                         T.C. Memo. 2003-343



                       UNITED STATES TAX COURT



     HERSCHEL H. AND ROBERTA S. HOOPENGARNER, Petitioners v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket Nos. 7986-00, 9423-01.        Filed December 17, 2003.


     James G. LeBloch, for petitioners.

     Thomas J. Fernandez and Edwin Herrera, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     VASQUEZ, Judge:    Respondent determined deficiencies in,

additions to, and penalties on petitioners Herschel and Roberta

Hoopengarner’s (petitioners) income tax as follows:
                               - 2 -


                                                 Accuracy-Related
                              Addition to Tax        Penalty
     Year      Deficiency     Sec. 6651(a)(1)      Sec. 6662(a)

     1994        $5,054              -0-               $892
     1995         8,413             $234                906
     1996         7,828              -0-                870
     1997        34,289              -0-              6,858
     1998        14,354              -0-              2,871
     1999         8,974              -0-              1,795

     The issues for decision are:   (1) Whether petitioners are

entitled to carry forward claimed net operating losses (NOLs) for

1994, 1995, 1996, 1997, 1998, and 1999; (2) whether petitioners

are entitled to deduct claimed Schedule C expenses for 1994 and

1995; (3) whether petitioners are liable for an addition to tax

pursuant to section 6651(a)(1)1 for 1995; and (4) whether

petitioners are liable for an accuracy-related penalty pursuant

to section 6662(a) for 1994, 1995, 1996, 1997, 1998, and 1999.

These issues arise primarily from facts surrounding claimed net

operating loss deductions that were allegedly generated when

numerous banks foreclosed on five properties that petitioners had

been developing for commercial use.

                          FINDINGS OF FACT

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

The stipulation of facts and the attached exhibits are


     1
        Unless otherwise indicated, all Rule references are to
the Tax Court Rules of Practice and Procedure, and all section
references are to the Internal Revenue Code as in effect for the
years in issue. All amounts are rounded to the nearest dollar.
                                 - 3 -

incorporated herein by this reference.   Petitioners were married

in 1955.   At the time they filed the petition, petitioners

resided in Laguna Niguel, California.

A.   Petitioners’ Work History

     Petitioner-husband (petitioner) began work in the insurance

business in 1957 or 1958 for Penn Mutual Insurance Co. (Penn

Mutual).   Except for 2 years with a different insurance company,

petitioner was continuously employed by Penn Mutual until 1979.

In or about 1960, petitioner opened a Penn Mutual agency in

Orange County, California.   Petitioner trained agents, and the

agency grew to employ approximately 40-50 people.   In 1979,

petitioner earned approximately $75,000.   In 1979 or 1980,

petitioner sold the agency to focus on real estate development

activities.

     Beginning in 1955, petitioner-wife was employed as a school

teacher.   She retired from teaching when her husband’s commercial

real estate development activities became successful.

B.   Petitioner’s Real Estate Development Activities

     Petitioner entered into commercial real estate development

beginning in 1963 or 1964.   Initially, petitioner was successful

with these activities.   He sold his first building at a profit,

and he was able to secure tenants, including his employer Penn

Mutual, for the buildings.

     In 1978, petitioners formed the H & H partnership with Grant
                                 - 4 -

B. and Victoria T. Hornbeak under California law.     The main

purpose of the partnership was to acquire real property in

Irvine, California, and to construct and rent a building on the

site.   Grant Hornbeak was the managing partner.    Petitioners and

the Hornbeaks each owned a 50-percent interest in the partnership

and shared net profits and net losses equally.     The agreement

stated:

          The Managing Partner shall provide quarterly
     financial statements of the partnership’s activities to
     each partner. In addition, the Managing Partner shall
     furnish each partner with a copy of the income tax
     return filed by the partnership * * *.

          *      *       *      *        *     *       *

          All books, records and accounts of the partnership
     shall be open to inspection by all partners * * *.

     Petitioner brought an asset base to the partnership so that

the partnership could secure bank loans to construct the

buildings.    The bank loans were secured with some of petitioner’s

personal assets.     Grant Hornbeak provided services for, and day-

to-day management of, the partnership in return for monetary

compensation.

     The only return filed for the partnership (on March 12,

1984) was for the taxable year ending September 30, 1982.

