                        T.C. Memo. 2004-265



                      UNITED STATES TAX COURT



          KENNETH AND DOROTHY HITCHEN, Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket Nos. 1827-95, 9864-95.      Filed November 22, 2004.


     Kenneth Hitchen and Dorothy Hitchen, pro sese.

     Alan E. Staines, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     DAWSON, Judge:   These cases were assigned to Special Trial

Judge Stanley J. Goldberg pursuant to the provisions of section

7443A(b)(4), in effect at the time the petitions were filed in

these cases, and Rules 180, 181, and 183.1    The Court agrees with


     1
      Unless otherwise indicated, section references are to the
Internal Revenue Code in effect during the years in issue, and
                                                   (continued...)
                                     - 2 -

and adopts the opinion of the Special Trial Judge, as set forth

below.

                    OPINION OF THE SPECIAL TRIAL JUDGE

     GOLDBERG, Special Trial Judge:            In these consolidated

cases,2 respondent determined the following deficiencies in

petitioners’ Federal income taxes, additions to tax, and

accuracy-related penalties, for the respective taxable years:

                                               Additions to Tax
                                Sec.           Sec.        Sec.       Sec.
     Year       Deficiency      6651         6653(a)       6659       6661
                                              1
     1984        $7,444           n/a          $372      $2,233      $1,861
                                               1
     1985         6,842           n/a            342      2,053       1,711
                                2              1
     1987         6,532           $474           415      1,960       1,633
     1988         7,620           n/a            381      2,215       1,905

                                         Accuracy-Related Penalties
                                Sec.          Sec.        Sec.        Sec.
     Year       Deficiency    6662(c)3      6662(d)3
                                                        6662(e)3    6662(h)3



     1989        $9,788        $1,958        $1,958      $1,958      $3,915
           1
             In addition, respondent determined that petitioners are liable
     for the sec. 6653 addition to tax equal to 50 percent of the interest
     due on the deficiency in 1984, 1985, and 1987.
            2
             Respondent conceded this addition to tax at trial.

           3
             Sec. 6662(c), (d), (e), and (h) refers to the sec. 6662(a)
     accuracy-related penalty for negligence or disregard of rules or
     regulations, substantial understatement of income tax, substantial
     valuation overstatement, and gross valuation misstatement, respectively.

Respondent further determined that the entire amount of the

deficiencies in 1984, 1985, 1987, and 1988 is subject to the


     1
      (...continued)
all Rule references are to the Tax Court Rules of Practice and
Procedure.
     2
      In docket No. 1827-95, petitioners’ taxable years 1984,
1985, 1988, and 1989 are in dispute. In docket No. 9864-95,
petitioners’ taxable year 1987 is in dispute.
                               - 3 -

increased rate of interest charged on “substantial underpayment

attributable to tax motivated transactions” under section

6621(c).3   The issues for decision in these cases are:   (1)

Whether petitioners are entitled to farming expense deductions

and to general business credits that they claimed with respect to

an investment in a sheep breeding partnership promoted by Walter

J. Hoyt, III (Mr. Hoyt); (2) whether petitioners are liable for

the additions to tax for (a) valuation overstatements and a gross

valuation misstatement, (b) negligence or disregard of rules or

regulations, and (c) substantial understatements of income tax;

(3) whether petitioners are liable for the increased rate of

interest charged on substantial underpayments attributable to tax

motivated transactions; and (4) whether respondent is equitably

estopped from imposing additions to tax and interest on the

deficiencies in these cases.

                         FINDINGS OF FACT

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

The stipulation of facts and the attached exhibits are



     3
      References to sec. 6621(c) are to sec. 6621(c) as in effect
with respect to interest accruing after Dec. 31, 1986. See Tax
Reform Act of 1986, Pub. L. 99-514, sec. 1511(d), 100 Stat. 2746.
For interest accruing before that date, but after Dec. 31, 1984,
a nearly identical provision was codified at sec. 6621(d). See
id. sec. 1511(c)(1)(A), 100 Stat. 2744; Deficit Reduction Act of
1984, Pub. L. 98-369, sec. 144(a), (c), 98 Stat. 682, 684. Sec.
6621(c) was repealed in 1989 with respect to returns due after
Dec. 31, 1989. Omnibus Budget Reconciliation Act of 1989(OBRA
1989), Pub. L. 101-239, sec. 7721(b), (d), 103 Stat. 2399, 2400.
                                - 4 -
incorporated herein by this reference.   Petitioners resided in

Weed, California, on the dates the petitions were filed in these

cases.

I.   Petitioners and Their Investment

     Petitioner husband (Mr. Hitchen) was raised in England,

where he left school around the age of 14.   Mr. Hitchen worked at

various jobs and then served in the military for 5 years.

Petitioners were married in 1953, and they came to the United

States in 1956.   Mr. Hitchen began working at General Mills in

Lodi, California, in 1958, and he continued working there through

the years in issue.   Mr. Hitchen earned wage income of $45,353 in

1984, $47,746 in 1985, $51,797 in 1986, $50,574 in 1987, $50,004

in 1988, and $57,076 in 1989.   Petitioner wife (Ms. Hitchen)

worked in an office prior to coming to the United States in 1956,

but she has not worked outside the home since that time.

     In the latter part of 1986, Mr. Hitchen learned that several

of his co-workers at General Mills were involved in investments

promoted by Mr. Hoyt.   At that time, Mr. Hoyt was paying

approximately $50 per investor as an incentive for current

investors to bring in new investors.    Mr. Hitchen asked his co-

workers about the investment, and petitioners then decided to

look into making an investment themselves.

