed her petition.

                          FINDINGS OF FACT

     Petitioner wed Robert J. Meyer in 1967 and remained married

to him at the time of trial, although the couple separated in
                                - 3 -

1991.   In 1993, Mr. Meyer was convicted of insurance fraud and

subsequently incarcerated.   The conduct leading to his conviction

took place after the year at issue and does not concern the

matters in the instant case.   Throughout 1989 petitioner resided

at Lindenhurst, New York (Lindenhurst) and, alternately,

Muttontown, New York (Muttontown).

     Mrs. Meyer, a housewife and mother of six children, received

a high school diploma.    She met her future husband at age 15-1/2

and married him at age 19.   In 1984 petitioner and her family

moved from their 3,500 square foot ranch house in the modest

community of Lindenhurst to a 35,000-square-foot, 42-room

Georgian-style mansion situated on 14.583 acres of improved land

in the exclusive area of Muttontown.    Grand-Perridine Development

Corp. (Grand-Perridine), an entity wholly owned by petitioner's

husband, acquired the estate in a highly leveraged transaction

for the purpose of subdividing the property and building homes to

sell to the public.   While Mr. Meyer lived at Muttontown

continuously from 1984 through 1989, petitioner and her children

moved back and forth several times between Lindenhurst and

Muttontown due to Mr. Meyer's abusive behavior stemming from his

alcoholism.   Throughout 1989 the Meyer children attended schools

in the Oyster Bay-East Norwich Central School District, the

school district for the Muttontown residence, to achieve a

semblance of stability.
                                - 4 -

     The Muttontown estate housed masterpiece original works of

art by Titian, Modigliani, Donatello and Velasquez, among others,

worth in excess of fifty million dollars, and benefitted from a

showcase of interior designers on the premises shortly after the

mansion's purchase.    The Meyer family owned antiques and

furniture valued at almost $3 million dollars, as well as over

$150,000 worth of jewelry.

     From the mid 1980s to the early 1990s Mr. Meyer employed

several chauffeurs who drove him, his clients, the Meyer

children, and to a lesser extent, petitioner, in a Lincoln

stretch limousine.    Petitioner retained a live-in

housekeeper/nanny to assist in the upkeep of the sprawling

mansion and to aid her with the younger children while at

Muttontown.    During this time Mrs. Meyer accompanied her husband

on several trips, including to "one of the islands" and to Malta.

While Mr. Meyer traveled to Malta ostensibly for business

purposes, petitioner went purely for recreation.      During this

period Mr. Meyer maintained a life insurance policy and also

established a trust, both of which named his wife as the

beneficiary.

     Although petitioner testified she did not work outside of

the home, she received taxable wages from East Coast Investors,

Ltd. (East Coast), another of her husband's corporations, during

the taxable year 1985.    Mrs. Meyer also involved herself as a

director and/or officer of at least 2 of her husband's
                                - 5 -

corporations, all of which were located in a single office

attached to the Muttontown residence.    Although petitioner owned

no stock in any of Mr. Meyer's business enterprises, she held the

titles of vice president of East Coast and secretary of Grand-

Perridine.   She also served as a director of the latter

corporation.    In Mrs. Meyer's capacity as secretary of Grand-

Perridine she attended the closing of the Muttontown property on

December 30, 1983, and also acknowledged her liability as a

guarantor of the mortgage on that property as Mr. Meyer's wife.

Mrs. Meyer negotiated and issued checks on behalf of East Coast

in payment of monthly fees on a condominium located in

Huntington, New York, that the corporation had acquired.

     Petitioner also managed the day-to-day finances of the Meyer

household through funds her husband supplied her in the form of

checks drawn on corporate accounts, as her husband lacked a

personal checking account.    Mrs. Meyer maintained several

certificates of deposit, plus savings and checking accounts, in

her own name at various banks during the late 1980s and early

1990s.   Petitioner also negotiated checks drawn on several of her

husband's corporations, including East Coast, Grand-Perridine,

Union Street Consultants, Inc., and American Express Development

Corp. (known alternately as American Express National Development

Corp.) (AED).    Such checks paid for, among other things, car

insurance on at least one of the five automobiles registered in

her name between August 1989 and January 1992, housekeeping
                                - 6 -

services at Muttontown, local pharmacy bills, pediatric medical

bills, medical insurance for family members, credit card bills,

housepainting, food, and other personal expenses.    On March 16,

1985 petitioner established an irrevocable trust for her son,

Micha Meyer.    Furthermore, on that date her husband named her as

trustee of a trust established for their daughter, Bethany Meyer.