     On September 30, 1982, the partners dissolved the

partnership.    The partnership was unsuccessful due to

historically high interest rates of approximately 20 percent.
                               - 5 -

C.   K-Mart Property

     On December 26, 1980, petitioners, Grant Hornbeak, and

others purchased real estate located in Las Vegas, Nevada, for

$605,000 to construct a K-Mart.   On May 17, 1982, the property

was transferred to the H & H partnership.   On August 10, 1982, a

portion of the property was sold for $239,000.    Petitioner

testified that he did not recall whether the proceeds from the

sale were reinvested in the property for improvements.    On

September 22, 1983, Grant Hornbeak transferred his interest in

the property to petitioner for $127,500.

     Between 1982 and 1984, loans were taken against the property

in the amounts of $670,000, $5,800,000, and $995,000.

     In 1985, the property was foreclosed upon.    The foreclosure

proceeds totaled $6,606,398.

D.   Indio Property

     H & H Land Development Corp. purchased the Indio property,

located in Riverside County, California, for $1,590,000.    The

purchase price was secured by three deeds of trust.    On August 1,

1980, and March 3, 1981, H & H Land Development Corp. recorded

additional deeds of trust in the amounts of $1,227,912 and

$221,000, respectively.

     On February 9, 1982, H & H Land Development Corp. sold a

portion of the property for $54,000.
                                - 6 -

     In 1983, the property was foreclosed upon.    The foreclosure

proceeds totaled $2,063,113.

E.   Cowan Avenue Property

     The Cowan Avenue property, located in Irvine, California,

was initially owned by the H & H partnership.    On October 19,

1978, petitioners and the Hornbeaks recorded a grant deed for a

purchase price of $676,000.    On August 30, 1979, a deed of trust

was recorded securing a loan on the property in the amount of

$745,000.   On September 3, 1981, a collateral assignment of

leases was recorded securing a debt in the amount of $2,850,000.

Also on September 3, 1981, a deed of trust with assignment of

rents was recorded to secure a debt of $942,500.

     In 1982, the property was foreclosed upon.    A trust deed of

sale was recorded in satisfaction of the debt for $450,000

consideration received.

F.   Avenida Del Mar Property

     On January 16, 1981, petitioner and Grant Hornbeak acquired

the Avenida Del Mar property in San Clemente, California, for a

purchase price of $540,000.    Concurrently, a deed of trust was

recorded securing a loan of $375,000.    On March 17, 1981,

petitioner and Grant Hornbeak obtained a loan of $600,000,

secured by a deed of trust on the property.    Concurrently, a deed

of trust in full reconveyance by the Bank of San Clemente was

recorded, which related to the property.    On May 18, 1982, a
                               - 7 -

$550,000 loan was obtained, secured by a deed of trust on the

property.

     On January 27, 1982, a notice of default was recorded

pertaining to the $375,000 loan.    On June 17, 1982, a deed of

trust was recorded securing a note of $900,000.

     In 1984, the property was foreclosed upon.

G.   Business Center Drive Property

     On April 27, 1976, the property located at Business Center

Drive, Irvine, California, was assigned to petitioner for $67,500

in consideration.   On October 16, 1978, petitioner obtained a

loan in the amount of $675,000.    On June 26, 1979, a deed of

trust was recorded, securing a loan in the amount of $100,000.

     Allan Silverman, a business acquaintance of petitioner, took

out a loan of $493,250 and gave the funds to petitioner to repay

a different loan on the property.    Allan Silverman’s loan was

partially secured by the Business Center Drive property.    On

October 5, 1990, according to the schedule prepared by Revenue

Agent John Grennan regarding this property, petitioner

transferred a 50-percent interest in the property to Allan

Silverman.   Petitioner collected the rents on the Irvine Business

Center property and kept the money for himself instead of paying

the bank or Allan Silverman on the loan.

     In 1992, the property was foreclosed upon.
                                 - 8 -

H.   Petitioners’ Financial Difficulties

     Petitioners lost personal assets (totaling approximately

$2.5-$3 million), including their house, about the time when the

foreclosures upon the K-Mart, Indio, Cowan Avenue, and Avenida

Del Mar properties occurred.    Petitioners’ cars were not

foreclosed upon.   In 1988, petitioners moved to a rental house on

Balboa Island, California.    Petitioners were unable to afford the

legal retainer fee to file for bankruptcy.