     Petitioners attended several investment meetings together.

Following these meetings, petitioners decided to invest in one of
                                - 5 -
the partnerships promoted by Mr. Hoyt (“Hoyt partnership” or

“Hoyt investment”).    In connection with the investment,

petitioners signed a form on December 17, 1986, titled

“Instructions to Hoyt and Sons Ranches--Acknowledgment of

Appointment of Power of Attorney”.      This form provided:

     I have given Walter J. Hoyt III the irrevocable
     authority to sign my name to a Certificate of
     Assumption of Primary Liability Form as part of a
     transfer on a full recourse Promissory Note in the
     amount of $190,000, that will become part of a transfer
     of debt agreement between me, the partnership known as
     Shorthorn Genetic Engineering 1986 Ltd., and HOYT &
     SONS RANCHES, said note having been delivered to HOYT &
     SONS RANCHES to pay for breeding cattle purchased from
     HOYT & SONS RANCHES, an Oregon Partnership, in Burns,
     Oregon, which are to be held as breeding cattle by the
     above named Partnership. This authorizes Mr. Hoyt to
     sign my name on the notes that were made for the
     purchase of Registered Shorthorn Breeding cattle from
     HOYT & SONS RANCHES, and no other purpose. I
     understand I will owe this amount directly to HOYT &
     SONS RANCHES, and not to my partnership.

        *        *       *        *         *       *         *

     My goal is that the value of my share of the cattle
     owned by the Partnership, in which you have a secured
     party interest, must never fall below the amount for
     which I am personally liable. If the value of my
     cattle does fall below the amount of my loan, and you
     become aware of that, you must so notify me within
     thirty days in order that I may make a damage claim to
     W.J. Hoyt Sons Management Company for possible default
     on the Share-Crop Operating Agreement, and/or the
     cattle fertility warranties.

Upon making the investment, petitioners were told that they would

“get some money back when we retired.”      Petitioners, however,

were uncertain how the investment was to provide income or

profits.    Petitioners did not consult with anyone outside Mr.
                               - 6 -
Hoyt’s organization prior to investing.    Petitioners also did not

visit or otherwise investigate the cattle partnership prior to

making the investment, although at a later time they visited a

sheep ranch that they believed was related to their investment.

      Petitioners’ initial investment was into a cattle

partnership known as Shorthorn Genetic Engineering 86-5 (SGE 86-

5).   Petitioners did not make any payment immediately upon

signing the investment documents.    Rather, the funds for their

initial investment were to be derived from the refunds

petitioners were to receive upon filing their tax returns.

      By letter dated October 21, 1987, respondent notified

petitioners that the refund that petitioners had requested on

their 1986 return had been frozen.     The letter stated in relevant

part:

      We have reviewed certain tax deductions and/or credits
      which are attributable to the above tax shelter
      promotion [SGE 86-5]. Based upon our review of that
      promotion, we believe that the tax deductions and/or
      credits are not allowable. Accordingly, we have
      reduced the portion of any refund due to you which is
      attributable to the tax shelter promotion.

      The examination of the tax shelter promotion will be
      completed as expeditiously as possible. If the
      examination results in adjustments to your return, you
      will be afforded the opportunity to exercise your
      appeal rights.

Prior to preparing petitioners’ next tax return, for 1987, Mr.

Hoyt’s organization transferred petitioners’ partnership interest

from the SGE 86-5 cattle partnership to a sheep partnership known
                                - 7 -
as River City Ranches 85-2 (RCR 85-2).   Petitioners were told by

the Hoyt organization to ignore communications from the Internal

Revenue Service (IRS) as they were merely harassing Hoyt

investors.

     Petitioners continued investing in the Hoyt partnership

through approximately 1994.   Petitioners continued remitting

their Federal income tax refunds to the Hoyt partnership until

Mr. Hitchen retired from General Mills in 1991.   Starting in

approximately 1990, petitioners began making substantial out-of-

pocket cash payments in response to various requests and

“assessments” by the partnership.   Petitioners also were required

to pay additional amounts throughout the years representing tax

return preparation fees.   The losses and credits claimed by

petitioners with respect to their taxable years 1984 through 1989

are discussed below; petitioners claimed a deduction for a

partnership loss of $42,260 in 1990, but they did not claim a

deduction for either a farming loss or a partnership loss in

1991.   In a letter to petitioners dated February 6, 1992, Mr.

Hoyt stated in relevant part:

     I have been notified by the General Partners office
     that your 1990 contribution is still past due. Because
     this balance of $3500 has not been paid we are
     beginning collection enforcement. Your partnership
     note authorizes us to repossess shares of unpaid
     partnership units.

     When your cattle, sheep or truck units are taken back
     the Internal Revenue Service regulations require us to
     notify them you have debt relief income of about 13
                                - 8 -
      times the amount you owe. For example, if you owe
      $5000, your income is $65,000. This will be in
      addition to your other income. It will be subject to
      tax at 28 percent (18,200 in this example).

The last payment by petitioners to RCR 85-2 that appears in the

record is a payment of $1,000 by check dated March 10, 1994,

purportedly for a “tax levy”.

II.   Petitioners’ Federal Income Tax Returns

      Petitioners filed a joint Federal income tax return for each

of the taxable years 1984 through 1989.    In 1984, the return was

prepared by a firm in Lodi, California, that was unaffiliated

with Mr. Hoyt.    In 1985, no return preparer signed petitioners’

return.    In 1986 through 1989, the returns were prepared by

individuals associated with entities affiliated with Mr. Hoyt.

