                        T.C. Memo. 2004-189



                      UNITED STATES TAX COURT



          KAING CHIN AND HAE KYUNG BAEK, Petitioners v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 8740-03.              Filed August 24, 2004.



     Sang I. Lee, for petitioners.

     Alan H. Cooper and Lauren Mark, for respondent.



              MEMORANDUM FINDINGS OF FACT AND OPINION


     LARO, Judge:   Petitioners petitioned the Court to

redetermine respondent’s determinations as to their 1999 Federal

income tax.   As to that year, respondent determined in the notice

of deficiency that petitioners were liable for a $154,896

deficiency and a $30,979.20 accuracy-related penalty under
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section 6662(a).1   The deficiency and penalty stemmed from

respondent’s determination that petitioners’ gross income for

1999 included $400,275 of unreported gross receipts received by

K & C International Co. (KC), the sole proprietorship of

petitioner Kaing Chin Baek (Baek).     Respondent determined the

presence and amount of this unreported income from information

that he received from third parties stating that Baek had on each

of various days made deposits totaling at least $10,000 into KC’s

business checking account (KC account).

     During this proceeding, respondent obtained the 1999 bank

statements of the KC account, spoke to Baek (or his counsel), and

conceded at the start of trial that none of the proceeds of the

referenced deposits were includable in petitioners’ gross income

as they were received by Baek in repayment of funds given to

Byung Chen Yoo (Yoo).   Respondent now notes that the cash

deposited into the KC account during 1999 ($898,286.80) exceeds

the amount drawn on checks payable from that account to Yoo or to

one of his businesses ($771,640) by $126,646.80 and argues that

the $126,646.80 is taxable to petitioners unless they prove to

the contrary.   Respondent conceded at the start of trial that

petitioners’ unreported income for 1999 is no greater than

$126,646.80 and that the deficiency and accuracy-related penalty



     1
       Section references are to the applicable versions of the
Internal Revenue Code.
                                - 3 -

determined in the notice of deficiency must be reduced accordingly.

     We decide whether petitioners’ gross income includes the

$126,646.80 just mentioned.   We hold it does not.   On the basis

of this holding, we also hold without further discussion that

petitioners have no understatement for that year and, hence, that

they are not liable for the accuracy-related penalty determined

by respondent.

                         FINDINGS OF FACT

     Some facts were stipulated and are so found.    The

stipulation of facts and the accompanying exhibits are

incorporated herein by this reference.    Petitioners, husband and

wife, resided in Diamond Bar, California, when their petition to

this Court was filed.   They filed a joint 1999 Federal income tax

return (1999 return) that reported that Baek’s wife had during

that year received $30,243 of income.    They did not report on

their 1999 return any income received by Baek.

     Before 1999, Baek operated a sole proprietorship, KC, that

exported sportswear to Japan.   During 1999, KC did not export any

merchandise to Japan, and KC did not receive any income.

Petitioners reported on their 1999 Schedule C, Profit or Loss

From Business (Sole Proprietorship), that KC’s gross receipts and

expenses for 1999 were both zero and that KC continued as of the
                                - 4 -

end of 1999 to hold $5,850 of inventory that it held as of the

beginning of that year.

     Baek maintained the KC account from before 1999 until

September 30, 1999, when the account was closed.      During 1999,

Baek deposited into the KC account cash totaling $898,286.80.