     Petitioner-wife returned to teaching to supplement their

income, earning approximately $25,000 per year.       Petitioner

returned to selling insurance.    Petitioner earned approximately

$35,000-$50,000 in 1984-85, but his income increased to $75,000

by 1990.

I.   Petitioners’ Tax Returns

     Petitioners timely filed tax returns for all years in issue,

except taxable year 1995.    For 1978 through 1999, respondent’s

records show that petitioners reported adjusted gross income as

follows:

           Year1            Adjusted Gross Income

           1978                     $8,925
           1979                    -13,427
           1980                    -22,524
           1981                     -2,095
           1982                   -248,845
           1983             None reported on return
           1984                   -151,306
           1985                   -240,661
           1986                   -106,772
           1988                      -0-
                                   - 9 -

            1989                       -0-
            1990                    -820,198
            1991                    -796,911
            1992                    -787,394
            1993                    -724,043
            1994                    -678,567
            1995                    -627,612
            1996                    -575,790
            1997                    -438,628
            1998                    -365,005
            1999                    -285,208

           1
             For 1987, the parties provided no information as
      to whether or not a return was filed or as to the
      amount of taxable income or adjusted gross income.

J.    Respondent’s Adjustments

      On May 15, 2000, respondent issued a timely notice of

deficiency for 1994, 1995, and 1996.       On April 27, 2001,

respondent issued a timely notice of deficiency for 1997, 1998,

and 1999.       Respondent made the following adjustments and

determinations:

                      NOL          Schedule C
                   Carryover       Expenses
     Year          Disallowed      Disallowed      Other Adjustments1

     1994           $724,043         $9,950             -$298
     1995            678,567          6,100              -431
     1996            634,162           -0-               -0-
     1997            580,720           -0-               -0-
     1998            445,528           -0-              8,391
     1999            364,635           -0-              1,909
            1
              The Other Adjustments include items such as “SE
      AGI Adjustment”, “Social Security/RRB”, and “Itemized
      Deductions.”
                               - 10 -

                               OPINION

A.   Petitioners Have Not Substantiated the Claimed NOLs

     Petitioners have not substantiated their claimed net

operating losses.

     Taxpayers are required to maintain adequate records to

substantiate claimed losses, and taxpayers bear the burden of

proving that they are entitled to claimed losses.    Sec. 6001;

Rule 142(a);2 Welch v. Helvering, 290 U.S. 111, 115 (1933).

     Petitioners, in deducting NOLs, bear the burden of

establishing both the existence of the NOLs and the amount of any

NOL that may be carried over to the subject years.     United

States v. Olympic Radio & Television, Inc., 349 U.S. 232, 235

(1955); Keith v. Commissioner, 115 T.C. 605, 621 (2000); Jones v.

Commissioner, 25 T.C. 1100, 1104 (1956), revd. and remanded on

other grounds 259 F.2d 300 (5th Cir. 1958).    Such a deduction is

a matter of legislative grace; it is not a matter of right.

United States v. Olympic Radio & Television, Inc., supra at 235;

Deputy v. Du Pont, 308 U.S. 488, 493 (1940).

     Section 172 allows a taxpayer to deduct an NOL for a taxable

year.    The amount of the NOL deduction equals the sum of the NOL

carryovers plus NOL carrybacks to that year.   Sec. 172(a).

Absent an election to the contrary, an NOL for any taxable year


     2
        The parties agree that sec. 7491(a) is inapplicable in
this case, as the examination began before the effective date of
the statute.
                               - 11 -

must first be carried back 3 years and then carried over 15

years.3    Sec. 172(b)(1)(A), (2), and (3).   A taxpayer claiming an

NOL deduction for a taxable year must file with his return for

that year a concise statement setting forth the amount of the NOL

deduction claimed and all material and pertinent facts, including

a detailed schedule showing the computation of the NOL deduction.

Sec. 1.172-1(c), Income Tax Regs.

     1.     Petitioners’ Tax Returns Do Not Substantiate the
            Claimed NOLs

     A tax return is merely a statement of the taxpayer's claim

and does not establish the truth of the matters set forth

therein.    Wilkinson v. Commissioner, 71 T.C. 633, 639 (1979).