The relevant information from the 1984 through 1989 returns is as

follows:

      For 1984, petitioners filed a return that reported a total

tax liability of $7,586.

      For 1985, petitioners filed a return that reported a total

tax liability of $7,326.

      For 1986, petitioners filed a return that reflected a

partnership loss of $35,530, and a general business credit

offsetting their tax liability of $452, resulting in zero tax

liability and a requested refund of $11,085.    Respondent,

however, did not send petitioners the requested refund, pursuant

to the letter from respondent to petitioners discussed above.
                                 - 9 -
     For 1987, petitioners filed a return that reflected a

partnership loss of $4,226 and a farming loss of $45,030,

resulting in zero regular tax liability but an alternative

minimum tax liability of $462.    Petitioners filed with their 1987

return a Form 3800, General Business Credit, on which they

claimed a “tentative general business credit” of $21,765.

Although the record is not clear, it appears that the source of

this credit was a carryforward from the 1986 taxable year.

Because petitioners reported zero regular tax liability in 1987,

none of this claimed credit was used by petitioners to offset any

tax liability for 1987.

     After filing their 1987 return, petitioners filed a Form

1045, Application for Tentative Refund, on which they requested

refunds with respect to their 1984, 1985, and 1986 taxable years,

based on the carryback of the unused general business credit

claimed on the 1987 return.   On this form, petitioners reported

the following adjusted total tax liabilities:

                                          1984      1985      1986

Income tax                               $7,586    $7,401    $8,483
General business credit                  (7,586)   (7,326)   (7,479)
Other credits                               -0-       (75)      -0-
Regular tax liability                       -0-       -0-     1,004
Alternative minimum tax liability           142       484     1,491
     Total tax liability                    142       484     2,495

     For 1988, petitioners filed a return that reflected a

farming loss of $39,443, resulting in zero tax liability.
                                  - 10 -
     For 1989, petitioners filed a return that reflected a

farming loss of $45,693, resulting in a tax liability of $103.

     The partnership loss claimed by petitioners in 1987 was

claimed on a Schedule E, Supplemental Income Schedule.4          An

attachment to the 1987 return stated that the loss of $4,226 was

a nonpassive ordinary loss from RCR 85-2.         The farming losses

claimed by petitioners in 1987, 1988, and 1989, were reported on

Schedules F, Farm Income and Expenses.        Each of the Schedules F

listed petitioners as the proprietors of the farming activity,

and each stated that petitioners materially participated in the

operation during the relevant year.        The losses were derived as

follows:

                           1987            1988       1989

     Gross income          -0-           -0-           -0-
     Depreciation      $(43,530)      $(38,693)      $(38,693)
     “Board expense”     (1,500)          (750)        (7,000)
     (Loss)             (45,030)       (39,443)       (45,693)

No other expenses related to the farming activities were listed

on the Schedules F.    The “Detail Depreciation Schedule”

accompanying petitioners’ return in each of these 3 years

described the depreciable property as “breeding sheep”.



     4
      Only the first two pages of petitioners’ 1986 return appear
in the record. Therefore, the details surrounding petitioners’
claimed partnership loss and general business credit in that year
are unknown. We also note that the record is silent as to
whether, and if so how, the 1986 taxable year--which is not
before the Court in these cases--was resolved by petitioners and
respondent.
                               - 11 -
Petitioners did not understand the nature of the partnership

losses, the farming losses, or the general business credits at

the time they signed their returns and the Form 1045, but they

did not seek advice concerning these items.

     Respondent issued petitioners a notice of deficiency

reflecting the deficiencies and additions to tax as heretofore

set forth in detail.    The underlying deficiencies in 1984 and

1985 are based solely on respondent’s disallowance of the general

business credit that petitioners sought to carry back to those

years using the Form 1045.    The underlying deficiencies in 1987,

1988, and 1989 are based on respondent’s disallowance of the

Schedule F losses, and on computational adjustments to

petitioners’ itemized deductions resulting from these Schedule F

adjustments.   The Schedule F losses were disallowed on several

grounds, including respondent’s determination that petitioners

did not meet the “at risk” requirements of section 465.     The

general business credits also were disallowed on several grounds,

including respondent’s determination that the underlying property

did not meet the requirements of section 46(c)(8).   The

partnership loss claimed by petitioners in 1987 was not

disallowed in the notice of deficiency because respondent

determined it to be a partnership item subject to the provisions

of the Tax Equity and Fiscal Responsibility Act of 1982, Pub. L.

97-248, 96 Stat. 324.   Based on the above adjustments, respondent
                                - 12 -
determined that the amounts of tax required to be shown on

petitioners’ returns, accepting the partnership item on the 1987

return as correct, are $7,586 in 1984, $7,326 in 1985, $8,301 in

1987, $7,620 in 1988, and $9,788 in 1989.

                                OPINION

     Taxpayers generally bear the burden of proving the

Commissioner’s determinations in a notice of deficiency to be in

error.   Rule 142(a).   While section 7491 may shift the burden of

production and/or burden of proof to the Commissioner in certain

circumstances, this section is not applicable in these cases

because respondent’s examination of petitioners’ returns did not

commence after July 22, 1998.    See Internal Revenue Service

Restructuring and Reform Act of 1998, Pub. L. 105-206, sec.

3001(c), 112 Stat. 727.

I.   Farming Losses and General Business Credits

     Taxpayers are required to maintain records sufficient to

establish the amounts of income, deductions, and other items

which underlie their Federal income tax liabilities.      Sec. 6001;

sec. 1.6001-1(a), (e), Income Tax Regs.

