                        T.C. Memo. 2005-277



                      UNITED STATES TAX COURT

                   K & M LA BOTICA PHARMACY,
             INCORPORATED, ET AL.,1 Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket Nos.   10500-99, 17346-99,   Filed December 1, 2005.
                   17725-99, 8134-00.



     Larry M. Bakman and Ronald S. Marks, for petitioners.

     Ric D. Hulshoff, Loren B. Mark, Ronald S. Chun, Angelique M.

Neal, and Daniel M. Whitley, for respondent.




     1
        Cases of the following petitioners are consolidated
herewith: Khaled Ahmed, docket No. 17346-99; Khaled Ahmed,
docket No. 17725-99; and K & M La Botica Pharmacy, Inc., docket
No. 8134-00.
                                 - 2 -

                MEMORANDUM FINDINGS OF FACT AND OPINION

     SWIFT, Judge:     Respondent determined deficiencies in and

additions to petitioners’ respective individual and corporate

Federal income tax liabilities, as follows:


Khaled Ahmed, Docket Nos. 17346-99 and 17725-99
                        Sec.          Sec.       Sec.    Sec.
Year   Deficiency    6651(a)(1)    6651(f)      6654    6663(a)
1995   $    25,790    $ 4,628          -         -    $   19,343
1996       299,639        -            -         -       224,729
1997     1,382,352     345,236         -         -     1,036,764
1998     3,121,466        -      $2,341,100 $141,678        -

K & M La Botica Pharmacy, Inc., Docket Nos. 8134-00 and 10500-99
1995      114,643         -            -        -         85,982
1996       80,552       22,647         -        -         60,414


       Based on petitioner Khaled Ahmed’s (Ahmed) and his wife’s

joint Federal income tax returns for 1995, 1996, and 1997 that

were filed with respondent, respondent’s notices of deficiency

for those years were issued to both Ahmed and to his wife.    Ahmed

and his wife’s joint Federal income tax return for 1998 was not

filed until after respondent had prepared a substitute tax return

and had issued a notice of deficiency for 1998 to Ahmed

individually.

     All of respondent’s income and expense adjustments reflected

in the above notices of deficiency relate just to Ahmed’s

separate business activities, and respondent’s determinations of

fraud do not relate to Ahmed’s wife.     Ahmed’s wife did not join

Ahmed in filing the instant petition.
                              - 3 -

     For convenience, we generally refer herein to the above

Federal income tax returns for 1995 through 1998 relating to

Ahmed and to his wife and to respondent’s notices of deficiency

for 1995 through 1997 relating to Ahmed and to his wife as if the

tax returns were filed by and as if the notices of deficiency

were issued only to Ahmed.

     After a difficult and lengthy trial and following the

settlement by the parties of many issues (including agreement for

1997 and 1998 as to the nominee status of various entities Ahmed

controlled and as to the income and expenses of those entities to

be charged to Ahmed individually), the only issues remaining for

decision in these consolidated cases relate to Ahmed’s liability

for 1995, 1996, and 1997 as to the civil fraud penalty and for

1998 as to the fraudulent failure to file penalty and petitioner

K & M La Botica Pharmacy, Inc.’s (K & M), liability for 1995 and

1996 as to the civil fraud penalty.

     Unless otherwise indicated, all section references are to

the Internal Revenue Code in effect for the years in issue, and

all Rule references are to the Tax Court Rules of Practice and

Procedure.

                        FINDINGS OF FACT

     Many of the facts have been stipulated and are so found.
                               - 4 -

     At the time the petitions were filed, Ahmed lived in Downey,

California, and K & M’s principal place of business was located

in Huntington Park, California.


Ahmed

     Ahmed was born in Cairo, Egypt.     From Cairo University,

Ahmed received a degree in pharmaceutical science.     From Elsayada

University, also located in Cairo, Ahmed received a master’s

degree in biochemistry.   Ahmed never obtained a medical degree or

a medical license.

     In late 1990, Ahmed moved from Egypt to the United States

and began pharmacology studies in a doctoral program at

St. John’s University in New York.     Ahmed did not complete his

pharmacology studies, but apparently Ahmed did obtain

pharmacist’s licenses in several States.2

     In 1992, Ahmed moved from New York to southern California.

     In California, Ahmed obtained a real estate broker’s

license, and Ahmed took various M.B.A. courses.     Ahmed also was

involved in real estate speculation and property management, and

he considered forming a tax preparation service.

     As a businessman, Ahmed appears to understand financial,

legal, tax, and general business concepts.




     2
        On his resume, Khaled Ahmed (Ahmed) is listed as a
licensed pharmacist in California, Illinois, Nevada, New Jersey,
New York, and Texas.
                               - 5 -

     As discussed below, during the years 1993 through 1998,

Ahmed formed and operated several pharmacies, medical clinics,

and a medical laboratory.   In connection with his various

business activities, Ahmed obtained licenses from the Food and

Drug Administration, the Drug Enforcement Agency, and the

California Department of Health Services.   Ahmed supervised

contracts with health maintenance organizations, health insurance

companies, and Medi-Cal.3

     Ahmed was familiar with the extensive Federal and State

regulations relating to the operation of pharmacies, medical

clinics, and medical laboratories and with the buying and selling

of pharmaceutical products.

     In the course of his business activities, Ahmed hired, paid,

and actively directed and micro-managed the work of numerous

medical, financial, and legal professionals.   Ahmed personally

prepared and/or reviewed financial statements and various legal

documents relating to his business activities.   Ahmed was

involved in the preparation and execution of sale agreements and

promissory notes, the maintenance of books and records, the

preparation of financial statements, initiating, prosecuting, and

supervising court cases (including the instant consolidated tax

cases), and the preparation of Federal income tax returns.



     3
        Medi-Cal is a California program which provides health-
care related financial assistance for low-income individuals.
                              - 6 -

Formation and Operation of Pharmacies,
Medical Clinics, and Medical Laboratory

     During the 4 years at issue herein (1995 through 1998),

corporate entities which Ahmed nominally established in

connection with the operation of his pharmacies, medical clinics,

and medical laboratory, included, among others, the following:


          K & M;
          Clinica Santa Maria, Inc.;
          Clinica Kholy Medical Group, Inc.;
          Clinica Leslie Medical Group, Inc.;
          Madina, Inc.;
          Reem Management Group, Inc.;
          Macca Corporation, Inc.;
          Apex Medical Lab, Inc.; and
          Apex Reference Lab, Inc.


