                        T.C. Memo. 2008-62



                      UNITED STATES TAX COURT



         NEW YORK GUANGDONG FINANCE, INC., Petitioner v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 14809-04.            Filed March 11, 2008.



     Larry Kars, for petitioner.

     Joseph W. Fogelson and Nicole F. Cammarota, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     MARVEL, Judge:   By a notice of deficiency dated May 25,

2004, respondent determined the following withholding tax

deficiencies and additions to tax against petitioner:1


     1
      Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the years in issue, and

                                                    (continued...)
                                 - 2 -

             Withholding tax   Additions to tax   Addition to tax
Year          deficiencies     sec. 6651(a)(1)    sec. 6651(a)(2)

1994             $35,416          $8,854.00             -0-
1995             102,532          25,633.00             -0-
1996              29,900           6,727.50           $7,475


       After concessions,2 the issues for decision are:

       (1)   Whether petitioner, a corporation that paid interest to

Guang Xin Enterprises, Ltd. (GXE), during 1994, 1995, and 1996

(the years in issue), is liable for withholding tax deficiencies

under section 1461 for the years in issue in the amounts

determined by respondent or in some lesser amounts; and

       (2) whether petitioner is liable for additions to tax under

section 6651(a)(1) for failing to file Forms 1042, Annual

Withholding Tax Return for U.S. Source Income of Foreign Persons,

or Forms 1042S, Foreign Person’s U.S. Source Income Subject to

Withholding, for the years in issue.




       1
      (...continued)
all Rule references are to the Tax Court Rules of Practice and
Procedure.
       2
      Respondent concedes that petitioner is not liable for the
sec. 6651(a)(2) addition to tax determined in the notice of
deficiency.

     Petitioner alleged in its petition that the expiration of
the period of limitations barred the assessment and collection of
tax for the years in issue. However, petitioner did not pursue
this issue at trial or on brief, and we consider it abandoned.
See Leahy v. Commissioner, 87 T.C. 56, 73-74 (1986).
                                - 3 -

     In order to decide issue (1), we must first decide how much

interest petitioner paid to GXE during each of the years in

issue, and then we must decide whether any of the interest paid

to GXE qualifies for exemption under the Agreement for the

Avoidance of Double Taxation and the Prevention of Tax Evasion

With Respect to Taxes on Income, U.S.-P.R.C., Apr. 30, 1984,

T.I.A.S. No. 12065 (China Agreement), either because GXE

collected the interest as an agent for Guangdong International

Trust & Investment Corp. (GITIC), a corporation resident in China

during the years in issue, or because the loan transaction with

GXE was in substance a loan transaction with GITIC.

                        FINDINGS OF FACT

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

The stipulation of facts, the supplemental stipulation of facts,

and the second supplemental stipulation of facts are incorporated

herein by this reference.   Petitioner’s principal place of

business was in Houston, Texas, when the petition was filed.

Petitioner is a closely held corporation that was incorporated in

Delaware on December 2, 1987.

     During the years in issue, petitioner engaged in loan

transactions with GITIC and GXE, two foreign corporations.    GITIC

was a financial institution that was incorporated in 1980 under

the laws of the People’s Republic of China and, throughout the

years in issue, was wholly owned and controlled by the government
                               - 4 -

of the Chinese Province of Guangdong (Guangdong government).     GXE

was incorporated in 1985 under the laws of Hong Kong and was a

wholly owned subsidiary of GITIC from the date of its

incorporation through the end of 1996.

     During the years in issue, GXE shared office space with

GITIC in GITIC Plaza in Hong Kong.     The office suite housed

approximately 40-50 employees; approximately 6 to 8 of those

employees worked for GXE.   GXE’s employees sat in separate rooms

from GITIC’s employees.   GXE’s officers included Lin Wensheng,3 a

director and vice president of GITIC.

     On March 20, 1990,4 petitioner borrowed $2 million from GXE

at an interest rate calculated as 1.5 percent over the London-

based Interbank Borrowing Rate, adjusted semiannually.     The loan

agreement stated a term of 1 year, which could be extended for an

additional year.5   Lin Wensheng signed the loan agreement on

behalf of GXE, and Guo-Qing Tan signed on behalf of petitioner.

     3
      The record includes documents that romanize Lin Wensheng’s
name several different ways, including Ling Weizeng and Lee Wang
Chung. In this opinion, we adopt the romanization used in the
GITIC brochure that was admitted into evidence as Exhibit 8-J.
     4
      The English version of the loan agreement erroneously shows
an agreement date of Mar. 20, 1992.
     5
      Under the loan agreement, the maximum term of 2 years would
have ended on Mar. 20, 1992. However, petitioner’s president,
Lawrence Wong (Mr. Wong), credibly testified that the loan had
not been repaid before or during the years in issue, and the
record generally supports Mr. Wong’s testimony. In addition, the
parties do not dispute that petitioner had at least one
outstanding GXE loan during the years in issue.
                               - 5 -

The loan agreement identified GXE as the sole lending party.     GXE

submitted a Form W-8, Certificate of Foreign Status, dated

March 20, 1990, to petitioner in connection with the loan.