Petitioner's 1994 through 1999 individual returns do not, by

themselves, substantiate the claimed NOLs.     Furthermore,

petitioners did not provide the only tax return filed by the

partnership (for the taxable year ending in 1982), and

petitioners failed to provide their individual tax returns prior

to 1992, which are the years in which the net operating losses

were allegedly generated.    Nor have petitioners provided the

Court with copies of tax returns filed by H & H Land Development

Corp. for any taxable year.




     3
        For 1998 and 1999, NOLs must be carried back 2 years and
then carried over 20 years.
                                - 12 -

     2.     Petitioner’s Testimony Does Not Substantiate the
            Claimed NOLs

     Petitioner relies on his own testimony to substantiate the

claimed NOLs.    We found petitioner’s testimony to be general,

vague, conclusory, and/or questionable in certain material

respects.    Under the circumstances presented here, we are not

required to, and generally do not, rely on petitioner’s testimony

to sustain his burden of establishing error in respondent’s

determinations.    See Lerch v. Commissioner, 877 F.2d 624, 631-632

(7th Cir. 1989), affg. T.C. Memo. 1987-295; Geiger v.

Commissioner, 440 F.2d 688, 689-690 (9th Cir. 1971), affg. per

curiam T.C. Memo. 1969-159; Tokarski v. Commissioner, 87 T.C. 74,

77 (1986).

     Petitioner’s testimony was vague and unclear as to how the

loan proceeds contributed to improvements on the properties.

Indeed, petitioners did not object to respondent’s proposed

finding of fact which stated that petitioner “collected the rents

on the Irvine Business Center Property and kept the money for

himself instead of paying the bank on the loan.”    Petitioner’s

testimony did not establish whether the loans incurred were

recourse or nonrecourse.    Petitioners offered no testimony or

evidence as to depreciation claimed or deducted or “allowed and

allowable” on the properties.

     Furthermore, petitioners offered no explanation regarding

how their adjusted gross income corresponded with losses incurred
                               - 13 -

when the properties were foreclosed upon.    For example, in 1989,

petitioners reported adjusted gross income of zero.     In 1990,

petitioners reported adjusted gross income of -$820,198.

Petitioners contend that losses from foreclosures on the five

properties created the net operating losses.    Based on the

stipulated facts in this case, however, four of the properties

were foreclosed upon between 1982 and 1985, and the fifth

property was not foreclosed upon until 1992.    This is one of the

many inconsistencies evident in petitioners’ case.

     Petitioners have failed to offer credible testimony to meet

their burden of substantiation in this case.

     3.     Petitioners Provided No Financial Records

     Petitioners failed to provide any financial documentation to

substantiate the net operating losses.    Petitioners did not

produce books or records for the alleged loss years to

substantiate the claimed losses.    Petitioners provided no

financial statements from the H & H partnership.    Petitioner

conceded that he does not have any records for the properties or

the H & H partnership, as his partner Mr. Hornbeak retained all

the records.    Petitioner failed to obtain these records from Mr.

Hornbeak.    Petitioners provided no financial statements from H &

H Land Development Corp.    Petitioners provided no receipts as to

losses on the property.    Petitioners provided no information as
                               - 14 -

to costs incurred in buying or selling the properties, or in

foreclosure expenses.

       Petitioners’ situation in this case is a result of their own

inexactitude and failure to maintain records of their expenses.

Further, we find petitioners’ efforts before trial to locate any

records that might be in the hands of third parties especially

lax.

       4.   Petitioners Failed To Call Key Witnesses

       We note that neither Grant Hornbeak (petitioners’ partner in

the real estate transactions) nor anyone from Gendron & Co.

(petitioner’s accountant and preparer of the 1994 through 1999

tax returns) was called as witnesses.    We infer that their

testimony would not have been favorable to petitioners.     Wichita

Terminal Elevator Co. v. Commissioner, 6 T.C. 1158, 1165 (1946),

affd. 162 F.2d 513 (10th Cir. 1947).

