                            T.C. Memo. 1999-117



                          UNITED STATES TAX COURT



  ALLEN BURDITT II AND SARAH MAUNEE S. BURDITT, Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



       Docket No. 916-96.                           Filed April 6, 1999.



       Kenneth A. Love, for petitioners.

       Carol B. McClure and Andrew M. Tiktin, for respondent.



               MEMORANDUM FINDINGS OF FACT AND OPINION

       GALE, Judge:     Respondent determined the following

deficiencies, addition to tax, and accuracy-related penalties for

the taxable years 1991, 1992, and 1993:


                              Addition to Tax            Penalty
Year       Deficiency           Sec. 6651(a)        Sec. 6662(b)(1),(2)

1991         $72,523                ---                  $7,570
                                - 2 -


1992         258,998           $89,391               11,918
1993          31,871             ---                  6,356

       After concessions, the remaining issues for decision are:

(1)    Whether amounts received by petitioners in 1992 pursuant to

settlement agreements were damages received on account of

personal injuries under section 104(a)(2),1 and (2) whether

petitioners are liable for a section 6662(a) penalty for 1992.

                          FINDINGS OF FACT

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

incorporate by this reference the stipulation of facts, the first

supplemental stipulation of facts, and the attached exhibits.

       At the time of the filing of their petition, petitioner

Allen Burditt II resided in Houston, Texas, and petitioner Sarah

Maunee S. Burditt resided in Sante Fe, New Mexico.

       Hereinafter, we shall refer to petitioner Allen Burditt II

as “petitioner” or “Mr. Burditt”, and references to "petitioners"

are to Allen Burditt II and Sarah Maunee S. Burditt.

       From 1988 through 1993, petitioner was the president of

Carancahua Resources, Inc. (CRI), a Texas corporation, and

petitioners held a controlling interest in the corporation that

owned 80 percent of CRI's stock.    In 1988, CRI acquired the lease



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


covering a previously completed oil and gas well and obtained

authorization to reenter the well.

     Before perforating the well, CRI needed certain items to

complete the well, including a “packer”.   A packer is an

expandable device that is run either in an open well, in a cased

hole, or in tubing to counteract pressure exerted by underground

oil and gas and prevent such fluids from flowing vertically.    CRI

purchased the packer from Lindsey Completion Services, Inc.

(“Lindsey”).   The Lindsey packer did not function effectively.

On October 3, 1988, after attempts to obtain a pressure test of

its seals were unsuccessful, the Lindsey packer was removed from

the well.   Lindsey then provided a replacement packer, which was

placed in the well.

     On October 4, 1988, CRI perforated the well at 9:30 a.m.     At

approximately 11:00 a.m., the well developed a gas leak at the

wellhead,2 which indicated that high pressure was being exerted

from the production zone below.   As a result of this leak, gas

and liquid began escaping into the atmosphere in an uncontrolled

manner, a condition referred to as a “blowout”.   The well emitted

large quantities of gas and oil, placing the lives of the 20 to

30 workers in the surrounding area, as well as Mr. Burditt’s, at

imminent risk due to the possibility that a spark from static

     2
        A “wellhead” is the portion of the well above ground that
seals the top of the well onto the surface casing or conductor
pipe.
                               - 4 -


electricity would ignite the oil and gas.    CRI ordered four truck

loads of “heavy mud”, which is used to contain uncontrolled wells

by pumping it into the well bore to offset the pressure of the

escaping oil and gas.   CRI also contacted a company that had the

necessary tools and equipment to pump the heavy mud to control

the well, but after surveying the scene, that company’s manager

decided it was too dangerous and departed with his crew.     CRI

then telephoned Halliburton Services, Inc. (“Halliburton”), and

Halliburton personnel agreed on the phone to control the well.

Halliburton personnel arrived at the well site at approximately

4:00 p.m.   However, Halliburton’s supervisory employee in charge

at the well site, Mr. Ken Weitzel, refused to allow Halliburton’s

employees or equipment to get any closer than approximately 200

yards from the wellhead.   As a result, Mr. Burditt and volunteers

from the other work crews had to assemble the pipeline from

Halliburton’s equipment to the wellhead.    Mr. Burditt and the

volunteers had to do this while being simultaneously sprayed by

the erupting oil and gas, which was so cold that it caused gloves

to freeze, and by hoses of fresh water to reduce the risk of

ignition.   It took approximately 30 to 45 minutes to perform the

hookup task under these conditions.    When the hookup was

completed, Mr. Weitzel then refused to start pumping the heavy

mud until Mr. Burditt could produce a check for $30,000, which

amount Halliburton believed CRI owed it for past services.     A CRI
                                 - 5 -


employee wrote a personal check in that amount, and Halliburton

started pumping the heavy mud.    Soon thereafter, Mr. Weitzel

demanded a corporate check from CRI, which petitioner could not

produce at that time.   Although the well had not been controlled,

Mr. Weitzel ordered the pumps stopped.    Mr. Weitzel forced

petitioner to hand over his car keys and wallet, and to sign over

his residence (on a handwritten document prepared by Mr. Weitzel)

before he agreed to start pumping again.    Mr. Weitzel stopped and

started pumping twice more, starting only after first demanding a

check for $30,000 brought by Mrs. Burditt on CRI's behalf, and

then after forcing petitioner to sign an indemnity agreement that

Halliburton had delivered to its employees at the well site.     In

each instance, the pumping was stopped by Mr. Weitzel when the

intensity of the oil and gas eruption had lessened, and the pumps

remained off until the intensity of the eruption had resumed

significantly.   The indemnity agreement contained language

releasing Halliburton from all liability stemming from

contractual, negligence, or strict liability claims that CRI

could assert relating to Halliburton's efforts to control the

well.   Eventually, Halliburton completed the pumping and “killed

the well”.