     On August 18, 1994, GITIC agreed to lend petitioner $2

million.   The GITIC loan agreement provided for a 2-year term and

interest payments at a rate of 10 percent for the first year and

a predetermined market rate for the second year.   Guo-Qing Tan

also signed the GITIC loan agreement on behalf of petitioner, and

Yao-Wei Xu signed on behalf of GITIC.   On or about August 23,

1994, petitioner exercised its right to borrow $2 million under

the GITIC loan agreement.   GITIC wired net loan proceeds of

$1,988,000 to petitioner on or about the same day.6

     On its Forms 1120, U.S. Corporation Income Tax Return, for

1994, 1995, and 1996, petitioner claimed deductions for interest

it allegedly paid during those years.   Two tax return preparers,

Mr. Steinhardt and Mr. Choy, assisted in the preparation of the

Forms 1120.   Petitioner attached Form 5472, Information Return of

a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation

Engaged in a U.S. Trade or Business, to its 1994 Form 1120.

Petitioner, however, did not attach Form 5472 to its Forms 1120

for 1995 or 1996.




     6
      The net loan amount was calculated by subtracting bank and
service fees of $12,000 from the $2 million GITIC loan amount.
                               - 6 -

     The 1994 Form 5472 identified GITIC as a 25-percent-or-more

foreign shareholder of petitioner.     The 1994 Form 5472 stated

that GITIC was incorporated in China and conducted its principal

business activities and filed income tax returns there.     The 1994

Form 5472 identified GXE as a related party to petitioner and

described GXE as a foreign person conducting its principal

activity as a “trading company”.   Petitioner reported $99,145 of

interest paid to GXE during 1994 on account of a loan with a

beginning and ending balance of $2 million.     The 1994 Form 5472

further stated that GXE principally conducted its business

activity in and filed its income tax returns as a resident of

Hong Kong.

     On a date that is not in the record, respondent issued to

petitioner a Form 4564, Information Document Request, regarding

interest paid by petitioner.   By letter dated September 8, 1998,

petitioner informed Mr. Steinhardt that it paid interest to GITIC

of $177,010.41 in 1995 and $139,798.61 in 1996 on account of the

GITIC loan and that it paid interest to GXE of $164,762.08 in

1995 and $77,099.91 in 1996 on account of the GXE loan.

Petitioner apparently furnished a copy of the September 8, 1998,

letter to respondent in connection with respondent’s examination

of petitioner’s returns.

     On July 27, 1999, petitioner filed a Form 1120X, Amended

U.S. Corporation Income Tax Return, with a Form 5472 attached,
                                   - 7 -

for each year in issue.7      The 1994 amended Form 5472 reported

that petitioner obtained an additional $2 million loan from GXE

during 1994.8      The 1995 and 1996 Forms 5472 reported that

petitioner maintained the $4 million loan balance through the end

of 1996.       The Forms 5472 also reported that petitioner paid

interest to GXE of $118,052.76, $341,772.49, and $99,666.39, for

1994, 1995, and 1996, respectively.

     Petitioner did not file Form 1042 or Form 1042S for any of

the years in issue, on the advice of its president Lawrence Wong

(Mr. Wong).       Before joining petitioner, Mr. Wong worked as a

certified public accountant (C.P.A.) and as a financial manager.

Mr. Wong began his career at Arthur Young & Co., an accounting

firm.       He then practiced privately for 8 to 10 years in New York

City.       After practicing as a C.P.A., Mr. Wong owned and managed a

finance corporation and served as its president from 1980 until

the time of trial.      Mr. Wong became a shareholder of petitioner

in 1992 and its president in 1996.

     On May 25, 2004, respondent issued a notice of deficiency to

petitioner in which respondent determined that petitioner was

liable for withholding tax deficiencies and additions to tax for

the years in issue.      Respondent calculated the deficiencies using


        7
         No paid preparer signed the Forms 1120X.
        8
      The 1994 amended Form 5472 reported a beginning loan
balance of $2 million and an ending loan balance of $4 million.
                               - 8 -

the interest amounts petitioner reported on the Forms 5472 filed

with its Forms 1120X.

     Petitioner timely petitioned this Court, alleging that

respondent’s determinations were in error.   On June 13, 2005,

petitioner filed an amendment to its petition specifically

alleging that respondent erroneously calculated the deficiencies

for the years in issue because the Forms 5472 upon which

respondent relied reported interest paid to both GXE and GITIC.

     In connection with the trial that followed, the parties

stipulated documentation of certain wire transfers during 1995

and 1996 and excerpts from petitioner’s general ledgers for 1995

and 1996.   The exhibits reflect that petitioner made the

following interest payments on the GITIC and GXE loans during

1995 and 1996:
                              - 9 -

A.   GITIC

                                                     General
 Payment date       Lender             Amount      ledger acct.

     2/22/95        GITIC        $102,222.22      Interest paid
     8/23/95        GITIC          74,788.19      Interest paid
                                  177,010.41

     2/23/96        GITIC           70,916.67     Interest paid
     8/23/96        GITIC           68,881.94     Interest paid
                                 1
                                   139,798.61
      1
      Petitioner also paid $65,000 by wire transfer to or for the
benefit of GITIC on May 29, 1996, and contends that the payment
was an interest payment. However, it does not appear from the
record as a whole that petitioner included this payment in
computing the amount identified in the Sept. 8, 1998, letter or
in its 1996 Form 5472, nor does it appear that respondent
included this amount in calculating the 1996 deficiency.
Consequently, we do not consider this payment in our analysis.