     Hereinafter, we sometimes refer to the above entities formed

by Ahmed as the “nominee entities” -- reflecting the fact that

Ahmed, during at least 1997 and 1998, personally and solely

managed and controlled essentially all significant aspects of the

operations and activities of the pharmacies, the medical clinics,

and the medical laboratory; that Ahmed treated the nominee

entities as his alter ego; and that for Federal income tax

purposes for 1997 and 1998 all income and expenses of the nominee

entities are to be charged to Ahmed personally.

     In the latter half of 1993, using his health care expertise

and business experience, Ahmed opened in the Los Angeles

metropolitan area his first pharmacy, doing business under the
                               - 7 -

name of La Botica Pharmacy.   Apparently, in 1994, Ahmed opened a

second pharmacy located a few blocks from his first pharmacy.

Initially, Ahmed owned and operated the pharmacies as a sole

proprietorship.

     On August 5, 1994, Ahmed incorporated K & M, the other

petitioner in these consolidated cases, to nominally own and to

operate the pharmacies.4   Ahmed was the president and sole

shareholder of K & M.

     The pharmacies were located in a predominantly low-income

neighborhood with a large immigrant population.

     In connection with their purchase from Ahmed’s pharmacies of

prescription and over-the-counter (OTC) drugs and other medical

products, most of the customers received financial assistance

from Medi-Cal.

     In order to be qualified to bill Medi-Cal, an individual

pharmacist first would have to apply to the State of California

for a Medi-Cal provider number.   Alternatively, the owner of a

pharmacy could secure a group provider number that would cover

all pharmacists working at a particular pharmacy.   Apparently



     4
        Hereinafter in these findings of fact, use of various
words connoting ownership often are used for convenience and,
unless the text suggests otherwise, are not necessarily intended
to constitute affirmative factual findings as to the true
ownership of the pharmacies, the clinics, and the laboratory, and
the other property described herein.
                                - 8 -

Ahmed secured Medi-Cal group provider numbers for each of the

K & M pharmacies.

       When customers would make purchases of prescription and OTC

drugs and other items from Ahmed’s pharmacies, the customers

would present their Medi-Cal cards to the pharmacy cashiers.      The

cashiers would use an online system to determine the validity of

the customers’ Medi-Cal cards and whether Medi-Cal would approve

the purchases.

       If Medi-Cal approval was received, the cashiers would

complete the transactions with the customers, the customers would

make no payment to the pharmacies, and K & M later would be paid

by Medi-Cal.

       Ahmed’s pharmacies also made sales to customers of

prescription drugs and of medical supplies that were paid for by

the customers with cash.

       Ahmed’s pharmacies also sold to customers various

alternative medicinal items and nonmedicinal products such as tea

packs, herbal remedies, toiletries, bandages, soft drinks, and

snacks.    Medi-Cal did not cover these products, and customers

generally paid the pharmacies for these products with cash.


1996

       Sometime in early 1996, using K & M corporate funds, Ahmed

opened a medical clinic under the name of Clinica Santa Maria.

The clinic was located in the same neighborhood as the
                                 - 9 -

pharmacies, and the clinic billed Medi-Cal for medical services

provided to low-income individuals.

     California law prohibits individuals from owning or

operating a medical clinic unless they are medical doctors and

are licensed to practice medicine in California.5

     As indicated, Ahmed did not have a medical license.     To

circumvent the above restriction on ownership of his medical

clinic, Ahmed represented to the Medical Board of California

(Medical Board) that his clinic was owned by a partnership

between one Wael Elkholy (Elkholy) and Ahmed’s wife, both of whom

were medical doctors.   Elkholy, who apparently resided in

Connecticut, did not know of his purported ownership interest in

the clinic, and he did not authorize Ahmed to represent to the

Medical Board that he had an ownership interest in the clinic.

The record herein is unclear as to whether Ahmed’s wife knew that

Ahmed had used her name in connection with the clinic or if she

had authorized Ahmed to do so.

     In the early 1990s, Ahmed had met Elkholy in New York City,

while each, respectively, was studying for the pharmacy and for


     5
        See Cal. Bus. & Prof. Code secs. 2415, 2285 (West 2003 &
Supp. 2005); Steinsmith v. Med. Bd., 85 Cal. App. 4th 458 (2000).
In addition, Cal. law requires shareholders, officers, and
directors of medical clinics to be licensed physicians. Cal. Bus
& Prof. Code sec. 2408 (West 2003 & Supp. 2005); Cal. Corp. Code
sec. 13401 (West 1987 & Supp. 2005).
                              - 10 -

the medical boards.   Ahmed and Elkholy both had lived in the same

neighborhood, and both had worked in the same New York City

hospital.

     By 1993, Elkholy had obtained a medical degree and a

California medical license.   Ahmed’s wife had obtained a medical

degree but apparently was not licensed to practice medicine in

California.

     To increase prescriptions filled by Ahmed’s pharmacies,

Ahmed established a procedure for the medical clinic under which

drug prescriptions would not be given directly to patients of the

clinic; rather, clinic employees would deliver or would fax drug

prescriptions for clinic patients directly to Ahmed’s pharmacies.

Ahmed threatened to terminate clinic employees who did not follow

this procedure.

     Also, Ahmed established a policy for his medical clinic that

each patient was to receive either an x ray, a lab test, or a

shot, and each patient was to be provided a prescription.   These

services and prescriptions were provided to each patient of

Ahmed’s clinic regardless of the medical necessity and were

intended to increase revenue for Ahmed’s pharmacies and clinic.

     On June 13, 1996, Ahmed caused his accountant, one Ahmad

Saghir (Saghir), to prepare and to file articles of incorporation

for Clinica Santa Maria, Inc. (CSM).   Without Elkholy’s

permission or knowledge, Elkholy was identified as the sole
                              - 11 -

officer and shareholder of CSM, and Ahmed forged Elkholy’s

signature on CSM’s articles of incorporation.

