                             T.C. Memo. 2016-109



                        UNITED STATES TAX COURT



               ITA ANDREW UDEOBONG, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



      Docket No. 379-13.                          Filed June 2, 2016.



      Ita Andrew Udeobong, pro se.

      Portia Neomi Rose and Yvette Nunez, for respondent.



            MEMORANDUM FINDINGS OF FACT AND OPINION


      PUGH, Judge: In a notice of deficiency dated October 9, 2012, respondent

determined a deficiency in petitioner’s 2010 Federal income tax of $49,014 and a
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[*2] penalty under section 6662(a) of $9,803.1 The issues for decision are: (1)

whether amounts received from Cigna Government Benefits (Cigna) should be

included in petitioner’s taxable income for 2010 and (2) whether petitioner is

liable for the penalty under section 6662(a).

                               FINDINGS OF FACT

      Some of the facts have been stipulated, and the stipulated facts are

incorporated in our findings by this reference. Petitioner lived in Texas at the time

his petition was filed.

      In 2001 petitioner started a business called Midland Health Care Medical

Supply & Equipment. Petitioner’s business was on the cash accounting method.

As part of his business, before 2005, petitioner received Medicaid reimbursement

payments from Cigna. Cigna reported these payments to petitioner on Forms

1099, and petitioner reported and paid Federal income tax on them. After

petitioner reported and paid tax on the payments, a dispute arose and he returned

the payments to Cigna. Petitioner did not deduct the returned payments from his

income for the year in which he returned them to Cigna; nor did he file a claim for

refund. Litigation over the payments followed, and Cigna was required to repay

      1
        Unless otherwise indicated, all section references are to the Internal
Revenue Code (Code) of 1986, as amended and in effect at all relevant times. All
Rule references are to the Tax Court Rules of Practice and Procedure.
                                        -3-

[*3] petitioner certain of the Medicaid reimbursement payments that petitioner had

returned to Cigna, resulting in the following events relevant to 2010.

      In 2010 petitioner received 78 checks from Cigna for which payment was

stopped or withheld (stopped checks). Petitioner also received four checks from

Cigna that represented payments he kept (retained checks). The face amounts of

the retained checks totaled $258,975.35. Petitioner endorsed the retained checks,

three of which he endorsed as payable to his wife.

      Cigna prepared a Form 1099-MISC, Miscellaneous Income, for 2010

reporting payments to petitioner of $3,204,637.91. This sum included both the

amounts represented by the stopped checks and the amounts represented by the

retained checks, although the total of those two amounts is greater than the amount

that Cigna reported to respondent on the Form 1099-MISC.

      Petitioner timely filed a Form 1040, U.S. Individual Income Tax Return, for

2010. On his Form 1040 he reported total income of $1,647 and no tax liability

and claimed a refund attributable to the making work pay credit and the earned

income credit (EIC). He did not include in income any of the payments he

received via the retained checks or the payments that Cigna reported on the Form

1099-MISC.
                                         -4-

[*4] In 2012 Cigna provided to petitioner a copy of the 2010 Form 1099-MISC

and a list of the 78 stopped checks. The total shown on Cigna’s list of the 78

stopped checks was $3,052,804.50. Cigna also provided to petitioner copies of 19

of the 78 stopped checks. The amounts shown on some of the 19 checks did not

match the corresponding check entries on Cigna’s list. Generally, the amounts

shown on the 19 checks were smaller than the corresponding entries on Cigna’s

list. For one check the discrepancy was over $3,000; the remaining discrepancies

were much smaller. Petitioner endorsed all 19 checks; one was endorsed as

payable to his wife (similar to three of the four retained checks).

      Respondent issued a notice of deficiency on October 9, 2012. Respondent

determined the amount of gross receipts from petitioner’s business that was

omitted from his return, $151,833.41, by subtracting the total on Cigna’s list of the

78 stopped checks, $3,052,804.50, from the total for the payments Cigna reported

on the Form 1099-MISC, $3,204,637.91. Respondent also made corresponding

computational adjustments to petitioner’s self-employment tax, making work pay

credit, and EIC and determined an accuracy-related penalty. Petitioner timely

petitioned the Court for redetermination.
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[*5]                                 OPINION

I. Burden of Proof

       Ordinarily, the burden of proof in cases before the Court is on the taxpayer.

