ATTORNEYS FOR PETITIONERS:                       ATTORNEYS FOR RESPONDENT:
DAVID F. MCNAMAR                                 CURTIS T. HILL, JR.
MCNAMAR & ASSOCIATES, P.C.                       ATTORNEY GENERAL OF INDIANA
Westfield, IN                                    PARVINDER K. NIJJAR
                                                 DEPUTY ATTORNEY GENERAL
JAMES K. GILDAY                                  Indianapolis, IN
GILDAY & ASSOCIATES, P.C.
Indianapolis, IN                                                                  FILED
                                                                             Jan 04 2018, 4:05 pm

                                                                                  CLERK
                               IN THE                                         Indiana Supreme Court
                                                                                 Court of Appeals
                                                                                   and Tax Court

                         INDIANA TAX COURT

PAUL J. ELMER and CAROL A. N. ELMER,             )
                                                 )
       Petitioners,                              )
                                                 )
              v.                                 ) Cause No. 49T10-1110-TA-00064
                                                 )
INDIANA DEPARTMENT OF STATE                      )
REVENUE,                                         )
                                                 )
       Respondent.                               )


                   ON APPEAL FROM A FINAL DETERMINATION OF
                   THE INDIANA DEPARTMENT OF STATE REVENUE

                                  FOR PUBLICATION
                                   January 4, 2017
FISHER, Senior Judge

       Paul J. Elmer and Carol A. N. Elmer have challenged the Indiana Department of

State Revenue’s assessments of Indiana adjusted gross income tax (AGIT) for the 2005

through 2008 tax years (the “years at issue”). The issue for the Court to decide is whether

the Elmers established that two of Mr. Elmer’s businesses were entitled to certain

expense deductions. Upon review, the Court finds that they did not.
                          FACTS1 AND PROCEDURAL HISTORY

       The Elmers, a married couple of 37 years, live in Fishers, Indiana. (Trial Tr. at 11-

12.) Mr. Elmer is a licensed pharmacist. (Trial Tr. at 12-13.) He began his career at a

hospital in Kentucky, but when he discovered that job was “not what [he] wanted to do[,]”

he obtained a new job at Hook’s Drugs Stores. (Trial Tr. at 13.) After leaving Hook’s, Mr.

Elmer managed a friend’s long-term care pharmacy and, then, the friend’s mail order

pharmacy. (See Trial Tr. at 13-15.) Mr. Elmer subsequently “took [a] leap of faith” and

started his own pharmacy-related businesses. (See Trial Tr. at 12-13, 15.) Two of these

businesses, both S-Corporations, are involved in this matter: Pharmakon Long Term

Care Pharmacy, Inc. (f/k/a Liberty Express Scripts, Inc.) and Hamilton Consulting Group,

Inc. (See Trial Tr. at 7; Confd’l Am. Stipulated Facts & Exs. (“Stip.”) ¶¶ 2-3.)

       Pharmakon was established in February of 2003. (Trial Tr. at 15.) Initially, the

business operated a mail order pharmacy, with four employees in the basement of a

building owned by Mr. Elmer’s friend.           (See Trial Tr. at 15-17.)       As the business

developed, it transitioned into an institutional pharmacy that sold prescription drugs and

medical supplies primarily to long-term care facilities (e.g., psychiatric facilities, assisted-

living facilities, and nursing homes) and their patients. (See Stip. ¶ 11; Trial Tr. at 15-16,

24-25.) During the years at issue, Pharmakon served as the primary pharmacy 2 for 41

long-term care facilities that were operated by affiliates of Magnolia Health Systems, Inc.,



1
   The parties’ jointly stipulated facts and accompanying exhibits contain confidential information;
accordingly, the Court will provide only that information necessary for the reader to understand
its disposition of the issues presented. See generally Ind. Administrative Rule 9.
2
  Mr. Elmer explained that primary pharmacies must execute written agreements with the long-
term care facilities they serve that requires them to meet all the pharmaceutical needs of those
facilities and their residents. (See Trial Tr. at 28.)
                                                 2
several separate businesses (i.e., Magnolia and the Magnolia affiliates) owned primarily

by a long-time acquaintance of Mr. Elmer, Stuart Reed. (See Stip. ¶ 12, Confd’l Ex. 10,

Confd’l Ex. 19 at Pet’rs’ Ex. 2 ¶¶ 4-6; Trial Tr. at 25-26.)

