                            110 T.C. No. 26



                     UNITED STATES TAX COURT



                 ALBERT LEMISHOW, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent*



     Docket No. 18744-96.                 Filed June 2, 1998.



          P is liable for the accuracy-related penalty on
     that portion of the underpayment attributable to the
     negligent omission of $102,519 of the total unreported
     income. In determining the amount to which the penalty
     is applied, R first calculated the total underpayment.
     R then calculated the underpayment excluding the
     "negligent" income. R then imposed the penalty on the
     difference. P calculated the underpayment of tax
     attributable to negligence by adding the $102,519 to
     the reported income and applying the penalty to that
     amount. Held, R's method of computing the penalty is
     sustained.



     J. Dudley B. Kimball, for petitioner.

     Mark L. Hulse and Laurence D. Ziegler, for respondent.

     1

   This supplements Lemishow v. Commissioner, 110 T.C. 110
(1998).
                                 - 2 -

                       SUPPLEMENTAL OPINION


     TANNENWALD, Judge:     This case is again before us because of

differing computations for entry of decision under Rule 1551

submitted to implement our earlier opinion, Lemishow v.

Commissioner, 110 T.C. 110 (1998).       In that opinion, we held that

none of the $480,414 withdrawn from petitioner's Individual

Retirement Accounts and Keogh plans during 1993 constituted

qualified rollovers and thus the total amount of the withdrawals

was includable in income.    We also held that the accuracy-related

penalty (the penalty) under section 6662 did not apply to the

underpayment of tax attributable to $377,895 of the unreported

income which petitioner reinvested in an unsuccessful rollover

attempt, but that the penalty did apply to that portion of the

underpayment attributable to the $102,519 which petitioner did

not reinvest.

     The penalty is "an amount equal to 20 percent of the portion

of the underpayment * * * which is attributable to", in the

instant case, negligence.    Sec. 6662(a) and (b).    In determining

the amount of the penalty, respondent first calculated the total

underpayment.   Respondent then calculated the underpayment based




     1
        Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the taxable year at
issue, and all Rule references are to the Tax Court Rules of
Practice and Procedure.
                                - 3 -

on excluding the "negligent" income (i.e., the $102,519).2

Respondent then imposed the 20-percent penalty on the difference,

the difference representing the underpayment attributable to

negligence.   Petitioner calculated the underpayment of tax

attributable to negligence as the excess of tax based on income

of $102,519 plus the reported income, over the tax shown on his

return.   It is only because of the different tax rates at

different levels of taxable income that respondent's method

results in a higher penalty than the method petitioner

advocates.3

     Section 1.6664-3, Income Tax Regs., provides the rules for

determining the order in which adjustments to a return are taken

into account for the purpose of computing the penalties imposed

under sections 6662 and 6663.   The adjustments to the return are

made in the following order:

          (1) Those with respect to which no penalties have
     been imposed.

          (2) Those with respect to which a penalty has been
     imposed at a 20 percent rate (i.e., a penalty for
     negligence or disregard of rules or regulations,
     substantial understatement of income tax, or
     substantial valuation misstatement, under sections
     6662(b)(1) through 6662(b)(3), respectively).

     2
        Since this case only involves two adjustments, one with
respect to which no penalty applies and one to which a penalty
does apply, the underpayment excluding the "negligent" income is
the same as the underpayment that results from adding the
"nonnegligent" income to that shown on the return.
     3
        In this case, respondent's computation results in an
accuracy-related penalty of $8,119 and petitioner's in $5,298.
                              - 4 -

           (3) Those with respect to which a penalty has been
     imposed at a 40 percent rate (i.e., a penalty for gross
     valuation misstatement under section 6662(b)(3) and
     (h)).

          (4) Those with respect to which a penalty has been
     imposed at a 75 percent rate (i.e., a penalty for fraud
     under section 6663). [Sec. 1.6664-3(b), Income Tax
     Regs.]

Respondent's computation of the penalty is in accordance with

these rules and the implementing examples.   Petitioner offers an

alternative computation which he claims complies with the

statute.

     In reviewing a regulation, we consider two questions as set

forth by the Supreme Court:

     First, always, is the question whether Congress has
     directly spoken to the precise question at issue. If
     the intent of Congress is clear, that is the end of the
     matter; for the court, as well as the agency, must give
     effect to the unambiguously expressed intent of
     Congress. * * * if the statute is silent or ambiguous
     with respect to the specific issue, the question for
     the court is whether the agency's answer is based on a
     permissible construction of the statute. [Chevron
     U.S.A., Inc. v. Natural Resources Defense Council,
     Inc., 467 U.S. 837, 842-843 (1984); fn. refs. omitted.]

These principles were very recently reaffirmed by the Supreme

Court in Atlantic Mut. Ins. Co. v. Commissioner, 523 U.S.       ,

   , 118 S. Ct. 1413, 1418 (April 21, 1998), with the additional

admonition:

     the task that confronts us is to decide, not whether
     the Treasury regulation represents the best
     interpretation of the statute, but whether it
     represents a reasonable one. See Cottage Savings Assn.
     v. Commissioner, 499 U.S. 554, 560-561 (1991). * * *
                               - 5 -

Accordingly, the questions in terms of the instant case are:    (1)

Whether the Code clearly provides how to compute the portion of

the underpayment which is attributable to negligence; and, if

not, (2) whether section 1.6664-3(b), Income Tax Regs., is a

permissible construction of sections 6662(a) and (b) and 6664(a).

     In United States v. Craddock, ___ F.3d ___ (10th Cir.,

May 1, 1998), the Commissioner determined an addition to tax for

substantial understatement of tax under section 6661 for the

taxable year 1985.4   The taxpayer had disclosed one of the

unreported income items in the return.   Section 6661(a) imposed a

25-percent addition to tax on the amount of any underpayment

attributable to a substantial understatement, but section

6661(b)(2)(B) provided that the amount of the understatement be

reduced by "that portion of the understatement which is

attributable to" items which the taxpayer disclosed.   The

Commissioner computed the addition to tax in accordance with

section 1.6661-2, Income Tax Regs., comparing the total tax

required with that calculated as if the disclosed item had been

reported on the return, to determine the amount of the

understatement.   The taxpayer argued, as does petitioner herein,

that the understatement should be computed by calculating the tax


     4
        Sec. 6661 was repealed in 1989, and the substantial
understatement penalty was placed, along with the negligence
penalty at issue herein, in a new sec. 6662. Omnibus Budget
Reconciliation Act of 1989, Pub. L. 101-239, sec. 7721(a),
(c)(2), 103 Stat. 2106, 2395, 2399.
                               - 6 -

owed on an amount arrived at by excluding the disclosed item and

adding to the reported income those items to which the addition

to tax would apply.   The Court of Appeals for the Tenth Circuit

applied the test outlined in Chevron, U.S.A., Inc. v. Natural

Resources Defense Council, Inc., supra, found section

6661(b)(2)(B) ambiguous as to how to compute the portion of the

understatement which is attributable to disclosed items, and

upheld the regulation as a reasonable construction of section

6661.

     We are satisfied that the ordering principles in section

1.6664-3, Income Tax Regs., are a reasonable interpretation of

how to compute the portion of the underpayment which is

attributable to negligence.

                                       Decision will be entered in

                               accordance with respondent's Rule

                               155 computation.