       In January 1989 petitioner cashed a total of $14,000 in

checks issued to her by AED.    Mrs. Meyer deposited $33,888.78

into her Norstar Bank checking account throughout 1989.

Petitioner also deposited $1,500 monthly rental payments received

from a tenant residing in a cottage located on the Muttontown

property into a separate personal Norstar Bank account during

1989.

       On May 14, 1990, petitioner and her husband executed and

filed a Form 1040 joint tax return prepared by Mr. Meyer's

accountant for the calendar year 1989.    The return reported the

following amounts for adjusted gross income, Schedule A

deductions, Schedule C gross receipts, taxable income and tax

due:


       Adjusted Gross Income..............$16,247.00
       Schedule A deductions................6,181.00
       Schedule C gross receipts...........36,000.00
       Taxable Income......................(3,934.00)
       Tax Due..................................0


The return included a clearly visible deduction of $19,753 on

line 29 of the Schedule C attached to the Form 1040.    Petitioner
                               - 7 -

did not read or review the return, nor did she ask any questions

pertaining to it prior to affixing her signature.     She claimed no

knowledge of financial affairs and tax matters.    Mrs. Meyer

acknowledged that if she had questioned her husband regarding the

return he would have answered her truthfully.

     On June 23, 1994 respondent timely mailed a statutory notice

of deficiency to petitioner and her husband in which a deficiency

was determined for 1989 in the amount of $59,718 in income tax

and additions to tax of $3,076 and $4,182 pursuant to sections

6651(a)(1) and 6654(a), respectively, and a penalty of $11,944

pursuant to section 6662.   Respondent derived the income tax

deficiency from:   (1) The omission from income of a $180,748

constructive dividend from AED; (2) disallowed Schedule C

expenses in the amount of $19,753; (3) a reduction of $20 to

Schedule C income reported; and (4) an increase of $161 for

omitted interest income from petitioner's personal accounts at

Norstar and Dollar Dry Dock banks.     Petitioner conceded the

correctness of the amounts of all items in the deficiency,

asserting only that she qualified for innocent spouse relief.

Petitioner does not argue or attempt to prove that the omitted

income adjustment of $161 or the adjustment in favor of the

petitioner of $20 for overstated Schedule C gross receipts set

forth in the statutory notice of deficiency qualifies for

innocent spouse relief.   Accordingly, petitioner has not met her

burden of proof with respect to these adjustments.     Rule 142(a).
                               - 8 -

                              OPINION

     Married couples who file joint returns ordinarily incur

joint and several liability for the full amount of tax due on

their combined incomes.   Sec. 6013(d)(3); Hayman v. Commissioner,

992 F.2d 1256, 1258 (2d Cir. 1993), affg. T.C. Memo. 1992-228;

Sonnenborn v. Commissioner, 57 T.C. 373, 381 (1971).   The

"innocent spouse" defense provided in section 6013(e) partially

alleviates the harshness of this rule.   Section 6013(e) provides:

     (e) Spouse Relieved of Liability in Certain Cases.--

          (1) In General.--Under regulations prescribed by
     the Secretary, if--

               (A) a joint return has been made under this
          section for a taxable year,

               (B) on such return there is a substantial
          understatement of tax attributable to grossly
          erroneous items of one spouse,

               (C) the other spouse establishes that in
          signing the return he or she did not know, and had
          no reason to know, that there was such substantial
          understatement, and

               (D) taking into account all the facts and
          circumstances, it is inequitable to hold the other
          spouse liable for the deficiency in tax for such
          taxable year attributable to such substantial
          understatement,

     then the other spouse shall be relieved of liability
     for tax (including interest, penalties, and other
     amounts) for such taxable year to the extent such
     liability is attributable to such substantial
     understatement.