       Messrs. Elmer and Reed, representing Pharmakon, Magnolia, and the Magnolia

affiliates, conducted business with little formality, meeting periodically to “talk through

things and . . . agree on how [they] were going to do [things.]” (See Trial Tr. at 27-28;

Stip., Confd’l Ex. 19 at 21.) Accordingly, unless specifically mandated by law, the two did

not memorialize the contours of their business relationships with written contracts. (See,

e.g., Trial Tr. at 27 (“I would call him, but it was never where I would have a contract

saying[,] ‘In this contract you have to do this,’ no, that’s not the way I do business”).)

Beginning in 2007, some of Pharmakon’s customers, including many of the Magnolia

affiliates, failed to pay Pharmakon for amounts invoiced. (See, e.g., Stip., Confd’l Exs.

12-12(11).)   By the end of 2008, those uncollected amounts totaled approximately

$650,000. (See Trial Tr. at 49-50; Stip., Confd’l Exs. 12-12(b), Confd’l Ex. 19 at Pet’rs’

Ex. 2 ¶¶ 6-8.) At some point, the companies stopped doing business together, but it is

not clear when their business relationship was terminated. (See Trial Tr. at 27.)

       Hamilton was established a year after Pharmakon in 2004 to expand Pharmakon’s

footprint within the pharmaceutical industry. (See Stip. ¶ 3; Trial Tr. at 35, 37-39.) During

the years at issue, Hamilton’s business address was at Mr. Elmer’s residence and it had

no employees. (See Trial Tr. at 56.) Hamilton (via Mr. Elmer) initially conducted a few

educational seminars on behalf of different pharmaceutical companies to introduce

pharmacists to new products and treatments for certain ailments. (See Trial Tr. at 35-

37.) Once those opportunities “fizzle[d] out[,]” Hamilton (again via Mr. Elmer) verbally



                                              3
agreed to coordinate the provision of certain respiratory care services to long-term care

facilities for Pharmakon.     (See Trial Tr. at 36-38, 56-57; Stip. ¶ 14.)      At that time,

Pharmakon had at least one “account” with a non-Magnolia affiliated nursing home and

employed at least one respiratory therapist to provide the services. (See Trial Tr. at 37-

38.) When Mr. Elmer determined that his customer base prevented Pharmakon from

employing respiratory therapists any longer, he sought out the advice of Mr. Reed. (See

Trial Tr. at 37-38, 43-44.)   Messrs. Elmer and Reed verbally agreed that: 1) Augusta

Corporation, another of Mr. Reed’s companies, would provide licensed respiratory

therapists to administer the respiratory care services; 2) Augusta would order all

medications and supplies used to provide its services from Pharmakon; and 3) Hamilton

would continue to coordinate the provision of all those services on behalf of Pharmakon.

(See, e.g., Trial Tr. at 38-45, 57-58; Stip. ¶ 17.) Thereafter, Hamilton also began to

provide similar services to Magnolia-affiliated long-term care facilities. (See Trial Tr. at

40-41.)

       Throughout the 2005 through 2007 tax years, Pharmakon was Hamilton’s only

customer. (See Trial Tr. at 40-41; Stip., Confd’l Ex. 2 at 7.) Pharmakon paid Hamilton

approximately $9 million for “contract labor” services during all the years at issue, and

Hamilton, in turn, paid Augusta about $7 million for “consulting” services. (See Stip. ¶¶

14, 20-21, Confd’l Ex. 1 at 7-8, Confd’l Ex. 2 at 8, 11, Confd’l Ex. 11; Trial Tr. at 48-49.)

       The Department subsequently audited Pharmakon and Hamilton for the years at

issue. (See Stip. ¶ 5, Confd’l Exs. 1-2.) On September 15, 2010, the Department issued

separate Audit Summary Reports to Pharmakon and Hamilton that disallowed some of

their expense deductions because the Elmers had not demonstrated that the



                                              4
requirements for deductibility were met. (See Stip. ¶¶ 5-6, Confd’l Ex. 1 at 6-10, Confd’l

Ex. 2 at 6-10.)    Specifically, Pharmakon’s Audit Summary Report stated that the

Department disallowed: 1) contract labor expenses of about $9 million; 2) car allowance

and vehicle depreciation expenses totaling over $50,000; and 3) uncollectible debt

expenses of about $650,000. (See Stip. ¶¶ 14, 26-28, Confd’l Ex. 1 at 7-10.) In contrast,

Hamilton’s Audit Summary Report provided that the Department disallowed: 1) consulting

expenses of about $7 million; 2) vehicle expenses of about $9,000; 3) a management fee

of approximately $700,000; and 4) a variety of other expenses (e.g., depreciation,

contract labor, meals/entertainment, office equipment/supplies, and dry cleaning) that

totaled over $100,000. (See Stip. ¶¶ 20-24, Confd’l Ex. 2 at 7-11, Confd’l Ex. 11.)