     In February 1989, CRI and petitioner, as joint plaintiffs,

filed a lawsuit in the District Court of Jefferson County Texas,

naming various defendants including Lindsey and Halliburton.
                               - 6 -


     In the original petition, CRI alleged that Lindsey provided

defective equipment and services.   CRI also claimed that

Lindsey's actions caused a blowout at the well, and as a result,

CRI (but not petitioner individually) suffered significant

economic damages.   The petition did not state any claims against

Lindsey that were personal to petitioner.   With respect to

Halliburton, however, the petition did assert claims that were

personal to petitioner.   CRI and petitioner alleged that

Halliburton entered into an agreement to provide emergency

services at the well site and then ceased the performance of its

obligations under their agreement, thereby contributing to the

damage of the well.   The petition claimed that these actions by

Halliburton caused both CRI and petitioner economic damages, and

in addition caused petitioner severe embarrassment and mental

anguish.   CRI and petitioner subsequently filed first, second,

third, and fourth amended petitions in March 1989, January 1990,

September 1991, and October 1991, respectively.   Mr. Burditt's

allegations in his personal capacity against Halliburton did not

change in the amended petitions.    However, certain of the amended

petitions did contain new allegations of personal injury.     In the

second and third amended petitions, an unidentified “plaintiff”--

that is, either petitioner or CRI--alleged a claim under the

Texas Deceptive Trade Practice Act - Consumer Protection Act,

Tex. Bus. & Com. Code sec. 17.50 (Vernon 1989), against Lindsey.
                               - 7 -


Subsequently, the fourth amended petition alleged that

“plaintiffs”--that is, both petitioner and CRI--suffered mental

anguish, torment, and heartache.    Lindsey filed a motion to

strike the fourth amended petition because it was filed 22 days

late under the trial court's docket control order.    The trial

court granted this motion and struck the fourth amended petition

in January 1992.

     In the second and third amended petitions, CRI and

petitioner claimed $10 million in actual damages and $5 million

in punitive damages.

     Lindsey, and CRI and petitioner, retained expert witnesses

to give testimony regarding the economic damages resulting from

the well blowout.   An expert for CRI and petitioner estimated the

total losses as a result of damage to the well and lost

production capacity at a present value of more than $3 million in

March of 1991.   An expert for Lindsey concluded that the well had

never been commercially viable.    No experts were retained to

testify with respect to personal injuries of petitioner.

However, CRI and petitioner did take the deposition of at least

five eyewitnesses to Halliburton's actions at the blowout.

Neither Lindsey or Halliburton deposed petitioner.

     On or about April 24, 1989, Halliburton served CRI and

petitioner with interrogatories, to which they jointly responded.

The interrogatories and responses included the following:
                         - 8 -


7.   Please state all facts which support your contention
     that Halliburton’s actions contributed to damage the
     Davis No. 1 well.

     Answer:   A deep hackberry well is an extremely
               volatile situation which requires precise
               control. When this well blew-out, the damage
               was being done to well formation on a
               continuous basis. The longer the damage was
               allowed to continue, the greater the damage
               would be. Since Halliburton could have
               controlled the well very quickly had it
               performed its obligations as promised, the
               damage which was done to the formation may
               very well have been minimized, if not
               eliminated. Accordingly, Halliburton’s
               failure to control the well in an expeditious
               and professional manner probably contributed
               to the full extent of the damage that
               occurred to the formation.

8.   Please state the damages you allege were caused by
     Halliburton, setting out each element and describe how
     you claim it is related to anything done by
     Halliburton. Please state specifically the amount you
     allege against Halliburton.

     Answer:   The well formation was damaged and ultimately
               the well was incapable of producing from the
               formation originally perforated. Therefore
               the cost of drilling a new well will have to
               be incurred. However that may not result in
               restoration of production. CRI and Allen
               Burditt owned a significant interest in the
               well prior to the blow-out. As a result of
               the blow-out and the cost overruns that
               necessarily follow it, they were required to
               sell a significant part of their interest in
               the well. Thus, they have forever lost the
               value of the production in place which they
               now cannot recover. The amount of this
               production is presently being calculated but
               is in excess of $2,000,000.00. The cost of
               drilling another well [is] in excess of
               $1,000,000.00.
                                - 9 -


     On or about August 5, 1991, Halliburton filed a motion for

summary judgment against CRI.   Halliburton asserted that the

indemnity agreement signed by Mr. Burditt, acting on CRI's

behalf, precluded CRI from holding Halliburton liable for damage

to CRI's property as a result of Halliburton's negligence or

strict liability.   On September 19, 1991, the trial court granted

Halliburton's summary judgment motion against CRI, leaving only

petitioner's personal claims against Halliburton pending before

that court.   Subsequently, CRI perfected an appeal of the order

granting Halliburton's motion for summary judgment.   Oral

arguments with respect to the appeal were set for October 22,

1992.

     On or about October 6, 1991, Lindsey filed a motion for

summary judgment against CRI and petitioner.    The motion asserted

that petitioner had no personal claims against Lindsey, a claim

which petitioner and CRI did not contest in their response to the

motion.   The trial court denied Lindsey's motion.

