                      T.C. Memo. 2001-241



                    UNITED STATES TAX COURT



             CARALAN TRUST, ET AL.,1 Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



    Docket Nos. 10151-99, 10152-99,    Filed September 17, 2001.
                10153-99, 17074-99,
                17075-99, 17076-99.



         R attributed to P1 and P2, both joint return
    filers, various items with respect to certain trusts,
    P3, P4, P5, and P6, on the grounds that such trusts
    were either shams or grantor trusts, or on the ground
    that the assignment of income doctrine applied. R also
    claims that P2 failed to report certain nontrust items
    of income. R determined a sec. 6662(a), I.R.C.,
    accuracy-related penalty against each P. At trial, R




    1
        Cases of the following petitioners are consolidated
herewith: Alexion Trust, docket No. 10152-99; Joseph and Frances
Shirley, docket No. 10153-99; Curtis E. and April L. Shirley,
docket No. 17074-99; C E Shirley Trust, Marcia Doerr, Trustee,
docket No. 17075-99; and Congo Trust, Marcia Doerr, Trustee,
docket No. 17076-99.
                               - 2 -

     moved for penalties on account of delay and for other
     reasons, under sec. 6673(a)(1), I.R.C. Trusts P3, P4,
     and P5 concede all adjustments and the accuracy-related
     penalty. R concedes items of P3, P4, and P5 taxed to
     either P1 or P2 and certain other items of P1 and P2.
          1. Held: Deficiencies and accuracy-related
     penalty with respect to P3, P4, and P5 sustained,
     subject to concession by R.
          2. Held, further, P6 has failed to establish that
     there is a proper party before the Court; we shall
     dismiss with respect to P6 for lack of jurisdiction.
          3. Held, further, P1 understated gross income by
     $166,042 on account of gross receipts of P3
     attributable to them under assignment of income
     doctrine.
          4. Held, further, P1 failed to substantiate
     depreciation deduction of $19,866 apportioned to them
     by P4.
          5. Held, further, P1 are liable for accuracy-
     related penalties under sec. 6662(a), I.R.C.
          6. Held, further, P1 are liable for a penalty
     under sec. 6673(a)(1), I.R.C.
          7. Held, further, P2 omitted from gross income
     interest of $425, bank deposits of $33,890, and income
     from services of $2,470.
          8. Held, further, P2 are liable for accuracy-
     related penalties under secs. 6662(a) and 6673(a)(1),
     I.R.C.
          9. Held, further, P2 are liable for a penalty
     under sec. 6673(a)(1), I.R.C.



     Noel W. Spaid, for petitioners.

     Jeremy L. McPherson and Neal O. Abreu, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     HALPERN, Judge:   These consolidated cases involve

determinations by respondent of deficiencies in, and penalties

with respect to, the Federal income tax liabilities of the
                                - 3 -

following taxpayers, in the following amounts, for the 1995

taxable (calendar) year of each:

                                                     Sec. 6662(a)
Docket No.            Taxpayer(s)       Deficiency      Penalty
 10151-99          Caralan Trust         $55,935       $11,187
 10152-99          Alexion Trust          70,329        14,066
 10153-99          Joseph & Frances       77,483        15,497
                   Shirley
 17074-99          Curtis E. & April     25,306          5,061
                   L. Shirley
 17075-99          C E Shirley Trust     25,249          5,050
 17076-99          Congo Trust            3,978            796

     These cases are related in that, under various theories,

respondent believes that there is an identity between Caralan

Trust, Alexion Trust, and Joseph and Frances Shirley (sometimes,

the J. Shirleys) and an identity between C E Shirley Trust, Congo

Trust, and Curtis E. and April L. Shirley (sometimes, the

C. Shirleys).    The J. Shirleys are the parents of Curtis E.

Shirley.    Respondent would attribute the income of the various

trusts to the Shirleys identified by respondent with such trusts.

     At the conclusion of the trial in these cases, respondent

moved that the Court impose penalties under section 6673(a)(1),

which provides penalties for procedures instituted primarily for

delay and for other reasons.

     Unless otherwise indicated, all section references are to

the Internal Revenue Code in effect for the year at issue, and

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

Procedure.    For convenience, monetary amounts have been rounded

to the nearest dollar amount.
                                - 4 -

Trust Cases

     As a preliminary matter, we must decide whether we should

dismiss the four cases in which the taxpayer is a trust.2    When

these consolidated cases were recalled from the calendar of the

trial session of this Court commencing on June 5, 2000, in

San Francisco, California, the Court, on its own motion,

questioned its jurisdiction to consider the petitions relating to

Caralan Trust and Alexion Trust because of the lack of a proper

party before the Court.    Respondent moved to dismiss for lack of

jurisdiction with respect to C E Shirley Trust and Congo Trust.