     Ahmed also forged Elkholy’s signature and used Elkholy’s

name on other CSM documents in order to obtain for CSM a Medi-Cal

provider number and an employee ID number, to obtain credit from

vendors, to file corporate Federal income tax returns, and to

open bank accounts.

     From the summer of 1996 through April of 1998, Elkholy,

without being made aware of his nominal “ownership” interest in

CSM, provided certain consulting services to CSM for which he

received from CSM payments of $2,000 a month.

     In September of 1996, Ahmed opened another pharmacy under

the K & M name as a “closed-door” pharmacy in the same

neighborhood as Ahmed’s other pharmacies and as the CSM medical

clinic.   This third pharmacy did not have walk-in customers or

regular business hours.   Instead, this pharmacy operated as an

overflow pharmacy for the other two pharmacies.

     Whenever the other pharmacies had a backlog of prescriptions

to fill, Ahmed would contact an on-call pharmacist who would come

into the closed-door pharmacy and fill the prescriptions which

the other pharmacies were not able to fill.
                               - 12 -

1997

       In 1997, Ahmed opened another closed-door pharmacy under the

K & M name and three additional medical clinics under the CSM

name, each in the same neighborhood as the other pharmacies and

clinic.    One of the clinics functioned as an educational clinic

and did not treat patients in the traditional sense.    Rather, in

this clinic, classes relating to family planning and to the

prevention of sexually transmitted diseases were held for

residents of the community, for which classes the clinic received

payment from the State of California.

       Title to the building in which one of Ahmed’s pharmacies and

one of his medical clinics were located was in the name of K & M.

       On approximately April 28, 1997, Ahmed forged Elkholy’s

signature on an amendment to the CSM articles of incorporation to

change the CSM corporate name to Clinica Kholy Medical Group,

Inc. (CK).    The stated reason for this name change was that

another medical clinic in California already operated under the

name of Clinica Santa Maria.

       In October of 1997, while Elkholy was on a trip to

California, Ahmed offered to sell to Elkholy for $600,000 a 50-

percent interest in the medical clinics being operated under the

CK name, 100 percent of the stock of which, as indicated, was

already in Elkholy’s name.    At that time, Elkholy did not know

that he was identified in California State records as the nominal
                               - 13 -

owner of CK, and Elkholy was not aware of the name change from

“Clinica Santa Maria” to “Clinica Kholy”.

     Elkholy returned to Connecticut without deciding whether to

purchase an interest in the medical clinics.

     In November of 1997, Ahmed began negotiating for the sale of

one of the medical clinics (the Lynwood Clinic) to a Dr. Basil

Falahy (Falahy).   Ahmed conducted the negotiations with a

Patricia Fusilier (Fusilier) as a representative of Falahy.

During the negotiations, Ahmed represented that Elkholy owned the

Lynwood Clinic and that Ahmed only acted on Elkholy’s behalf.

     Later in 1997, Elkholy contacted Ahmed’s accountant Saghir

and inquired into the $600,000 proposed price for the purchase of

an interest in the medical clinics.     Saghir suggested to Elkholy

that the asking price was too high, and Saghir informed Elkholy

that Ahmed already was using Elkholy’s name in connection with

the operation and ownership of the medical clinics.    Elkholy

contacted Ahmed, and Ahmed denied using Elkholy’s name in

connection with the clinics.

     In late 1997, the California Board of Pharmacy (Pharmacy

Board) began an investigation of the operation of the K & M

pharmacies for possible violations of California law.    To conceal

his ownership of the pharmacies from the Pharmacy Board, Ahmed

transferred nominal ownership of the K & M pharmacies to Hussein

Darwish (Darwish), one of the employees at the pharmacies.
                             - 14 -

     On December 19, 1997, at Ahmed’s request and on Ahmed’s

behalf, Saghir prepared and filed articles of incorporation for a

corporation to be named Madina, Inc. (Madina), to which the

pharmacies nominally were to be transferred.    Darwish was

identified as the sole shareholder of Madina.    Ahmed then caused

Saghir to prepare a series of documents reflecting, among other

things, a purported transfer of ownership of the pharmacies from

Ahmed to Darwish for a total stated purchase price of $170,000,

to be reflected by a purported $20,000 cash downpayment from

Darwish to Ahmed and by a purported $150,000 promissory note from

Darwish to Ahmed.

     Notwithstanding the contents of the above documents and the

purported sale of the pharmacies, Ahmed was the sole owner of the

stock of Madina, and Ahmed retained actual control of the

pharmacies.

     Sometime in 1997, Ahmed used funds from K & M to open a

medical laboratory using the name Apex Medical Lab.    The lab was

located near Ahmed’s pharmacies and clinics and derived most of

its business from customers and patients of Ahmed’s pharmacies

and clinics.

     To avoid scrutiny by California State health care officials,

who were already investigating the other businesses Ahmed

controlled, Ahmed arranged for nominal ownership of the lab to be

put into Darwish’s name.
                               - 15 -

       On December 19, 1997, on Ahmed’s behalf, Saghir prepared and

filed articles of incorporation for Apex Medical Lab, Inc. (AML).

Darwish was identified as the sole shareholder of AML.    As with

the incorporation of Madina, at Ahmed’s request Darwish signed

various documents relating to the incorporation of AML.      Darwish

understood that Ahmed was the actual owner of the lab and of AML.


1998

       On January 5, 1998, Falahy began managing, as if he were the

owner, the Lynwood Clinic, even though his pending purchase of

the Lynwood Clinic was not complete.

       In early 1998, after several rounds of negotiations and

multiple revisions of the proposed sale agreement, Ahmed and

Falahy agreed in principle to the sale of the Lynwood Clinic to

Falahy for an estimated sales price of between “$100,000 and

$150,000".    Falahy, however, did not sign the final sale

agreement because the agreement did not reflect an original

signature of Elkholy, the purported owner.    The sale apparently

was agreed to with a “handshake” between Ahmed and Falahy but

with no signed written agreement.    The record is unclear as to

the final agreed purchase price.

       Falahy began making installment payments on the purchase of

the Lynwood Clinic.    At Ahmed’s request, when Falahy’s checks

were delivered to Ahmed, the payee line on Falahy’s installment

checks was left blank, and Ahmed apparently would fill in the
                               - 16 -

payee line on the checks with either “Cash”, his own name, or

with the name of his mother.   Falahy’s first four installment

checks delivered to Ahmed relating to Falahy’s apparent purchase

of the Lynwood Clinic totaled $66,000.