     Whether an individual qualifies for innocent spouse status

in order to avoid liability primarily involves a factual inquiry.
                                - 9 -

Petitioner must meet all of the requirements of the innocent

spouse provision to qualify for relief, as Congress framed the

statute in the conjunctive.    Rule 142(a); Hayman v. Commissioner,

supra at 1260.    Furthermore, petitioner must prove all of the

elements of the innocent spouse test by a preponderance of the

evidence.    Rule 142(a); Friedman v. Commissioner, 53 F.3d 523,

528 (2d Cir. 1995), affg. in part, revg. in part and remanding

T.C. Memo. 1993-549.    Respondent concedes that petitioner

satisfies the section 6013(e)(1)(A), section 6013(e)(3), and

section 6013(e)(4) elements of the innocent spouse requirements

for the relevant year.    (Section 6013(e)(3) states the numerical

prerequisite to determine if a substantial understatement exists.

Section 6013(e)(4) concerns whether such understatements exceed a

specified percentage of the putative innocent spouse's income.)



       Three elements of the innocent spouse requirement remain in

dispute:    (1) Whether the understatement was attributable to

grossly erroneous items of petitioner's husband alone; (2)

whether petitioner possessed the knowledge referred to in

subparagraph (C); and (3) whether under the facts of this case

there exists the type of inequity referred to in subparagraph

(D).    In reaching our conclusion as to Mrs. Meyer's liability,

guidelines provided by recent decisions of the U.S. Court of

Appeals for the Second Circuit (to which an appeal of this case
                                - 10 -

ordinarily would lie) substantially aid the Court.     Friedman v.

Commissioner, supra; Hayman v. Commissioner, supra.

Issue 1. Whether the Understatement Was Attributable to Grossly
Erroneous Items of Petitioner's Husband Alone

       Mrs. Meyer has failed to prove by a preponderance of the

evidence that a substantial understatement of tax exists that is

attributable to grossly erroneous items of her husband alone for

any of the items respondent raised in the notice of deficiency.

The items remaining for discussion concern the omission from

income of the $180,748 constructive dividend, as well as the

disallowed $19,753 Schedule C expense.

       The term "grossly erroneous items" is defined by section

6013(e)(2) as "(A) any item of gross income attributable to such

[culpable] spouse which is omitted from gross income, and (B) any

claim of a deduction, credit, or basis by such spouse in an

amount for which there is no basis in fact or law."     Whether a

claim is grossly erroneous must be evaluated as of the time of

filing of the tax return.     Friedman v. Commissioner, supra at

529.

       A.   The Constructive Dividend

       Omitted income items are automatically grossly erroneous if

solely attributable to the culpable spouse.     Sec. 6013(e)(2)(A).

Although petitioner's husband organized and owned AED entirely,

Mrs. Meyer had access to, and use of, the funds held in this

entity's name.     In fact, respondent's determination of the
                             - 11 -

$180,748 constructive dividend derives from Mrs. Meyer's use of

AED's funds for personal purposes.

     The elements of control over corporate funds and whether a

spouse has benefitted from the constructive dividend, rather than

actual stock ownership, comprise the sine qua nons of the

attribution of a constructive dividend to one or both spouses.

Compare Bokum v. Commissioner, 94 T.C. 126, 140 (1990) (omitted

income items pertain to sole shareholder husband, not relief-

seeking spouse, where the latter became an officer and director

of the corporation only after the transaction at issue, was

merely a figurehead and did not take part in any corporate

affairs), affd. 992 F.2d 1132 (11th Cir. 1993), Carter v.

Commissioner, T.C. Memo. 1977-322 (granting relief where

petitioner held basically symbolic position as officer of

corporation completely controlled by her husband, although she

owned a small percentage of stock, and she did not benefit from

the constructive dividend) and Hagaman v. Commissioner, T.C.

Memo. 1990-655 (nonshareholding spouse did not benefit from

constructive dividend, did not exercise control over her

husband's corporation, and unreported income was not made

available for her use) affd. in part and remanded in part 958

F.2d 684 (6th Cir. 1992), with Green v. United States, 460 F.2d

412, 420-421 (5th Cir. 1972) (taxpayer who owned merely 7.9

percent of corporation's stock exercised sufficient control for

constructive dividend to be attributed to her).
                              - 12 -

     Although Mrs. Meyer owned no stock of AED, she exercised

significant control over the funds of her husband's corporation

and benefitted from corporate payment of personal expenses.     Thus

the omitted income inured to petitioner's benefit both directly

and indirectly, and relief does not attach to the extent of such

benefit.   Kistner v. Commissioner, T.C. Memo. 1991-463, revd. on

other grounds 18 F.3d 1521 (11th Cir. 1994), and remanded T.C.