     Petitioners’ position regarding the farming losses and the

general business credits is unclear.      Because their arguments

focus on the amount of money that they invested in the Hoyt

partnership rather than on the items appearing on their returns,

and because petitioners admit that they do not know how the
                               - 13 -
deductions and credits were derived, petitioners appear to have

conceded the merits of these items.     Furthermore, petitioners did

not set forth clear and concise assignments of error in their

petitions concerning these items.     See Rule 34(b)(4).   In any

event, petitioners have provided no substantiation or other

evidence concerning the farming losses or the general business

credits related thereto.    In the absence of substantiation,

petitioners are not entitled to the farming loss deductions or

the credits.    Sec. 6001; sec. 1.6001-1(a), (e), Income Tax Regs.

We therefore sustain respondent’s determinations as to the

underlying deficiencies in these cases.

II.   Additions to Tax

      A.   Valuation Overstatements

      With respect to petitioners’ taxable years 1984, 1985, 1987,

and 1988, section 6659(a)5 generally imposes an addition to tax

on any portion of an underpayment of income tax by an individual

which is “attributable to a valuation overstatement”.      A

“valuation overstatement” exists “if the value of any property,

or the adjusted basis of any property, claimed on any return is

150 percent or more of the amount determined to be the correct

amount”.   Sec. 6659(c)(1).   The addition to tax applies only if

      5
      References to sec. 6659 are to sec. 6659 as in effect with
respect to returns that were filed after Dec. 31, 1981, and that
were due before Jan. 1, 1990. See Economic Recovery Tax Act of
1981, Pub. L. 97-34, sec. 722(a), 95 Stat. 341; OBRA sec. 7721,
103 Stat. 2395.
                              - 14 -
an underpayment for a taxable year that is attributable to

valuation overstatements is $1,000 or greater.    Sec. 6659(d).

The amount of the addition to tax varies depending upon the size

of the discrepancy in the valuation.    Sec. 6659(b).   The

Secretary has the discretion to waive the section 6659 addition

to tax if the taxpayer shows that there was a “reasonable basis

for the valuation” and that the claim was “made in good faith.”

Sec. 6659(e).

     With respect to petitioners’ taxable year 1989, section

6662(a) imposes a 20-percent accuracy-related penalty on the

portion of an underpayment attributable to any one of various

factors, one of which is a “substantial valuation misstatement

under chapter 1”.   Sec. 6662(b)(3).   A “substantial valuation

misstatement under chapter 1" exists “if * * * the value of any

property (or the adjusted basis of any property) claimed on any

return of tax imposed by chapter 1 is 200 percent or more of the

amount determined to be the correct amount”.    Sec. 6662(e)(1).

The penalty applies only if an underpayment for a taxable year

that is attributable to substantial valuation overstatements by

an individual taxpayer is greater than $5,000.    Sec. 6662(e)(2).

The section 6662(a) penalty is increased to 40 percent in the

case of “gross valuation misstatements”, which occurs where the

overvaluation described above is 400 percent or more, rather than

200 percent or more, of the correct amount.    Sec. 6662(h)(2)(A).
                              - 15 -
The section 6662(a) penalty is not imposed on any portion of an

underpayment where a taxpayer has “reasonable cause for” and

“acted in good faith with respect to” such portion.    Sec.

6664(c)(1).

     In the notice of deficiency, respondent determined that the

entire amount of the deficiencies in 1984, 1985, and 1987, and

$7,382 of the deficiency in 1988, is attributable to valuations

that were more than 250 percent of the correct valuation,

resulting in an addition to tax of 30 percent in each year.     See

sec. 6659(b).   Respondent further determined that the entire

amount of the deficiency in 1989 is attributable to a valuation

that was more than 400 percent of the correct valuation,

resulting in an penalty of 40 percent for a gross valuation

misstatement in that year.   Sec. 6662(a), (e), (h).

     Respondent concedes that petitioners are not liable for the

valuation overstatement additions to tax in 1987, 1988, and 1989

on the portions of the deficiencies attributable to the

disallowance of the Schedule F deductions for boarding fee

expenses, because no valuations were involved with these claimed

deductions.

     Petitioners have presented no evidence concerning the

valuations underlying the general business credits and the

Schedule F depreciation deductions.    Insofar as the deficiencies

are attributable to the disallowance of those items, we therefore
                              - 16 -
sustain respondent’s determinations regarding the substantial

valuation overstatements and the gross valuation misstatement.

Petitioners have not argued, and no evidence in the record

suggests, that they had a reasonable basis or reasonable cause

for making the claims.   Accordingly, with respect to 1984 and

1985--the years in which the entire deficiency was based upon

disallowance of the general business credit carrybacks–we hold

that petitioners are liable for the section 6659(a) addition to

tax with respect to the entire amount of the deficiency in each

year.   We further hold that petitioners are liable for the

section 6659(a) addition to tax in 1987 and 1988, and the 40

percent section 6662(a) penalty in 1989, with respect to that

portion of the deficiency in each of those years that is

attributable to respondent’s disallowance of the Schedule F

depreciation deductions.   Petitioners, however, are not liable

for the respective additions to tax with respect to the remaining

portions of the deficiencies in 1987, 1988, and 1989, because

these portions were not attributable to valuation overstatements.

     Finally, we note that in the notice of deficiency,

respondent determined that petitioners are liable for the section

6662(a) penalty in 1989 both for a substantial valuation

overstatement and a gross valuation misstatement, resulting in

two separate additions to tax.   However, the penalty for a gross

valuation misstatement is applied in lieu of the penalty for a
                              - 17 -
substantial valuation overstatement; they cannot both be applied

to the incorrect valuation of the same property.    Sec.