     In April of 1998, because of his conclusion that Ahmed’s

various pharmacies, medical clinics, and lab were engaging in

illegal medical and business practices, Darwish terminated his

employment and any further association with Ahmed’s pharmacies,

clinics, and lab.

     Even after Darwish terminated his affiliation with Ahmed, in

the operation of the lab Ahmed continued to use Darwish’s name

and a stamp for Darwish’s signature.

     Upon receiving from Darwish complaints about the continued

use of Darwish’s name in connection with operation of the lab,

Ahmed transferred nominal stock ownership of AML to his father.

     In May of 1998, Elkholy took a leave of absence from Yale

University School of Medicine, where he had been employed as an

instructor, and he went to California to determine whether Ahmed

in fact was using his name in the operation of the medical

clinics, as Saghir claimed, and to further evaluate whether it

would be a wise investment to purchase an interest in the medical

clinics.

     To this end, during May and June of 1998, Elkholy worked as

an employee in the CK medical clinics.   At the beginning of his
                               - 17 -

employment, Elkholy was led to believe by Ahmed that a Dr. Jules

O’Laco (O’Laco) owned the clinics.      The paychecks that Elkholy

received bore the purported signature of O’Laco.      O’Laco,

however, did not actually sign the checks.      Rather, Ahmed either

forged O’Laco’s signature on the checks or used a stamp for

O’Laco’s signature.

     By June of 1998, it became apparent to Elkholy that Ahmed

had used, and continued to use, Elkholy’s name to circumvent

California law relating to ownership of the medical clinics and

to open bank accounts, and that the clinics were becoming known

to the public under the name “Clinica Kholy”.

     Elkholy then took a number of steps to stop Ahmed from using

his name.   Elkholy went to the Medical Board in Sacramento and

requested cancellation of his license to practice medicine in the

State of California.   At the end of June of 1998, Elkholy

contacted local authorities.   Based on Elkholy’s complaints, the

local sheriff temporarily removed the employees from the clinics

and padlocked the doors.   In December of 1998, Elkholy filed a

lawsuit against Ahmed for Ahmed’s unauthorized use of his name.

     Within a week of the above closing of the clinics, Ahmed

reopened the clinics under the nominal ownership of a Dr. Robert

Leslie (Leslie), a doctor Ahmed recently had hired to work in the

clinics.
                             - 18 -

     On June 18, 1998, Ahmed formed Reem Management Group, Inc.

(Reem), with himself as the sole shareholder.   Reem purportedly

was to manage and to operate the medical clinics which Leslie

purportedly owned.

     Ahmed’s description of Reem as a management company was

intended to provide a basis for Ahmed to represent that his

personal management and control of the assets and of the

operations of the medical clinics were legitimate even though

nominal ownership of the clinics was held by Leslie.

     Also in June of 1998, Falahy, who continued to make

installment payments on his “purchase” of the Lynwood Clinic,

learned that his sublease from CK of the clinic’s office space

was prohibited under the terms of the lease between CK and the

lessor of the building and that CK was $35,000 delinquent in its

lease payments due on the office space.

     Elkholy then informed Falahy and Fusilier that he never

possessed an ownership interest in CK or in any of the medical

clinics, at which point Falahy stopped making payments on what he

had thought was his purchase of the Lynwood Clinic from Elkholy.

     In August of 1998, Ahmed went to the Lynwood Clinic with a

couple of individuals dressed as security guards and ordered all

of the individuals who regarded themselves as working for Falahy

to leave the premises, physically prevented them from reentering
                              - 19 -

the premises to recover their personal property, and changed the

outside door locks to the clinic.

     After filing a lawsuit against Ahmed, Falahy eventually

recovered personal property that he had left in the Lynwood

Clinic, but Falahy never recovered the $66,000 he had paid Ahmed

on the purchase of the clinic.

     On August 4, 1998, Ahmed formed a new corporation named Apex

Reference Lab, Inc. (ARL), to succeed AML and nominally to own

and operate the lab.   Ahmed was the sole shareholder and officer

of ARL.

     On September 25, 1998, Ahmed formed a corporation named

Clinica Leslie Medical Group Inc. (CL).   Leslie was identified as

the sole shareholder and president of CL.   Ahmed then filed

documents with the State of California indicating that the

clinics previously owned and operated under the name of CK

thereafter were to be operated under the name and ownership of

“Clinica Leslie”.

     To further obscure Ahmed’s ownership of the clinics, Ahmed

filed documents with the State of California falsely reflecting

that the clinics had been sold by CK to Leslie.   At trial, Leslie

acknowledged that he was only a nominal owner of CL and of the

clinics and that the actual owner of CL and of the clinics was

Ahmed individually.
                                - 20 -

Other Property Transactions

     During 1996, 1997, and 1998, Ahmed purchased various parcels

of real property (including subsidized HUD properties).    To

conceal his ownership of these properties, Ahmed caused title to

the properties to be held either in the name of various nominee

corporations or in the name of his relatives.

     On May 6, 1997, Ahmed caused Saghir to incorporate Macca

Corporation (Macca).   On documents filed with the State of

California, one of Ahmed’s relatives was listed as the president

and sole shareholder of Macca.    Ahmed signed all of the Macca

incorporation documents using the relative’s name.

     Ahmed’s relative did not understand or know of the business

purpose or of the operations of Macca, of Macca’s business

address, or of the location of Macca’s books and records.     The

relative did not sign documents on behalf of Macca, nor did he

control Macca in any way.   Ahmed had complete control over Macca,

its assets, and its operations.

     Sometime in 1997, Ahmed caused K & M to quitclaim to Macca

title to a building in which one of Ahmed’s pharmacies and one of

Ahmed’s clinics were located.