Rule 142(a)(1); Welch v. Helvering, 290 U.S. 111, 115 (1933). Under section

7491(a), in certain circumstances, the burden of proof may shift from the taxpayer

to the Commissioner. Petitioner has not claimed or shown that he meets the

specifications of section 7491(a) to shift the burden of proof to respondent as to

any relevant factual issue.

II. Payments From Cigna

       Section 61(a) requires a taxpayer to include “all income from whatever

source derived”. Petitioner argues that he should not be taxed on income that he

did not receive, namely, the amounts shown on the 78 stopped checks. He is not;

the notice of deficiency did not include the amounts on the stopped checks.

Additionally, although petitioner admits that he received the payments made by

the retained checks, he argues that those payments represented the return to him of

Medicaid reimbursement payments on which he had paid tax and which he

subsequently had returned to Cigna (before 2005). He argues that he should not

have to pay tax again on the same income.
                                         -6-

[*6] No statutory provision gives petitioner the relief he is seeking. Section

1341(a) provides a form of relief for a taxpayer on the cash method of accounting,

allowing an adjustment to taxes owed in the year of the repayment to reflect taxes

already paid. That provision applies if: (1) a taxpayer includes an amount in

income for a prior tax year that the taxpayer repays in a later tax year and (2) the

taxpayer is entitled to a deduction for the repayment for that later year. Here,

petitioner received payments from Cigna in earlier years with respect to which he

paid Federal income tax. In a later tax year he returned the payments to Cigna.

Section 1341 might have allowed him to adjust his tax for the year that he repaid

Cigna, if he were entitled to a deduction in that tax year under another Code

provision. See sec. 1341(a); see also Farahani v. Commissioner, T.C. Memo.

2014-111 (holding that the taxpayer was not entitled to relief because the taxpayer

was not entitled to a deduction for the year before the Court). As a cash method

taxpayer, petitioner was entitled to a deduction only for the year in which he

repaid Cigna. See sec. 1.446-1(c)(1)(i), Income Tax Regs. (for a taxpayer using

the cash method of accounting, “[e]xpenditures are to be deducted for the taxable

year in which actually made”); see also sec. 1.461-1(a)(1), Income Tax Regs.

(stating the general rule that taxpayers making cash disbursements are to take

allowable deductions for those disbursements in the year made). That year was
                                          -7-

[*7] not 2010. Therefore, the amounts petitioner received from Cigna must be

included in his income for 2010 irrespective of whether they represent payments

that had been taxed but not retained for prior years. See sec. 61(a).

      Petitioner’s alternative argument, that he was unable to report the income

because Cigna did not provide him a Form 1099-MISC, also is incorrect. He

received and kept the payments made by the retained checks and must include

those amounts in income for the year he received them regardless of whether he

received any information return. See sec. 61; see, e.g., Du Poux v. Commissioner,

T.C. Memo. 1994-448 (failure to receive a Form 1099-MISC does not convert

taxable income into nontaxable income); Vaughn v. Commissioner, T.C. Memo.

1992-317 (same), aff’d without published opinion, 15 F.3d 1095 (9th Cir. 1993)

      At trial respondent also moved under Rule 41(b) to amend his answer to

conform to the evidence that the retained checks totaled $258,975.35, increasing

petitioner’s gross receipts from $151,833.41 to that amount and, as a result,

increasing the deficiency. Rule 41(b)(2) provides that when evidence is objected

to as outside the issues raised by the pleadings (petitioner did so), and, therefore,

the issue is not tried by consent, we may receive the evidence, and we may “at any

time allow the pleadings to be amended to conform to the proof, and shall do so

freely when justice so requires” so long as the nonmoving party is not prejudiced.
                                         -8-

[*8] Church of Scientology v. Commissioner, 83 T.C. 381, 469 (1984), aff’d, 823

F.2d 1310 (9th Cir. 1987); Estate of Horvath v. Commissioner, 59 T.C. 551

(1973). Whether justice requires us to grant respondent’s motion to amend the

pleadings under Rule 41 lies within our sound discretion. See, e.g., Estate of

Quick v. Commissioner, 110 T.C. 172, 178 (1998); Spain v. Commissioner, T.C.