6662(h)(1).   Thus, because petitioners are liable for the 40

percent penalty with respect to the gross valuation misstatement

in 1989, they are not liable for the 20 percent penalty for a

substantial valuation overstatement.

     B.   Negligence

     With respect to petitioners’ taxable years 1984, 1985, and

1987, section 6653(a) would impose two additions to tax on

underpayments attributable to negligence or intentional disregard

of rules and regulations.   The first addition to tax is equal to

5 percent of the entire amount of an underpayment if any part of

the underpayment is due to negligence or intentional disregard of

rules or regulations.6   The second addition to tax is equal to 50

percent of the interest due on only that portion of the

underpayment that is attributable to negligence or intentional

disregard of rules or regulations.7    Respondent determined that

petitioners are liable for both of the additions to tax with




     6
      For petitioners’ taxable years 1984 and 1985, this addition
to tax is imposed under sec. 6653(a)(1). For petitioners’
taxable year 1987, this addition to tax is imposed under sec.
6653(a)(1)(A).
     7
      For petitioners’ taxable years 1984 and 1985, this addition
to tax is imposed under sec. 6653(a)(2). For petitioners’
taxable year 1987, this addition to tax is imposed under sec.
6653(a)(1)(B).
                              - 18 -
respect to the entire amount of the deficiency in each of 1984,

1985, and 1987.8

     With respect to petitioners’ taxable year 1988, section

6653(a)(1) would impose an addition to tax equal to 5 percent of

the entire amount of an underpayment if any part of the

underpayment is due to negligence or intentional disregard of

rules or regulations.   Respondent determined that petitioners are

liable for the section 6653(a)(1) addition to tax with respect to

the entire amount of the deficiency in 1988.

     With respect to petitioners’ taxable year 1989, section

6662(a) would impose a 20-percent accuracy-related penalty on the

portion of an underpayment attributable to any one of various

factors, one of which is “negligence or disregard of rules or

regulations”.   Sec. 6662(b)(1).   The section 6662(a) penalty is

not imposed on any portion of an underpayment where a taxpayer

has “reasonable cause for” and “acted in good faith with respect

to” such portion.   Sec. 6664(c)(1).

     Negligence is defined as the “‘lack of due care or failure

to do what a reasonable and ordinarily prudent person would do

under the circumstances.’”   Neely v. Commissioner, 85 T.C. 934,

947 (1985) (quoting Marcello v. Commissioner, 380 F.2d 499, 506

     8
      The amount reflected in the notice of deficiency for the
sec. 6653(a)(1)(A) addition to tax in 1987 appears to be
incorrect, in that it exceeds 5 percent of the deficiency in that
year. The correct calculation should be made by the parties
pursuant to the Rule 155 computations.
                              - 19 -
(5th Cir. 1967), affg. in part and remanding in part on another

ground 43 T.C. 168 (1964)); see Allen v. Commissioner, 925 F.2d

348, 353 (9th Cir. 1991), affg. 92 T.C. 1 (1989).   Negligence is

determined by testing a taxpayer’s conduct against that of a

reasonable, prudent person.   Zmuda v. Commissioner, 731 F.2d

1417, 1422 (9th Cir. 1984), affg. 79 T.C. 714 (1982).   Courts

generally look both to the underlying investment and to the

taxpayer’s position taken on the return in evaluating whether a

taxpayer was negligent.   Sacks v. Commissioner, 82 F.3d 918, 920

(9th Cir. 1996), affg. T.C. Memo. 1994-217.

     The Commissioner’s decision to impose the negligence

addition to tax or penalty is presumptively correct.    Collins v.

Commissioner, 857 F.2d 1383, 1386 (9th Cir. 1988), affg. Dister

v. Commissioner, T.C. Memo. 1987-217; Hansen v. Commissioner, 820

F.2d 1464, 1469 (9th Cir. 1987).   A taxpayer has the burden of

proving that Commissioner’s determination is erroneous and that

he did what a reasonably prudent person would have done under the

circumstances.   See Rule 142(a); Hansen v. Commissioner, supra;

Hall v. Commissioner, 729 F.2d 632, 635 (9th Cir. 1984), affg.

T.C. Memo. 1982-337; Bixby v. Commissioner, 58 T.C. 757, 791

(1972).

     Good faith reliance on professional advice concerning tax

laws may be a defense to the negligence additions to tax.     United

States v. Boyle, 469 U.S. 241, 250-251 (1985).   However,
                                 - 20 -
“Reliance on professional advice, standing alone, is not an

absolute defense to negligence, but rather a factor to be

considered”.    Freytag v. Commissioner, 89 T.C. 849, 888 (1987),

affd. 904 F.2d 1011 (5th Cir. 1990), affd. 501 U.S. 868 (1991).

In order to be considered as such, the reliance must be

reasonable.     Id.   To be objectively reasonable, the advice

generally must be from competent and independent parties

unburdened with an inherent conflict of interest, not from the

promoters of the investment.      Goldman v. Commissioner, 39 F.3d

402, 408 (2d Cir. 1994), affg. T.C. Memo. 1993-480; LaVerne v.

Commissioner, 94 T.C. 637, 652 (1990), affd. without published

opinion sub nom. Cowles v. Commissioner, 949 F.2d 401 (10th Cir.

1991), affd. without published opinion 956 F.2d 274 (9th Cir.

1992); Rybak v. Commissioner, 91 T.C. 524, 565 (1988); Edwards v.

Commissioner, T.C. Memo. 2002-169.