On June 14, 2000, following proceedings in which counsel

established Ivan Oviedo, Joseph Shirley, and Curtis Shirley as

trustees for Caralan Trust, C E Shirley Trust, and Alexion Trust,

respectively, and we concluded that we did have jurisdiction in

those cases, we ordered that one motion for substitutions of

parties and changes of caption be made with respect to such

trusts.    Such motion was due on July 14, 2000.   Also on June 14,

2000, the Court ordered that a motion for substitution of party

and change of caption be made with respect to Congo Trust, such

motion to be accompanied by a memorandum of law setting forth the

grounds for establishing the substituted party as a trustee.

Such motion and memorandum also were due on July 14, 2000.

Neither motion (nor the memorandum of law) was received as


     2
          Docket Nos. 10151-99, 10152-99, 17075-99, and 17076-99.
                               - 5 -

ordered.   On January 30, 2001, the Court received an improper

document entitled “Motion for Leave to Ratify Proper Parties”

(the January 30 communication), stating:

          Petitioners, by and through their counsel, move
     the court pursuant to Rule 60(a) that the Court found
     [sic] that the Trustees in the above entitled case[s]
     were properly before the court * * *

          Marcia Doerr was the proper successor Trustee for
     the trusts that is [sic] presently before the court and
     the pleading be amended to add Marcia Doerr to be the
     proper successor trustee and party before the court.

     By order dated February 15, 2001 (the February 15 order), we

answered the January 30 communication.   We stated our assumption

that it was a tardy attempt to comply with our two orders of

June 14, 2000.   We stated that we found it confusing, since,

rather than identifying as trustees of Caralan Trust, C E Shirley

Trust, and Alexion Trust, Ivan Oviedo, Joseph Shirley, and Curtis

Shirley, respectively, it appears to ask the Court to ratify

Marcia Doerr as trustee of each trust.   We extended the time to

comply with the June 14 orders, and cautioned that, unless there

was full and timely compliance, we would assume that, with

respect to Caralan Trust, C E Shirley Trust, and Alexion Trust,

the named individuals (Ivan Oviedo, Joseph Shirley, and Curtis

Shirley) no longer wished to be substituted as parties.    We

stated that, unless there was full and timely compliance, we

might dismiss some or all of the trust cases for lack of

jurisdiction.
                               - 6 -

     In response to the February 15 order, we received “Motion

for Substitution of Parties and Change of Caption, and Motion to

Dismiss for Lack of Jurisdiction” (the motion), along with an

accompanying memorandum.   In pertinent part, the motion states:

          Petitioners, by and through their counsel, move
     the court pursuant to Rule 63 of the Tax Court’s Rules
     of Practice and Procedure, to substitute Ivan Oviedo as
     trustee of Caralan Trust, Joseph Shirley as trustee of
     C.E. Shirley Trust, and Curtis Shirley [as trustee] of
     Alexion Trust.

          Alternatively, counsel is informed that the
     trustees do not wish to pursue this matter further, and
     request that the petitions be dismissed for lack of
     jurisdiction where the petitions did not state that the
     trustees authorized a representative to act on behalf
     of the trusts as required by case law. * * *

     While we find the motion somewhat confusing, the following

are among the proposed findings of fact in petitioners’ brief:

     The petitions do not allege jurisdictional facts that
     the petitions were filed by some person authorized to
     act in behalf of the Petitioners. * * *

     The evidence presented at the trial did not authorize
     the filing of petitions on behalf of Caralan, Alexion,
     C E Shirley, and Congo Trusts. * * *

In their brief, petitioners make the following statement:

“Petitioners also have not affirmatively established all required

facts giving rise to the jurisdiction of the Tax Court”.    In

their brief, petitioners make the following argument concerning

jurisdiction:

          Petitioners have the burden of proving that this
     Court has jurisdiction by affirmatively established
     [sic] all required facts giving rise to the
     jurisdiction of the Tax Court.
                               - 7 -

          In this case Petitioners concede that they have
     not authorized someone to act on their behalf, and have
     not affirmatively established all required facts giving
     rise to the jurisdiction of the Tax Court.

          Therefore, the Tax Court lacks the required
     requisite jurisdiction and must deal with this issue
     regardless of whether the issue is raised by either
     party. * * *

     With respect to Congo Trust, petitioner has failed to

establish that there is a proper party before the Court, and, for

that reason, we shall dismiss for lack of jurisdiction.   See,

e.g., Photo Art Mktg. Trust v. Commissioner, T.C. Memo. 2000-57.

With respect to Caralan Trust, C E Shirley Trust, and Alexion

Trust, in reliance on the motion (and on our earlier conclusion

that counsel had established jurisdiction), we shall substitute

Ivan Oviedo, Joseph Shirley, and Curtis Shirley, respectively, as

party and change caption.   In reliance on the statement in the

motion that counsel is informed that the trustees do not wish to

pursue this matter further, we shall consider that a capitulation

by each petitioner trustee to respondent’s position in his case.