     A mediation session to address the claims of CRI and

petitioner against Lindsey and Halliburton was set for June 24,

1992.   In their mediation submission, CRI and petitioner focused

almost exclusively on the legal grounds for holding Lindsey

liable for the damages to the well formation.   Their submission

did not mention the events surrounding the efforts to control the

blowout or otherwise make any reference to Halliburton, except to
                               - 10 -


note that a previous Halliburton settlement offer was rejected.

At mediation, Lindsey made a settlement offer that the plaintiffs

did not accept, nor did the plaintiffs settle any of their claims

against Halliburton.

     Subsequently, Lindsey submitted a trial brief that did not

address any personal injury claims, but rather focused

exclusively on the law pertaining to CRI's economic claims

against Lindsey.

     Prior to trial, petitioner contacted Lindsey's counsel,

expressing an interest in accepting the previously refused

settlement offer by Lindsey.   Negotiations ensued, and

petitioner, for himself and on behalf of CRI, agreed to settle

all claims against Lindsey for $550,000.   The settlement amount

was agreed between Lindsey’s counsel and petitioner without any

discussion of an allocation of an amount to any of the specific

claims of petitioner or CRI.   A provision was added to the

written settlement agreement, at petitioner’s behest, which

provided:

     For the purposes of allocating damages between CRI and
     Burditt in the settlement of this action, Five Hundred
     Thousand and no/100 Dollars ($500,000.00) shall be
     credited to [Mr. Burditt] individually for mental
     anguish, pain and suffering, damage to his reputation
     and loss of good will and Fifty Thousand and no/100
     Dollars ($50,000.00) to [CRI] for damages to good will
     and damage to loss of business reputation.

     Petitioner had instructed the attorney representing him and

CRI in connection with the settlement to make sure that the
                              - 11 -


settlement document contained “the proper personal injury

language”.   The attorney consulted with a certified public

accountant to obtain the precise wording.   Lindsey’s counsel did

not negotiate over the terms of the allocation or object to its

inclusion in the agreement.   The settlement agreement was

executed on August 8, 1992.

     On August 14, 1992, Lindsey's insurer wrote a check payable

to CRI and petitioner in the amount of $400,000, and a check

payable to their attorney in the amount of $150,000.    Petitioners

split the $400,000 check into money orders in the amounts of

$328,325.81 and $50,000 payable to petitioner and CRI

respectively, while taking the remainder in cash.   Petitioners

deposited both of the money orders into Mrs. Burditt's personal

bank account.

     Subsequent to the failed mediation petitioner also contacted

Halliburton through its counsel to explore settlement.

Previously, Halliburton’s outside counsel handling the litigation

had discussed settlement with an in-house lawyer at Halliburton.

The outside counsel outlined his views on settlement in a letter

to the in-house counsel dated May 11, 1992.   In that letter,

outside counsel expressed his view that the trial court’s

granting of summary judgment in favor of Halliburton would

probably be reversed on appeal with respect to the gross

negligence and intentional tort allegations, with a remand for a
                              - 12 -


jury trial on those allegations.   The letter stated:   “Since the

alleged damaging conduct; i.e. turning off the pumps, was

intentional conduct, it is my opinion that we have some exposure

for whatever damages resulted from the delay.”   The letter then

cited the substantial expense of obtaining expert testimony to

counter petitioner’s and CRI’s expert witness's evaluation of the

well's value, and the additional legal work, in trying the case.

The letter recommended settling the case for $200,000 or less,

characterizing this as a “cost of defense” settlement. The in-

house lawyer at Halliburton used this letter to obtain settlement

authority in the amount of $200,000.

     Counsel representing petitioner and CRI sent a proposed

settlement agreement to Halliburton's counsel, which allocated

the entirety of a proposed settlement of $250,000 to petitioner

“Individually, for mental anguish, pain and suffering, damage to

his reputation and loss of good will”, with no allocation to CRI.

Halliburton's counsel responded by returning the proposed

agreement after changing the settlement amount to $200,000 and

deleting the language allocating it to petitioner individually

for personal injury claims.   Halliburton's counsel deleted the

allocation language because he was concerned that CRI might later

be able to disavow the settlement, based on absence of

consideration, if the settlement proceeds were allocated entirely

to petitioner.   Counsel for CRI and petitioner nevertheless
                               - 13 -


insisted on the allocation language as originally proposed.

Halliburton’s counsel relented, after concluding that since

Halliburton had been granted summary judgment on CRI’s claims,

CRI’s agreement to dismiss its appeal of the summary judgment

order would make it final, thus foreclosing any reassertion of

CRI’s claims.

     On September 14, 1992, the parties executed a settlement

agreement under which Halliburton paid $200,000 in exchange for

CRI’s and petitioner’s dismissal of all actions against

Halliburton.    The allocation language included in the Halliburton

settlement agreement, which was modeled after the language

previously used in the Lindsey settlement agreement, stated:

     For the purposes of allocating damages between CRI and
     Burditt in the settlement of these actions, Two Hundred
     Thousand and no/100 Dollars ($200,000.00) shall be
     credited to [Mr. Burditt], Individually, for mental
     anguish, pain and suffering, damage to his reputation
     and loss of good will.

     On September 4, 1992, the petitioners deposited

Halliburton's check in the amount of $200,000, payable to both

CRI and petitioner, in Mrs. Burditt's personal bank account.