     Petitioners invested in the Hoyt partnership in the latter

part of 1986.    As part of their initial investment in the Hoyt

partnership, petitioners gave Mr. Hoyt the authority to sign a

promissory note on their behalf in the amount of $190,000.

Petitioners trusted the Hoyt organization when they were told

that this was a mere formality, necessary for their investment.

Petitioners did not investigate either the partnership as a

whole, or the implications of the $190,000 promissory note.
                              - 21 -
     Petitioners filed a tax return for 1986, the initial year of

their investment, using a tax return preparer affiliated with the

Hoyt organization.   Petitioners claimed a partnership loss for

1986 that purportedly reduced their tax liability to zero for

that year.   Relatively soon after filing their 1986 return, in

October 1987, respondent notified petitioners that respondent

believed that the partnership loss was not allowable and that

respondent was holding the refund that petitioners had requested.

Despite this warning, petitioners continued with their

investment, and they took no steps to verify the legitimacy of

Mr. Hoyt’s organization, the Hoyt partnership, or the tax claims.

     For the next year, 1987, Mr. Hoyt’s organization switched

petitioners from the partnership named in the IRS warning letter

to a different partnership.   As instructed by the Hoyt

organization, petitioners also began reporting the bulk of the

Hoyt-related losses as losses from farming activities rather than

from partnerships.   For 1987, the claimed Hoyt-related losses

purportedly reduced petitioners’ tax liability to $462.

     Also in 1987, petitioners filed the Form 1045 on which they

claimed the carryback of the general business credit, purportedly

reducing their 1984 tax liability from $7,586 to $142, and their

1985 tax liability from $7,326 to $484.   By 1988, petitioners

were claiming the Hoyt losses entirely on Schedules F.    These
                               - 22 -
losses purportedly reduced petitioners’ tax liability to a

combined total of $103 for 1988 and 1989.

       In summary, the tax returns and the Form 1045 filed by

petitioners during the years in issue resulted in a claimed total

tax liability of $1,191.    Mr. Hitchen earned wages during those

years totaling $250,753.    Petitioners admit that they did not

know the reasoning behind the tax benefits touted by the Hoyt

organization that led to this nearly complete elimination of

Federal tax liability.    Yet petitioners did nothing to inquire

into the legitimacy of the tax claims other than to assume the

returns prepared by the Hoyt organization were correct.

Furthermore, most of the “too good to be true” tax benefits were

claimed by petitioners within months of receiving the warning

letter from respondent, and immediately after the Hoyt

organization switched petitioners to a new partnership and

advised petitioners to begin reporting losses as having been

derived from farming activities rather than from partnerships--

efforts that were apparently designed to avoid detection by the

IRS.    Petitioners chose to follow Mr. Hoyt’s advice, however, and

they ignored any communications from the IRS.

       While we are mindful of the fact that petitioners were

unsophisticated in both investment and tax matters, we conclude

that petitioners’ actions in relation to the Hoyt investment

constituted a lack of due care and a failure to do what
                                - 23 -
reasonable or ordinarily prudent persons would do under the

circumstances.   First, petitioners entered into an investment,

allegedly involving $190,000 of personal debt, without

investigating its legitimacy.    Second, and foremost, petitioners

trusted individuals who told them that they effectively could

escape paying Federal income taxes for a number of years--

petitioners reported a tax liability of $1,191 on $250,753 of

income over a 5-year period, based upon advice from Mr. Hoyt’s

organization--and that they could do so utilizing losses and

credits with respect to which petitioners understood neither the

source nor the legal rationale.    We similarly conclude that

petitioners did not have reasonable cause for any of the

underpayments resulting from the tax claims related to their

investment.   These conclusions are reinforced by the fact that

petitioners received a warning from respondent within months of

requesting their first refund based upon the Hoyt investment, a

warning that petitioners ignored.    Furthermore, petitioners’

reliance on Mr. Hoyt and those in his organization--the promoters

of the investment and the persons receiving the bulk of the

monetary benefits of the tax claims--was objectively

unreasonable.    As such, it cannot be a defense to the negligence

additions to tax.

     Finally, we are also mindful of the fact that petitioners

ultimately lost the bulk of the tax refunds that they received,
                               - 24 -
which they had remitted to Mr. Hoyt as part of their investment

and which they never received back.     Nevertheless, petitioners

believed that this money was being used for their own personal

benefit--at the time that they claimed the refunds, they believed

that they would eventually benefit from them.     Petitioners also

lost a substantial amount of out-of-pocket cash which they paid

to Mr. Hoyt in the years following the years in issue.     In fact,

some of these later payments were made in response to not-so-

thinly-veiled threats by Mr. Hoyt of retaliatory action if

petitioners failed to remit the payments.     However unfortunate

petitioners’ situation became, it cannot alter our conclusion

that petitioners were negligent with respect to entering the Hoyt

investment, and that they were negligent with respect to the

positions that they took on their tax returns and the Form 1045

in the years in issue.

     We hold that petitioners are liable for the section 6653

additions to tax for negligence with respect to the entire amount

of the deficiency in each of 1984, 1985, 1987, and 1988.

     With respect to 1989, we note that only one section 6662(a)

penalty may be applied with respect to any given portion of an

underpayment, even if that portion is attributable to more than

one of the relevant factors.   Sec. 1.6662-2(c), Income Tax Regs.

Accordingly, we hold that petitioners are liable for the section

6662(a) penalty for negligence with respect to that portion of
                              - 25 -
the deficiency in 1989 that is not attributable to the gross

valuation misstatement, discussed above.