Respondent’s position is that the income of the Caralan Trust and

Alexion Trust is taxable to the J. Shirleys, and the income of

the C E Shirley Trust and Congo Trust is taxable to the C.

Shirleys.   On brief, respondent states that, if the Court so

finds, then respondent would concede that there are no

deficiencies in tax or section 6662(a) penalties due from any of

the trusts.   Since we find, in essence, as respondent has
                                - 8 -

requested, we believe that respondent’s concession eliminates any

deficiencies or section 6662(a) penalties with respect to the

trusts.   We impose no penalties under section 6673(a)(1) against

the trusts.   (We have imposed substantial penalties under that

section against the      J. and C. Shirleys, which should serve as

a deterrent to them again trying to avoid tax as they have done

here.)

Remaining Issues

     The remaining issues concern the J. and C. Shirleys.   Those

issues are as follows:

     Whether the J. Shirleys understated their gross income for

1995 by omitting (1) $179,791 of gross receipts reported by

Alexion Trust and (2) $4 of interest and $42,000 of gross income

reported by Caralan Trust.

     Whether, for 1995, the J. Shirleys are entitled to deduct

$19,896 of depreciation apportioned to them by Caralan Trust.

     Whether the J. Shirleys are liable for self-employment tax

for 1995 allocable to Joseph Shirley (and are entitled to a

related deduction) on account of the omitted gross receipts of

$179,791.3


     3
        The amount of petitioners’ liability for self-employment
tax and the amount of the deduction under sec. 164(f) to which
petitioners are entitled are computational matters, the
resolution of which will depend upon our disposition of the other
issues. The J. Shirleys have not separately challenged such
liability and deduction, and we shall not further discuss those
                                                   (continued...)
                              - 9 -

     Whether the exemptions claimed for 1995 by the J. Shirleys

must be reduced on account of any increase in their adjusted

gross income.4

     Whether the J. Shirleys are liable for penalties under

sections 6662(a) and 6673(a)(1).

     Whether the C. Shirleys understated their gross income for

1995 by omitting $25 of interest income, $33,980 of unreported

deposits, and $2,470 of business income.

     Whether the C. Shirleys further understated their gross

income for 1995 by omitting (1) $65,951 of gross receipts

attributed to them from C E Shirley Trust and (2) $12,000 of rent

reported by Congo Trust.

     Whether the C. Shirleys are entitled to a deduction for 1995

for unreimbursed expenses related to Congo Trust.

     Whether the C. Shirleys are liable for self-employment tax

for 1995 allocable to Curtis Shirley (and are entitled to a

related deduction) on account of the omitted unreported deposits

of $33,980.5


     3
      (...continued)
items.
     4
        This also is a computational matter, which the
J. Shirleys have not separately challenged, and we shall not
further discuss it.
     5
        As with the J. Shirleys, the amount of petitioners’
liability for self-employment tax and the amount of the deduction
under sec. 164(f) to which petitioners are entitled are
                                                   (continued...)
                                - 10 -

     Whether the C. Shirleys are liable for penalties under

sections 6662(a) and 6673(a)(1).

                         FINDINGS OF FACT

     Some facts have been stipulated and are so found.     The

stipulations of facts filed by the parties, with accompanying

exhibits, are incorporated herein by this reference.    The

J. Shirleys are deemed to have admitted certain facts on account

of their failure to respond to respondent’s request for

admissions.   See Rule 90(c).   Such facts deemed admitted are

conclusively established for purposes of this action (with

respect to the J. Shirleys) and are incorporated herein by this

reference.

Residences

     The J. Shirleys and C. Shirleys resided in California when

their petitions herein were filed.

Respondent’s Examinations

     Prior to determining deficiencies in both the J. and C.

Shirleys’ 1995 taxes, respondent examined their 1995 Federal

income tax returns.   In the course of that examination,

respondent’s agent requested a meeting with the J. and C.

Shirleys, at which they were to produce books and records used to


     5
      (...continued)
computational matters, the resolution of which will depend upon
our disposition of the other issues. The C. Shirleys have not
separately challenged such liability and deduction, and we shall
not further discuss those items.
                               - 11 -

prepare their 1995 returns, bank statements, and similar

documents.   Joseph and Frances Shirley and Curtis Shirley

appeared for the meeting but did not produce the requested

documents.   They refused to answer respondent’s agent’s

questions, responding to her questions with questions and a

questionnaire of their own.   They refused to give respondent’s

agent a copy of that questionnaire.