      On December 17, 2010, the Department issued Proposed Assessments to the

Elmers imposing over $400,000 of additional AGIT, interest, and penalties for the years

at issue. (See Stip. ¶ 7, Confd’l Exs. 3-7.) See also Riverboat Dev., Inc. v. Indiana Dep’t

of State Revenue, 881 N.E.2d 107, 109 n.4 (Ind. Tax Ct. 2008) (explaining that the income

and losses of an S-Corporation are passed through to its owners (i.e., shareholders) who,

in turn, report their pro-rata shares on their individual tax returns), review denied. On

April 19, 2011, the Elmers protested the Proposed Assessments, and on August 31, 2011,

the Department issued a Letter of Findings that ultimately denied their protest. (See Stip.

¶¶ 8-9, Confd’l Exs. 8-9.) See also Elmer v. Indiana Dep’t of State Revenue, 42 N.E.3d

185, 188 n.2 (Ind. Tax Ct. 2015).

      On October 25, 2011, the Elmers initiated this original tax appeal. On January 23,

2017, after the Department’s motion for summary judgment was denied, (see generally

id.), the Elmers’ appeal proceeded to trial. The Court heard oral argument on June 2,



                                            5
2017. Additional facts will be supplied as necessary.

                                STANDARD OF REVIEW

       This Court reviews final determinations of the Department de novo. IND. CODE §

6-8.1-5-1(i) (2017). Accordingly, the Court is not bound by the evidence or the issues

presented to the Department at the administrative level. Horseshoe Hammond, LLC v.

Indiana Dep’t of State Revenue, 865 N.E.2d 725, 727 (Ind. Tax Ct. 2007), review denied.

                                          LAW

       During the years at issue, Indiana’s adjusted gross income tax incorporated

Section 63 of the Internal Revenue Code, defining “taxable income” as the starting point

for calculating a corporation’s Indiana adjusted gross income. See IND. CODE § 6-3-1-

3.5(b) (2005) (amended 2006). IRC § 63 provided that “taxable income” meant “gross

income minus the deductions allowed by this chapter (other than the standard

deduction).” I.R.C. § 63(a) (2005). Two independent types of deductions allowed under

IRC § 63 are at issue here: the business expense deduction under IRC § 162 and the

uncollectible debt deduction under IRC § 166. See generally I.R.C. §§ 162, 166 (2005).

The business expense deduction permits taxpayers to deduct “the ordinary and

necessary expenses paid or incurred . . . in carrying on any trade or business[.]” I.R.C. §

162(a). The uncollectible debt deduction allows taxpayers to deduct either in whole or in

part “any debt that becomes worthless within [a] taxable year.” I.R.C. § 166(a).

                                       ANALYSIS

       The dispositive issue is whether the Elmers established that Pharmakon and




                                            6
Hamilton were entitled to certain expense deductions during the years at issue.3 The

Department has maintained throughout these proceedings that the Elmers cannot

substantiate any of the contested expense deductions given Mr. Elmer’s use of oral

agreements and lack of written documentation. (See, e.g., Resp’t Confd’l Post-Trial Br.,

Marked “Not For Public Access[”] Pursuant To Ind. Trial Rule 5(G) (“Resp’t Br.”) at 5-8;

Oral Arg. Tr. at 14-15.) The Court has previously explained, however, that nothing within

Indiana’s AGIT statutory scheme or relevant case law provides that written documentation

is the only method for a taxpayer to substantiate its federal expense deductions for

purposes of determining its Indiana AGIT liability. See Elmer, 42 N.E.3d at 194 n.12.

Furthermore, Indiana does not prohibit the use of oral contracts. See, e.g., Fox Dev., Inc.

v. England, 837 N.E.2d 161, 165 (Ind. Ct. App. 2005) (providing that “[f]or an oral contract

to exist, [the] parties have to agree to all the terms of the contract”) (citation omitted).

