                        T.C. Memo. 1997-121



                      UNITED STATES TAX COURT


   I.C. HEMMINGS AND SUE B. HEMMINGS, ET AL.,1 Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent


     Docket Nos.   41407-85,   14270-86,        Filed March 10, 1997.
                   14273-86,    9710-90.


     Lawrence William Sherlock and Robert I. White, for

petitioners.

     Bruce Leonard Locke, for petitioner Sue B. Hemmings.

     John P. Jankowski and Joseph T. Ferrick, for respondent.




     1
         Cases of the following petitioners are consolidated
herewith: Claude P. Brown and Estate of Mary Stroud Brown,
Deceased, Claude P. Brown, Executor, docket No. 14270-86; I.C.
Hemmings and Sue B. Hemmings, docket No. 14273-86; Isaac C.
Hemmings and Mary Sue Hemmings, docket No. 9710-90. (The names
Isaac C. Hemmings and Mary Sue Hemmings refer to the same
individuals as the names I.C. Hemmings and Sue B. Hemmings,
respectively.)
                                  - 2 -

                            MEMORANDUM OPINION



       DAWSON, Judge: These consolidated cases were assigned to

Special Trial Judge Carleton D. Powell pursuant to the provisions

of section 7443A(b)(4) and Rules 180, 181, and 183.2     The Court

agrees with and adopts the opinion of the Special Trial Judge

that is set forth below.

                    OPINION OF THE SPECIAL TRIAL JUDGE

       POWELL, Special Trial Judge:    Respondent determined

deficiencies and additions to tax in petitioners' Federal income

taxes as follows:

                    I.C. Hemmings and Sue B. Hemmings

                                         Additions to Tax
Docket No. Year      Deficiency Sec.6653(a)(1) Sec.6653(a)(2) Sec.6661

41407-85     1978    $1,111,073   $55,554           --            --
             1979     2,626,613   131,331           --            --
             1980     1,801,785    90,089           --            --
                                                    1
14273-86     1981     3,971,519   198,576                         --
                                                    2
9710-90      1983       560,882    28,044                      $140,221
                                                    3
             1984        87,362     4,368                        21,841
1
    50 percent of the interest due on $3,971,519.
2
    50 percent of the interest due on $560,882.
3
    50 percent of the interest due on $87,362.



       2
         Unless otherwise indicated, 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.
                                  - 3 -

             Claude P. Brown and Estate of Mary Stroud Brown,
                    Deceased, Claude P. Brown, Executor

                                             Addition to Tax
Docket No.     Year      Deficiency          Sec. 6653(a)(1)

14270-86       1981      $9,956,314           $4,978,157

     Respondent also determined with respect to petitioners I.C.

Hemmings and Sue B. Hemmings that the entire deficiency amounts

for 1978 and 1979 and $1,667,468 of the deficiency for 1980 are

substantial underpayments due to tax-motivated transactions under

section 6621(d) and that the increased rate of interest under

section 6621(b) is applicable.

     Petitioner I.C. Hemmings (Mr. Hemmings) and petitioner Sue

B. Hemmings (Mrs. Hemmings) (collectively the Hemmingses),

resided in Florida at the time their petitions were filed in

docket Nos. 41407-85, 14273-86, and 9710-90.    Petitioner Claude

P. Brown (Mr. Brown) resided in Florida at the time the petition

was filed in docket No. 14270-86.     Pursuant to an Order of this

Court dated February 28, 1996, these cases were consolidated for

purposes of briefing and opinion.

     After concessions, the issues are:    (1) Whether Mrs.

Hemmings is entitled to relief under the so-called innocent

spouse provisions of section 6013(e) for any of the taxable years

1978, 1979, or 1980; (2) whether Mr. Brown and/or the Hemmingses

made a valid election pursuant to sections 508 and/or 509 of the

Economic Recovery Tax Act of 1981 (ERTA), Pub. L. 97-34, 95 Stat.

172, 333, with respect to their commodity trading activities for
                                - 4 -

the taxable year 1981; and (3) the fair market value on the date

of contribution of 24 boxes of gemstones donated by Mr. Hemmings

to the Gospel Fellowship Association in 1984.

                              Background

     Mr. Brown is the father of Mrs. Hemmings and at one time was

the sole owner of Brown Transport Corp. (Brown Transport), a

trucking company.   Mrs. Hemmings, a former school teacher,

obtained a B.A. in education from Emory University and a master's

degree in early childhood education.       Mrs. Hemmings married Mr.

Hemmings in 1974, at which time she resigned from teaching and

afterwards devoted her time to being a mother and housewife.

     After service with the U.S. Marine Corps, Mr. Hemmings

performed various jobs in the trucking industry, including

loading and driving trucks.    He attended Woodrow Wilson Law

College at night.   Mr. Hemmings graduated in 1959 and soon

thereafter obtained employment at Brown Transport.      He never

practiced law or passed the bar.    Around 1968, Mr. Hemmings

became president and chief executive officer of Brown Transport.

     Through the years, Mr. Hemmings incrementally purchased

stock in Brown Transport.   Brown Transport grew rapidly and the

Hemmingses profited as a result.    By 1978 the Hemmingses

collectively owned assets worth in excess of $30 million,

including a

30-percent interest in Brown Transport valued at $20 million,

truck stops, residences, an airplane, a boat, and an ownership
                                - 5 -

interest in a manufacturing plant and construction company.    By

the mid-1980's, Brown Transport was the ninth largest trucking

company in the United States.    Mrs. Hemmings' net worth was $4 to

$5 million and consisted of real estate.