The J. Shirleys

     The J. Shirleys made a joint return of income for 1995 (the

J. Shirleys 1995 return).   In that return, they reported $4 of

interest and $13,749 of “NonPassive Income”, both from Caralan

Trust, and claimed a depreciation deduction, in the amount of

$19,896, on account of property owned by Caralan Trust; they also

claimed a standard deduction of $6,550 and a deduction of $5,000

for personal exemptions.    They reported no other items of income,

loss, or deduction.   They reported zero taxable income.   Joseph

Shirley reported his occupation as “consultant”.

     For an indeterminate number of years prior to 1995, the

J. Shirleys reported on their Federal income tax returns that one

or both was engaged in the computer consulting business.

During those years, they paid self-employment taxes on the net

profits of that business.
                               - 12 -

Alexion Trust

     Alexion Trust is a trust created by the J. Shirleys.

Alexion Trust was created on September 1, 1994.    In 1995, Caralan

Trust was the sole beneficiary of Alexion Trust.

     In 1995, one or the other, or both, of the J. Shirleys had

signatory authority over Alexion Trust’s bank accounts.    The

J. Shirleys used such bank accounts to pay certain of their

personal expenses in 1995.

     For 1995, Joseph Shirley made a return of Federal income tax

for Alexion Trust on Form 1041, U.S. Income Tax Return for

Estates and Trusts (the Alexion Trust 1995 return).    He signed

that return as a fiduciary.    In that return, Alexion Trust

reported gross receipts of $179,791 from an activity described as

computer consulting.   It reported various expenses related to

that activity, including $42,000 claimed for the rental of

business property.   It reported no expense for wages.   After

deducting expenses totaling $78,260, it reported a net profit of

$101,531 from such activity.    From that reported net profit, it

deducted a claimed charitable contribution of $94 and reported

“Adjusted total income” of $101,437.    From such adjusted taxable

income, it deducted $101,437 on account of an income distribution

to Caralan Trust.    After taking into account a deduction of $100

for a personal exemption, it reported a loss of $100 and no

income tax due.
                              - 13 -

     One or both of the J. Shirleys personally performed all or

substantially all of the consulting services generating the gross

receipts of $179,791 reported by Alexion trust.

Caralan Trust

     Caralan Trust is a trust created by the J. Shirleys.

Caralan Trust was created on September 1, 1994.    In 1995, the

J. Shirleys and C E Shirley Trust were the beneficiaries of

Caralan Trust.

     In 1995, one or the other, or both, of the J. Shirleys had

signatory authority over Caralan Trust’s bank accounts.    The

J. Shirleys used such bank accounts to pay certain of their

personal expenses in 1995.

     For 1995, Joseph Shirley made a return of Federal income tax

for Caralan Trust on Form 1041, U.S. Income Tax Return for

Estates and Trusts (the Caralan Trust 1995 return).    He signed

that return as a fiduciary.   In that return, Caralan Trust

reported as items of gross income $4 of interest and the $101,437

of income claimed as a distribution by Alexion Trust to it.      It

deducted $24,165 as a loss from a rental activity (the rental

activity), and reported total income of $77,276.    It further

deducted $42 for a claimed charitable deduction, and it reported

“Adjusted total income” of $77,234.    From such adjusted total

income, it deducted $77,234 on account of distributions of income

in the amounts of $13,753 and $63,481 to the J. Shirleys and
                               - 14 -

C E Shirley Trust, respectively.   After taking into account a

deduction of $100 for a personal exemption, it reported a loss of

$100 and no income tax due.

     The property involved in the rental activity was used by the

J. Shirleys during 1995 as their personal residence.   With

respect to the rental activity, Caralan Trust reported gross

income of $42,000 and expenses of $66,165, which gave rise to the

claimed rental activity loss of $24,165.   Among the expenses

claimed by Caralan Trust in computing that loss were personal

expenses of the J. Shirleys.   Caralan Trust also reported (but

did not claim in computing adjusted total income) an allowance

for depreciation in the amount of $19,896 on account of property

that the J. Shirleys used as (and in) their personal residence.

The $42,000 reported as rental activity gross income is the same

amount claimed by Alexion on the Alexion 1995 return as rent paid

for business property.   Caralan Trust reported $19,896 as the

J. Shirley’s share of the depreciation deduction computed by

Caralan Trust.

C E Shirley Trust

     C E Shirley Trust is a trust created by the C. Shirleys.

C E Shirley Trust was created on July 1, 1995.

     For 1995, Curtis E. Shirley made a return of Federal income

tax for C E Shirley Trust on Form 1041, U.S. Income Tax Return

for Estates and Trusts (the C E Shirley Trust 1995 return).     He
                               - 15 -

signed that return as a fiduciary.      In that return, C E Shirley

Trust reported as an item of gross income the $63,481 deducted by

Caralan Trust on account of Caralan Trust’s distribution of

income to it.   In that return, C E Shirley Trust reported that it

was in the business of “Computer Consulting”.     It reported no

gross income from that business and claimed a loss of $62,686.