     C.   Substantial Understatements of Income Tax

     With respect to petitioners’ taxable years 1984, 1985, 1987,

and 1988, section 6661(a) imposes an addition to tax on any

underpayment attributable to a substantial understatement of

income tax.   A substantial understatement of income tax exists if

the amount of an understatement in a taxable year exceeds the

greater of $5,000 or 10 percent of the tax required to be shown

on the return.   Sec. 6661(b)(1)(A).   An understatement, in turn,

is defined generally as the excess of the amount of tax required

to be shown on the return over the amount of tax shown.    Sec.

6661(b)(2)(A).

     The amount of an understatement is reduced in certain

situations where a taxpayer has substantial authority for the

treatment of an item, or where the taxpayer adequately discloses

the relevant facts affecting the treatment of that item.    Sec.

6661(b)(2)(B).   However, in the case of any item attributable to

a “tax shelter”, as defined in section 6661(b)(2)(C)(ii), the

adequate disclosure exception does not apply, and in order for

the substantial authority exception to apply the taxpayer must

reasonably believe that the treatment of the item was more likely

than not the proper treatment.   Sec. 6661(b)(2)(C).   Finally, the

Secretary has the discretion to waive all or part of the section
                              - 26 -
6661 addition to tax if the taxpayer shows that he had reasonable

cause for the understatement and that he acted in good faith.

Sec. 6661(c).

     The section 6661(a) addition to tax is not imposed on any

portion of a substantial understatement with respect to which an

addition to tax under section 6659 is imposed.   Sec. 6661(b)(3).

If a substantial understatement exists in a taxable year, and the

section 6659(a) addition to tax is imposed only with respect to a

portion of that substantial understatement, then the section

6661(a) addition to tax is imposed with respect to the remainder

of the understatement.   Sec. 1.6661-2(f)(1), Income Tax Regs.

     As discussed above in connection with the negligence

additions to tax, petitioners did not understand the partnership

and farming losses and the general business credits, yet they did

not seek advice concerning these items.   We conclude that

petitioners have not shown that they had substantial authority,

or that they acted with reasonable cause and in good faith with

respect to any portion of the understatements in each of the

relevant years.   It is also evident from the record that

petitioners did not disclose the relevant facts concerning the

losses and credits.   In the absence of substantial authority or

adequate disclosure, the amount of the understatement in each

year is not reduced pursuant to section 6661(b)(2)(B) and,
                              - 27 -
because petitioners did not act with reasonable cause and in good

faith, section 6661(c) is not applicable.

     In each of the relevant years, 10 percent of the amount of

tax required to be shown on petitioners’ return is less than

$5,000.   Because each of the understatements in 1984, 1985, 1987,

and 1988, is greater than $5,000, the understatements are

attributable to substantial understatements of income tax, as

defined in section 6661(b)(1)(A).

     We have sustained respondent’s determination that

petitioners are liable for the section 6659(a) addition to tax

with respect to the entire amount of the deficiencies in 1984 and

1985.   Thus, we hold that petitioners are not liable for the

section 6661(a) additions to tax in those years.   Sec.

6661(b)(3).

     We have sustained respondent’s determination that

petitioners are liable for the section 6659(a) addition to tax

with respect to the portions of the deficiencies in 1987 and 1988

that are attributable to the disallowance of the Schedule F

depreciation deductions.   Thus, we hold that petitioners are not

liable for the section 6661(a) additions to tax with respect to

those portions of the deficiencies in those years.   Petitioners,

however, are liable for the section 6661(a) additions to tax with

respect to the portions of the deficiencies in 1987 and 1988 that

are attributable to the disallowance of the Schedule F deductions
                                - 28 -
for boarding fee expenses.     See sec. 1.6661-2(f)(1), Income Tax

Regs.

     Finally, we note that, as discussed above, only one section

6662(a) accuracy-related penalty may be applied with respect to

any given portion of an underpayment.      Sec. 1.6662-2(c), Income

Tax Regs.     Because we have already held that the entire

deficiency in 1989 is subject to a section 6662(a) penalty, the

substantial understatement of income tax in 1989 does not

increase petitioners’ liability for the section 6662(a) penalty

for that year.

III. Tax Motivated Transactions

        Section 6621(c) provides an increased rate of interest for

“any substantial underpayment attributable to tax motivated

transactions”.     A “substantial underpayment attributable to tax

motivated transactions” is defined under section 6621(c)(2) as

“any underpayment of taxes imposed by subtitle A for any taxable

year which is attributable to 1 or more tax motivated

transactions if the amount of the underpayment for such year so

attributable exceeds $1,000.”     A “tax motivated transaction” is

defined under section 6621(c)(3)(A) to include “any valuation

overstatement (within the meaning of section 6659(c))”, “any loss

disallowed by reason of section 465(a)”, and “any credit

disallowed under section 46(c)(8)”.      Sec. 6621(c)(3)(A)(i) and

(ii).
                                - 29 -
     In general, section 465(a) allows losses “only to the extent

of the aggregate amount with respect to which the taxpayer is at

risk * * * for such activity”.    Sec. 465(a)(1).   Section 46(c)(8)

generally reduces a taxpayer’s credit base in property by the

amount of nonqualified nonrecourse financing with respect to such

property--where the taxpayer and the property are subject to the

limitations of section 465--thereby limiting the amount of

general business credit available to the taxpayer.    Sec 38(a),

(b)(1); sec. 46(a), (c)(1), (c)(8)(A) and (B).