     Between 1978 and 1986 Mr. Hemmings speculated in commodity

and treasury bill futures through various brokers and investment

advisers, including E.F. Hutton & Co., Merrill Lynch, ACLI

Government Securities, Inc. (ACLI), and Elms Management Services,

Inc. (ELMS).3    Some of these transactions, and for our discussion

here primarily the ACLI4 and ELMS transactions, were straddles

that purportedly produced substantial ordinary or short-term

capital losses in earlier years and in subsequent years produced

capital gains.    The validity of these losses was challenged by

the Commissioner, and notices of deficiency were issued to the

Hemmingses and Mr. Brown for each year from 1978 to 1986.5

ACLI and ELMS Transactions

     The only shareholders of Brown Transport were Messrs. Brown

and Hemmings.    The expansion of Brown Transport required enormous

amounts of capital.    Brown Transport was a so-called S

     3
         As we understand, Index, Inc. acted as an adviser or
broker to Messrs. Hemmings and Brown on trading conducted through
ACLI, and ELMS played a similar role on trading conducted through
Pershing & Co.
     4
         The name Index, Inc. also is used.   This is another name
for the ACLI transactions.
     5
         Mr. Brown did not receive a notice of deficiency for the
taxable year 1984.
                               - 6 -

corporation taxable under sections 1371 to 1379.     The

undistributed taxable income was included in the gross income of

the shareholders.   Sec. 1373(a).    While Brown Transport generated

a large amount of income, income taxes on its shareholders

substantially reduced the amount of capital they could invest,

and the needed capital was in part generated from the purported

deferral of income tax generated from the ACLI and ELMS

transactions.   Accordingly, the tax deferral efforts focused on

the tax labilities of Messrs. Brown and Hemmings, both of whom

had transactions with ACLI and ELMS.

     The parties have not suggested that there were material

differences between the ACLI and ELMS programs, and consistent

with this approach we treat the programs as being substantially

similar in all relevant aspects.     W. Paul Harris (Mr. Harris), a

certified public accountant for Brown Transport, Mr. Brown, and

the Hemmingses, primarily handled the ACLI and ELMS transactions.

     The ACLI transactions involved purported straddles of

forward contracts for securities issued by the Government

National Mortgage Association commonly called "Ginnie Mae".     The

sides of the straddles involved commitments to purchase millions

of dollars of these securities.     The loss legs of the contract

straddles would be "canceled", purportedly giving rise to an

ordinary loss rather than a capital loss.     The ELMS transactions

were similar, but the underlying securities were Treasury bills

and the purported trades were transacted with Arbitrage
                                - 7 -

Management Investment Co.   Mr. Hemmings did not understand how

the trading programs worked.

     The starting point of these transactions was determining the

amount of losses that needed to be generated in order to

substantially reduce or eliminate the Hemmingses' taxable income.

Mr. Harris supplied these figures to ACLI and/or ELMS.    Mr.

Hemmings was told that he would not make a profit from these

transactions, and that, in return for the fees paid, losses would

be produced to defer taxes, followed by the realization of

capital gains in future years in amounts commensurate with the

losses.   The purpose of the transactions was to shelter income.

Unlike other commodities or financial instrument transactions,

Mr. Hemmings was not required to maintain a margin account, and,

other than the initial fees paid for the program, there was no

risk of loss from the purported trading.    Also, unlike other

futures transactions, Mr. Hemmings was not consulted when changes

were made in these accounts.    Changes in the programs were made

under a power of attorney held by the sponsor of the programs.

     The Hemmingses settled most of the issues involving the

taxable years 1978 to 1980.    They conceded the losses claimed

from the ACLI and ELMS transactions and paid approximately

$3,500,000 in taxes and interest.    In deciding to settle the tax

issues arising from the ACLI and ELMS transactions, Mr. Hemmings

became convinced that the purported transactions never took

place.
                               - 8 -

The Hemmingses' Prosperous Days and Hard Times

     Prior to and during the late 1970's and early 1980's, the

Hemmingses were, at least on paper, wealthy.    Mr. Hemmings'

salary from Brown Transport was approximately $400,000, and he

owned stock in Brown Transport and other assets.    Mrs. Hemmings

owned several parcels of real property that had a value of

approximately $4,000,000.   The annual income from these

properties was between $300,000 and $450,000.    These properties

had been given to her by her father and/or inherited from her

mother.   In 1979 the Hemmingses sold their residence in Atlanta

for $430,000 and purchased a residence in North Palm Beach,

Florida, for approximately $700,000, including remodeling.

     Mr. Hemmings was essentially a "workaholic" for Brown

Transport.   Mrs. Hemmings was a housewife and knew nothing about

Brown Transport.   Mr. Hemmings did not generally discuss

financial affairs in detail with her; Mrs. Hemmings was aware,

however, that he had investments in other businesses and traded

commodities.   The incomes of both Mr. and Mrs. Hemmings were

deposited into one account.   From that account, Mrs. Hemmings

received approximately $2,000 per month for personal and

household expenses.   If she needed further funds generally they

would be deposited in the household account.    Given the wealth of

the Hemmingses, their lifestyle was not lavish and that lifestyle

did not change during the ACLI and ELMS years.    As already

mentioned, the expansion of Brown Transport required large
                                - 9 -

amounts of money, and the funds from Mr. Hemmings' account were

used to satisfy that need in part.

     The Hemmingses' Federal income tax returns were prepared by

Mr. Harris, whose firm was in Atlanta.    Mr. Harris was also the

accountant for Brown Transport and for Mrs. Hemmings' father.       If

Mrs. Hemmings was not available when the returns were due, Mr.

Hemmings would sign the returns for her with her consent.      At

some time during this period, Mr. Hemmings explained that the

ACLI and ELMS losses were to defer income to a later period.

Mrs. Hemmings had faith in Mr. Harris, and she did not question

the tax returns.    Mr. Hemmings did not explain to her the

mechanics of the transactions because he did not understand the

mechanics of the transactions himself.