It claimed various other small deductions, including a deduction

of $236 for income distributed to Congo Trust, and it showed a

net loss for the year of $100.    It also showed $647 as Congo

Trust’s share of depreciation computed by C E Shirley Trust.

Congo Trust

       Congo Trust is a trust created by the C. Shirleys.     Congo

Trust was created on July 1, 1995.

     For 1995, Curtis E. Shirley made a return of Federal income

tax for Congo Trust on Form 1041, U.S. Income Tax Return for

Estates and Trusts (the Congo Trust 1995 return).     He signed that

return as a fiduciary.    In that return, Congo Trust reported a

real estate rental activity, with receipts (rent) of $12,000 and

deductions of $23,101, giving rise to a loss of $11,101.     That

real estate rental activity was the principal residence of the

C. Shirleys.    Taking into account a $236 income distribution

received from C E Shirley Trust, a deduction of $600 for a

charitable contribution, and a $100 exemption, Congo Trust

reported a net loss of $11,565.    The Congo Trust 1995 return also
                                - 16 -

showed $8,558 as the C. Shirley’s share of depreciation computed

by Congo Trust.

The C. Shirleys

     The C. Shirleys made a joint return of income for 1995 (the

C. Shirleys 1995 return).    In that return, they reported no items

of income and claimed a deduction in the amount of $10,463 on

account of “Unreimbursed Expenses” related to Congo Trust; they

also claimed a standard deduction of $6,550 and personal

exemptions of $7,500.    In calculating taxable income, they

reported no other items of income, loss, or deduction.      A

schedule attached to the C. Shirleys 1995 return shows

depreciation of $8,558 from Congo Trust, but no deduction of such

depreciation enters into their calculation of taxable income.

They reported zero taxable income.       Curtis Shirley reported his

occupation as “manager”.

     Curtis Shirley’s occupations are computer consultant and

headhunter.   During 1995, he was self-employed as a computer

consultant, performing those services personally, for

compensation.     During 1995, he did some work under contracts with

C E Shirley Trust, as a subcontractor.

     In 1995, Curtis Shirley personally performed computer

consulting services for Ventana Consulting Solutions (Ventana).

Two bank checks, in payment for those services, in the amounts of

$1,495 and $975 (total, $2,470), dated December 21 and 28, 1995,
                               - 17 -

respectively, were issued by Ventana, payable to “C.E. Shirley”.

Those checks were cashed, having been endorsed: “Curtis E.

Shirley”, with no qualification (e.g., “For the C E Shirley

Trust”).

       Deposits totaling $33,980 were made to bank accounts of the

C. Shirleys during 1995.

                               OPINION

I.   Section 7491

       In pertinent part, Rule 142(a) provides:    “The burden of

proof shall be upon the petitioner, except as otherwise provided

by statute * * * and except that, in respect of any new matter,

* * *    it shall be upon respondent.”   In certain circumstances,

if a petitioner introduces credible evidence with respect to any

factual issue relevant to ascertaining such petitioner’s

liability for tax, section 7491 places the burden of proof on

respondent.    See sec. 7491(a)(1); Rule 142(a).    Section 7491 is

effective with respect to examinations commenced after July 22,

1998.    See Internal Revenue Service Restructuring and Reform Act

of 1998 (RRA 1998), Pub. L. 105-206, sec. 3001(c)(2), 112 Stat.

727.    Respondent concedes that the examinations of the J. and C.

Shirleys commenced after July 22, 1998.

       Section 7491(a)(2) establishes prerequisites (the

prerequisites) to establishing that the burden of proof may lie
                                  - 18 -

with respondent under section 7491(a)(1).        In pertinent part,

section 7491(a)(2) provides:

     SEC. 7491.       BURDEN OF PROOF.

          *       *      *    *    *     *   *     *

     (2) Limitations.--Paragraph (1) shall apply with
     respect to an issue only if--

          (A) the taxpayer has complied with the
          requirements under this title to substantiate
          any item; [and]

          (B) the taxpayer has maintained all records
          required under this title and has cooperated
          with reasonable requests by the Secretary for
          witnesses, information, documents, meetings,
          and interviews; * * *

The burden is on the taxpayer to show that the prerequisites are

satisfied.    See H. Conf. Rept. 105-599, at 240-241 (1998), 1998-3

C.B. 747, 994-995.       At trial, counsel for the J. and C. Shirleys

maintained that her clients had satisfied the prerequisites.          On

brief, however, the J. and C. Shirleys propose no findings with

respect to either’s satisfaction of the prerequisites, nor do

they argue that the prerequisites are satisfied.        We have made

findings adequate for us to conclude that they did not cooperate

in respondent’s examination of their 1995 returns.        The

J. Shirleys and, likewise, the C. Shirleys have failed to prove

that they have satisfied the prerequisites.        Accordingly,

respondent does not on account of section 7491(a) bear the burden

of proof with respect to either Shirleys’ liability for tax.
                                   - 19 -

      Respondent bears the burden of production with respect to

penalties.     See sec. 7491(c).    We further discuss section 7491(c)

infra.     See sec. II.B.1.