Accordingly, the resolution of the matters at hand primarily depends on the probative

value of, or the weight afforded to, the trial evidence.

       To that end, the Elmers have conceded that they cannot substantiate Pharmakon’s

car allowance and vehicle depreciation expense deductions of over $50,000 and

Hamilton’s vehicle, management fee, and meal/entertainment expense deductions of

approximately $715,000. (See Stip. ¶ 24; Pet’rs’ Confd’l Post-Trial Reply Br., Marked

“Not For Public Access” Pursuant to Ind. Trial Rule 5(G) (“Pet’rs’ Reply Br.”) at 21 n.25;

Oral Arg. Tr. at 21-22.) Consequently, the expense deductions that remain at issue are



3
  Although the parties also appear to dispute whether the claimed expense deductions comported
with the “ordinary” and “necessary” requirements of IRC § 162 and whether they had economic
substance, the Court will not address those disputes because the case is resolved on other
grounds. (Compare, e.g., Pet’rs’ Post-Trial Br. at 2-7 with Resp’t Confd’l Post-Trial Br. Marked
“Not For Public Access[”] Pursuant to Ind. Trial Rule 5(G) at 4.)
                                               7
Pharmakon’s deductions for contract labor and uncollectible debt as well as Hamilton’s

deductions for consulting services and miscellaneous items (e.g., depreciation, dry

cleaning, or office supplies).

       The Elmers’ primary claim is that they substantiated Pharmakon’s and Hamilton’s

expense deductions at trial because the Department simply ignored their evidence and

“continue[d] to advance the unsupported theory that verbal contracts . . . must be in writing

in order for any expenditures resulting therefrom to be deducted.” (See Pet’rs’ Reply Br.

at 17.) (See also, e.g., Oral Arg. Tr. at 8-14.) During the trial, the Elmers offered a variety

of evidence to substantiate the contested expense deductions, including the testimony of

Mr. Elmer, Mr. Reed, and Pharmakon’s senior accountant; patient’s treatment

administration records; Augusta’s invoices; and Pharmakon’s “accounts receivable open

item list” reports for the period between January 1, 2007 and December 31, 2008. (See,

e.g., Stip., Confd’l Exs. 11, 12-12(11), 19, 21.) The Elmers’ evidence, however, has

numerous infirmities and the Court cannot conclude that the Elmers have substantiated

the expense deductions at issue. In order to address the infirmities with the evidence –

yet conserve judicial resources – the Court’s opinion today will discuss only the most

glaring infirmities regarding: A) Pharmakon’s deductions for contract labor; B) Hamilton’s

deductions for consulting services; C) Hamilton’s deductions for miscellaneous items; and

D) Pharmakon’s deduction for uncollectible debt.

                                               A.

       To establish Pharmakon’s eligibility for the contract labor deductions, Mr. Elmer

testified at trial that he arranged for Hamilton to coordinate the provision of respiratory

care services at long-term care facilities on behalf of Pharmakon. (See Trial Tr. at 40-41,



                                              8
55, 61.) He further explained that he ran monthly reports to determine the amount of

money that Pharmakon should pay Hamilton, which largely depended on the amount of

money that Hamilton owed Augusta. (See Trial Tr. at 48-49.) In addition, the Elmers and

the Department stipulated that Pharmakon paid Hamilton approximately $9 million during

the years at issue and that Hamilton paid about 80 percent of those proceeds to Augusta.

(See Stip. ¶¶ 14, 20.)

       While Mr. Elmer’s testimony describes the interactions of Pharmakon and Hamilton

in general terms, the lack of detail significantly detracts from its probative value. See,

e.g., Barth, Inc. v. State Bd. of Tax Comm’rs, 756 N.E.2d 1124, 1128 (Ind. Tax Ct. 2001)

(providing that “probative evidence” is “evidence that is ‘sufficient to establish a given fact

and which if not contradicted will remain sufficient’”) (citation omitted). For instance, there

is no indication as to who actually coordinated the provision of respiratory care services

given that Hamilton had no employees during the years at issue. Furthermore, the trial

evidence does not reveal what specifically Hamilton’s coordination efforts were, leaving

the Court to only surmise the amount of time that might be consumed in coordinating

those activities. Finally, the Court cannot ascertain whether Hamilton’s fee was based on

a specified rate given the absence of invoices from Hamilton to Pharmakon or any specific

testimony on the subject. The Court finds this overall lack of detail especially troubling

given that Pharmakon was Hamilton’s only customer until 2008. Consequently, the

Elmers have not provided reliable and credible evidence to establish that Pharmakon was

entitled to an expense deduction for contract labor.