Memo. 1978-270. Respondent’s motion came at the end of trial, and we conclude

that it was an unfair surprise and prejudicial to petitioner, who then was

unrepresented. Petitioner also testified that he endorsed the checks over to his

wife on instruction of counsel and paid his attorney from the proceeds, raising the

possibility that had the motion to amend been made earlier, petitioner might have

offered evidence at trial that he was entitled to a deduction that could have

reduced his taxable income. We therefore will deny respondent’s motion.

III. Section 6662(a) Penalty

      Section 6662(a) and (b)(1) and (c) imposes a penalty equal to 20% of an

underpayment of tax when the underpayment is attributable to “negligence or

disregard of rules or regulations” and/or a “substantial understatement of income

tax.” Negligence includes “any failure to make a reasonable attempt to comply

with the provisions of this title”. Sec. 6662(c). An understatement of income tax
                                         -9-

[*9] is a “substantial understatement” if it exceeds the greater of 10% of the tax

required to be shown on the return or $5,000. Sec. 6662(d).

      With respect to an individual taxpayer’s liability for a penalty, section

7491(c) places the burden of production on the Commissioner, requiring the

Commissioner to come forward with sufficient evidence indicating that imposition

of a penalty is appropriate. Higbee v. Commissioner, 116 T.C. 438, 446-447

(2001). Once the Commissioner meets his burden of production, the taxpayer

bears the burden of proving that the Commissioner’s determination is incorrect.

Id.; see Rule 142(a). We find that respondent has discharged his burden of

production as to a substantial understatement of income tax by showing that peti-

tioner failed to report and pay tax on the payments from Cigna represented by the

retained checks and that the understatement of income tax exceeds 10% of the

amount of the tax required to be shown on petitioner’s return (which amount is

greater than $5,000). See sec. 1.6662-4(b), Income Tax Regs.

      Section 6664(c)(1) provides an exception to the imposition of the accuracy-

related penalty if the taxpayer establishes that there was reasonable cause for, and

that he acted in good faith with respect to, the underpayment. Higbee v.

Commissioner, 116 T.C. at 448-449. The decision as to whether the taxpayer

acted with reasonable cause and in good faith is made on a case-by-case basis,
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[*10] taking into account all pertinent facts and circumstances. See sec. 1.6664-

4(b)(1), Income Tax Regs. Circumstances that may signal reasonable cause and

good faith “include an honest misunderstanding of fact or law that is reasonable in

light of all of the facts and circumstances, including the experience, knowledge,

and education of the taxpayer.” Id.

      Petitioner testified that he has paid taxes in the past (including on payments

from Cigna) and that he understands the duty to pay tax. Petitioner claimed that

he did not receive a Form 1099-MISC from Cigna for 2010 and did not include the

payments represented by the retained checks on his 2010 Form 1040 because of

his mistaken view that the payments were not taxable for 2010 because they had

already been taxed once. Petitioner’s mistaken view of the law does not rise to the

level of “reasonable cause” or “good faith”. See id. Nor does his nonreceipt of

the Form 1099-MISC constitute reasonable cause. See, e.g., Ashmore v.

Commissioner, T.C. Memo. 2016-36: Deas v. Commissioner, T.C. Memo. 2000-

204. We therefore hold that petitioner demonstrated neither “reasonable cause”

nor “good faith” for the underpayment. Having concluded that the penalty for an

underpayment attributable to a substantial understatement of income tax applies,

we need not consider application of the negligence penalty.
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[*11] IV. Conclusion

      We will sustain the deficiency and the penalty determined in respondent’s

notice of deficiency. In reaching our holding, we have considered all arguments

made and evidence offered, and, to the extent not mentioned above, we conclude

they are moot, irrelevant or without merit.

      To reflect the foregoing,


                                               An appropriate order and decision

                                       will be entered.