      We address infra two questions concerning new matter.        See

sec. II.A.2.

II.   The J. Shirleys

      A.    Deficiency in Tax

             1.   Introduction

      Alexion Trust reported gross receipts of $179,791 from an

activity described as computer consulting.       After deducting

claimed expenses totaling $78,260, including $42,000 paid as

rental to Caralan Trust, it reported a net profit from such

activity of $101,531.     After deducting a claimed charitable

contribution of $94 from such net profit, it reported “Adjusted

total income” of $101,437.       It then deducted that amount on

account of an income distribution (in such amount) to Caralan

Trust.     Caralan Trust reported as income both the income

distribution of $101,437 and the rental payment of $42,000

received from Alexion Trust; it also reported $4 of interest

income.     Caralan Trust computed a depreciation deduction of

$19,896 on account of property that the J. Shirleys used as (and

in) their personal residence.       Caralan Trust deducted $77,234 on

account of distributions of income in the amounts of $13,753 and

$63,481 to the J. Shirleys and C E Shirley Trust, respectively.
                              - 20 -

It apportioned the depreciation deduction it had computed to the

J. Shirleys.   The J. Shirleys reported as gross income $4 of

interest and $13,749 of “NonPassive Income”, both from Caralan

Trust, and claimed a depreciation deduction of $19,896, on

account of the depreciation deduction apportioned to them by the

Caralan Trust.

     Respondent determined a deficiency in the J. Shirleys’ tax

by notice dated June 1, 1999 (the J. Shirleys’ notice).   Among

the adjustments giving rise to that determination are positive

adjustments to the J. Shirleys’ gross income of (1) $4 and

$42,000 on account of such amounts of interest and gross income,

respectively, of Caralan Trust’s omitted from their gross income

and (2) $179,791 on account of such amount of gross receipts of

Alexion Trust’s omitted from their gross income.   Respondent now

concedes all of the first two adjustments and $13,749 of the

third adjustment.   Respondent concedes the first adjustment

because the J. Shirleys reported the $4 of interest attributed to

them from Caralan Trust.   Respondent also concedes the $42,000 of

gross income he attributed to the J. Shirleys from Caralan Trust.

Respondent does so based on his attribution to the J. Shirleys of

Alexion Trust’s gross receipts of $179,791.   Such gross receipts,

after the deduction of certain expenses (disallowed by

respondent), including $42,000 of rent paid to Caralan Trust,

were, in the amount of $101,437, treated by Alexion Trust as a
                               - 21 -

distribution of income to Caralan Trust.    Caralan Trust included

in gross income both the $42,000 of rent and the $101,437 income

distribution.   Since respondent disallowed Alexion Trust a

deduction for the rent paid to Caralan Trust, the same $42,000

would, but for respondent’s concession, twice be attributed to

the J. Shirleys, given respondent’s positive adjustments to their

income for both $179,791 of gross receipts and $42,000 of gross

income.   Finally, since the J. Shirleys included in gross income

$13,749 of income (“NonPassive Income”) distributed to them by

Caralan Trust, and such distribution is, in turn, a distribution

of income received by Caralan Trust from Alexion Trust,

respondent concedes that he double counted when he made a

positive adjustment to their income on account of Alexion Trust’s

gross receipts without taking into account the Caralan Trust

distribution reported by them.    We accept respondent’s three

concessions.

     Given respondent’s concessions, we are left to consider two

adjustments:    positive adjustments of $166,042 and $19,896 on

account of (1) respondent’s attribution of Alexion Trust’s gross

receipts to the J. Shirleys and (2) respondent’s disallowance of

the depreciation deduction computed by Caralan Trust and deducted

by the J. Shirleys, respectively.    For the reasons that follow,

we sustain both such adjustments.
                                - 22 -

          2.     Respondent’s Adjustments

     The J. Shirleys’ notice explains respondent’s attribution of

Alexion Trust’s gross receipts to the J. Shirleys as follows:

“Based on currently available evidence, the previous examination

adjustment has been reversed.”    It explains the adjustment for

depreciation as follows:    “Since you have provided evidence to

establish your basis in the S-Corporation, you are allowed the

loss as claimed on your original tax return.”      Although such

explanations are not clear to us (the explanation with respect to

depreciation makes no sense at all), apparently, the J. Shirleys

understood respondent’s reasons for making those two adjustments.