                                              B.

       With respect to substantiating Hamilton’s expense deductions for consulting



                                              9
services, the Elmers presented certain written documentation (e.g., patient’s treatment

administration records and Augusta’s invoices) as well as the testimony of Messrs. Elmer

and Reed. This evidence indicated that Messrs. Elmer and Reed had verbal agreements

about    a     variety   matters,   including   respiratory   therapy    services,   Medicare

reimbursements, software analysis, and the preparation of cost reports. (See, e.g., Stip.,

Confd’l Ex. 19 at 34-35, 53-54, Pet’rs’ Ex. 1 ¶ 3, Pet’rs’ Ex. 2 ¶¶ 12-13.) Furthermore,

while Mr. Elmer attempted to establish that Augusta’s respiratory therapists performed

their end of the agreement by stating that the initials on the patient’s treatment

administration records were those of Augusta’s respiratory therapists, Mr. Reed was not

sure if this was in fact the case. (See Trial Tr. at 41-43; Stip., Confd’l Ex. 19 at 49-51,

Pet’rs’ Ex. 3.)

        The Court finds that the statements of Messrs. Elmer and Reed lacked probative

value because they were nothing more than unsubstantiated conclusions. See, e.g.,

Blesich v. Lake Cnty. Assessor, 46 N.E.3d 14, 17 (Ind. Tax Ct. 2015) (providing that

“[c]onclusory statements do not constitute probative evidence”) (citation omitted). Indeed,

the trial evidence does not indicate that Mr. Elmer had actual knowledge of the identities

of the respiratory therapists; accordingly, his ability to identify them based on their initials

is doubtful.      Additionally, when Mr. Reed was asked about the specifics of the

agreements, particularly those regarding the respiratory therapy services, he could not

recall the details and deferred to his previously completed affidavits. (See, e.g., Stip.,

Confd’l Ex. 19 at 34-46, 65-66.) The affidavits, however, do not provide any further details

about the terms of any of the agreements. (See generally Stip., Confd’l Ex. 19, Pet’rs’

Ex. 1-2.) Moreover, the Court cannot definitively determine what Hamilton’s payments to



                                                10
Augusta were actually for because each of Augusta’s invoices was labeled for “marketing

and management” services, an undisclosed number of them may have included

remuneration for respiratory care services and other services, and the attachments that

provided a break-down of the services actually performed were not available. (See, e.g.,

Stip., Confd’l Ex. 11, Confd’l Ex. 19 at 44-47, 58-60.) This overall lack of detail regarding

the terms of the agreements between Hamilton and Augusta substantially detracts from

the probative value of this evidence. Consequently, the Elmers did not substantiate

Hamilton’s expense deductions for consulting services.

                                             C.

       The Elmers also claim that the Department erred in disallowing Hamilton’s

miscellaneous expense deductions (e.g., bank service charges, dry cleaning expenses,

and dues/subscriptions) because “[f]oundational documentary evidence exists and was

provided for all of the remaining claimed deductions; i.e., general ledgers.” (See Pet’rs’

Post-Trial Br. (“Pet’rs’ Br.”) at 10; Stip. ¶ 23.) The general ledgers that the Elmers

referenced, however, were never admitted into evidence during the trial. (See generally

Trial Tr.) Therefore, the Court cannot determine whether they substantiate Hamilton’s

miscellaneous expense deductions. Because the Elmers presented no further specific

arguments or evidence regarding Hamilton’s miscellaneous expense deductions, (see

generally Trial Tr.; Pet’rs’ Br.; Pet’rs’ Reply Br.; Oral Arg. Tr.), the Court cannot say that

the Elmers demonstrated that Hamilton was entitled to any of the miscellaneous expense

deductions. See, e.g., Blesich, 46 N.E.3d at 17 (stating that taxpayers have a duty to

walk the Court through every element of their analyses).)




                                             11
                                             D.

       Finally, with respect to Pharmakon’s uncollectible debt deduction of approximately

$650,000, the parties stipulated that Pharmakon’s 2008 amended tax return contained a

statement on the line for “returns and allowance” that read “this was for ‘the amount that

was improperly billed after the reimbursement period had expired.’” (Stip. ¶ 26.) Mr.