     Prior to 1981, Messrs. Brown and Hemmings had traded with

E.F. Hutton & Co.    In approximately 1981, they opened

discretionary trading accounts with ContiCommodities, Inc.

(Conti).   Mr. Hemmings traded with Conti until 1984 when Conti

liquidated their accounts creating substantial losses.    In 1985

Conti sued Messrs. Brown and Hemmings, and they counterclaimed

against Conti.   Between 1985 and 1994, the Hemmingses paid

approximately $8,000,000 in litigation fees in connection with

the Conti litigation.    The Conti litigation was ultimately

settled in 1993.    The terms of the settlement were placed under

seal and cannot be publicly disclosed.    But, as a result of the
                              - 10 -

settlement, Mrs. Hemmings received $600,000 that was immediately

transferred to Mr. Hemmings and used to pay his other debts.

     Until 1989 funds to support the Conti litigation came in

large part from Brown Transport.   In that year, however, Brown

Transport suffered severe losses and was placed in bankruptcy.

Ultimately, the assets of Brown Transport were liquidated.    In

order to sustain the Conti litigation and to pay other debts, Mr.

Hemmings borrowed money and Mr. and Mrs. Hemmings sold almost all

of their assets.   They sold their house, their furniture, the

luxury cars, the boat, the airplane, and some jewelry.   As of the

time of the trial, Mrs. Hemmings owned one piece of real estate

that had a value of approximately $400,000.   When the residence

and Mrs. Hemmings' other properties were sold, Mr. Hemmings

borrowed the proceeds from Mrs. Hemmings and the proceeds were

used to pay debts of Mr. Hemmings and costs of the Conti

litigation.   Mr. Hemmings has a negative net worth.

ERTA Sections 508(c) and 509 Elections

     During 1981 both Messrs. Brown and Hemmings maintained

accounts at E.F. Hutton & Co. and Conti for trading regulated

commodity futures accounts.   Some contracts were entered into

prior to June 23, 1981, and others after that date.    Sections 501

to 509 of the Economic Recovery Tax Act of 1981 (ERTA), Pub. L.

97-34, 95 Stat. 172, 323-333, made certain changes in the

taxation of straddle and regulated futures contract transactions

that were generally applicable to property acquired or positions
                                - 11 -

established after June 23, 1981.    ERTA secs. 503, 508(a), 95

Stat. 327, 333.   However, under ERTA section 508(c), 95 Stat.

333, a taxpayer could elect to have the provisions of ERTA

sections 503-509, 95 Stat. 327-333, apply to all regulated

futures contracts or positions held by the taxpayer on June 23,

1981.   Under ERTA section 509, 95 Stat 333, a taxpayer could

elect to have all regulated futures contracts held by the

taxpayer during a taxable year that included June 23, 1981,

marked to market and taxed under ERTA section 509.    The elections

under ERTA sections 508 and 509 are referred to as "the

transitional rule elections."

     In preparing Messrs. Brown and Hemmings' returns for 1981,

Mr. Harris, their accountant, was aware of the changes made by

ERTA and the transitional rule elections.    Mr. Harris, however,

was informed by Conti that the trading with Conti resulted in

losses that precluded any benefit from use of the transitional

rule elections.   As a result, Messrs. Brown and Hemmings did not

make any transitional rule elections on their 1981 returns.

     Upon examination of the 1981 returns, respondent disallowed

the losses from the Conti transactions on the grounds that

     the transactions were preconceived shams lacking
     economic substance. Further, the transactions and
     losses did not occur or occur in the manner claimed.

     Further, recognition of the claimed deductions, income,
     gains and losses would distort the economic reality of
     the entire transaction. No genuine loss occurred, the
     alleged losses were but one step in a series of
                              - 12 -

     integrated transactions, and the entire transaction
     lacked economic reality.

     Additionally, the claimed deductions and losses are
     disallowed because of the lack of any profit motive.
     Moreover, the claimed deductions and losses are
     disallowed because they do not clearly reflect income.

The parties have stipulated that Messrs. Brown and Hemmings are

not entitled to the losses claimed with respect to the Conti

transactions.   Since the Conti losses have been disallowed,

Messrs. Brown and Hemmings believe that it is now beneficial to

invoke either of the transitional rule elections.    In their

petitions, Messrs. Brown and Hemmings seek to make an election

under ERTA section 509.   By amended petitions filed July 7, 1986,

Messrs. Brown and Hemmings purported to supply information

required by ERTA section 509(a).    By amendments to the amended

petitions, filed May 31, 1995, Messrs. Brown and Hemmings, in the

alternative, seek to make an election under ERTA section 508(c).

Respondent takes the position that these elections are untimely

and invalid.

Charitable Contribution Deduction

     In 1982, Mr. Hemmings owned a 37-foot Italian speedboat (the

boat) that he docked at a yacht club in West Palm Beach, Florida.

A boat broker, referred to only as "Don", maintained an office at

the yacht club.   Don approached Mr. Hemmings on behalf of an

unidentified individual (the buyer) who had expressed an interest

in purchasing the boat.   Mr. Hemmings initially refused to

consider any offer.   Don and the buyer persisted in their efforts
                               - 13 -

to obtain the boat and Mr. Hemmings decided to sell.    Don then

informed Mr. Hemmings that the buyer wanted to trade 24 boxes of

gemstones (the gemstones) for the boat.   Mr. Hemmings told Don

that if Don bought the boat and traded it for the gemstones, Mr.

Hemmings would buy the gemstones from him.    This course of action

eventually was followed.

     At Mr. Hemmings' request, Don provided an appraisal that

indicated a value of approximately $400,000 for the stones.     Mr.