In their petition, the J. Shirleys assign error to respondent’s

determination of a deficiency and, in support of that assignment,

aver that both Alexion Trust and Caralan Trust are valid trusts,

and not “abusive trusts”, which trusts, established by the

J. Shirleys, “were not established to avoid or evade taxes or for

any tax-related purpose.”    They further aver:   “All income,

expenses, deductions, and distributions which were attributable

to those valid trusts were properly and accurately reported by

those trusts”.    They aver no specific facts, however, to support

that claim.    For example, they aver nothing concerning the

employment relationship (if any) between either Joseph or Frances

Shirley and Alexion Trust and nothing concerning any contractual

relationship between the Alexion Trust and any customer.
                               - 23 -

     In the answer, respondent denies:

     that said trusts were “valid” to the extent that
     petitioners intend the term to imply that the trusts
     should be recognized for federal income tax purposes;
     or alternatively, to imply that the trusts are not
     grantor trusts; or alternatively, to imply that the
     income reported by the trusts is not taxable to
     petitioners under assignment of income principles.

     On brief, respondent states the following grounds for

attributing gross receipts of Alexion Trust to the J. Shirleys:

“on the grounds that Alexion Trust is a sham, or that Alexion

Trust is a grantor trust, or that the income of Alexion Trust is

taxable to Joseph and Frances Shirley under assignment of income

principles.”   As to the depreciation deduction, respondent states

the issue to be whether the J. Shirleys are entitled to the

depreciation expense passed through to them from the Caralan

Trust.

     Apparently, at the time the notice was issued to the

J. Shirleys, they and respondent understood respondent’s grounds

for making the two adjustments in question; both parties filed

pleadings and briefs which responded to those adjustments.    Rule

142(a) provides that respondent bears the burden of proof with

respect to new matters.   The J. Shirleys have not claimed that

respondent has raised any new matter.    We therefore assume that

respondent’s grounds for making the two adjustments are the

grounds articulated by respondent on brief and that they raise no

new matter.    The J. Shirleys bear the burden of proof.   See Rule
                                    - 24 -

142(a); sec. I. supra.         They must prove facts establishing that

Alexion Trust is neither a sham, a grantor trust, nor that the

income of Alexion Trust is taxable to Joseph and Frances Shirley

under assignment of income principles.        They must prove facts

establishing that they are entitled to the depreciation deduction

claimed with respect to property of Caralan Trust.        They have

done neither.

            3.    Discussion

            a.    Alexion Trust Gross Receipts

            (1)    Introduction

     Alexion Trust was created by the J. Shirleys on September 1,

1994.   The J. Shirleys exercised control over the Alexion Trust,

as evidenced by their signatory authority over the trust’s bank

accounts (out of which they paid their personal expenses) and

Joseph Shirley’s signature on the Alexion Trust 1995 return as

fiduciary.    Alexion Trust reported gross receipts for 1995 of

$179,791 from an activity described as computer consulting.        One

or both of the J. Shirleys performed all or substantially all of

the consulting services generating such receipts.        They reported

no income on account of performing such services, and Alexion

Trust claimed no deduction for wages paid.        Prior to 1995, one or

both of the J. Shirleys engaged in the computer consulting

business, paying self-employment tax on the net profits of the

business.    Those facts are sufficient for us to find that the J.
                              - 25 -

Shirleys had earnings from providing computer consulting services

that they failed to include in gross income (and pay tax on).

          (2)   Fundamental Principles

     A fundamental principle of tax law is that income is taxed

to the person who earns it.   See Commissioner v. Culbertson, 337

U.S. 733, 739-740 (1949); Lucas v. Earl, 281 U.S. 111 (1930).

Recently, in Barmes v. Commissioner, T.C. Memo. 2001-155, we

applied assignment of income principles to tax the income of a

business to a taxpayer who had attempted an anticipatory

assignment of that income to a trust.    We had this to say:

     Attempts to subvert * * * [the fundamental principle
     that income is taxed to the person who earns it] by
     diverting income away from its true earner to another
     entity by means of contractual arrangements, however
     cleverly drafted, are not recognized as dispositive for
     Federal income tax purposes, regardless of whether such
     arrangements are otherwise valid under State law. See
     Vercio v. Commissioner, 73 T.C. 1246, 1253 (1980); see
     also Schulz v. Commissioner, 686 F.2d 490, 493 (7th
     Cir. 1982), affg. T.C. Memo. 1980-568. The "true
     earner" of income is the person or entity who
     controlled the earning of such income, rather than the
     person or entity who received the income. See Vercio
     v. Commissioner, supra at 1253 (citing Wesenberg v.
     Commissioner, 69 T.C. 1005, 1010 (1978)); see also
     Commissioner v. Sunnen, 333 U.S. at 604 ("The crucial
     question remains whether the assignor retains
     sufficient power and control over the assigned property
     or over receipt of the income to make it reasonable to
     treat him as the recipient of the income for tax
     purposes."). * * * [Id.]