Memo. 1995-66.

     B. The Disallowed Expenses

     Unlike omitted income items, disallowed deductions are not

automatically grossly erroneous if attributable to the putative

culpable spouse alone.   Rather, in order for petitioner to prove

the disallowed Schedule C expenses "grossly erroneous", she must

establish the claimed deduction has "no basis in fact or law".

Sec. 6013(e)(2)(B).   Petitioner can only meet this requirement if

the claimed expenses lacked deductibility under well-established

legal principles or if no substantial legal argument exists to

support the deductibility of the expense.   Russo v. Commissioner,

98 T.C. 28, 32-33 (1992); Douglas v. Commissioner, 86 T.C. 758,

762-763 (1986).

     Ordinarily, a deduction has no basis in fact or law if it is

"fraudulent", "frivolous", "phony", or "groundless".   Bokum v.

Commissioner, supra at 1142; Russo v. Commissioner, 98 T.C. at

32; Douglas v. Commissioner, 86 T.C. at 763.   The Court will not

consider a deduction groundless merely because petitioner failed
                               - 13 -

to substantiate it.    See Kaye v. Commissioner, T.C. Memo. 1995-

345.    Nor can petitioner rely solely on respondent's later

disallowance of the deduction in the statutory notice of

deficiency to prove the deduction lacks a basis in law or fact.

Flynn v. Commissioner, 93 T.C. 355, 364 (1989); Douglas v.

Commissioner, 86 T.C. at 763; Kaye v. Commissioner, supra.

Moreover, the fact that petitioner conceded the correctness of

respondent's disallowance fails to establish that the claimed

deduction has no basis in law or fact.    Purcell v. Commissioner,

86 T.C. 228, 239 (1986), affd. 826 F.2d 470 (6th Cir. 1987).

       We cannot find that the disallowed Schedule C expenses as

fraudulent, frivolous, phony, or groundless.    See Bokum v.

Commissioner, 992 F.2d at 1142.    Petitioner's witness Robert J.

Meyer testified the disallowed Schedule C business expenses

comprised part of the development project for the Muttontown

property.    Although Mr. Meyer could not precisely recall the

details surrounding the claimed expenses, nothing in his

testimony alerts the Court to the possibility that these expenses

were fraudulent, frivolous, phony or groundless, or that Mr.

Meyer never initiated the development project on which the

expenses were premised.    Petitioner herself acknowledged the

existence of her husband's land development project.    The

deduction is not grossly erroneous because of the ultimate

failure of the subdivision scheme at the Muttontown property.

Nor is the deduction grossly erroneous merely because Mr. Meyer
                              - 14 -

could not substantiate the expenses in court 6 years later.   See

Kaye v. Commissioner, supra; Feldman v. Commissioner, T.C. Memo.

1993-17, affd. 20 F.3d 1128 (11th Cir. 1994).

     Thus, for the omitted income and deduction items we hold

that petitioner has failed to demonstrate a substantial

understatement of tax attributable to grossly erroneous items of

her spouse alone.   The constructive dividend was attributable to

both petitioner and her husband, and the disallowed deductions

were not shown to have no basis in fact or law.

Issue 2. Whether Petitioner Knew, or Had Reason to Know, that
There Was a Substantial Understatement of Tax

     Petitioner knew, or had reason to know, of the substantial

understatement of tax when she signed the 1989 tax return.    Sec.

6013(e)(1)(C).   The U.S. Court of Appeals for the Second Circuit,

to which this case is appealable, has adopted the test for

knowledge espoused in Price v. Commissioner, 887 F.2d 959 (9th

Cir. 1989).   Hayman v. Commissioner, 992 F.2d at 1261.   We follow

the Court of Appeals for the Second Circuit's position in the

ensuing discussion under the Golsen rule.   Golsen v.

Commissioner, 54 T.C. 742 (1970), affd. 445 F.2d 985 (10th Cir.

1971).

     Price articulates two slightly different burdens for a

taxpayer to overcome in determining whether a putative innocent

spouse knew, or had reason to know, of the substantial

understatement, depending on whether the issue concerns a
                                - 15 -

disallowed deduction or an item of omitted income.     Price v.

Commissioner, 887 F.2d at 963.    For disallowed deductions, the

taxpayer must establish that "she [or he] did not know and did

not have reason to know that the deduction would give rise to a

substantial understatement."     Id.