                               OPINION

     The controversy in this case centers on the tax treatment of

the Lindsey and Halliburton settlement payments that petitioner

received in 1992.   Petitioners contend that the settlement

payments were received on account of Mr. Burditt’s personal

injuries and are therefore excludable from gross income under
                                - 14 -


section 104(a)(2).    Respondent counters that petitioners are not

entitled to exclude the settlement payments from gross income

under section 104(a)(2) because neither Lindsey or Halliburton

intended to compensate petitioner for personal injuries.

     Section 61(a) provides that gross income includes all income

from whatever source derived.    While section 61(a) broadly

applies to any accession to wealth, statutory exclusions from

income are narrowly construed.    See Commissioner v. Schleier, 515

U.S. 323, 327 (1995); United States v. Burke, 504 U.S. 229, 233

(1992); Commissioner v. Glenshaw Glass Co., 348 U.S. 426, 431

(1955).   One such statutory exclusion appears in section

104(a)(2), which excludes from gross income damages received on

account of personal injuries or sickness, whether by suit or

agreement.   Damages received are excludable from gross income

under section 104(a)(2) if the underlying action was based on

tort or a tort type claim and the amounts received were paid on

account of, and to compensate for, personal injuries or sickness.

See Commissioner v. Schleier, supra at 336-337; sec. 1.104-1(c),

Income Tax Regs.     The primary characteristic of a tort type claim

is the availability of compensatory remedies which are

traditionally evidenced by “a broad range of damages to

compensate the plaintiff ‘fairly for injuries caused by the

violation of his legal rights.’”     Commissioner v. Schleier, supra

at 335 (quoting United States v. Burke, supra at 235).      Amounts
                               - 15 -


received on account of a personal injury claim traditionally

involve payment for harms such as pain and suffering, emotional

distress, harm to reputation, or other consequential damages.

See United States v. Burke, supra at 239.

     When determining the tax consequences of an amount paid in

settlement of a suit, it is the nature of the underlying claim,

not its validity, that determines whether the payment was

received on account of personal injuries.   See id. at 237; Fabry

v. Commissioner, 111 T.C. 305, 308 (1998); Threlkeld v.

Commissioner, 87 T.C. 1294, 1297 (1986), affd. 848 F.2d 81 (6th

Cir. 1988); Glynn v.Commissioner, 76 T.C. 116, 119 (1981), affd.

without published opinion 676 F.2d 682 (1st Cir. 1982).   In

seeking the nature of the underlying claim, the court should

consider, “‘In lieu of what were the damages awarded?’”     Robinson

v. Commissioner, 102 T.C. 116, 126 (1994)(citing Raytheon Prod.

Corp. v. Commissioner, 144 F.2d 110, 113 (1st Cir. 1944), affg. 1

T.C. 952 (1943)(emphasis added)).   Whether the nature of the

underlying claim is for a tort type personal injury is a question

of fact, which is determined by considering the settlement

agreement in light of all the facts and circumstances, including

the allegations made in the State court proceedings, the evidence

marshaled, the arguments made by the parties, and the intent of

the payor of the settlement.   See Robinson v. Commissioner, supra

at 127.   Paramount to this inquiry is the payor's intent in
                                - 16 -


making the settlement payment.    See Knuckles v. Commissioner, 349

F.2d 610, 613 (10th Cir. 1965), affg. T.C. Memo. 1964-33;

Robinson v. Commissioner, supra at 127.       Any one of these factors

may be either persuasive or ignored.      See Threlkeld v.

Commissioner, supra at 1306.

     If the settlement agreement expressly allocates the

settlement between tort type personal injury damages and other

damages, it will be respected for tax purposes to the extent that

the parties entered into the agreement in an adversarial context

at arm's length and in good faith.       See Robinson v. Commissioner,

supra at 127.    Express allocations in a settlement agreement are

respected if the parties are adversarial with respect to those

allocations and not merely adverse as to the total sum of the

settlement.     See Robinson v. Commissioner, supra.    The

determination of whether the parties are adversarial for this

purpose is a question of fact.3    See Robinson v. Commissioner, 70

F.3d 34, 38 (5th Cir. 1995), affg. in part, revg. in part on

another ground and remanding 102 T.C. 116 (1994).




     3
        In their reply brief, petitioners assert for the first
time that any testimony contradicting the express language of the
settlement agreement contravenes the parol evidence rule and
therefore should be disregarded. Because this contention was not
timely raised, we shall not consider it.
                               - 17 -


1.   Lindsey Settlement

      The notice of deficiency determined that petitioners must

include the entire $550,000 Lindsey settlement in gross income.

Respondent now concedes that petitioners need only include

$400,000 of the settlement amount, and not the $150,000 paid to

petitioner’s and CRI’s attorneys.    Respondent contends that

petitioners received the $400,000 as a constructive dividend from

CRI because Lindsey's intent in settling the suit was to

compensate CRI for economic damages.    Petitioners concede that

$50,000 of the $400,000 was taxable income to them as a

constructive dividend from CRI.    We thus address whether

petitioners may exclude from gross income the remaining $350,000

they received pursuant to the Lindsey settlement agreement.

      a.   Allocation in the Settlement Agreement

      The Lindsey settlement agreement allocates $50,000 of the

settlement to CRI and the remaining $500,000 to petitioner

“individually for mental anguish, pain and suffering, damage to

his reputation and loss of good will”.    Petitioners argue that

the allocation in the Lindsey settlement agreement is controlling

for tax purposes because an express allocation is the most

important factor in determining the effect of a settlement and

because the parties were adversarial when the agreement was

executed.    Respondent contends that the written allocation should

be disregarded because it was not adversarial or made at arm's
                             - 18 -


length, was entirely tax-motivated, and did not accurately

reflect the claims at issue in the lawsuit.   We agree with

respondent.