B.   GXE

                                                     General
 Payment date       Payee              Amount      ledger acct.
                                 1
     3/31/95         GXE          $33,475.15      From EB MMA
                                   2
     3/31/95         GXE             48,228.68    Interest paid
     9/21/95         GXE            83,058.25     Interest paid
                                  164,762.08

     3/21/96         GXE              77,099.91   Interest paid
      1
      The last digit of this entry does not appear on the
exhibit, but we infer that it must be as reflected above because
petitioner apparently included this amount in calculating the
total amount of interest paid on the GXE loan during 1995 as
reflected in the Sept. 8, 1998, letter.
      2
      We cannot tell from an examination of the general ledger
whether the $33,475.15 payment is included in the $48,228.68
entry. However, because petitioner apparently treated it as a
separate and additional interest payment and because the total
coincides with the total interest amount in the Sept. 8, 1998,
letter, we shall also treat the $33,374.15 payment recorded in
the general ledger as a separate payment for purposes of our
analysis.
                                - 10 -

     The total payments made on the GITIC loan for 1995 and 1996

and the total payments made on the GXE loan for 1995 and 1996, as

summarized above, coincide with the amounts set forth in

petitioner’s September 8, 1998, letter.   However, a comparison of

the Forms 5472 that petitioner attached to its Forms 1120X for

1995 and 1996 with the interest amounts in the September 8, 1998,

letter reveals the following:

                                   1995                 1996

Interest paid to
  GITIC per 9/8/98 letter       $177,010.41        $139,798.61

Interest paid to GXE
  per 9/8/98 letter              164,762.08          77,099.91

Total Interest
  per 9/8/98 letter              341,772.49         216,898.52

Interest reported as paid
  to GXE on Forms 5472
  attached to amended returns    341,772.49          99,666.39

     Difference                     -0-             117,232.13


                                OPINION

I.   Burden of Proof

     Generally, the Commissioner’s determination is presumed

correct, and the taxpayer bears the burden of proving that the

determination is erroneous.   Rule 142(a)(1); Welch v. Helvering,

290 U.S. 111, 115 (1933).   Petitioner argues, however, that the

burden of proof should shift to respondent because the notice of
                                 - 11 -

deficiency was capricious and arbitrary.9     In support of its

position, petitioner cites Portillo v. Commissioner, 932 F.2d

1128 (5th Cir. 1991), affg. in part, revg. in part and remanding

T.C. Memo. 1990-68.10

     In Portillo, the Commissioner determined that the taxpayer

had unreported income by comparing the amount of income reported

on a Form 1099 that had been issued to the taxpayer by a third

party with the amount of income from the third party payor

reported on the taxpayer’s Form 1040, U.S. Individual Income Tax

Return.   Id. at 1131.    When the amounts did not match, the

Commissioner concluded that the Form 1099 was accurate, even

though the third party who submitted the Form 1099 could not

substantiate the amount of income he allegedly paid.      Id.   The

Commissioner determined that the taxpayer had received unreported

income equal to the discrepancy between the Form 1099 amount and

the amount reported on the taxpayer’s return, and we upheld the

determination.   Id.     The Court of Appeals for the Fifth Circuit

reversed, holding that before the Commissioner could make a

determination that a taxpayer received unreported income, he


     9
      Petitioner does not contend that sec. 7491(a), which shifts
the burden of proof to the Commissioner if its requirements are
met, applies, and the record does not contain sufficient evidence
to establish that petitioner satisfies the sec. 7491(a)
requirements.
     10
      This case is appealable, barring a stipulation to the
contrary, to the Court of Appeals for the Fifth Circuit. See
sec. 7482(b)(1)(B).
                              - 12 -

needed “predicate evidence supporting * * * [his] determination.”

Id. at 1133.   The Court of Appeals concluded that the

Commissioner could not simply rely on a Form 1099 in making his

determination when the taxpayer contested the accuracy of the

Form 1099.

     This case is distinguishable from Portillo.   Respondent did

not determine that petitioner had unreported income, nor did he

arbitrarily attribute veracity to the statement of a third party

when making his determination.   Respondent used the Forms 5472

that petitioner filed with its amended income tax returns to

determine that petitioner was liable for withholding taxes.

Petitioner’s Forms 5472 reported interest paid to GXE, a Hong

Kong corporation that did not appear to satisfy the residency

requirements for favorable tax treatment under the China

Agreement.11

     Petitioner argues, however, that respondent was on notice

because its Forms 5472 reported two loans, one of which was made

by GITIC, a Chinese corporation that is exempt from U.S. income

tax under the China Agreement.   Petitioner alleges that it gave a

copy of its September 8, 1998, letter containing a summary of

interest paid during 1995 and 1996 on the GITIC and GXE loans to


     11
      The parties do not dispute that Hong Kong was not a part
of China during the years in issue. The Court takes judicial
notice that Hong Kong was a crown colony of the United Kingdom
until it became a Special Administrative Region of the People’s
Republic of China on July 1, 1997. See Fed. R. Evid. 201.
                               - 13 -

respondent before he issued his notice of deficiency and

therefore respondent was on notice that a portion of the reported

interest was not subject to U.S. income tax withholding under the

China Agreement.