     In cases involving the omission of income, a slightly higher

hurdle for the taxpayer exists:    the relief-seeking spouse must

show that she did not know, and should not have known, of an

income-producing transaction that her spouse failed to report on

their joint return, thus giving rise to the substantial

understatement.     Hayman v. Commissioner, 992 F.2d at 1261; see

Langberg v. Commissioner, T.C. Memo. 1994-223.    The Court of

Appeals for the Second Circuit in Friedman succinctly stated the

rationale for the differing standards:    "[A]pplying the omission

of income test to cases involving the disallowance of deductions

would eviscerate the innocent spouse defense, since merely

looking at the tax return informs the spouse of the transaction *

* * that gave rise to the deduction."     Friedman v. Commissioner,

53 F.3d at 530.

     With respect to a taxpayer's "reason to know", courts tend

to use a test possessing both subjective and objective

components:   whether a "'reasonably prudent taxpayer in * * *

[taxpayer's] position at the time she signed the return could be

expected to know that the return contained the substantial

understatement.'"    Hayman v. Commissioner, 992 F.2d at 1261
                                - 16 -

(quoting Price v. Commissioner, supra at 965); Stevens v.

Commissioner, 872 F.2d 1499, 1505 n.8 (11th Cir. 1989), affg.

T.C. Memo. 1988-63.    This test applies to both omissions from

income and erroneous deductions.     Stevens v. Commissioner, supra

at 1505 n.8.      Four factors considered relevant to the "reason to

know" test are:    (1) The relief-seeking spouse's level of

education; (2) the relief-seeking spouse's level of participation

in family and business affairs; (3) the presence of expenditures

that appear lavish or unusual when compared with the family's

past levels of income, standard of living, and spending patterns;

and (4) the culpable spouse's evasiveness and deceit concerning

the couple's finances.     Friedman v. Commissioner, 53 F.3d at 531-

532 (citing Hayman v. Commissioner, 992 F.2d at 1261); Price v.

Commissioner, supra at 965.    No single factor or set of factors

is dispositive.    This Court does not make a determination merely

by adding factors favoring petitioner's position; rather, the

test is a subjective one.     Guth v. Commissioner, 897 F.2d 441,

444 (9th Cir. 1990), affg. T.C. Memo. 1987-522; see Langberg v.

Commissioner, supra.

     In both omitted income and erroneous deduction cases,

spouses who fail to read the returns before signing them are

nonetheless charged with constructive knowledge of their

contents.   Hayman v. Commissioner, 992 F.2d at 1262.    The Court

will not excuse a petitioner who neglects to review a return that

she signed under penalties of perjury.     Terzian v. Commissioner,
                               - 17 -

72 T.C. 1164, 1170 (1979).    Congress never intended the innocent

spouse exemption to protect a spouse who turns a blind eye to

facts within her reach as to whether a substantial understatement

exists on a joint return, if such facts would have put a

reasonably prudent taxpayer on notice to inquire.       Bokum v.

Commissioner, 94 T.C. at 148; Clevenger v. Commissioner, T.C.

Memo. 1986-149, affd. 826 F.2d 1379 (4th Cir. 1987).      In such

instances, the Court imputes the requisite knowledge to the

putative innocent spouse unless she satisfies her duty of

inquiry.    Hayman v. Commissioner, 992 F.2d at 1262; Adams v.

Commissioner, 60 T.C. 300, 303 (1973); McCoy v. Commissioner, 57

T.C. 732, 734 (1972).    The relief-seeking spouse is not excused

from imputation of constructive knowledge merely because she is a

homemaker and relied on the other spouse to handle the family

finances.    Stevens v. Commissioner, supra at 1507.    Moreover, a

would-be innocent spouse cannot rely on ignorance of the law as a

defense.    Hayman v. Commissioner, 992 F.2d at 1262.

      We now apply the foregoing principles to the facts before

us.

      A.   The Disallowed Deduction

      The record indicates that petitioner did not participate in

the daily management of Mr. Meyer's business despite her position

as an officer and director of several of her husband's companies.

Consequently, we conclude that petitioner did not have actual

knowledge of the transaction producing the understatement.
                               - 18 -

Therefore, the Court must ascertain whether she had "reason to

know" of the facts giving rise to the substantial understatement.