     The record in this case makes clear that the parties to the

Lindsey settlement were not adversarial with respect to

allocations made in the settlement agreement.    The record amply

demonstrates that Lindsey was not concerned with how the

settlement proceeds were allocated between the various claims

asserted against it in the lawsuit.    Lindsey's attorney testified

that he did not care how the proceeds were allocated; his only

concern was a release of all claims.   Lindsey's attorney

testified that there was no negotiation of the terms of the

allocation, and there is no evidence in the record to suggest

otherwise.

     Petitioner argues, in effect, that the allocation was the

product of an adversarial process because Lindsey and petitioner

and CRI were adversaries in a lawsuit which had not been settled

prior to reaching agreement on the allocation.   Petitioner

distinguishes the instant case from the facts in Robinson v.

Commissioner, supra, where the parties to the lawsuit had signed

an agreement covering the amount of the settlement prior to

agreeing on an allocation.

     We believe petitioner misconstrues the requirement that

allocations in settlement agreements be adversarial.   There is
                               - 19 -


nothing in our opinion in Robinson, or the affirmance by the

Court of Appeals for the Fifth Circuit, to suggest that the prior

agreement as to the settlement amount was critical to the finding

that the allocations at issue were not adversarial.   Our finding

in Robinson was based upon a number of facts and circumstances,

which are also present in this case.    Parallels include testimony

from the payor's attorney that the parties were not adverse as to

the allocation language, that the allocation language was

unilaterally drafted by the payee, and that the allocation

language was not drafted until after the issue of the amount of

settlement had been decided.   The record in this case does not

show that any negotiation over the specifics of the allocation

occurred.

     It is also clear in this case, as in Robinson, that the

allocation language sought by petitioner was entirely tax-

motivated.   Petitioner instructed the attorney representing him

in the settlement negotiations to make sure he inserted the

“proper personal injury language” so that proceeds could be

received free of tax.   The attorney consulted an accountant for

this purpose, who provided “boilerplate” language.

     Finally, as in Robinson, the allocation language does not

reflect the realities of the settlement.    For example, the

allocation is made to petitioner for, inter alia, “damage to his

reputation and loss of goodwill”.   However, nowhere in the
                                - 20 -


pleadings or elsewhere in the record of the underlying litigation

did petitioner claim such damage as a result of Lindsey’s

actions.

     Based on the foregoing, we find that the allocation in the

Lindsey settlement agreement was not the product of adversarial

negotiation, and thus we disregard it.

     b.    Nature of the Underlying Claim

     Having disregarded the express allocation, we must examine

the facts and circumstances surrounding the settlement to

determine “In lieu of what” the damages were paid.     Robinson v.

Commissioner, 102 T.C. at 126.     Petitioners contend that Mr.

Burditt had a mental anguish claim against Lindsey, which Lindsey

paid to settle.     The record does not support this contention.

     Mr. Burditt did not assert any claims in his individual

capacity against Lindsey in the original and first amended

petitions.     The intent of the second and third amended petitions

with respect to any individual claims by Mr. Burditt for mental

anguish was ambiguous.     The second and third amended petitions

assert a claim under the Texas Deceptive Trade Practice Act -

Consumer Protection Act (DTPA), and petitioners argue that

recoveries for mental anguish claims are permitted under the

DTPA.     However, it is not clear from the language in the

pleadings whether Mr. Burditt or CRI is asserting the DTPA
                              - 21 -


claim.4   This ambiguity is resolved in the fourth amended

petition, which makes clear that both “plaintiffs”--i.e., CRI and

Mr. Burditt--are asserting claims under the DTPA, and expressly

claims, for the first time, damages for “mental anguish, torment

and heartache”.5   However, the fourth amended petition was struck

by the trial court as untimely, and any reinstatement of this

pleading was speculative.   Moreover, it was Lindsey's attorney's

opinion that the fourth amended petition would not be reinstated.

     The lack of clarity in the pleadings was reflected in

Lindsey's attorney's understanding of the claims that Lindsey was

defending against.   Although Lindsey's attorney acknowledged that

the blowout could have resulted in personal injuries, he

testified that in his opinion petitioner did not have any valid




     4
        Whereas portions of the second and third amended
petitions carefully distinguish between “CRI” and “Burditt”,
elsewhere the two are referred to collectively as “plaintiffs”.
In addition, the pleadings make occasional reference to
“plaintiff” in the singular, without any indication whether the
reference is to CRI or petitioner. The DTPA claim is one such
instance where “plaintiff” is used in the singular without
clarity as to its referent.
     5
       We note that sec. 104(a)(2), as applicable to the year at
issue, was not limited to recoveries for “physical” injuries or
sickness, and thus damages for emotional or psychological harms
were eligible for exclusion thereunder. See Commissioner v.
Schleier, 515 U.S. 323 (1995). As amended by the Small Business
Protection Act of 1996, Pub. L. 104-188, sec. 1605(a), 110 Stat.
1755, 1838, current sec. 104(a)(2) limits the exclusion to
damages “on account of personal physical injuries or physical
sickness”. (Emphasis added.)
                               - 22 -


personal claim under the DTPA against Lindsey because the Lindsey

tools were sold to CRI, not to petitioner.6

     Further, in a motion for summary judgment, Lindsey contended

that petitioner had no individual claims against it.    In the

response to this motion, CRI and petitioner made several

arguments, but did not dispute the contention that petitioner had

no individual claims.    In its trial brief, Lindsey did not

address any claim by petitioner for mental anguish or any variant

of emotional distress.    Lindsey's attorney testified that he did

not depose Mr. Burditt in preparation for trial, although he

would have done so if he believed Mr. Burditt was pursuing

personal injury claims.    Similarly, in reports filed for purposes

of mediation, in which the parties were required to state the

disputed issues of fact and law, neither party mentioned mental

anguish claims by Mr. Burditt; instead, the parties focused on

CRI's economic claims.