Hemmings subsequently purchased the gemstones with a $150,000

cashier's check from Citizens & Southern National Bank.     Soon

thereafter, Mr. Hemmings, concerned that he might have been

swindled, obtained his own appraisal of the value of the

gemstones.   That appraisal was consistent with the other

appraisal.

     Mr. Hemmings attempted to sell the gemstones but found no

buyers.    Mr. Hemmings did find dealers willing to sell the

gemstones on consignment, but he was uncomfortable with this

arrangement and instead donated the gemstones to the Gospel

Fellowship Association (Gospel Fellowship) in 1984.

     On their 1984 Federal income tax return, the Hemmingses

claimed a deduction for a charitable contribution in the amount

of $320,756, reflecting the alleged value of the gemstones when

donated.   In the notice of deficiency issued to the Hemmingses

for 1984, respondent determined that they were not entitled to

the claimed charitable contribution deduction because they did
                              - 14 -

not establish that (1) they actually acquired the gemstones; (2)

they had any basis in the gemstones; or (3) the gemstones had any

value.   At trial respondent stipulated that the Gospel Fellowship

received the gemstones from petitioner.   The Hemmingses have

abandoned their claim that the value of the gemstones was

$320,756, but now contend that the value was $150,000.

                            Discussion

Innocent Spouse

     The parties agree that Mr. and Mrs. Hemmings are not

entitled to claim the losses resulting from the ACLI and ELMS

transactions.   Mrs. Hemmings contends, however, that she is

entitled to relief as a so-called innocent spouse under section

6013(e) for the taxable years 1978, 1979, and 1980.6   For Mrs.

Hemmings to prevail, she has the burden of establishing:    (1)

That a joint return was made; (2) that there was a substantial

understatement of tax and that the understatement was due to

grossly erroneous items attributable to Mr. Hemmings; (3) that,

in signing the returns, she did not know, or have reason to know,

of the substantial understatement; and (4) taking into account

     6
         Prior to its amendment in 1984, sec. 6013(e) only
granted innocent spouse relief in cases where the understatement
was attributable to omissions of income. E.g., Vesco v.
Commissioner, T.C. Memo. 1979-374. The years before the Court
here are 1978, 1979, and 1980. Sec. 424(a) of the Tax Reform Act
of 1984 (Division A of the Deficit Reduction Act of 1984), Pub.
L. 98-369, 98 Stat 494, 801-802, amended sec. 6013(e) to extend
to cases where an understatement of income results from a
disallowed deduction. The amendment applies retroactively to all
open years to which the Internal Revenue Code of 1954 applies.
                               - 15 -

all the facts and circumstances, it would be inequitable to hold

her liable for the deficiencies.    Sec. 6013(e)(1)(A) through (D).

In addition, the understatement must exceed 10 percent of her

adjusted gross income for the preadjustment year.      Sec.

6013(e)(4).

       Respondent concedes that there were joint returns filed,

that there were substantial understatements attributable to Mr.

Hemmings, and that the requirements of section 6013(e)(4) are

met.    We, therefore, are faced with the questions whether the

ACLI and ELMS deductions are grossly erroneous items, whether

Mrs. Hemmings knew or had reason to know of the substantial

understatements, and whether it would be inequitable to hold her

liable for the resulting deficiencies.

A. Grossly Erroneous Items

       Not all disallowed deductions are grossly erroneous items.

Douglas v. Commissioner, 86 T.C. 758, 763 (1986).      The phrase

includes "any claim of a deduction * * * in an amount for which

there is no basis in fact or law."      Sec. 6013(e)(2)(B).   A

deduction has no basis in fact where the transaction never took

place and has no basis in law where no substantial legal argument

can be made to support its deductibility.      Douglas v.

Commissioner, supra at 762-763.

       Mr. and Mrs. Hemmings claimed deductions for losses, and

respondent disallowed the deductions in this case on the grounds,

inter alia, that they had no basis in fact and no basis in law
                               - 16 -

(the transactions were "shams" and/or were not "bona fide").     Mr.

and Mrs. Hemmings filed petitions in which it is alleged that the

transactions were not shams and were bona fide.    In the answers,

respondent denied these allegations.    Once section 6013(e) was

raised, the positions of the parties underwent a radical

metamorphosis.

     On one hand, Mrs. Hemmings argues that these transactions

are similar to those encountered in Freytag v. Commissioner, 89

T.C. 849 (1987), affd. 904 F.2d 1011 (5th Cir. 1990), affd. on

other issues 501 U.S. 868 (1991), where the Court determined that

transactions involving straddles of Ginnie Maes and other

financial instruments were illusory, fictitious, and not bona

fide.   Respondent, on the other hand, does not seek to

characterize the transactions, but rather takes the position that

Mrs. Hemmings has not shown that the transactions are of the

nature of those discussed in Freytag.

     In Freytag the Court found that the First Western Government

Securities (First Western) trading program involving straddles of

forward contracts was not bona fide.    This finding was based on a

number of "gremlins" in the program.    Among the more salient

gremlins were the following:   The customers' out-of-pocket losses

were limited to the amounts paid; the amounts paid to the so-

called margin account determined the fees paid; the starting

point for the alleged trading program was the amount of tax

losses that were requested by the customer; the lack of
                               - 17 -

communication between First Western and the customer; and the

closings of the legs were done by cancellations and assignments

of the contracts.   Freytag v. Commissioner, 89 T.C. at 877-882.

We also determined that, even if the transactions were bona fide,

the primary motivation for entering into the transactions was not

for economic profit.   Id. at 882-886.

     The testimony of Messrs. Hemmings and Harris reveals many of

the same gremlins in the ACLI and ELMS programs.     Furthermore,

Mr. Hemmings testified that the sole reason for entering into the

transactions was to defer the bites of income taxes.     While Mr.