Elmer subsequently explained that this statement was imprecise because approximately

$200,000 of the deduction was attributable to billing mistakes and the other $450,000 was

attributable to the Magnolia’s affiliates’ failure to pay several invoices. (See Trial Tr. at

52-53.)

                                   The Billing Mistakes

       The Elmers’ evidence indicated that either the private pay patients themselves or

their insurers were liable for the debt arising from Pharmakon’s billing mistakes. (See

Trial Tr. at 49-53; Stip., Confd’l Ex. 21 at 15-17.) Mr. Elmer explained that in 2008

Pharmakon incorrectly “booked income” arising from several private pay patient

transactions and when Pharmakon rebilled those patients’ insurance companies, the time

for doing so had lapsed and it never received payment for those transactions. (See Trial

Tr. at 52-53.) As support, the Elmers presented Pharmakon’s “accounts receivable”

reports. (See Stip., Confd’l Exs. 12(c)-(11); Confd’l Ex. 21 at 17-20.) These computer-

generated reports contained a variety of information, including hundreds of patient names

as well as drug descriptions, transaction dates, prescription costs, and “write off” dates.

(See Stip., Confd’l Exs. 12(c)-(11).) The reports also contain a variety of handwritten

notes regarding the name of the patients’ insurers, rebilling dates, other dates, costs, and

other figures. (See, e.g., Stip., Confd’l Exs. 12(c), 12(j).) While no further testimony



                                             12
regarding the handwritten notes or computer-generated aspects of the reports was

provided during the trial, (see generally Trial Tr.; Stip., Confd’l Ex. 21), Pharmakon’s

senior accountant explained that its former chief operating officer (COO) had determined

that the debt was uncollectible, but she did not know when that determination was made.

(See Stip., Confd’l Ex. 21 at 9-10, 13, 15, 20-21.)

       When taxpayers claim an uncollectible debt expense deduction, they must, among

other things, establish that they “exhaust[ed] the usual and reasonable means of

collection before they are entitled to the deduction.” Newman v. Comm’r, 80 T.C.M.

(CCH) 661, 2000 WL 1675519, at *4 (T.C. 2000) (citation omitted). Indeed, the deduction

may be disallowed if taxpayers fail to demonstrate that collection efforts are futile. See

id. Here, while the evidence shows that either private pay patients or their insurers were

liable for the amounts that were uncollected due to billing mistakes, it provides no

indication about what portion, if any, of the $200,000 liability was attributable to the private

pay patients themselves as opposed to their insurers. Moreover, the evidence does not

indicate what collection measures, if any, Pharmakon employed with respect to the

private pay patients. This particularly strains credulity given that some of those patients

were designated as employees of Pharmakon or “friends and family.” (See Stip., Confd’l

Exs. 12(d) at 2, 12(11) at 2-3.) In addition, the handwritten notes indicate that in some

instances Pharmakon rebilled insurance companies in November of 2009 after filing its

amended tax return. (See Stip., Confd’l Ex. 12(d) at 5; Confd’l Ex. 1 at 9 (providing

Pharmakon filed the 2008 amended return in October of 2009).) In other instances, the

handwritten notes put the actual amount of the outstanding liability in dispute. (See Stip.,

Confd’l Ex. 12(c) at 1-2.)



                                              13
       The Elmers generically referred to Pharmakon’s reports as though they speak for

themselves, and in so doing, they diminished the probative value of that evidence. See,

e.g., Indianapolis Racquet Club, Inc. v. Washington Twp. (Marion Cnty.) Assessor, 802

N.E.2d 1018, 1022 (Ind. Tax Ct. 2004), review denied. The Elmers also failed to walk the

Court through every element of their analysis and, as a result, the Court cannot discern

whether sufficient collection efforts were undertaken, whether the stated amount of the

debt was truly uncollectible, and if so, when the debt was determined to be uncollectible.

Accordingly, the Elmers have not substantiated this expense deduction either.