     Ahmed purchased various other parcels of commercial and

residential property and put title to the properties in the name

of Macca.   Ahmed used funds from the various pharmacies, clinics,

and lab that he controlled to purchase the above properties.
                               - 21 -

     On May 5, 1998, Ahmed formed K & M Luxor (KML) as a

California corporation.   A relative of Ahmed was identified as

the sole shareholder of KML.   Ahmed then caused Macca to transfer

to KML, without consideration, some of the real properties Macca

nominally owned.6

     Ahmed’s stated reason for incorporating KML and for

transferring properties from Macca to KML was that Macca had

taken over from ARL some aspects of the ownership and operation

of the medical lab and that Ahmed did not want Macca’s properties

to be subject to any claims against Macca relating to the lab.


Additional Questionable Business
Practices and Diversion of Business Income

     In the course of operating his controlled businesses and

nominee entities, Ahmed entered into additional questionable

business practices.

     Ahmed often would deposit proceeds of one of his controlled

entities or businesses into a bank account of another of his

controlled entities or businesses or into one of his personal

bank accounts.   For example, Medi-Cal checks received in

connection with services rendered at Ahmed’s medical clinics

often were deposited into bank accounts of K & M.




     6
      For reasons not in the record, K & M Luxor has not been
treated by respondent as a nominee entity of Ahmed.
                              - 22 -

     Ahmed treated himself as owner of all of the nominee

entities and freely intermingled their financial and business

affairs with his own and without regard to their corporate

status.

     Ahmed would pay his personal expenses and expenses of

entities he controlled with funds from his other controlled

entities.   For example, Ahmed used checks written on K & M’s bank

account to pay his personal credit card bills and the mortgage

and property taxes on his personal residence.    Also, during at

least 1995 and 1996, Ahmed cashed checks payable to K & M and

diverted the check proceeds to his personal use.

     Employees of the pharmacies, the clinics, and the lab were

instructed by Ahmed to leave in Ahmed’s office at night cash

sales proceeds of the pharmacies, the clinics, and the lab.

Ahmed then would deposit only a portion of the cash sales

proceeds into the bank accounts of his nominee entities, and

Ahmed would divert the undeposited cash to his own personal use.

     Ahmed engaged in “churning” lab managers.   Ahmed would

attract new managers to the lab by promising them above-market

salaries.   Ahmed would not pay the new managers, and when they

complained, he would fire them.   At least two of the above lab

managers were successful in making claims against Ahmed for

unpaid wages.
                              - 23 -

     At some point, because Ahmed fraudulently billed Medi-Cal,

the Federal Health Care Finance Administration took action

against Ahmed, prohibiting Ahmed and some of his associates and

nominee entities from owning or operating a medical lab.

     Apparently, Ahmed and his wife were divorced in 1999.


Tax Returns

     Ahmed’s accountant Saghir prepared Ahmed’s 1995, 1996, 1997,

and 1998 individual Federal income tax returns, the latter of

which, as indicated, was filed after respondent’s notice of

deficiency was issued to Ahmed.   Saghir also prepared the

corporate Federal income tax returns for the same years for

Ahmed’s nominee entities.   On a monthly basis, Saghir would

collect bank statements and canceled checks relating to the

nominee entities, and he would use bank records to prepare a

general ledger for each entity.   Ahmed would assist Saghir in

classifying the receipts and the expenses, and Saghir would

prepare the nominee entity corporate Federal income tax returns

based on the information reflected in the respective general

ledger.

     Generally, Ahmed did not inform Saghir of the cash and

checks that the nominee entities received and that Ahmed did not

deposit into the nominee entity bank accounts.   As a result,

certain cash proceeds were reflected neither in the general
                              - 24 -

ledgers of the nominee entities nor on Ahmed’s or the nominee

entities’ Federal income tax returns.

     Ahmed caused Saghir to miscategorize as business expenses

certain of Ahmed’s personal expenses that had been paid with

nominee entity funds and caused Saghir to improperly categorize

and record certain intercompany transactions.

     After preparing Ahmed’s Federal income tax returns and the

corporate Federal income tax returns for Ahmed’s nominee

entities, Saghir would present the tax returns to Ahmed for

review.   After Ahmed reviewed the tax returns, Saghir would make

any changes that Ahmed requested and then deliver the final tax

returns back to Ahmed for signature and filing.

     With the filing or submission of the above Federal income

tax returns for 1995, 1996, 1997, and 1998, Ahmed and his nominee

entities generally forwarded to respondent the tax balances

reported due thereon.7

     The schedule below summarizes the dates of incorporation of

Ahmed’s nominee entities and the filing (or submission) dates for

Ahmed’s and for the nominee entity Federal income tax returns for

1995, 1996, 1997 and 1998.




     7
      The actual tax payments for which Ahmed, K & M, and Ahmed’s
nominee entities are to be credited are subject to the parties’
Rule 155 computations herein.
                              - 25 -

                           Year and Tax Return Filing Dates
                  Date
   Taxpayer   Incorporated   1995    1996    1997     1998
   Ahmed            -      8/14/96 4/15/97 3/8/99 9/24/99
   K & M          8/5/94   3/13/96 9/17/97    **    9/21/99
   CSM/CK        6/13/96           9/17/97    **       **
   Macca          5/6/97                   9/24/99 9/24/99
   AML          12/19/97                       *        *
   Madina       12/19/97                       *       **
   Reem          6/18/98                            9/24/99
   ARL            8/4/98                               **
   CL            9/25/98                            9/24/99

          * No tax return filed with respondent.

         ** Tax return submitted to respondent’s counsel
            but neither signed nor filed.


     In the Appendix hereto, we set forth the separate and the

aggregated total gross income, taxable income, and tax

liabilities for 1997 and 1998 for Ahmed and for Ahmed’s nominee

entities as reported on the Federal income tax returns filed with

or submitted to respondent.

     Ahmed did not report on his 1995 and 1996 individual Federal

income tax returns or on K & M’s 1995 and 1996 corporate Federal

tax returns the proceeds from checks made payable to K & M which

Ahmed had, in at least 1995 and 1996, cashed and used for

personal purposes.

     On K & M’s corporate Federal income tax returns for 1995 and

1996, there were deducted as “medical supplies expense” personal

expenses of Ahmed that had been paid with K & M checks.
                              - 26 -

     On Ahmed’s individual Federal income tax returns for 1997

and 1998, and on the nominee entity corporate Federal income tax

returns for 1997 and 1998, Ahmed did not report, among other

things, the previously discussed cash sales proceeds of the

nominee entities that were not deposited into the nominee entity

bank accounts.   At trial, Ahmed conceded that he had received

unreported cash sales of $321,517 for 1997 and $344,869 for 1998.