Harris suggested that there were other economic reasons for

entering into the transactions, he could not explain how, apart

from the purported tax deferral, the programs were economically

viable.

     Mrs. Hemmings has the burden of establishing that the

transactions were grossly erroneous.     While that burden never

shifts, at this point it seems to us that she has established a

prima facie case that the transactions were not bona fide and

would not be recognized, and the burden of going forward is on

respondent.   See Adler v. Commissioner, 85 T.C. 535, 540 (1985).

Respondent introduced no evidence to suggest that either the

gremlins were not present or that the transactions were primarily

driven by economic motives.7   Given the state of these records,

     7
         On brief, respondent argues that the testimony of David
Aughtry was insufficient to establish the nature of these
                              - 18 -

we conclude that the ACLI and ELMS transactions in this case were

not bona fide, and that the primary motive for entering into the

transactions was not for economic profit but rather for tax

purposes.   As such, the transactions had no basis in fact or law

and fall within the ambit of being grossly erroneous items.

     In reaching this conclusion, we recognize that in Stoller v.

Commissioner, T.C. Memo. 1990-659, affd. in part and revd. in

part 994 F.2d 855 (D.C. Cir. 1993), supplemented 3 F.3d 1576

(D.C. Cir. 1993), the Court recognized certain straddle

transactions wherein some of the same considerations or gremlins

were present.   It is important to note, however, that

respondent's expert in that case conceded that the transactions

were bona fide.   Mrs. Hemmings has made no such concession.8

     Respondent also argues that this case is controlled by Russo

v. Commissioner, 98 T.C. 28 (1992).    In Russo, this Court denied

petitioner/wife's motion to amend the petition to raise the

section 6013(e) innocent spouse defense.   The deficiency resulted


transactions. To a great extent we agree. But, we have not
based our conclusion on Mr. Aughtry's testimony, rather we focus
on the facts concerning the transactions testified to by Messrs.
Hemmings and Harris. These testimonies are not controverted.
     8
         Respondent contends that since Mr. and Mrs. Hemmings
were allowed deductions for some of the ACLI and ELMS
transactions in the settlement, the transactions must have had
substance. We do not know the considerations that brought forth
the settlement agreement. But, to a certain extent in complex
and multi-issue cases such as these, there is a certain amount of
"horse trading" that may produce peculiar results. This is
particularly true where the ACLI and ELMS transactions are not
the only issues.
                                - 19 -

from straddle transactions losses discussed in Glass v.

Commissioner, 87 T.C. 1087 (1986).9      In disallowing those losses,

we assumed that "the commodity options and futures contracts

which petitioners entered into were actual contracts. * * *.

Thus, we are here focusing our attention * * * on a question of

law."    Id. at 1172.   Consistent with this, in Russo we held,

inter alia, that the losses claimed were not grossly erroneous

items because they were not without basis in law or fact but

rather "the losses claimed were not 'intended' by the relevant

Code sections and were not allowable under the rationale of

Gregory v. Helvering, 293 U.S. 465, 469 (1935)."      Russo v.

Commissioner, supra at 33.     That situation is distinctly

different from here where the evidence indicates that these

transactions were not bona fide and had no basis in fact.

B. Lack of Knowledge and/or Reason to Know

     Mrs. Hemmings must establish that she did not know and had

no reason to know that the deductions gave rise to the


     9
        Glass v. Commissioner, 87 T.C. 1087 (1986), was affd. sub
nom. Bohrer v. Commissioner, 945 F.2d 344 (10th Cir. 1991), affd.
sub nom. Lee v. Commissioner, 897 F.2d 915 (8th Cir, 1989, affd.
sub nom. Kielmar v. Commissioner, 884 F.2d 959 (7th Cir. 1989),
affd. sub nom. Dewees v. Commissioner, 870 F.2d 21 (1st Cir.
1989), affd. sub nom. Freidman v. Commissioner, 869 F.2d 785 (4th
Cir. 1989), affd. sub nom. Keane v. Commissioner, 865 F.2d 1088
(9th Cir. 1989), affd. sub nom. Ratliff v. Commissioner, 865 F.2d
97 (6th Cir. 1989), affd. sub nom. Killingsworth v. Commissioner,
864 F.2d 1214 (5th Cir. 1989), affd. sub nom. Kirchman v.
Commissioner, 862 F.2d 1486 (11th Cir. 1989), affd. sub nom.
Yosha v. Commissioner, 861 F.2d 494 (7th Cir. 1988), affd. sub
nom. Herrington v. Commissioner, 854 F.2d 755 (5th Cir. 1988).
                               - 20 -

substantial understatements of tax.      Sec. 6013(e)(1)(C).    It does

not seem disputed that Mrs. Hemmings did not know of the

substantial understatements.   Rather, the dispute focuses on

whether she had reason to know.   In Kistner v. Commissioner, 18

F.3d 1521, 1525 (11th Cir. 1994), revg. T.C. Memo. 1991-463, the

Court of Appeals for the Eleventh Circuit, to which an appeal in

this case would lie, observed:

          A spouse has "reason to know" if a reasonably
     prudent taxpayer under the circumstances of the spouse
     at the time of signing the return could be expected to
     know that the tax liability stated was erroneous or
     that further investigation was warranted. * * * The
     courts have recognized several factors that are
     relevant in determining the "reason to know," including
     (1) the alleged innocent spouse's level of education;
     (2) the spouse's involvement in the family's business
     and financial affairs; (3) the presence of expenditures
     that appear lavish or unusual when compared to the
     family's past levels of income, standard of income, and
     spending patterns; and (4) the culpable spouse's
     evasiveness and deceit concerning the couple's
     finances. * * *

See also Friedman v. Commissioner, 53 F.3d 523 (2d Cir. 1995),

affg. in part and revg. and remanding in part T.C. Memo. 1993-

549; Jacoby v. Commissioner, T.C. Memo. 1996-477.