                                 The Magnolia Affiliates

       During trial, the Elmers explained that the other portion of Pharmakon’s

uncollectible debt deduction arose from some of the Magnolia affiliates’ inability to pay

several invoices. (See Trial Tr. at 49-52; Stip., Confd’l Exs. 12(a)-(b).) Mr. Reed averred

that 15 of the 41 Magnolia affiliates stopped operating certain long-term care facilities

between August of 2007 and December of 2008 and that they “did not have sufficient

funds to pay all outstanding obligations.” (See Stip., Confd’l Ex. 19 at Pet’rs’ Ex. 2 ¶¶ 6-

8.)   In addition, the Elmers presented two documents that summarized the specific

amounts of the Magnolia affiliates’ outstanding liabilities. (See Stip., Confd’l Ex. 21 at 12-

15; Confd’l Exs. 12(a)-b).)     One document attributed the entire $450,000 expense

deduction to 34 of the Magnolia affiliates, including 13 of the 15 insolvent Magnolia

affiliates. (See Stip., Confd’l Ex. 12(a), Confd’l Ex. 19 at Pet’rs’ Ex. 2 ¶ 6.) The other

document attributed the expense deduction to 38 of the Magnolia affiliates, which

included all 15 of the insolvent Magnolia affiliates. (See Stip., Confd’l Ex. 12(b); Confd’l

Ex. 19 at Pet’rs’ Ex. 2 ¶ 6.) The Elmers did not explain these inconsistencies nor did they



                                             14
offer documentary evidence or some other evidence that detailed the summarized

amounts of the purportedly uncollectible debt.

       The parties also offered a series of email communications between Mr. Elmer, Mr.

Reed, and Pharmakon’s former COO, within which Mr. Reed suggested that they could

“do a write[-]off to reduce taxes” in response to Mr. Elmer informing him that “Magnolia’s

outstanding accounts” were problematic. (See Stip., Confd’l Ex. 14 at 4-5.) Although

Messrs. Elmer and Reed apparently agreed to write-off some of the debt by October 7,

2009, Mr. Reed did not know which of the 2008 invoices were being written-off and

continued to make payments on some of those invoices. (See Stip., Confd’l Ex. 14 at 1-

3.) When asked about these emails during cross-examination, Mr. Elmer stated that while

he and Mr. Reed had an oral agreement for repayment of a portion of the debt, he could

not recall any of the agreement’s terms. (See Trial Tr. at 59.) Mr. Elmer also could not

recall whether Pharmakon continued to receive payments on the debt in 2009. (See Trial

Tr. at 59-60.) Mr. Reed, in turn, could not recall the precise amount of the outstanding

liability or whether all 15 of the insolvent Magnolia affiliates paid the outstanding invoices.4

(See Stip., Confd’l Ex. 19 at 27-28.)

       As previously mentioned, IRC § 166(a) allows a deduction for “any debt which

becomes worthless within [a] taxable year.” I.R.C. § 166(a)(1). The debt must be “bona

fide,” meaning that it must arise “from a debtor-creditor relationship based upon a valid

and enforceable obligation to pay a fixed or determinable sum of money.” See Treas.

Reg. § 1.166-1(c) (2005) (emphasis added). Here, the absence of reliable or credible



4
   Mr. Reed also indicated that the former controller of Magnolia and Pharmakon’s former COO
either were the same person or merely shared the same name. (Compare, e.g., Stip., Confd’l Ex.
19 at 31-32 with Confd’l Ex. 21 at 20-21.)
                                              15
evidence of the terms of the oral agreement as well as the inconsistencies in the

testimonial and documentary evidence raise several questions regarding not only the

timing of the determination of worthlessness of this purported debt, but also the Magnolia

affiliates’ ability to repay the debt given that most were solvent. The Court, therefore,

cannot determine either the amount of the debt associated with the Magnolia affiliates or

whether the unpaid debts were actually worthless during the 2008 tax year. Accordingly,

the Court cannot say that the Elmers established Pharmakon’s entitlement to this portion

of uncollectible debt deduction as well.

                                     CONCLUSION

       Indiana Code § 6-8.1-5-4 requires every person subject to the AGIT to keep certain

books and records so that the Department may review them and determine the amount

of the person’s AGIT liability. See IND. CODE § 6-8.1-5-4(a) (2005). While the statute

does not provide an exhaustive list of, or implement a bright-line rule regarding, what

constitutes adequate books and records, the Court finds vague oral agreements lacking

credible documentary support, like the oral agreements here, simply will not suffice.

Having considered the parties’ arguments and weighed the evidence offered at trial, the

Court concludes that the Elmers did not establish that Mr. Elmer’s businesses were

entitled to the contested expense deductions. Consequently, the Court AFFIRMS the

Department’s final determination for the years at issue.




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