Baek obtained most of this cash from Yoo as repayment of funds

that Yoo received through checks drawn on the KC account.      Before

and during 1999, Yoo and Baek were involved in a check kiting

scheme under which they obtained cash by floating checks written

on the KC account.   Pursuant to this scheme, Baek, during 1999,

wrote a total of $771,640 in checks on the KC account to either

Yoo or to one of Yoo’s businesses.      Baek also wrote to other

individuals or entities checks drawn on the KC account, and he

caused those funds to be received by Yoo as well.      On each day

that a check was received from Baek, Yoo attempted to and usually

did cash that check at a bank that was different from the bank

that serviced the KC account (KC bank).      Before the KC bank

processed Baek’s check for payment, a time that was typically the

day after Yoo cashed the check at the other bank but, on account

of weekends and holidays, was sometimes 3 or 4 days, Yoo usually

gave Baek cash equal to the amount of the check by cashing a

check drawn on Yoo’s account.   During 1999, Yoo cashed at least

99 checks totaling $867,031 that were drawn on his account, and

he gave most of those proceeds to Baek who, in turn, deposited
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the proceeds into the KC account.    As to $81,511.64 that was

deposited into the KC account during 1999 but was not received

from Yoo, Baek received that cash by cashing at a check cashing

establishment (establishment) a check payable on the KC account

to the establishment or to cash.    Baek immediately deposited most

of the proceeds of those checks into the KC account so that other

checks from the KC account would be covered for payment.

                              OPINION

     Respondent argues primarily that the $126,646.80 is taxable

to petitioners as compensation that Yoo paid to Baek during the

operation of KC’s export business.     Respondent argues

alternatively that the $126,646.80 is taxable to petitioners

because they have failed to prove otherwise.     Petitioners argue

primarily that the $126,646.80 is not taxable to them in that it

consists of (1) cash that Baek received from Yoo in repayment of

funds drawn by him from the KC account and (2) cash that Baek

received from his cashing of checks at the establishment.

Petitioners argue alternatively that respondent bears the burden

of proof and that he has failed to carry this burden.

     We decide this case on the basis of the primary argument and

need not and do not decide the parties’ dispute as to who bears

the burden of proof.   We note, however, that the Court of Appeals

for the Ninth Circuit, the court to which an appeal of this case

lies, has held repeatedly that respondent’s determination in a
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notice of deficiency loses its presumption of correctness when it

is arbitrary and excessive, e.g., Estate of Mitchell v.

Commissioner, 250 F.3d 696, 701-702 (9th Cir. 2001), affg. in

part, revg. in part, and remanding T.C. Memo. 1997-461; Morrissey

v. Commissioner, 243 F.3d 1145, 1148-1149 (9th Cir. 2001), revg.

Estate of Kaufman v. Commissioner, T.C. Memo. 1999-119; Cohen v.

Commissioner, 266 F.2d 5, 11-12 (9th Cir. 1959), remanding T.C.

Memo. 1957-172, that a notice of deficiency may be arbitrary and

excessive when it contains a valuation that respondent abandons,

e.g., Morrissey v. Commissioner, supra at 1148-1149, and that,

here, respondent at trial conceded in full his sole determination

in the notice of deficiency that each day’s deposits totaling

$10,000 or more constituted unreported gross receipts of KC.

     As to the primary argument, the evidentiary record before us

is scant.   The parties stipulated minimal facts and exhibits, and

petitioners at trial called the only two witnesses, Baek and Yoo,

whose testimony was brief on direct examination and even briefer

on cross-examination.   We find, however, that Yoo did not pay the

$126,646.80 to Baek as compensation received in the operation of

KC’s export business.   That business was not even in operation

during 1999.   We also find that Baek received the $126,646.80

from nontaxable sources.   In addition to the $771,640 that was

paid to Baek by Yoo in repayment of the checks written to Yoo or

to Yoo’s businesses, the $898,286.80 of deposits into the KC
                                - 7 -

account, of which the $126,646.80 is part, included (1) most of

the $81,511.64 that was received from the checks cashed by Beak

at the establishment and (2) other amounts that Yoo gave Baek in

repayment of funds that Baek, either directly or indirectly,

caused to be received by Yoo.   We hold for petitioners.

     All arguments in this case have been considered, and those

arguments not discussed herein have been found to be without

merit or inapplicable to our decision.

                                             Decision will be entered

                                        for petitioners.