     While Mrs. Hemmings does have a college education, there was

nothing in her education that would or should have alerted her to

the pitfalls of this situation.   She was not educated in any

financial or business disciplines.      There were no major

differences--before, during, or after the period in which these

deductions were claimed--in the Hemmingses' lifestyle.        For

people with their wealth, their lifestyle was comfortable but not
                              - 21 -

exorbitant.   More important, Mrs. Hemmings played no role in the

family's business and/or investments.    She did not even control

the income from her assets.   While she was not subject to any

abuse, it is obvious that Mr. Hemmings totally dominated the

financial side of the marriage.   It is true that Mr. Hemmings did

not attempt to deceive her and told her that the losses were part

of a tax deferral strategy.   But, she also relied on Mr. Harris,

who was a certified public accountant and had prepared the

Hemmingses' and Mr. Brown's tax returns in the past.    In this

regard, we note that the Hemmingses' tax returns are extremely

complex in which large gains and losses were reported for other

trading activities.   Considering all of the circumstances

concerning these returns, we do not believe that Mrs. Hemmings

had any reason to know that there were substantial

understatements of tax on these returns.

C. Equitable Considerations

     The final question is whether, taking into account the facts

and circumstances, it would be inequitable to hold Mrs. Hemmings

liable for deficiencies attributable to the substantial

understatements.   Sec. 6013(e)(1)(D).   We are primarily concerned

whether Mrs. Hemmings significantly benefited from the erroneous

items.   Belk v. Commissioner, 93 T.C. 434, 440 (1989); see also

sec. 1.6013-5(b), Income Tax Regs.     Normal support, measured by

the circumstances of the parties, is not a significant benefit.

Estate of Krock v. Commissioner, 93 T.C. 672, 678 (1989); sec.
                                - 22 -

1.6013-5(b), Income Tax Regs.    Unusual support and receipt of

property, however, would constitute a significant benefit.       See

S. Rept. 91-1537 at 3-4 (1970), 1971-1 C.B. 606, 607-608.       In the

instant cases, there is no evidence that Mrs. Hemmings derived

any benefits from the understatements generated by the ACLI and

ELMS transactions.    The benefits, such as they were, inured to

Mr. Hemmings, Mr. Brown, and Brown Transport.       When we look at

the bottom line, Mrs. Hemmings has suffered a severe financial

hemorrhage.    Prior to and during the ACLI and ELMS period she had

assets valued at approximately $4,000,000.       None of these assets

were derived from the tax savings.       Currently she has assets

valued at approximately $400,000.    It may be that she also has

notes from her husband totaling $4.5 million for moneys lent to

him.    Her husband, however, has a negative net worth, and, while

the notes may not be valueless, their value is highly suspect.

We conclude that it would be inequitable to hold Mrs. Hemmings

liable for the underpayments attributable to the ACLI and ELMS

transactions.

       In sum, we find that Mrs. Hemmings satisfies the

requirements of section 6013(e) and qualifies as an innocent

spouse.

ERTA Sections 508 and 509

       Section 1256 was enacted by ERTA sections 508 and 509, 95

Stat. 333.    Section 1256 generally provides, inter alia, that

regulated futures contracts must be marked to market on the last
                                - 23 -

business day of the taxable year and any gain or loss on those

contracts shall be treated as a 40-percent short-term capital

gain or loss and a 60-percent long-term capital gain or loss.

Section 1256 applies to all positions acquired after June 23,

1981.     ERTA sec. 508(a), 95 Stat. 333.    Unless an election was

made under sections 508(c) or 509 of ERTA (collectively the

transitional rule elections), the law in effect prior to the

enactment of section 1256 applied to all regulated futures

contracts acquired on or before June 23, 1981 (pre-June 24

contracts).     Secs. 5c.1256-1 and 5c.1256-2, Temporary Income Tax

Regs., 47 Fed. Reg. 38689 (Sept. 2, 1982).10      The deadline for an

election under section 509 of ERTA was established by Congress in

ERTA section 509(b), 95 Stat. 334.       Congress deferred to the

Secretary of the Treasury (the Secretary) to set the time limit

on the exercise of an elective choice under ERTA section 508(c),

95 Stat. 333, and the Secretary established the time limit in

section 5c.1256-1(b), Temporary Income Tax Regs., 47 Fed. Reg.

38689 (Sept. 2, 1982).    Both transitional rule elections were

required to be made by the due date (including extensions) of the

taxpayer's Federal income tax return for the taxable year that

included June 23, 1981.


     10
         Secs. 5c.1256-1 and 5c.1256-2, Temporary Income Tax
Regs., 47 Fed. Reg. 38688, 68689 (Sept. 2, 1982), remain in
effect until superseded by final regulations on this subject.
T.D. 7826, 1982-2 C.B. 196. No final regulations have been
issued.
                              - 24 -

     After considering the merits of the transitional rule

elections, Mr. Brown and Mr. Hemmings (collectively petitioners)

filed their 1981 Federal income tax returns without making either

of the elections.   The reporting of the pre-June 24 positions

reflected that choice.   Petitioners, by amended petitions, now

seek to alter that choice long after the deadline for filing such

elections contained in the statutes and regulations.