     Based on the facts and circumstances surrounding the

settlement, giving particular emphasis to the intent of the

payor, we do not believe that the amounts paid pursuant to the

Lindsey settlement were received “on account of personal injuries

or sickness” within the meaning of section 104(a)(2).    To the

     6
        CRI's and Mr. Burditt's own attorney in the lawsuit also
testified that he did not believe that Mr. Burditt had any claim
in his individual capacity against Lindsey. However, we give
little weight to this testimony because at the time of trial the
attorney had been sued by Mr. Burditt.
                               - 23 -


extent any settlement amounts were paid to CRI, we sustain

respondent’s determination, which petitioners have not addressed,

that petitioners received them as constructive dividends.

2. Halliburton Settlement

     In the notice of deficiency, respondent determined that

petitioners must include in gross income the full amount of

Halliburton's $200,000 settlement payment.    Petitioners contend

that the Halliburton settlement is excludable from their gross

income as it was received by Mr. Burditt on account of personal

injuries.

     a.   Allocation in the Settlement Agreement

     The Halliburton settlement agreement expressly allocated the

full $200,000 settlement solely to Mr. Burditt “for mental

anguish, pain and suffering, damage to his reputation and loss of

good will.”    As with the allocation in the Lindsey settlement

agreement, petitioners contend that the allocation in the

settlement agreement is controlling for tax purposes, while

respondent argues that the written allocation should be

disregarded.

     We agree with respondent because Halliburton, and petitioner

and CRI, were not adversarial with respect to the allocation in

their settlement agreement.    Cf. Robinson v. Commissioner, 102

T.C. 116 (1994).    Although Halliburton's attorney initially

rejected the language allocating the entire proceeds to personal
                              - 24 -


injuries of Mr. Burditt, he did not object because Halliburton

did not want any amount allocated to Mr. Burditt; rather,

Halliburton's attorney was concerned that a failure to allocate

any amount to CRI might fail to bind CRI to the settlement.    Once

satisfied that CRI's agreement to dismiss its summary judgment

appeal would preclude any later reassertion of CRI's claims,

Halliburton's attorney agreed to an allocation of the entire

proceeds to Mr. Burditt because Halliburton was otherwise

indifferent as to how the settlement proceeds were allocated.

Halliburton's attorney testified that the personal injury

allocation was not an item of contention between the parties and

that he “didn’t care if they put it in there or not.”

     Further, as in Robinson, the allocation did not reflect the

realities underlying the settlement with Halliburton and

petitioner’s insertion of it was entirely tax-motivated.    Similar

to the Lindsey settlement agreement, the Halliburton settlement

agreement partially allocates the award to petitioner for damage

to his reputation, notwithstanding the fact that it was never

claimed that Halliburton’s actions had resulted in this type of

damage.   In addition, the personal injury allocation in the

Halliburton agreement was based on the language used in the

Lindsey agreement, obtained from an accountant for the purpose of

securing tax-exempt treatment.
                              - 25 -


     As with the allocation in the Lindsey agreement, we

disregard the allocation in the Halliburton settlement agreement

as it was not the product of adversarial negotiation.

     b.   Nature of the Underlying Claim

     Disregarding the allocation in the settlement agreement, we

look to the nature of the underlying claim for which the

settlement was paid.   See Robinson v. Commissioner, supra at 126;

Threlkeld v. Commissioner, 87 T.C. at 1297.   Unlike his claims

against Lindsey, Mr. Burditt in every version of the petitions

asserted tort type claims against Halliburton for mental anguish,

as follows:

     CRI and Burditt would show that Halliburton's actions
     contributed to damage occurring to the Davis No. 1 well
     and that that has caused CRI and Burditt economic
     damages * * *. Additionally, Burditt would show that
     Halliburton's actions constituted duress and caused him
     severe embarrassment and mental anguish.

     Respondent argues that, notwithstanding the repeated

references to mental anguish in the petitions, Mr. Burditt

abandoned his mental anguish claims during the course of the

litigation.   Respondent relies on several factors to support this

interpretation.   Respondent places particular emphasis on

petitioner’s and CRI’s response to a Halliburton interrogatory

asking the nature of the damages Halliburton caused to CRI and

petitioner, in which they cite only economic damages to the well.

Respondent also points out that during discovery Halliburton

never took Mr. Burditt's deposition, that Halliburton addressed
                              - 26 -


only the economic claims of CRI and Mr. Burditt in its mediation

submission, and that Halliburton's attorneys testified that they

were only concerned with the claims for economic damages to the

well.   Contemporaneous correspondence between the Halliburton

attorneys substantiates that a primary influence on their

decision to settle for $200,000 was the estimated cost of

defending against CRI’s economic claims, specifically the cost of

obtaining expert testimony to counter the CRI expert witness who

valued the well formation damages at more than $3 million.