      Petitioner’s argument ignores the fact that petitioner filed

Forms 1120X under penalties of perjury before respondent issued

the deficiency notice and 10 months after petitioner sent the

September 8, 1998, letter to its accountant.    The interest

payments that petitioner reported on the Forms 5472 attached to

the Forms 1120X are inconsistent with the letter in several

respects.    Respondent did not act capriciously or arbitrarily

when he determined on the basis of the residency of the interest

recipient (Hong Kong) and the amounts petitioner reported on its

Forms 5472 that petitioner had income tax withholding

deficiencies.    We conclude, therefore, that the burden of proof

remains with petitioner.

II.   Taxation of Interest Received by Foreign Corporations

      A.    Generally

      Except as provided in section 881(c), section 881(a) imposes

a tax of 30 percent on, inter alia, interest received from United

States sources by a foreign corporation12 to the extent the


      12
      A “foreign corporation” is a corporation that is not
organized in the United States or under the law of the United
States or of any State. Sec. 7701(a)(4) and (5). GITIC was a
corporation organized under the laws of China, and GXE was a
                                                   (continued...)
                              - 14 -

interest received is not effectively connected with the conduct

of a trade or business within the United States.13     Section

1442(a) generally requires the payor of interest subject to the

tax imposed by section 881(a) to deduct and withhold that tax at

the source.   If the payor does not do so, then it becomes liable

for such taxes under section 1461.

     Under section 894, treaty provisions may modify the Code,

including its withholding tax provisions.    However, foreign

corporations are not exempt from U.S. income taxation under a

treaty between the United States and a foreign country unless the

treaty is an income tax treaty and the corporation is a qualified

resident of such foreign country.    Sec. 884(e)(1).   A qualified

resident means, with respect to any foreign country, any foreign

corporation which is a resident of such foreign country unless

(1) 50 percent or more of the value of the corporation’s stock is

owned by individuals who are not residents of that foreign



     12
      (...continued)
corporation organized under the laws of Hong Kong.
     13
      Sec. 881(c)(1) generally exempts portfolio interest
received by a foreign corporation from sources within the United
States from the sec. 881(a) tax. “Portfolio interest” is defined
as interest paid on certain registered and unregistered
obligations that would otherwise be subject to tax. Sec.
881(c)(2). Portfolio interest, however, does not include such
interest received in certain circumstances by a bank in the
ordinary course of business, by a 10-percent shareholder, or by a
controlled foreign corporation from a related person. Sec.
881(c)(3). Petitioner does not argue that the interest in issue
was portfolio interest.
                                 - 15 -

country or who are not citizens or resident aliens of the United

States or (2) 50 percent or more of the corporation’s income is

used to satisfy liabilities to persons who are not residents of

the foreign country or residents or citizens of the United

States.   Sec. 884(e)(4)(A).    The Code specifically lists

exceptions for wholly owned subsidiaries of publicly traded

corporations.   See sec. 884(e)(4)(B).     However, no explicit

exception exists for wholly owned subsidiaries of privately owned

or government-owned corporations.     See id.

     B.    China Agreement

     Article 10, paragraph 3 of the China Agreement provides:

     interest arising in * * * [the United States] and
     derived by the government of * * * [the People’s
     Republic of China] or any financial institution wholly
     owned by that government, or by any resident of * * *
     [the People’s Republic of China] with respect to debt-
     claims indirectly financed by the government of * * *
     [the People’s Republic of China] or any financial
     institution wholly owned by that government, shall be
     exempt from tax in the * * * [United States].

The China Agreement applies only to “residents of one or both of

the Contracting States.”     Id. art. 1.   The two Contracting States

to the China Agreement are the People’s Republic of China and the

United States of America.      Id. art. 3, par. 1(c).   A resident of

a Contracting State is a person who is liable to pay tax to that

State by reason of residency, location of offices, place of

incorporation, or other similar criterion.      Id. art. 4, par. 1.
                                - 16 -

     Respondent determined that petitioner is liable for

withholding taxes on all of the interest reported on its Forms

5472 filed with its 1994, 1995, and 1996 Forms 1120X because the

forms listed GXE, a Hong Kong corporation, as the interest

recipient.   Petitioner argues that (1) the interest reported on

the Forms 5472 included interest paid to GITIC, a corporation

resident in China that was entitled to favorable tax treatment

under the China Agreement during the years in issue, and that (2)

interest paid to GXE should be treated as interest paid to GITIC.

Petitioner contends that the GXE loan was actually a loan from

GITIC and that GITIC chose to distribute the net loan proceeds

through GXE.    Petitioner contends, therefore, that the loan

originated with the Guangdong government and should be exempt

under the China Agreement.     Alternatively, petitioner argues that

GXE is GITIC’s agent and, as such, collected interest on the GXE

loan on GITIC’s behalf.

     C.   Interest Paid Directly to GITIC

     Respondent concedes that any interest payments made directly

to GITIC with respect to a loan made by GITIC fall squarely

within the exemption from U.S. taxation provided in the China

Agreement.     Respondent argues, however, that GXE and not GITIC

made the $2 million “GITIC” loan during the years in issue and

that the interest in question was paid to GXE on that loan.