       5.   The Court Will Not Estimate Petitioners’
            Claimed NOLs

       Despite the above mentioned discussion, petitioners argue

that they have substantiated their claimed net operating losses

for taxable years 1994 through 1999, based upon their alleged

bases in the properties and losses from the foreclosures.

Petitioners derived these numbers from property records gathered

by Revenue Agent Grennan during the audit.    Petitioners argue

that at the time of foreclosure, they had bases and losses in the

properties as follows:
                               - 15 -

    Property                  Basis              Loss

     K-Mart                 $6,963,500         ($957,102)
     Indio                   2,930,912          (921,800)
     Cowan Ave.              3,526,000          (226,000)
     Business Center Dr.       371,251          (371,251)

Petitioners make no argument regarding basis or loss for the

Avenida Del Mar property.

     If the taxpayer fails to keep adequate records but the Court

is convinced that deductible expenditures were incurred, the

Court may make as close an approximation as it can, bearing

heavily if it chooses upon the taxpayer whose inexactitude is of

his own making.   Cohan v. Commissioner, 39 F.2d 540, 544 (2d Cir.

1930); Shea v. Commissioner, 112 T.C. 183, 187 (1999); see also

Sandoval v. Commissioner, T.C. Memo. 2000-189 (we may estimate

basis).   However, there must exist some reasonable evidentiary

basis upon which to make such an estimate.    Vanicek v.

Commissioner, 85 T.C. 731, 742-743 (1985); Edwards v.

Commissioner, T.C. Memo. 2002-169.

     We are mindful that there must be sufficient evidence in the

record to provide a basis for us to make an estimate and to

conclude that a deductible expense was incurred in at least the

amount to be allowed.   Pratt v. Commissioner, T.C. Memo.

2002-279.   We are not required to guess with respect to the

amount of deductible expenses.    Norgaard v. Commissioner, 939

F.2d 874, 879 (9th Cir. 1991), affg. in part and revg. in part
                               - 16 -

T.C. Memo. 1989-390; Williams v. United States, 245 F.2d 559, 560

(5th Cir. 1957).

     Petitioners have not shown a reasonable basis for concluding

that the loans taken against the properties should be included as

increases to basis.   We are not convinced that the full amounts

of the loans were paid into the construction projects.    Given the

circumstances of this case and the inexactitude apparent from

petitioners’ evidence, we have no reasonable evidentiary basis to

make an approximation as to the amount of net operating losses.

We could choose a raw percentage and apply that percentage to the

total amount of the loans.    However, our choice of a percentage

would be mere guesswork with no reasonable evidentiary basis.

     Petitioners dispute the computations and theory set forth by

Revenue Agent John Grennan.    In analyzing whether petitioners had

substantiated their claimed NOLs, the Revenue Agent thought that

petitioners might have had cancellation of indebtedness income

when the foreclosures on the properties occurred.    Due partially

to the possibility of cancellation of indebtedness income, the

net operating losses were not substantiated.

     Petitioners argue that they did not have cancellation of

indebtedness income because they were insolvent when the

foreclosures occurred.   Furthermore, since they did not have

cancellation of indebtedness income, petitioners argue that they

had net operating losses.    While the Court is sympathetic to
                               - 17 -

petitioners’ financial hardships, and assuming arguendo that

petitioners did establish basis using the public property

records, and did establish that they were insolvent,4 petitioners

are incorrect as a matter of law in stating that they had net

operating losses.    Federal law provides that, generally, a

taxpayer must recognize income from the discharge of

indebtedness.   Sec. 61(a)(12); United States v. Kirby Lumber Co.,

284 U.S. 1 (1931).   The Code provides an exception to the

recognition of cancellation of indebtedness income in cases where

the discharge occurs when the taxpayer is insolvent.    See sec.

108(a)(1)(B); see also Babin v. Commissioner, 23 F.3d 1032, 1035

(6th Cir. 1994), affg. T.C. Memo. 1992-673.    Section 108(b)(1)

provides in turn that, upon discharge, the taxpayer must reduce

certain tax attributes by the amount of the cancellation of

indebtedness income excluded from gross income.    Section

108(b)(2) provides that NOLs are the first tax attribute to be

reduced,5 and section 108(b)(3) provides that they be reduced

dollar-for-dollar by the amount of the cancellation of

indebtedness income excluded under section 108(a).     Petitioners

have not proven that they did not have cancellation of



     4
         The Court makes no such findings.
     5
        A taxpayer can elect to reduce the basis of any
depreciable property by the amount of debt discharged before
reducing the amount of any other tax attributes. Sec. 108(b)(5).
Petitioners did not make such an election.
                                - 18 -

indebtedness income at the time of the foreclosures.      Nor have

they proven that any of the claimed NOLs were not reduced by

section 108(b)(1) and (b)(2).