We hold that petitioner had reason to know of the substantial

understatement of tax on her joint return as a result of the

$19,753 deduction.    As stated in Price v. Commissioner, 887 F.2d

at 965:

       Such notice is provided if the spouse knows sufficient
       facts such that a reasonably prudent taxpayer in her
       position would be led to question the legitimacy of the
       deduction. * * * In such a scenario, a duty of
       inquiry arises, which, if not satisfied by the spouse,
       may result in constructive knowledge of the
       understatement being imputed to her. * * *

       First, the Court attributes constructive knowledge of the

contents of the return at issue to Mrs. Meyer, despite her claim

that she signed the return without reading it.    Hayman v.

Commissioner, 992 F.2d at 1262; Bokum v. Commissioner, 94 T.C. at

148.

       Mrs. Meyer's constructive knowledge of the contents of the

return, in conjunction with her affluent surroundings, the amount

of money passing through her personal accounts for 1989, and the

negative amount of taxable income on her return, placed her on

notice that an understatement existed.    Had petitioner even

cursorily glanced at the return, she would have seen that her

reported adjusted gross income was a mere $16,247 and that the

amount of tax due was $0.    See Friedman v. Commissioner, 53 F.3d

at 531; Hayman v. Commissioner, 992 F.2d at 1262; Price v.

Commissioner, 887 F.2d at 966.    Compare Resser v. Commissioner,
                               - 19 -

74 F.3d 1528, 1540 (7th Cir. 1996), revg. T.C. Memo. 1994-241

(petitioner wife did not have reason to know there was

substantial understatement where, despite the relative size of

deductions vis-a-vis income, a consistent adjusted gross income

was reported on returns over the years, the returns at issue

involved the "complex financial world" of trading losses, and

there was no appreciable difference in living standard from prior

years).   Accordingly, we further hold that Mrs. Meyer had a duty

to inquire.   Price v. Commissioner, 887 F.2d at 965-966; Park v.

Commissioner, T.C. Memo. 1993-252, affd. 25 F.3d 1289 (5th Cir.

1994).

     The extent of the putative innocent spouse's duty to inquire

may be inversely proportional to the complexity of the items at

issue.    In Friedman, the disallowed deduction involved the

labyrinthine world of tax shelters, and the Court held a mere

inquiry of her husband by the relief-seeking spouse entitled her

to relief under section 6013(e).    Friedman v. Commissioner, 53

F.3d at 531; see Epstein v. Commissioner, T.C. Memo. 1996-239.

In the instant case, however, the deduction at issue merely

involves business expenses, which Mrs. Meyer failed to show were

complex financial transactions.    See Resser v. Commissioner,

supra at 1538.

     Petitioner claims that her inability to understand taxes,

her lack of business orientation, and the fact she did not

advance beyond high school should preclude the imputation of
                              - 20 -

knowledge for purposes of the innocent spouse provisions.

Petitioner relies too heavily on these factors which, in any

event, are derived from her self-serving testimony.    The level of

education and level of participation in business and family

affairs do not themselves confer innocent spouse status; rather,

they are relevant to whether, at the time of signing the return,

a reasonably prudent taxpayer in the spouse's circumstance could

be expected to know that the tax liability as stated was

erroneous or that further investigation was warranted.     Sanders

v. United States, 509 F.2d 162, 166-167 n.5 (5th Cir. 1975).

     The fact petitioner possessed only a high school diploma

does not automatically disqualify her from having "reason to

know" of the substantial understatement.    See Langberg v.

Commissioner, T.C. Memo. 1994-223.     Moreover, contrary to

petitioner's argument, the duty of inquiry is not obviated by her

lack of familiarity with the Federal tax laws or her reliance on

her husband's familiarity with their finances and Federal tax

laws.   Hayman v. Commissioner, 992 F.2d at 1262; Park v.

Commissioner, supra.   A reasonably prudent taxpayer in Mrs.

Meyer's position would have questioned the legitimacy of the

deduction.   Petitioner handled payment of all the household

expenses and presumably knew the amount of income it took to run

the household.   See Resser v. Commissioner, supra at 1538; Price

v. Commissioner, 887 F.2d at 965; Prince v. Commissioner, T.C.