Finally, respondent points out that Mr. Burditt's own counsel in

the blowout litigation testified that he believed the focus of

the case was on CRI's claims for economic damages.

     It is clear from the record that Halliburton was concerned

about the economic claims of CRI and Mr. Burditt.    However, we

are not convinced that petitioner abandoned the mental anguish

claim that was repeatedly restated in the amended petitions, nor

do we believe, given the substantial evidence of deliberate

actions by Halliburton’s employees that were life-endangering,

that Halliburton was not also concerned about exposure to mental

anguish claims should the case go to a jury.   We believe that

Halliburton was concerned both with economic damages to the well

formation and with exposure to mental anguish claims and punitive

damages arising from the actions of its employees.    CRI and

petitioner had the depositions of at least five eyewitnesses who
                              - 27 -


all corroborated the allegation that Halliburton employees had

deliberately and repeatedly ceased efforts to control the well

blowout in order to extract concessions from petitioner and CRI.7

Halliburton’s own counsel conceded at the trial of this case that

he believed a jury would resolve against his client the question

of whether the shutoff of pumping was intentional.

     In arguing that Halliburton intended to settle only economic

claims, we believe respondent relies too heavily on the

interrogatory response in which CRI and petitioner fail to

include mental anguish among the damages they allege by

Halliburton.   The interrogatory eliciting this response was

immediately preceded by an interrogatory that could be

interpreted as confining the inquiry to damages to the well.   As

to Halliburton’s failure to take Mr. Burditt’s deposition,

Halliburton’s attorney conceded at the trial of this case that

further discovery would have been undertaken to clarify Mr.

Burditt’s personal injuries if the case had not settled.

     Respondent also emphasizes the failure of either party to

obtain expert testimony concerning mental anguish or other

personal injuries.   However, expert testimony would not have been




     7
       The depositions of these witnesses are cited not for the
truth of the matters asserted, but for the nonhearsay purpose of
showing the evidence that Halliburton's attorneys knew they would
face in any trial of Mr. Burditt's claims.
                                - 28 -


required to support a mental anguish claim.    The testimony of the

eyewitnesses to Halliburton’s actions may have been sufficient.

     Moreover, the assessment of Mr. Burditt’s then-attorney--

namely, that the claim against Halliburton was primarily for

economic damages--must be considered in light of the fact that at

the time of the trial of this case, the attorney was being sued

by Mr. Burditt with respect to his handling of the blowout

litigation.    Also, notwithstanding this assessment, the attorney

testified that he intended to use the actions of Halliburton's

employees to incite the jury.

     Considering all the facts and circumstances of the

litigation, we simply do not accept Halliburton's attorneys'

contention at the trial of this case that they were concerned

only with Halliburton's exposure for damages to the well

formation.    They may simply have been reluctant to concede a

client’s exposure to punitive damages.    We find it inconceivable

that someone at Halliburton reviewing this lawsuit did not

believe the company had exposure for mental anguish and/or

punitive damages should the case get to a jury.    We conclude that

Halliburton paid to settle not only economic claims for damage to

the well but also Mr. Burditt's mental anguish claim, and to

avoid the risk of punitive damages.

     Because we are convinced that the Halliburton settlement was

both for economic damages as well as for mental anguish and/or
                               - 29 -


punitive damages, we must estimate the portion of the payment

attributable to each.    Cf. Bayou Verret Land Co. v. Commissioner,

450 F.2d 850, 858 (5th Cir. 1971), affg. in part, revg. in part

and remanding 52 T.C. 971 (1969); Cohan v. Commissioner, 39 F.2d

540, 543-544 (2d Cir. 1930); Vanicek v. Commissioner, 85 T.C.

731, 742-743 (1985).    In such an instance, we make as close an

approximation as possible and may choose to bear heavily upon the

taxpayer “whose inexactitude is of his own making.”    Cohan v.

Commissioner, supra at 543-544.    Given that there is little or no

evidence of the extent of economic damages to the well caused by

Halliburton’s delay in controlling the blowout, and the inherent

imprecision in measuring mental anguish or punitive damages, we

estimate that half of the Halliburton settlement ($100,000) was

paid to settle the claim for economic damages to the well and

therefore is not excludable from petitioners' gross income.8      We

estimate that the remaining $100,000 was paid to settle Mr.

Burditt's claim for mental anguish or for punitive damages.

Guided by the pleadings filed by CRI and Mr. Burditt which sought

$10 million in actual damages and $5 million in punitive damages,

we allocate two-thirds of the remaining $100,000 as paid in lieu

of defending against Mr. Burditt's claim for mental anguish and


     8
       To the extent amounts were paid to CRI rather than
petitioners, we sustain respondent’s determination, which
petitioners have not addressed, that petitioners received
constructive dividends from CRI.
                               - 30 -


one-third as paid in lieu of defending against the claim for

punitive damages.   The amount allocated to Mr. Burditt's claim

for mental anguish ($66,667) is excludable from petitioners'

gross income as damages received on account of a personal injury,

sec. 104(a)(2), while the amount allocated to punitive damages

($33,333) is not.   See O'Gilvie v. United States, 519 U.S. 79

(1996).