Alternatively, respondent appears to argue that there are three
                              - 17 -

loans at issue--two from GXE and one from GITIC.   Respondent

seems to interpret the Forms 5472 as reporting petitioner’s

payment of interest on two loans from GXE and none from GITIC.

Respondent argues that all interest reported on the Forms 5472

was attributable to GXE loans and was properly subject to U.S.

income tax withholding.   Respondent urges this Court to treat

petitioner’s Forms 5472 as admissions that can only be overcome

by cogent proof.   See Estate of Hall v. Commissioner, 92 T.C.

312, 337-338 (1989); Estate of Baird v. Commissioner, T.C. Memo.

2002-299, revd. on other grounds and remanded 416 F.3d 442 (5th

Cir. 2005).

           1.   Number of Loans Made by GXE

     The preponderance of the evidence establishes that, during

the years in issue, petitioner had at least one outstanding loan

from GXE with a principal balance of $2 million and one

outstanding loan from GITIC with a principal balance of $2

million.   Moreover, we are satisfied that regardless of the

number of loans that petitioner may have obtained from GXE, the

principal balance of the GXE loan(s) during the years in issue

did not exceed $2 million.   Mr. Wong credibly testified that

petitioner received only $2 million from GXE.   The interest

payments recorded in petitioner’s general ledger for 1995 and

1996 match the amounts petitioner reported to Mr. Steinhardt in

the September 8, 1998, letter that showed one loan by GXE and one
                                - 18 -

by GITIC.14    The total amount of interest petitioner reported on

its 1995 Form 5472 coincides with interest paid to GITIC and GXE

as recorded in petitioner’s general ledger and reported in the

September 8, 1998, letter.    The evidence supports a finding that

petitioner had two outstanding $2 million loans, one from GITIC

and one from GXE, and we so find.

          2.     Whether Any Interest Attributable to the GITIC
                 Loan Was Included on the Forms 5472 Attached to
                 Petitioner’s Forms 1120X

     We now address whether any of the interest reported on

petitioner’s Forms 5472 was interest paid on account of the GITIC

loan, which respondent concedes is exempt from U.S. taxation.

Petitioner has the burden of proving that respondent’s

determinations are incorrect.    See Rule 142(a)(1); Welch v.

Helvering, 290 U.S. at 115.

                 (a) 1994

     The record is devoid of any credible evidence establishing

that the amount of interest paid with respect to the GXE loan was

different from that reported on the amended Form 5472 that

petitioner attached to its Form 1120X.    Consequently, unless we



     14
      The details of the GXE loan regarding the date of the loan
and the applicable interest rate, as described in the Sept. 8,
1998, letter, are not consistent with the facts and documents
regarding the 1990 GXE loan that were included in the parties’
stipulations of facts. Nevertheless, Mr. Wong confirmed in his
testimony at trial that, during the years in issue, petitioner
had an outstanding loan from GXE in the face amount of $2
million.
                              - 19 -

conclude that GXE made its loan to petitioner as GITIC’s agent or

that the GXE loan in substance was a loan from GITIC, we shall

sustain respondent’s determination with respect to 1994.

                (b) 1995

     The record convincingly establishes that petitioner

erroneously reported interest paid with respect to both the GITIC

and GXE loans as interest paid to GXE on its 1995 Form 5472.

Petitioner’s 1995 general ledger and the September 8, 1998,

letter confirm that petitioner paid interest of $164,762.08 on

the GXE loan and $177,010.41 on the GITIC loan in 1995.

Petitioner reported the sum of these amounts on its 1995 Form

5472.   Accordingly, we find that $177,010.41 of the $341,772.49

reported on the 1995 Form 5472 was paid on the GITIC loan and was

not subject to U.S. taxation under the China Agreement.

                (c) 1996

     The record regarding petitioner’s 1996 interest payments

supports a finding that on its 1996 Form 5472, petitioner

erroneously reported interest paid with respect to both the GITIC

and GXE loans as interest paid to GXE.   Petitioner’s 1996 general

ledger and the September 8, 1998, letter are consistent with each

other and reflect that petitioner paid interest of $77,099.91 on

the GXE loan and $139,798.61 on the GITIC loan in 1996.    However,

the total interest reported on Form 5472 attached to petitioner’s

1996 Form 1120X did not match the total interest paid to GITIC
                               - 20 -

and GXE as shown in petitioner’s general ledger and the September

8, 1998, letter.   The total interest reported on petitioner’s

1996 Form 5472 was $117,232.13 less than the general ledger and

September 8, 1998, letter totals.   Petitioner offered no

testimony to explain the discrepancy.

     We agree with respondent that petitioner’s 1996 Form 5472

contains admissions that can only be overcome by cogent proof.

See Estate of Hall v. Commissioner, supra at 337-338.    Although

the record as to 1996 is not as satisfying as the record with

respect to 1995 (in that the total interest reported on the 1996

Form 5472 does not equal the total interest paid to GXE and GITIC

as shown in the general ledger and the September 8, 1998,

letter), we nevertheless believe and conclude that the total

interest paid to GXE during 1996 is as shown in petitioner’s 1996

general ledger.    Petitioner has convincingly established that it

paid only $77,099.91 of interest to GXE during 1996.

Accordingly, we find that only $77,099.91 of the $99,666.39

reported on the 1996 Form 5472 represented interest paid to GXE.