Respondent’s Audit

     In October of 1997, respondent began an audit of K & M for

1995.   Based on information set forth in informant letters and

information obtained in the audit of K & M for 1995, respondent’s

agent expanded the scope of the K & M audit to include 1996 and

Ahmed’s 1995 and 1996 Federal income tax returns.   Respondent’s

agent also began reconstructing K & M’s and Ahmed’s income and

expenses for 1997 and 1998, as their respective Federal income

tax returns for 1997 and 1998 had not yet been filed with

respondent.

     During the audits of K & M and of Ahmed, Ahmed was not

forthcoming in his communications with respondent’s agent.    Ahmed

attempted to conceal assets from respondent’s agent, to impede

respondent’s examination, and in general Ahmed was uncooperative

and evasive.

     Respondent’s agent sent various “Information Document

Request” forms (IDRs) to Ahmed in connection with the audit of
                             - 27 -

K & M for 1995, but Ahmed failed to produce much of the

information requested in the IDRs.

     Due to Ahmed’s failure to fully comply with the IDRs,

respondent’s agent served approximately 70 administrative

summonses on K & M’s suppliers, banks, and customers.

      At the first meeting between respondent’s agent and Ahmed,

Ahmed falsely informed respondent’s agent that the pharmacies did

not have cash sales and that all of the sales proceeds of K & M

were deposited into K & M bank accounts.    When respondent’s agent

confronted Ahmed with evidence of cash sales, Ahmed changed his

story and admitted that the pharmacies had cash sales.

     Ahmed told respondent’s agent that he had made personal

loans to K & M, but when respondent’s agent asked Ahmed for

documentation relating to the loans Ahmed told the agent that

loan documentation did not exist.    Later, in December of 1997,

Ahmed produced purported loan documentation relating to the

alleged loans.

     Ahmed denied having an ownership interest in CSM, CK, and

CL, and in the medical clinics operated under those names.     Ahmed

told respondent’s agent that during the years at issue CSM, CK,

CL, and the clinics were owned by Elkholy or later by Leslie.

Ahmed represented that he acted only as a manager of the clinics

on behalf of Elkholy and Leslie.
                                - 28 -

     Ahmed denied having any connection to Macca, and Ahmed

provided inconsistent information to respondent’s agent about the

sources of funds used to purchase properties held in Macca’s

name.

     Although Ahmed controlled and had signatory authority over

numerous personal bank accounts and bank accounts of the nominee

entities, Ahmed did not cooperate in producing to respondent’s

examining agent the bank records relating to the operation of the

pharmacies, the clinics, and the lab.     Also, Ahmed instructed

Saghir not to cooperate in turning over bank records and other

records to respondent’s examining agent.     Further, Ahmed failed

to acknowledge all of the bank accounts that he and his nominee

entities maintained or utilized.

     Ahmed prepared or caused to be prepared and provided to

respondent a variety of false documents, such as minutes of

nonexistent corporate meetings and sham sales documents.


Notices of Deficiency

        After respondent’s audit of Ahmed’s 1995, 1996, and 1997

individual Federal income tax returns and of K & M’s 1995 and

1996 corporate Federal income tax returns, and after the

preparation by respondent of a substitute tax return for Ahmed

for 1998, respondent determined the above Federal income tax

deficiencies against Ahmed for 1995, 1996, 1997, and 1998 and

against K & M for 1995 and 1996.
                              - 29 -

     As indicated, for 1997 and 1998 respondent determined that

the nominee entities, including K & M, constituted mere nominees

of Ahmed personally, and respondent collapsed the nominee

entities into the calculation of Ahmed’s taxable income and

Federal income tax for those years.    On the notice of deficiency

mailed to Ahmed for 1997 and 1998, respondent (after disallowing

many claimed expenses) charged Ahmed with all items of income and

all items of expense that respondent determined were allowable

relating to the nominee entities.

     Respondent determined that the civil fraud penalty under

section 6663 was applicable to Ahmed for 1995, 1996, and 1997 and

to K & M for 1995 and 1996.   Respondent also determined that the

fraudulent failure to file penalty under section 6651(f) was

applicable to Ahmed for 1998 (because, as explained, Ahmed’s 1998

Federal income tax return was not filed with respondent until

after respondent’s notice of deficiency to Ahmed for 1998 had

been issued).


Jeopardy Proceeding

     On March 19, 1999, Ahmed cashed a $770,000 check drawn on a

K & M bank account and used the proceeds to purchase a $770,000

cashier’s check payable to himself.

     On June 24, 1999, for 1995, 1996, and 1997, and on July 22,

1999, for 1998, respondent made jeopardy assessments against
                              - 30 -

Ahmed in the cumulative total amount of $1,426,038 relating to

Ahmed’s Federal income tax for the same years involved herein

(namely, 1995, 1996, 1997, and 1998).

     Ahmed challenged respondent’s above jeopardy assessments in

the Federal District Court for the Central District of

California.   In preparation for the court hearing relating to the

jeopardy assessments, Ahmed had a document prepared by his

attorney entitled “Declaration of Ahmad Saghir”.   Ahmed offered

Saghir $3,000 and pressured Saghir to sign the declaration.

Although Saghir felt threatened by Ahmed, Saghir did not sign the

declaration because it contained false statements.

     On August 18, 1999, the District Court sustained

respondent’s above jeopardy assessments on the ground that Ahmed

appeared to be designing to place property and assets beyond the

reach of the United States.


Stipulation as to Income and Expenses

     As to 1995, 1996, 1997, and 1998, the parties have

stipulated to the income and to the allowance or disallowance of

all of the expenses claimed on Ahmed’s and on the nominee entity

Federal income tax returns as filed.

     Also, as indicated, as to 1997 and 1998, the parties have

stipulated to the collapsed treatment of Ahmed’s nominee

entities, i.e., that the stipulated income and the stipulated

allowable expenses of the nominee entities are to be charged to
                                 - 31 -

Ahmed for purposes of determining Ahmed’s income and expenses and

Ahmed’s individual Federal income tax liabilities.