3. Section 6662 Penalty

     For petitioners' 1992 tax year, respondent determined that

petitioners are liable for the section 6662(b)(2) penalty for the

substantial understatement of tax, or in the alternative, for the

section 6662(b)(1) penalty for negligence or disregard of the

rules or regulations.   Respondent's determinations are presumed

correct, and petitioners bear the burden of proving that the

penalty does not apply.   See Rule 142(a); Bixby v. Commissioner,

58 T.C. 757, 791-792 (1972).

     Section 6662(a) imposes a penalty in an amount equal to 20

percent of the portion of an underpayment of tax attributable to

negligence or disregard for rules or regulations or any

substantial understatement of income tax.   The term “negligence”

includes a failure to make a reasonable attempt to comply with

the provisions of the Internal Revenue laws, and “disregard”

includes any careless, reckless, or intentional disregard of

rules or regulations.   Sec. 6662(c); sec. 1.6662-3(b)(1) and (2),
                               - 31 -


Income Tax Regs.    An understatement of tax is substantial if it

exceeds the greater of 10 percent of the tax required to be shown

in the return or $5,000.    See sec. 6662(d)(1)(A)(i) and (ii).

     The penalty for negligence or disregard of rules or

regulations or for the substantial understatement of income tax

is inapplicable, however, to any portion of the underpayment for

which the taxpayer can show that he acted in good faith and had

reasonable cause.   See sec. 6664(c)(1).   The determination of

whether a taxpayer acted with reasonable cause and in good faith

is made on a case-by-case basis, taking into account all the

relevant facts and circumstances.    See sec. 1.6664-4(b)(1),

Income Tax Regs.    A taxpayer may demonstrate reasonable cause if

he can show that he relied in good faith on a qualified adviser

after full disclosure of all necessary and relevant information.

See Jackson v. Commissioner, 86 T.C. 492, 539-540 (1986), affd.

864 F.2d 1521 (10th Cir. 1989); Paula Constr. Co. v.

Commissioner, 58 T.C. 1055, 1061 (1972), affd. without published

opinion 474 F.2d 1345 (5th Cir. 1973); sec. 1.6664-4(b)(1),

Income Tax Regs.

     Petitioners assert they have shown reasonable cause because

their return was prepared by a certified public accountant.

Other than petitioner’s self-serving testimony that the

accountant was “aware of the settlement”, there is no evidence in

the record concerning the information that was provided to the
                                - 32 -


accountant.    The accountant was not called to testify.     We

believe it likely that the accountant was aware only of the terms

of the settlement agreement, and not the surrounding

circumstances.    Petitioners have in any event failed to show that

there was full disclosure.    We accordingly reject their claim of

reasonable cause.

     The penalty for the substantial understatement of income tax

is inapplicable if there is or was substantial authority for the

position taken on the return.    See sec. 6662(d)(2)(B)(i).       A

taxpayer's return position has substantial authority if the

weight of the authority supporting that position is substantial

as compared to the weight of the authority supporting contrary

treatment.    See sec. 1.6662-4(d)(3)(i), Income Tax Regs.     The

standard is an objective one that is less stringent than the

“more likely than not” standard (more than a 50 percent

likelihood of being upheld), but more stringent than the

“reasonable basis” standard (which if met avoids the negligence

penalty under section 6662(b)(1)).       See sec. 1.6662-4(d)(2),

Income Tax Regs.    An authority is accorded little weight if it

shares only some of the facts of the tax treatment at issue and

is otherwise materially distinguishable.       See sec. 1.6662-

4(d)(3)(ii), Income Tax Regs.

     We find that petitioners had substantial authority for

excluding the Lindsey and Halliburton settlement amounts.         When
                              - 33 -


petitioners took this return position, the extent to which

written allocation provisions in a settlement agreement

controlled the tax treatment of the settlement payments was not

clear.   While it had been established prior to the year in issue

that specific allocations in a settlement agreement did not

necessarily control, see Threlkeld v. Commissioner, 87 T.C. at

1306-1307; Mitchell v. Commissioner, T.C. Memo. 1990-617, affd.

without published opinion 992 F.2d 1219 (9th Cir. 1993), many

opinions prior to 1994 could be interpreted to imply that, where

there was express language in a settlement agreement making an

allocation, such language could be dispositive.   See Stocks v.

Commissioner, 98 T.C. 1, 10 (1992) (“If the settlement agreement

lacks express language stating what the settlement amount was

paid to settle, then the most important factor in determining any

exclusion under section 104(a)(2) is the 'intent of the payor' as

to the purpose in making the payment.”); Metzger v. Commissioner,

88 T.C. 834, 847 (1987), affd. without published opinion 845 F.2d

1013 (3d Cir. 1988); Bent v. Commissioner, 87 T.C. 236, 244

(1986), affd. 835 F.2d 67 (3d Cir. 1987).   Robinson v.

Commissioner, 102 T.C. at 127, decided in 1994, clarified that a

written allocation in a settlement agreement is respected only if

the parties were adversarial with respect thereto.   Robinson

clearly resolves the issue raised by the allocation provisions in

this case, but it had not been decided when petitioners took
                              - 34 -


their return position.   Prior to Robinson, we believe petitioners

at least had substantial authority for their position that the

express language in the settlement agreements controlled.

Accordingly, for purposes of the substantial understatement

penalty, the amount of any understatement is reduced by that

portion of the understatement attributable to the exclusion of

the Lindsey and Halliburton settlement payments.   As the

substantial authority standard of proof is more stringent than

that of reasonable basis, see sec. 1.6662-4(d)(2), Income Tax

Regs., we also find petitioners were not negligent with respect

to the underpayment attributable to the exclusion of the

settlement payments.

                                         Decision will be entered

                                    under Rule 155.