     Where Congress has set an explicit time limit for making an

election, extending the time beyond the limits prescribed is a

legislative not a judicial function.   Riley Co. v. Commissioner,

311 U.S. 55, 58 (1940); see also Scaife Co. v. Commissioner, 314

U.S. 459, 462 (1941); Brutsche v. Commissioner, 585 F.2d 436, 439

(10th Cir. 1978), vacating and remanding 65 T.C. 1034 (1976);

Frentz v. Commissioner, 44 T.C. 485, 490 (1965), affd. 375 F.2d

662 (6th Cir. 1967); Taylor v. Commissioner, T.C. Memo. 1987-399;

Welsh v. United States, 2 Cl. Ct. 417, 420 (1983).     Accordingly,

petitioners' untimely elections under ERTA section 509 cannot be

given effect, and we turn to petitioners' untimely elections

under ERTA section 508(c).

     In contrast to the deference afforded Congressionally

created time limits, the adherence to administratively created

time limits is not always mandated, even where that time limit is

created pursuant to a Congressional delegation of authority.     See

Dougherty v. Commissioner, 60 T.C. 917, 938 (1973).    Petitioners

assert that their untimely elections should be respected because
                              - 25 -

their original failure to make the elections was based on a

material mistake of fact, and their untimely elections should be

recognized.   Petitioners rely on Meyer's Estate v. Commissioner,

200 F.2d 592 (5th Cir. 1952), revg. 15 T.C. 850 (1950), and Plumb

v. Commissioner, 97 T.C. 632 (1991).11

     Plumb v. Commissioner, supra, is inapposite.    In Plumb, this

Court held that a taxpayer who attempted to make an election that

was not available under the law had made no election and should

be treated as such.   Petitioners originally chose between two

legally available alternatives.   Thus, Plumb does not provide a

basis for disregarding their original decision not to make

elections under ERTA section 508(c).     Cf. Miller v, Commissioner,

99 F.3d 1042 (11th Cir. 1996); Branum v. Commissioner, 17 F.3d

805, 809 (5th Cir. 1994).

     In Estate of Meyer v. Commissioner, 15 T.C. 850 (1950),

revd. 200 F.2d 592 (5th Cir. 1952), the parties stipulated that


     11
         Taxpayers have been allowed to make an election that
did not literally comply with certain procedural requirements
governing the time provided for making the election. See, e.g.,
Taylor v. Commissioner, 67 T.C. 1071 (1977); Dougherty v.
Commissioner, 60 T.C. 917 (1973). Such decisions generally
conclude that the elections were timely, relying on (1)
substantial compliance with the procedural requirements within
the time limit for making the election; (2) an expression of
intent to make the election within the time limit; or, at least,
(3) a lack of an election against or conduct that is inconsistent
with the position the taxpayer ultimately did adopt. See, e.g.,
American Air Filter Co. v. Commissioner, 81 T.C. 709 (1983);
Taylor v. Commissioner, supra; Dougherty v. Commissioner, supra.
Petitioners do not assert that their elections were timely under
this line of cases.
                                 - 26 -

the taxpayers relied on an understated corporate earned surplus

figure, as shown by an audit of certified public accountants, in

making an election to liquidate under section 112(b)(7) of the

Internal Revenue Code of 1939, and the actual earned surplus

figure was more than 10 times the figure relied on.     Under these

circumstances, the Court of Appeals for the Fifth Circuit held

that the election could be withdrawn on the ground that it was

based on a material mistake of fact.      Meyer's Estate v.

Commissioner, 200 F.2d at 596-597.

       While this Court has not adopted the reasoning of Meyer's

Estate v. Commissioner, 200 F.2d at 592 (see Johnson v.

Commissioner, T.C. Memo. 1991-645, affd. without published

opinion 989 F.2d 484 (1st Cir. 1993)), an appeal in this case

lies to the Court of Appeals for the Eleventh Circuit in which

Meyer's Estate is precedent.12    Nonetheless, if petitioners are

to be allowed to make elections at this time in reliance upon

Meyer's Estate, they must establish that their original elections

were based upon a material mistake of fact and not a mistake of

law.    Rule 142(a); Bankers & Farmers Life Ins. Co. v. United

States, 643 F.2d 234 (5th Cir. 1981).     It is one thing to allege

simply that there was a mistake in regarding the Conti losses as


       12
         As expressed in Bonner v. City of Prichard, 661 F.2d
1206, 1209 (11th Cir. 1981), the Court of Appeals for the
Eleventh Circuit follows precedent of those cases decided by the
Court of Appeals for the Fifth Circuit prior to September 30,
1981.
                               - 27 -

deductible.   It is not clear, however, whether this mistake was

based on an erroneous conclusion of fact or law.    For example, if

the Conti transactions never took place, i.e., they were "factual

shams", it is arguable the mistake was predicated on an erroneous

factual conclusion.   On the other hand, if the transactions did

take place but would not be recognized because they were not

entered into primarily for profit, the mistake was not one of

fact, but of the legal consequences of the facts.   See, e.g.,

Freytag v. Commissioner, 904 F.2d 1011 (5th Cir. 1990), affd. on

other issues 501 U.S. 868 (1991), affg. 89 T.C. 849 (1987);

Goldstein v. Commissioner, 364 F.2d 734 (2d Cir. 1966), affg. 44

T.C. 284 (1965).

     With the records that we have, petitioners concede that the

Conti transactions "have no effect for tax purposes, and

Petitioners will not recognize any gains, losses, income or

expenses arising from transactions in non-regulated government

securities traded by Conti".   But, we do not know the basis of

this concession.   Petitioners have consistently maintained that a

great number of the Conti transactions actually took place.

Further, while petitioners' cases in the Multi-District

Litigation involving Conti were settled, the court there found

that petitioners could not identify so-called bad or sham

transactions.   In re ContiCommodity Services, Inc. Securities

Lit., 733 F. Supp. 1555, 1564 (N.D. Ill. 1990), revd. on other
                              - 28 -

issues sub nom. Brown v. United States, 976 F.2d 1104 (7th Cir.

1992).

     Petitioners here face some of the same problems that Mrs.