     The schedule below compares, for 1995 and 1996, the gross

income, the taxable income, and the tax liabilities of Ahmed and

of K & M as reported on the filed tax returns with the gross

income, the taxable income, and the tax liabilities of Ahmed and

of K & M as stipulated herein:8


                             1995                    1996
                 Reported     Stipulated     Reported  Stipulated
Ahmed’s
Gross Income     $   49,000 $    113,390 $     40,500 $     95,698
Taxable Income       22,872       87,262       15,127       70,325
Tax Liability         3,431       19,367        2,269       14,478

K & M’s
Gross Income     1,705,359      1,768,971   1,401,793     1,492,929
Taxable Income       7,361        112,875      60,148       202,839
Tax Liability        1,104         27,271      10,037        62,357


     The schedule below compares, for 1997 and 1998, the

aggregated gross income, taxable income, and tax liabilities of

Ahmed and of the nominee entities as reported on the filed or

submitted tax returns of Ahmed and of the nominee entities with


     8
        On this schedule for 1995 and 1996, and on the next
schedule for 1997 and 1998, see infra p. 32, we have estimated
the Federal income tax liability of Ahmed and of K & M based on
the stipulated income and expense amounts. The amounts indicated
on these two schedules for the estimated tax liabilities are not
binding on the parties, who will have the opportunity to submit
tax calculations pursuant to Rule 155. The “reported” amounts
include the amounts reported on the tax returns filed with
respondent and also amounts reported on the tax returns that were
submitted either before or during trial but which were neither
signed nor filed with respondent.
                               - 32 -

the collapsed gross income, taxable income, and tax liabilities

of Ahmed and of the nominee entities as stipulated by the parties

herein.

                          1997                        1998
                 Aggregated   Collapsed     Aggregated    Collapsed
Ahmed             Reported     Stipulated    Reported      Stipulated
Gross Income     $2,562,506   $2,557,113    $5,493,205    $6,277,825
Taxable Income      181,236       402,378      940,834      2,255,213
Tax Liability        36,896       133,652      257,153        866,668



     Based on the above stipulated (and for 1997 and 1998 the

collapsed) income and expense amounts, the schedule below

reflects our calculations of the dollar amounts of, and the

percentages for, the understatements of gross income, of taxable

income, and of estimated tax liability that occurred on each of

Ahmed’s 1995, 1996, 1997, and 1998 Federal income tax returns.
                                  - 33 -

Ahmed’s 1995               Gross Income    Taxable Income   Tax Liability
  As Stipulated               $113,390          $87,262         $19,367
  As Reported                   49,000           22,872           3,431
   Understatement             $ 64,390          $64,390         $15,936
   % Understatement                 57%              74%             82%

Ahmed’s 1996
  As Stipulated                $95,698          $70,325        $14,478
  As Reported                   40,500           15,127          2,269
   Understatement              $55,198          $55,198        $12,209
   % Understatement                 58%              78%            84%

Ahmed’s 1997 (Collapsed)
  As Stipulated           $2,557,113           $402,378       $133,652
  As Reported               2,562,506           181,236         36,896
   Understatement        ($     5,393)         $221,142       $ 96,756
   % Understatement                 0%               55%            72%

Ahmed’s 1998 (Collapsed)
  As Stipulated             $6,277,825       $2,255,213        $866,668
  As Reported                5,493,205          940,834         257,153
   Understatement             $784,620       $1,314,379        $609,515
   % Understatement                 12%              58%             70%

     Based on the stipulated income and expense figures, the

schedule below reflects our calculation of the dollar amounts of,

and the percentages for, the understatements of gross income, of

taxable income, and of estimated tax liability that occurred on

each of K & M’s 1995 and 1996 corporate Federal income tax

returns.
                               - 34 -

K & M’s 1995          Gross Income    Taxable Income   Tax Liability
  As Stipulated        $1,768,971        $112,875         $27,271
  As Reported            1,705,359          7,361           1,104
   Understatement      $    63,612       $105,514         $26,167
   % Understatement              4%            93%             96%

K & M’s 1996
  As Stipulated        $1,492,929        $202,839        $62,357
  As Reported            1,401,793         60,148         10,037
   Understatement      $    91,136       $142,691        $52,320
   % Understatement              6%            70%            84%


                              OPINION

     Respondent has the burden of proving by clear and convincing

evidence that Ahmed for 1995, 1996, and 1997, and that K & M for

1995 and 1996 are liable for the civil fraud penalty under

section 6663.   Sec. 7454(a); Rule 142(b); Akland v. Commissioner,

767 F.2d 618, 621 (9th Cir. 1985), affg. T.C. Memo. 1983-249.

      Respondent also has the burden of proving by clear and

convincing evidence that Ahmed for 1998 fraudulently failed to

timely file his individual Federal income tax return.     Sec.

6651(f).   For this purpose, we consider the same factors under

section 6651(f) that are considered in imposing the fraud penalty

under section 6663.   Clayton v. Commissioner, 102 T.C. 632, 653

(1994).

     The general elements of tax fraud that respondent must prove

under sections 6663 and 6651(f) for each year for which fraud is

asserted are:   (1) An underpayment of tax; and (2) a specific

intent to evade a tax known or believed to be owed.     Bagby v.
                               - 35 -

Commissioner, 102 T.C. 596, 607 (1994); Stone v. Commissioner,

56 T.C. 213, 220-221 (1971).

     To establish fraudulent intent, respondent must prove that a

taxpayer intended to evade a tax known or believed to be owed by

conduct intended to conceal, mislead, or prevent the collection

of tax.   Akland v. Commissioner, supra at 621; Powell v.

Granquist, 252 F.2d 56, 60 (9th Cir. 1958).

     To find tax fraud against a corporation, respondent is

required to prove that the controlling individuals engaged in

fraudulent conduct on behalf of the corporation.     Benes v.

Commissioner, 42 T.C. 358, 382 (1964), affd. 355 F.2d 929 (6th

Cir. 1966).

     Fraudulent intent is rarely established by direct evidence,

and various kinds of circumstantial evidence may be relied upon

to establish fraudulent intent.   Bradford v. Commissioner, 796

F.2d 303, 307 (9th Cir. 1986), affg. T.C. Memo. 1984-601.       As we

have stated:   “Generally, the evidence of fraudulent intent must

be gleaned by surveying the whole course of conduct of the

taxpayer with respect to the transactions in question.    Although

fraud is never to be imputed or presumed, its proof may depend to

some extent upon circumstantial evidence”.    Stone v.