     D.   Interest Paid on the GXE Loan

     Petitioner admits that GXE is incorporated and located in

Hong Kong, a geographical territory that for the relevant period

was not covered by the China Agreement.15   See China Agreement,


     15
      Petitioner did not timely raise any issue regarding GXE’s
residency or the taxability of GXE in China, and the location of
                                                   (continued...)
                               - 21 -

arts. 1, 3, 4.    Petitioner argues, however, that because GXE is a

wholly owned subsidiary of GITIC, interest paid to GXE is

indirectly paid to GITIC, and therefore such interest should be

exempt from U.S. taxation under the China Agreement.      Petitioner

relies on two alternative theories:      (1) The GXE loan was, in

substance, a loan from GITIC; and (2) GXE made the loan and

collected interest as an agent of GITIC.

          1.     Substance Over Form

     Petitioner argues that interest paid to GXE should be

treated as interest paid to GITIC because the parties intended

the loans to be from GITIC, regardless of which entity’s name

appeared on the loan agreements.    Petitioner contends that the

sharing of corporate officers, directors, and office space by

GITIC and GXE is evidence of corporate informality that led

petitioner to believe it was dealing with GITIC when it entered

into the loan agreement with GXE.      Petitioner contends that

GITIC, as the parent corporation, made all of the financing

decisions for GXE, including the decision to lend money to

petitioner.    According to petitioner, GITIC used its assets to

fund GXE and enabled GXE to lend money to petitioner.      Petitioner

also argues that GITIC guaranteed GXE’s loans and that a director

of GITIC signed the GXE loan agreement, evidencing the parties’



     15
      (...continued)
GXE’s office and its place of incorporation are in Hong Kong.
                                - 22 -

intent that the loan originate from GITIC.    Petitioner asserts

that the form of the transaction--that petitioner borrowed $2

million from GXE and paid interest to GXE on account of that

loan--should be disregarded in favor of the true substance of the

transaction.    Accordingly, petitioner would recast the GXE loan

transaction to reflect that petitioner borrowed an additional $2

million from GITIC, regardless of the fact that GXE signed the

loan agreement, distributed the net loan proceeds, and received

the interest payments.

     As a general rule, a taxpayer is bound by the form of the

transaction that the taxpayer has chosen.     Framatome Connectors

USA, Inc. v. Commissioner, 118 T.C. 32, 47 (2002), affd. 108 Fed.

Appx. 683 (2d Cir. 2004).    A taxpayer may argue that the

substance of the transaction should prevail over its form only in

limited circumstances “where his tax reporting and actions show

an honest and consistent respect for the substance of a

transaction.”     Estate of Weinert v. Commissioner, 294 F.2d 750,

755 (5th Cir. 1961), revg. and remanding 31 T.C. 918 (1959).    The

taxpayer “must provide objective evidence that the substance of

the transaction was in accord with the position argued by * * *

[the taxpayer] rather than the form set forth by all the relevant

documents.”     Groetzinger v. Commissioner, 87 T.C. 533, 541

(1986); see also Commissioner v. Natl. Alfalfa Dehydrating &

Milling Co., 417 U.S. 134, 149 (1974) (“while a taxpayer is free
                               - 23 -

to organize his affairs as he chooses, nevertheless, once having

done so, he must accept the tax consequences of his choice,

whether contemplated or not, * * * and may not enjoy the benefit

of some other route he might have chosen to follow but did not”).

       The record does not support petitioner’s contention that the

GXE loan was, in substance, a loan solely from GITIC and not from

GXE.    Mr. Wong testified that it was GITIC that negotiated the

GXE loan with petitioner and that petitioner recorded the GXE

loan as a loan from GITIC in its accounting records.    However,

petitioner’s general ledger segregates and identifies interest

payments made to GXE, and petitioner does not dispute that it

paid interest directly to GXE on the GXE loan.    In addition,

petitioner’s original 1994 Form 5472 and amended Forms 5472 for

each of the years in issue reported that petitioner paid interest

to GXE.    Moreover, in the September 8, 1998, letter, petitioner

admits that it had at least one GXE loan that was separate from

the loan it had with GITIC.    The GXE loan agreement lists GXE as

the lender.    Although the officer who signed the loan agreement

on behalf of GXE was also an officer of GITIC, related companies

frequently share officers and employees.    See United States v.

Bestfoods, 524 U.S. 51, 69 (1998) (acknowledging that it is not

unusual for a parent corporation and its subsidiary to share

directors and officers who can and do represent the two
                               - 24 -

corporations separately).   Finally, GXE submitted a Form W-8 to

petitioner on the date the GXE loan agreement was signed.

     There is no credible evidence in the record establishing

that GITIC funded the GXE loan.16   If GITIC had been the lender,

the parties easily could have prepared a loan agreement to

reflect that fact.   The record does not demonstrate that

petitioner consistently treated the GXE loan as a loan from

GITIC.    In fact, petitioner’s tax reporting, its general ledger,

and its loan agreements establish the contrary.    We conclude

therefore that petitioner has failed to prove that the loan it

obtained from GXE was, in substance, a loan from GITIC.

           2.    GXE as an Agent of GITIC

     Petitioner argues that GXE acted as GITIC’s agent in making

the GXE loan and, as such, collected interest on the loan for the

benefit of GITIC.