     For the aforementioned reasons, petitioners did not

substantiate their claimed net operating losses for the taxable

years 1994, 1995, 1996, 1997, 1998, and 1999.

B.   Petitioners Failed To Address Claimed Schedule C Expenses

     Petitioners reported income and expense for Insurance

Service on Schedule C of the 1994 and 1995 tax returns.

Respondent disallowed certain Schedule C expenses. Petitioners’

briefs fail to address this issue.       We conclude that petitioners

have conceded the uncontested items and abandoned this issue.

See Petzoldt v. Commissioner, 92 T.C. 661, 683 (1989); Money v.

Commissioner, 89 T.C. 46, 48 (1987).

C.   Late-Filed Return for 1995

     Respondent determined that petitioners are liable for an

addition to tax pursuant to section 6651(a)(1) for 1995.      Section

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

return on the date prescribed (determined with regard to any

extension of time for filing), unless the taxpayer can establish

that such failure is due to reasonable cause and not due to

willful neglect.   The taxpayer has the burden of proving the

addition is improper.   See Rule 142(a); United States v. Boyle,

469 U.S. 241, 245 (1985).
                               - 19 -

     Petitioners stipulated that they did not file their tax

return for 1995 until October 21, 1996, the day on which

respondent received the return.    Petitioners offered no evidence

showing that the failure to file was due to reasonable cause and

not due to willful neglect.    Accordingly, we hold that

petitioners are liable for the addition to tax pursuant to

section 6651(a)(1).

D.   Section 6662 Accuracy-Related Penalty

     Section 6662 provides for an accuracy-related penalty equal

to 20 percent of the underpayment if the underpayment was due to

a taxpayer’s negligence or disregard of rules or regulations.

See sec. 6662(a) and (b)(1).    A taxpayer is negligent when he or

she fails “‘to do what a reasonable and ordinarily prudent person

would do under the circumstances.’”     Korshin v. Commissioner, 91

F.3d 670, 672 (4th Cir. 1996) (quoting Schrum v. Commissioner, 33

F.3d 426, 437 (4th Cir. 1994), affg. in part, vacating and

remanding in part T.C. Memo. 1993-124), affg. T.C. Memo. 1995-46.

     As pertinent here, “negligence” includes the failure to make

a reasonable attempt to comply with the provisions of the

Internal Revenue Code and also includes any failure to keep

adequate books and records or to substantiate items properly.

See sec. 6662(c); sec. 1.6662-3(b)(1), Income Tax Regs.    A

taxpayer may, however, avoid the application of the accuracy-

related penalty by proving that he or she acted with reasonable
                               - 20 -

cause and in good faith.    See sec. 6664(c).   Whether a taxpayer

acted with reasonable cause and in good faith is measured by

examining the relevant facts and circumstances, and most

importantly, the extent to which he or she attempted to assess

the proper tax liability.    See Neely v. Commissioner, 85 T.C. 934

(1985); Stubblefield v. Commissioner, T.C. Memo. 1996-537; sec.

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

     Petitioners argue that they provided all relevant

information to their tax return preparer, Gendron & Co.

Petitioners, however, have provided no testimony concerning the

information they gave to their return preparer.    No employee from

Gendron & Co. testified at trial.    Additionally, we have found

that petitioner failed to maintain adequate records related to

the claimed net operating losses.    Therefore, we find the

underpayment attributable to negligence or disregard of rules or

regulations.

     We conclude that petitioners are liable for a penalty

pursuant to section 6662 for 1994, 1995, 1996, 1997, 1998, and

1999.

     In reaching all of our holdings herein, we have considered

all arguments made by the parties, and to the extent not

mentioned above, we find them to be irrelevant or without merit.
                        - 21 -

To reflect the foregoing,

                                 Decisions will be entered

                            for respondent.