Memo. 1995-368; Langberg v. Commissioner, T.C. Memo. 1994-223.
                              - 21 -

     Furthermore, lavish expenditures existed as compared with

the family's earlier levels of income, standard of living, and

spending patterns.   Petitioner lived an extremely affluent

lifestyle, residing in a Gatsbyesque mansion on Long Island's

fabled Gold Coast.   Such a high standard of living differed

greatly from the modest lifestyle of the Meyer family when they

resided at the ranch house in Lindenhurst.   "To be entitled to

the benefits of section 6013(e) a spouse is not required to have

perfect knowledge of the family's finances; nor is * * * [he]

required to see that the family maintains a balanced budget;

however * * * [he] cannot close * * * [his] eyes to unusual or

lavish expenditures."   Mysse v. Commissioner, 57 T.C. 680, 699

(1972).   See also Resser v. Commissioner, supra at 1540.     Mrs.

Meyer's situation contrasts sharply with that of the petitioner

in Price v. Commissioner, 887 F.2d at 965, where there were no

unusually lavish expenditures when compared to prior levels of

income, standard of living and spending patterns, and the husband

took advantage of the petitioner's failure to understand

financial matters.

     Furthermore, the record fails to show evasiveness or deceit

regarding the couple's finances on the part of Mr. Meyer.     Unlike

Friedman, where the husband concealed his gambling addiction and

the enormous amounts of money he had lost, no evidence suggests

that Mrs. Meyer's husband intentionally misled her or hid

information from her that would support a grant of innocent
                                   - 22 -

spouse relief.      Friedman v. Commissioner, 53 F.3d at 532; accord

Resser v. Commissioner, supra at 1540; McComb v. Commissioner,

T.C. Memo. 1994-577; Langberg v. Commissioner, T.C. Memo. 1994-

223.    Petitioner knew about her husband's companies and also of

the land development transaction on which the deduction was

based.      She participated at corporate meetings.    Moreover, she

testified her husband would have been truthful with her if asked

about the deductions on the return.         In light of the foregoing,

petitioner fails to meet her burden of proof to show that she did

not know, and did not have reason to know, there was a

substantial understatement of tax as a result of the erroneous

Schedule C deduction.

       B.   Omitted Income Items

       Mrs. Meyer knew, or should have known, of the income-

producing transaction her spouse failed to report on their joint

1989 return based on:      (1) Petitioner's improved family lifestyle

and (2) her involvement in the financial affairs of her family as

well as her husband's companies.       See supra pp. 20-21.    Where

personal living expenses to sustain petitioner's lavish lifestyle

and deposits to her accounts during 1989 greatly exceeded the

adjusted gross income of $16,247 reported on the 1989 return, a

reasonably prudent taxpayer in Mrs. Meyer's position should have

known of the substantial understatement of income.        See Estate of

Jackson v. Commissioner, 72 T.C. 356, 361 (1979).         Petitioner

herself deposited checks and paid expenses in amounts exceeding
                              - 23 -

her reported adjusted gross income for the tax year at issue.

See Pietromonaco v. Commissioner, 3 F.3d 1342, 1345 (9th Cir.

1993), revg. T.C. Memo. 1991-361.   Based upon the foregoing, Mrs.

Meyer should have known of the income-producing transaction the

putative culpable spouse failed to report on their joint return,

thus giving rise to the substantial understatement.

Issue 3. Whether It Is Inequitable to Hold Petitioner Liable for
the Substantial Understatement of Tax

     The Court finds it not inequitable to hold Mrs. Meyer liable

for the substantial understatement of tax.    A taxpayer claiming

innocent spouse relief must demonstrate that, given all of the

facts and circumstances, it would contravene equitable notions to

hold the petitioner liable for the substantial understatement

attributable to the putative culpable spouse.    Sec.

6013(e)(1)(D).

     In determining whether it is inequitable to hold a spouse

jointly liable, we have in the past considered the following

factors:   (1) Whether the petitioner has enjoyed a significant

benefit as a result of the substantial understatement of tax,

Estate of Krock v. Commissioner, 93 T.C. 672, 678 (1989); (2)

whether the petitioner has been deserted by, divorced, or

separated from the putative culpable spouse, section 1.6013-5(b),

Income Tax Regs.; and (3) all other relevant facts and

circumstances.   Sec. 6013(e)(1)(D).   The statute no longer

requires consideration of whether the innocent spouse received a
                                - 24 -

significant benefit, although it remains an important factor.