     Where a genuine agency relationship exists, the tax

consequences of transactions involving property held by an agent

may be attributed to the principal.     Commissioner v. Bollinger,

485 U.S. 340, 349 (1988).   An agency relationship, however, does

not automatically result from the fact that a parent corporation

owns and controls its subsidiary.     Id. at 346; Natl. Carbide


     16
      Although GITIC presumably capitalized GXE at its inception
in 1985, GXE lent the money in question to petitioner at least 5
years later. There is nothing in the record that indicates GITIC
contributed cash to GXE to enable GXE to make the loan to
petitioner.
                              - 25 -

Corp. v. Commissioner, 336 U.S. 422, 437 (1949).     In Natl.

Carbide Corp., the Supreme Court held that a parent-subsidiary

relationship does not qualify as an agency relationship unless

the subsidiary corporation’s relationship with its parent

corporation is not dependent on the parent corporation’s

ownership of the subsidiary (the ownership requirement) and the

subsidiary’s business purpose is “carrying on * * * the normal

duties of an agent.”   Natl. Carbide Corp. v. Commissioner, supra

at 437.   The Supreme Court further held that, if these two

criteria are satisfied, a subsidiary will qualify as an agent of

its parent corporation if (1) the subsidiary acts in the name of

and for its parent corporation, (2) the subsidiary binds its

parent corporation by its actions, (3) the subsidiary transfers

its receipts to its parent corporation, and (4) the income

received by the subsidiary is attributable to the services of its

parent corporation’s employees and assets.     Id.

     In Bollinger, the Supreme Court revisited the factors

identified and discussed in Natl. Carbide Corp. in deciding

whether a corporate nominee was the agent of several real estate

development partnerships.   There the Supreme Court “[declined] to

parse the text of National Carbide” and agreed “that it is

reasonable for the Commissioner to demand unequivocal evidence of

genuineness in the corporation-shareholder context”.

Commissioner v. Bollinger, supra at 349.     The Supreme Court
                              - 26 -

concluded that there was unequivocal evidence that the

corporation was an agent of the partnerships without rigidly

applying the Natl. Carbide Corp. factors, explaining its holding

as follows:

     It seems to us that the genuineness of the agency
     relationship is adequately assured, and tax-avoiding
     manipulation adequately avoided, when the fact that the
     corporation is acting as agent for its shareholders
     with respect to a particular asset is set forth in a
     written agreement at the time the asset is acquired,
     the corporation functions as agent and not principal
     with respect to the asset for all purposes, and the
     corporation is held out as the agent and not principal
     in all dealings with third parties relating to the
     asset. * * *

Id. at 349-350.

     Petitioner argues that GXE was an agent of GITIC with

respect to the GXE loan under the standard articulated in Natl.

Carbide Corp. and clarified in Bollinger because a GITIC brochure

describes GXE as GITIC’s agent and states that GXE’s business

purpose is to “act as an agent for GITIC”.   Petitioner, however,

offered no credible evidence to establish an agency relationship

between GITIC and GXE with respect to the GXE loan.   For example,

petitioner provided no evidence that (1) GXE acted in the name of

or for GITIC in making the loan, (2) GXE could bind GITIC by

GXE’s actions, (3) the income received by GXE was transferred to

GITIC, or (4) GXE’s income was attributable to GITIC’s employees

and assets.   Credible evidence in the record establishes GXE was,

among other things, in the business of investing in domestic and
                               - 27 -

foreign enterprises.   It was not a shell corporation that

functioned solely as GITIC’s agent.     GXE hired employees,

maintained office space, and operated in a different market than

its parent company.    The GXE loan fits squarely within GXE’s

scope of business.    In addition, the GXE loan agreement reflects

that GXE, not GITIC, was the lending party, and the loan

agreement does not contain any reference to GITIC.     The loan

agreement was signed by a director of GXE and does not contain

any indication that GXE entered into the loan agreement as an

agent of GITIC.

     Petitioner argues that GITIC was bound by the GXE loan

agreement because GITIC guaranteed GXE’s debt.     Petitioner bases

its argument on language in an offering circular dated

November 16, 1993, which states that GITIC provided a $15 million

working capital guaranty to GXE.    The record, however, is devoid

of any credible evidence that GITIC guaranteed GXE’s loan to

petitioner.   The loan agreement between petitioner and GXE is

silent regarding any guaranty made by GITIC, and the September 8,

1998, letter states that the GXE loan was not guaranteed.

     Petitioner argues that GITIC controlled the destination of

the GXE loan interest payments and that the interest received by

GXE was attributable to the services of GITIC’s employees by

means of shared officers, directors, and office space.     These

arguments are unavailing.    There is no credible evidence in the
                                - 28 -

record to indicate that GITIC controlled anything about the GXE

loan.     In addition, although the sharing of employees can

indicate an agency relationship, companies frequently share

employees.     See United States v. Bestfoods, 524 U.S. at 69

(citing Lusk v. Foxmeyer Health Corp., 129 F.3d 773, 779 (5th

Cir. 1997)).    Although GITIC and GXE shared the GITIC office

building in Hong Kong, the employees of each company were

segregated.