Commissioner, supra at 224.

     The Court of Appeals for the Ninth Circuit has identified

“badges of fraud” from which fraudulent intent may be inferred.

The nonexclusive list of badges of fraud includes:
                               - 36 -


     (1) Understatement of income;

     (2) inadequate records;

     (3) failure to file tax returns;

     (4) implausible or inconsistent explanations of behavior;

     (5) concealing assets;

     (6) failure to cooperate with tax authorities;

     (7) engaging in illegal activities; and

     (8) dealing in large amounts of cash.


See Edelson v. Commissioner, 829 F.2d 828, 832 (9th Cir. 1987);

Bradford v. Commissioner, supra at 307-308; Baker v.

Commissioner, T.C. Memo. 1991-340, affd. without published

opinion 9 F.3d 1550 (9th Cir. 1993).

     While the underreporting of income itself may be

insufficient to support a finding of fraud, “repeated

understatements in successive years when coupled with other

circumstances showing an intent to conceal or misstate taxable

income present a basis on which the Tax Court may properly infer

fraud.”   Furnish v. Commissioner, 262 F.2d 727, 728 (9th Cir.

1958), affg. in part and remanding in part 29 T.C. 279 (1957).

Consistent, substantial understatements of income for several

years is highly persuasive evidence of intent to defraud the

Government.   Powell v. Granquist, supra at 60.

     If respondent establishes that any portion of an

underpayment is attributable to fraud, the entire underpayment is
                             - 37 -

to be treated as attributable to fraud, except with respect to

any portion of the underpayment which the taxpayer establishes by

a preponderance of the evidence is not attributable to fraud.

Sec. 6663(b).

     Ahmed, individually and as president of K & M for the years

in issue, grossly understated his and K & M’s taxable income, and

he significantly underpaid the Federal income tax due, measured

both in dollars and in percentages.

     For the years in issue, Ahmed underreported his and K & M’s

taxable income by a cumulative total of $1,903,314, and he

underpaid his and K & M’s Federal income tax by an estimated

cumulative total of $812,903, representing understatements of

taxable income and underpayments of Federal income tax for each

year of 55 percent to 96 percent.

     Ahmed’s underreporting over a period of at least 4 years of

his and of K & M’s taxable income and the related underpayment of

Federal income taxes are persuasive evidence of Ahmed’s

fraudulent intent, particularly combined with the unreported cash

proceeds and the claimed business deductions relating to personal

expenses.

     Further, Ahmed did not maintain adequate financial records

relating to his business activities, demonstrated by the failure

to properly account for certain intercompany transactions, to

record certain cash transactions, and to properly report personal

expenses paid out of corporate funds.
                               - 38 -

     The Federal income tax returns which Ahmed filed for himself

and for his nominee entities generally were filed late, and a

number were filed after respondent’s notices of deficiency were

mailed to Ahmed.    Several of the nominee entity Federal income

tax returns were never filed with respondent.    Ahmed did not file

his 1998 individual Federal income tax return until after

respondent had determined Ahmed’s liability for the fraudulent

failure to file penalty.

     Ahmed took affirmative steps to conceal from respondent his

ownership of various assets.    Ahmed repeatedly denied to

respondent’s agent that he owned interests in the corporations

nominally operating the pharmacies, the clinics, and the lab.

Ahmed used other individuals’ names to perpetuate the concealment

of his ownership of the nominee entities.

     Ahmed withheld from respondent’s agent information about

Ahmed’s personal and nominee entity bank accounts.    After the

issuance of the notices of deficiency, Ahmed, as determined by

the District Court, designed to place assets beyond the reach of

the United States.

     Ahmed failed to produce financial records requested by

respondent and actively hindered respondent’s examination.    Ahmed

misrepresented facts to respondent’s agent, including the cash

sales generated by the businesses and his relationship to the

nominee entities.    Ahmed submitted various sham documents to

respondent’s agent.
                               - 39 -

     Ahmed’s testimony lacked credibility and was replete with

inconsistencies.

     Based on Ahmed’s pattern of understating his and K & M’s

taxable income and of underpaying his and K & M’s Federal income

tax liabilities, and the conduct described above, we conclude

that respondent has established by clear and convincing evidence

that both Ahmed and K & M acted willfully and with specific

intent to underpay their correct Federal income tax due for each

year in issue.    Ahmed and K & M have not established that any

portion of the tax deficiencies is not attributable to fraud.

Accordingly, the entire individual and corporate Federal income

tax deficiencies, as determined herein, are subject to the

relevant fraud penalties under sections 6663(a) and 6651(f).

     We have considered all arguments made herein, and, to the

extent not addressed, we conclude that they are without merit or

are irrelevant.

     To reflect the foregoing,

                                 Decisions will be entered

                           under Rule 155.
                                 - 40 -

                             APPENDIX

     The schedule below sets forth the separate and the
aggregated total gross income, taxable income, and tax
liabilities for 1997 and 1998 of Ahmed and of his nominee
entities, as reported on the Federal income tax returns that were
filed with or submitted to respondent:

                                        Reported
                   Gross Income     Taxable Income   Tax Liability
     1997
 Ahmed              $   56,125            $ 40,925     $ 6,139
 K & M               1,316,506              73,597       13,399
 CSM/CK              1,148,093              54,385       15,509
 Macca                  41,782              12,329        1,849
 Madina                  *                    *             *
 AML                     *                    *             *
     Aggregated
     Total          $2,562,506            $181,236       $36,896


      1998
 Ahmed              $   81,000            $ 68,231     $ 13,598
 K & M               1,238,569             281,205       92,920
 CSM/CK              1,177,522             191,810       58,056
 Macca                 236,064              71,416       12,854
 Madina                731,593              90,420       18,993
 AML                     *                  *            *
 Reem                1,363,564              73,159       13,290
 ARL                   664,893             164,593       47,442
 CL                          0                   0            0
     Aggregated
     Total          $5,493,205            $940,834      $257,153

      *   No Federal income tax return filed or submitted to
          respondent.