Hayman v. Commissioner, 992 F.2d at 1262; Estate of Krock v.

Commissioner, supra at 678; sec. 1.6013-5(b), Income Tax Regs.

     Normal support, as measured by the circumstances of the

parties, is not considered a significant benefit for purposes of

determining whether denial of innocent spouse relief would be

inequitable under section 6013(e)(1)(D).       Flynn v. Commissioner,

93 T.C. at 367; Purcell v. Commissioner, 86 T.C. at 242.

However, a significant benefit may be found where the omitted

income is used not merely to pay a few household expenses, but to

maintain a married couple's "unusual lifestyle".       Estate of Krock

v. Commissioner, supra at 683-684.       Tax savings, such as those

deriving from the omission of income and the erroneous Schedule C

deduction, constitute a significant benefit as well.       Bokum v.

Commissioner, 94 T.C. at 157.

     The amount of the understatement in the instant case

provided funding for unusual expenditures and asset acquisitions

for the benefit of petitioner beyond whatever might have been

normal support.   See supra pp. 3-4.     In sum, petitioner's

lifestyle improved significantly as a result in part of the

constructive dividend income and disallowed Schedule C expenses.

Sanders v. United States, 509 F.2d at 168.

     Even if the Court were to credit Mrs. Meyer's self-serving

testimony that the mansion was a "monster" and that she derived

no pleasure from her opulent surroundings, acquiring savings and
                                 - 25 -

other assets may also constitute a significant benefit precluding

the application of innocent spouse relief.     Purificato v.

Commissioner, 9 F.3d 290, 296 (3d Cir. 1993), affg. T.C. Memo.

1992-580; Estate of Krock v. Commissioner, supra at 679.

Evidence of a significant benefit includes transfers of property,

including unusual or lavish support or gifts in years after the

one at issue.   Estate of Krock v. Commissioner, supra at 679.



     Mrs. Meyer received large sums of money from several

corporations owned by her husband, both during and after the year

at issue.   See supra pp. 5-6.    Moreover, petitioner deposited

into her own account monthly rental income she received from a

tenant living at the Muttontown estate.    Although Mrs. Meyer

claimed to drive only a Mercury stationwagon, she had five

automobiles registered in her name, including a Lincoln and two

Lexuses, in the years following 1989.     Under these circumstances

the Court determines a significant benefit inured to petitioner

as a result of the understatement of tax and income.    See, e.g.,

Levitt v. Commissioner, T.C. Memo. 1995-464; Tabbi v.

Commissioner, T.C. Memo. 1995-463; Stiteler v. Commissioner, T.C.

Memo. 1995-279; Pettinato v. Commissioner, T.C. Memo. 1995-85.

     Another factor to consider is whether the spouse seeking

relief has been deserted by, or divorced or separated from, the

alleged culpable spouse.   Sec. 1.6013-5(b), Income Tax Regs.

However, relief is not limited to spouses whose marriages have
                              - 26 -

ended.   Mysse v. Commissioner, 57 T.C. at 700.   Mrs. Meyer's

separation from her husband is only one factor to be considered

in evaluating the issue of inequity.    Id.   We do not find it

decisive.   Mr. Meyer, although jailed, "has not disappeared and

left * * * [Mrs. Meyer] to 'face the music' alone, and she has

not been deserted in the sense foreseen by the legislators who

enacted the innocent spouse defense."    Hayman v. Commissioner,

992 F.2d at 1263.   In fact, he testified on her behalf and has

himself acceded to the deficiencies asserted by respondent.

     Finally, whether the failure to report correctly tax

liability stems from evasiveness or deceit on the part of the

"guilty" spouse is also relevant.   Since Mrs. Meyer has not shown

that the substantial understatement of tax and income arose from

any dishonesty or concealment on her husband's part, it is not

inequitable to hold them both jointly liable.     Hayman v.

Commissioner, 992 F.2d at 1262; McCoy v. Commissioner, 57 T.C. at

735; Prince v. Commissioner, T.C. Memo. 1995-368.

     For the foregoing reasons, we hold that petitioner Rosemarie

Meyer is not an innocent spouse within the meaning of section

6013(e) as to the deficiency, additions, and penalties in income

tax for the relevant year attributable to the grossly erroneous

items of both petitioner and her husband.
- 27 -

     Decision will be entered

for respondent.