     We conclude that petitioner has failed to prove that GXE was

an agent of GITIC with respect to the GXE loan to petitioner.     We

hold that the interest paid to GXE as found in this opinion was

properly subject to withholding tax for the years in issue.

III. Addition to Tax

        Section 6651(a)(1) imposes an addition to tax for failure to

file a tax return, in the amount of 5 percent of the tax

liability required to be shown on the return for each month

during which such failure continues, but not exceeding 25 percent

in the aggregate, unless it is shown that such failure is due to

reasonable cause and not due to willful neglect.     See United

States v. Boyle, 469 U.S. 241, 245 (1985); Denenburg v. United

States, 920 F.2d 301, 303 (5th Cir. 1991); Harris v.

Commissioner, T.C. Memo. 1998-332.

        Petitioner admits, and the record clearly establishes, that

petitioner failed to file Forms 1042 for the years in issue.
                               - 29 -

See secs. 6651(a)(1), 6001; Ellwest Stereo Theatres of Memphis,

Inc. v. Commissioner, T.C. Memo. 1995-610; sec. 1.1461-2, Income

Tax Regs.    Consequently, petitioner is obligated to prove that

the failure to file Forms 1042 was due to reasonable cause and

not due to willful neglect.    See Higbee v. Commissioner, 116 T.C.

438, 447 (2001).

       A failure to file is due to reasonable cause where a

taxpayer “exercised ordinary business care and prudence and was

nevertheless unable to file the return within the prescribed

time”.    Sec. 301.6651-1(c)(1), Proced. & Admin. Regs.   Although

courts have sometimes found reasonable cause in determining the

amount of a taxpayer’s liability for the addition to tax where a

taxpayer relies upon expert advice, a taxpayer ordinarily is

responsible for ascertaining tax obligations such as filing

deadlines.    United States v. Boyle, supra at 251.   Lay persons

know that filing deadlines exist, and “reliance cannot function

as a substitute for compliance with an unambiguous statute.”        Id.

However, where a taxpayer reasonably relied on the advice of a

competent accountant or attorney in possession of all relevant

facts that it was unnecessary to file a return, reasonable cause

may exist, even if the advice turns out to be mistaken.       Id. at

250.

       Petitioner does not contend that it was unaware that a

withholding liability might exist as a result of making interest
                              - 30 -

payments to a foreign corporation.     Petitioner also does not

contend that it relied on the informed advice of a competent

professional that it did not have to file Forms 1042 and 1042S

for the years in issue.   Petitioner argues that the interest paid

to GITIC and GXE during the years in issue was exempt and that it

relied on the advice of Mr. Wong and other professionals to that

effect.

     We reject petitioner’s argument for several reasons.     First,

it does not appear that the professionals who allegedly advised

petitioner did anything to ascertain whether petitioner was

required to file Forms 1042 and 1042S before petitioner filed its

original returns for the years in issue.     There is no credible

evidence in the record establishing that a competent professional

investigated petitioner’s obligation to file Forms 1042 and 1042S

before the filing due date for the years in issue or that a

competent professional advised petitioner that it did not have to

file the forms.   This lack of evidence contrasts sharply with

applicable regulations that clearly and unambiguously require a

withholding agent to file Form 1042 for a calendar year, even if

otherwise taxable payments are exempt, if the agent is required

to file Form 1042S with respect to interest payments made during

such year.   Secs. 1.1461-2(b)(1), (c)(1)(ii), Income Tax Regs.17


     17
      Sec. 1.1461-2(b)(1), Income Tax Regs., requires a
withholding agent to make an annual return on Form 1042 even if
                                                   (continued...)
                              - 31 -

Second, the only evidence petitioner offered regarding the

section 6651(a)(1) addition to tax focused on advice allegedly

given to petitioner about its obligation to withhold U.S. tax on

the interest payments.   Petitioner contends that it relied upon

professional advice, both from Mr. Wong and from other

professionals with whom Mr. Wong spoke, to determine whether the

China Agreement exempted its interest payments.   However, the

only evidence petitioner introduced to support its argument was

testimony by Mr. Wong that he read the China Agreement and

consulted with unnamed experts regarding the obligation to

withhold tax on interest payments to GXE.   This evidence is not

sufficient to establish that petitioner reasonably relied on

professional advice from a person who had full knowledge of the

relevant facts and who conducted the necessary investigation to

reach a reasoned conclusion regarding petitioner’s obligation to

file Forms 1042.

     We conclude on the record before us that petitioner has

failed to establish reasonable cause for its failure to file



     17
      (...continued)
no withholding tax is required to be withheld if the withholding
agent is required by sec. 1.1461-2(c)(1), Income Tax Regs., to
file Form 1042S with respect to payments made during the year.
Sec. 1.1461-2(c)(1)(ii), Income Tax Regs., requires every
withholding agent to make an annual information return on Form
1042S of “Amounts upon which tax would have been required to be
withheld * * * but for an exclusion from gross income applicable
under any income tax treaty to which the United States is a
party”.
                             - 32 -

Forms 1042 and 1042S for the years in issue.   Accordingly, we

sustain respondent’s determination that petitioner is liable for

the section 6651(a)(1) addition to tax for each of the years in

issue, to the extent consistent with this opinion.

     To reflect the foregoing,


                                         Decision will be entered

                                      under Rule 155.