     Petitioners have not presented any evidence or arguments

concerning the imposition of tax motivated interest on the

deficiencies.   Specifically, petitioners have not argued, and

nothing in the record indicates, that respondent is in error

concerning his determinations that petitioners did not meet the

“at risk” requirements of section 465 with respect to the farming

losses, and that the general business credit was disallowed

pursuant to section 46(c)(8).    We therefore sustain respondent’s

determination that the section 6621(c) increased rate of interest

is applicable with respect to the deficiencies in petitioners’

taxable years 1984, 1985, 1987, and 1988.9   See Rule 142(a).




     9
      Sec. 6621(c) does not apply with respect to petitioners’
taxable year 1989. See supra note 3.
                              - 30 -
IV.   Equitable Estoppel

      Petitioners argued at trial that they object to the

imposition of additions to tax and interest on the deficiencies.

They argue that respondent knew that there were problems with the

Hoyt partnerships, but that respondent nevertheless allowed

petitioners to continue in their investment and to keep receiving

refunds based on the returns they filed that were prepared by the

Hoyt organization.   To the same effect, petitioners stated in a

document filed with the Court prior to trial:

      We would like to add, the interest and penalties, we
      strongly object to. The fault lies with the Internal
      Revenue Service. They allowed us to join in a partnership,
      that was illegal the year we joined. The interest and
      penalties, have been accruing since 1984.

We note that, while this Court has jurisdiction to review the

applicability of the section 6621(c) increased rate of interest,

discussed above, we generally lack jurisdiction to redetermine

the amount of interest due on a deficiency under section 6601

prior to entry of a decision redetermining the deficiency.     See

sec. 6621(c)(4); sec. 7481(c), as currently in effect; Rule 261;

Pen Coal Corp. v. Commissioner, 107 T.C. 249 (1996); see also

sec. 6404(h), as currently in effect (regarding judicial review

of a failure to abate interest).   Thus, petitioners’ arguments

concerning the amount of interest due on the deficiencies is not

properly before the Court at this time.   To the extent that

petitioners’ arguments can be interpreted as a claim that
                              - 31 -
respondent should be equitably estopped from imposing the

additions to tax at issue in these cases, we disagree with

petitioners for the reasons discussed below.

     “Equitable estoppel is a judicial doctrine that ‘precludes a

party from denying his own acts or representations which induced

another to act to his detriment.’”     Hofstetter v. Commissioner,

98 T.C. 695, 700 (1992) (quoting Graff v. Commissioner, 74 T.C.

743, 761 (1980), affd. 673 F.2d 784 (5th Cir. 1982)).    It is well

established that the doctrine of equitable estoppel should be

applied against the Commissioner “‘with the utmost caution and

restraint.’”   Kronish v. Commissioner, 90 T.C. 684, 695 (1988)

(quoting Boulez v. Commissioner, 76 T.C. 209, 214-215 (1981),

affd. 810 F.2d 209 (D.C. Cir. 1987)).    Furthermore, the Supreme

Court has stated that the Government may not be estopped on the

same grounds as other litigants.     OPM v. Richmond, 496 U.S. 414,

419 (1990); Heckler v. Cmty. Health Servs., 467 U.S. 51, 60

(1984).

     The following conditions must be satisfied before equitable

estoppel will be applied against the Government:    (1) A false

representation or wrongful, misleading silence by the party

against whom the opposing party seeks to invoke the doctrine; (2)

an error in a statement of fact and not in an opinion or

statement of law; (3) ignorance of the true facts; (4) reasonable

reliance on the acts or statements of the one against whom
                               - 32 -
estoppel is claimed; and (5) adverse effects of the acts or

statement of the one against whom estoppel is claimed.     Norfolk

S. Corp. v. Commissioner, 104 T.C. 13, 60 (1995), affd. 140 F.3d

240 (4th Cir. 1998).

       In addition to the traditional elements of equitable

estoppel, the Court of Appeals for the Ninth Circuit, to which

appeal lies in these cases, requires the party seeking to apply

the doctrine against the Government to prove affirmative

misconduct.    Purcell v. United States, 1 F.3d 932, 939 (9th Cir.

1993).    The aggrieved party must prove “‘affirmative misconduct

going beyond mere negligence’” and, even then, “‘estoppel will

only apply where the government’s wrongful act will cause a

serious injustice, and the public’s interest will not suffer

undue damage by imposition of the liability.’”    Purer v. United

States, 872 F.2d 277, 278 (9th Cir. 1989) (quoting Wagner v.

Director, Fed. Emergency Mgmt. Agency, 847 F.2d 515, 519 (9th

Cir. 1988)).    Affirmative misconduct requires “ongoing active

misrepresentations” or a “pervasive pattern of false promises,”

as opposed to an isolated act of providing misinformation.

Purcell v. United States, supra at 940.    Affirmative misconduct

is a threshold issue to be decided before determining whether the

traditional elements of equitable estoppel are present.       Id. at

939.
                              - 33 -
     Petitioners have not met the threshold requirement for

equitable estoppel because they have not shown that respondent

engaged in affirmative misconduct of any kind.     To the contrary,

respondent took efforts to halt petitioners’ involvement by

freezing their claimed 1986 refund and by notifying petitioners,

soon after they filed the return claiming the refund, that

respondent believed the deductions claimed on the return were not

allowable.   Respondent’s delay in disallowing the future

deductions and credits claimed by petitioners is not evidence of

affirmative misconduct by respondent, especially in light of the

changes made on the 1987 return and later returns in an apparent

attempt to avert respondent’s notice.

     Because petitioners have not met the threshold requirement

for equitable estoppel against the government, we need not

address the traditional conditions for application of equitable

estoppel.

     To reflect the foregoing,


                                      Decisions will be entered

                                 under Rule 155.