Hemmings faced with respect to the ACLI and ELMS transactions.

But, we note that Mr. Hemmings testified that his trading with

E.F. Hutton & Co. and Conti was distinctly different from his

trading with ACLI and ELMS as discussed, supra.     Moreover, there

is no evidence in this record that the Conti trading suffered

from the same gremlins that were present in the ACLI and ELMS

alleged trading.   Cf. Freytag v. Commissioner, supra.    We

conclude that petitioners have not shown that their elections

when the returns were filed were based on a material mistake of

fact and, accordingly, they are not entitled to abandon their

original choice and make untimely elections under ERTA section

508(c) or 509.   We apply the general rule that a taxpayer who

makes an elective choice is bound by that choice.     Roy H. Park

Broadcasting v. Commissioner, 78 T.C. 1093, 1134 (1982).

Charitable Contribution

     Although this is a tale seemingly scripted by the ghost of

Damon Runyon, respondent concedes that the gemstones exist and

were donated to the Gospel Mission.    While the tale seems

farfetched, there are some gems of truth with which we must deal.

In our findings of fact we have outlined the rather bizarre

genesis of acquiring the gems, and while that genesis is bizarre,

Mr. Hemmings' testimony to that effect, corroborated by other
                              - 29 -

evidence, appeared to be trustworthy.   Thus, we proceed to

determine the value of the gemstones.

     Section 1.170A-1(c)(1), Income Tax Regs., states that,

except for certain adjustments not relevant here,13 a charitable

contribution of property is to be valued at the fair market value

of the property at the time of the contribution.   "Fair market

value" is defined as "the price at which the property would

change hands between a willing buyer and a willing seller,

neither being under any compulsion to buy or sell and both having

a reasonable knowledge of relevant facts."   Sec. 1.170A-1(c)(2),

Income Tax Regs.   A sale of the same property within a short

period of time prior to the valuation date has been described as

reliable evidence of value.   Chiu v. Commissioner, 84 T.C. 722,

734 (1985); Hinkel v. Motter, 39 F.2d 159 (D. Kan. 1930).

     Respondent argues that Mr. Hemmings has not established the

fair market value of the gemstones on the date of contribution.

Mr. Hemmings does not rely on either of the appraisals other than

to corroborate the facts concerning his acquiring the gems.

     13
         In determining the amount of a charitable contribution
of property, the fair market value of the property must be
reduced by, inter alia, the amount of gain which would not have
been long-term capital gain if the property contributed had been
sold by the taxpayer at its fair market value at the time of
contribution. Sec. 170(e)(1)(A); sec. 1.170A-1(c)(1), Income Tax
Regs. The Hemmingses do not assert that the fair market value of
the gemstones at the time of contribution exceeded their basis
($150,000). To the extent the fair market value did exceed
basis, such excess would have no impact on the amount of the
allowable charitable contribution deduction because of the
aforementioned rule.
                              - 30 -

Rather, he contends that he has established the cost and that the

cost approximates the fair market value on the date of

contribution.   Mr. Hemmings' Merrill Lynch cash management

account shows a check written on October 22, 1982, to C & S

National Bank14 for $150,000 for a cashier's check used to

purchase the gemstones.   The statement indicates that his check

cleared 3 days later.   The two appraisals introduced into

evidence bore dates shortly before the October 22, 1982, purchase

and shortly after that date, and are consistent with Mr.

Hemmings' testimony.

     We conclude that Mr. Hemmings paid $150,000 for the purchase

of the gemstones on October 22, 1982, and are left to decide

whether this figure should be accepted as the fair market value

of the gemstones on the date of contribution.   Respondent agrees

that a sale of the same property within a short period of time

before the date of contribution may constitute the best evidence

of the fair market value.   Respondent contends, however, (1) that

the purchase of the gems from Don was not an arm's-length

transaction, noting the disparity in value between the appraisals

and the purchase price, and (2) that the purchase of the property

did not occur within the requisite temporal proximity to

adequately establish the fair market value of the gemstones on

the date of contribution.

     14
        The transcript refers to the CNS National Bank.      This is
a typographical error.
                                - 31 -

     Respondent's contention that the purchase of the gemstones

was not an arm's-length transaction is not supported by the

record.   Mr. Hemmings and Don were no more than business

acquaintances, and there is no reason to believe that either

intended to confer any benefit on the other by paying more or

less than the fair consideration in the exchange.

     Turning to the proximity of the purchase date to the date of

gift, in Tripp v. Commissioner, 337 F.2d 432, 434 (7th Cir.

1964), affg. T.C. Memo. 1963-244, the court found that the

purchase price of jewelry over 2 years prior to the contribution

was sufficient to establish the fair market value of the jewelry

on the date of contribution in the absence of convincing evidence

to the contrary.     In Jayson v. United States, 294 F.2d 808, 810

(5th Cir. 1961), the court found that the purchase price of land

3-1/2 years prior to its condemnation was evidence of its fair

market value on the date of condemnation.    Similarly, in United

States v. 2,635.04 Acres of Land, 336 F.2d 646, 649 (6th Cir.

1964), the court held that a comparable sale of land in 1954

constituted evidence of the fair market value of the land

condemned in 1961.

     Respondent has not introduced any evidence of the fair

market value of the gemstones on the date of contribution, nor

put forth any reason to believe the value of the gemstones

diminished between the date of purchase and the date of

contribution.   Gemstones are durable assets, not easily
                             - 32 -

susceptible to diminution in value due to wear and tear.     In the

absence of any evidence to the contrary, we conclude that the

fair market value of the gemstones on the date of contribution

was $150,000, the purchase price of the gemstones.

     To reflect our conclusions and the concessions of the

parties,

                                   Decisions will be entered

                              under Rule 155.