Pursuant to a second fundamental principle, we may ignore a

transfer in trust as a sham where the transfer has not, in fact,

altered any cognizable economic relationship between the putative
                              - 26 -

transferor and the trust property.     See, e.g., Zmuda v.

Commissioner, 79 T.C. 714, 719-722 (1982), affd    731 F.2d 1417

(9th Cir. 1984).   Recently, in Muhich v. Commissioner, T.C. Memo.

1999-192, affd. 238 F.3d 860 (7th Cir. 2001), we listed the

following factors to be considered in determining whether a trust

lacks economic substance for tax purposes:

     (1) Whether the taxpayer’s relationship as grantor to
     the property differed materially before and after the
     trust’s formation; (2) whether the trust had an
     independent trustee; (3) whether an economic interest
     passed to other beneficiaries of the trust; and
     (4) whether the taxpayer felt bound by any restrictions
     imposed by the trust itself or by the law of trusts.
     * * * [Citations omitted.]

          (3)   Grantor Trust Provisions

     Under specified circumstances, the statutory grantor trust

provisions, sections 671–679, treat the grantor of the trust and,

sometimes, a third party, as the substantial owner of all or part

of the trust.   Trust income is taxed to the substantial owner

under the rules of section 671.   Because the conditions imposed

by each of the grantor trust provisions are independent of those

imposed by the others, the grantor can avoid taxation only if

(1) he does not possess a disqualifying reversionary interest,

sec. 673, (2) the trust cannot be revoked by the grantor or a

nonadverse party, sec. 676, (3) trust income cannot be

distributed to the grantor or the grantor’s spouse or be used to

pay for insurance on their lives without the consent of an

adverse party, sec. 677, (4) specified powers to control
                               - 27 -

beneficial enjoyment of the corpus or income are not vested in

the grantor or certain other persons (sec. 674), and (5) certain

administrative powers are not exercisable by the grantor or a

nonadverse party (sec. 675).

           (4)   Discusssion

     The facts establish that one or both of the J. Shirleys

performed services for which payment was made and neither

reported any compensation, either directly or indirectly (e.g, by

way of salary), for performing such services.   Clearly, in prior

years, they had treated one or both of themselves as the true

earner of income from computer consulting.   As evidence of that,

we have deemed admissions that they treated such income as self-

employment income.   Self-employment income is generally

synonymous with the net earnings derived from a trade or

business, or profession, carried on as a sole proprietor or as a

partner.   See sec. 1.1401-1(c), Income Tax Regs.; Durando v.

United States, 70 F.3d 548, 551 (9th Cir. 1995) (self-employment

tax provisions explicitly encompass income derived from a sole

proprietorship or a partnership).   The J. Shirleys have proved no

fact to contradict the inference that they continued that sole-

proprietorship (or partnership) during 1995, the year in issue.

They exercised control over Alexion Trust, and they have proved

no fact to indicate that their control was less than complete.

They have failed to prove that they did not retain sufficient
                              - 28 -

power and control over Alexion Trust’s receipt of income that

such income should not be taxed to them.   See Barmes v.

Commissioner, supra.   They also have failed to prove that Alexion

Trust should not be disregarded as a sham, since the transfer in

trust lacked economic substance.   See discussion of relevant

factors, sec. II.A.3.a.(2) supra, as set forth in Muhich v.

Commissioner, supra.   Finally, they have failed to prove that one

or both of them should not be treated as the owner of all or a

portion of Alexion Trust on account of application of one or more

of the grantor trust rules found in sections 673 through 676.

Accordingly, we find that, during 1995, one or both of the

J. Shirleys earned gross income in the amount of $179,791, from

providing computer consulting services, which income, in the

amount of $166,042, the J. Shirleys failed to include in gross

income.

          b.   Deductions

     On brief, the J. Shirleys argue that they should be allowed

deductions, totaling $78,260, claimed by Alexion Trust in

computing its net profit from computer consulting of $101,531.

Respondent denied those deductions to Alexion Trust on various

grounds, including Alexion Trust’s failure to establish that the

underlying expenses were deductible under section 162, which

allows a deduction for all ordinary and necessary expenses paid

or incurred during the taxable year in carrying on any trade or
                              - 29 -

business, and its failure to substantiate that it had paid or

incurred any expenses.   In their respective petitions, neither

the J. Shirleys nor Alexion Trust has averred any facts

supporting a claim to the deductions in question.    The only

expense of which we have any knowledge is Alexion Trust’s claim

of a rental expense of $42,000 paid to Caralan Trust for property

used by the J. Shirleys as their personal residence.    We fail to

understand the basis of that deduction to Alexion Trust.    Indeed,

the J. Shirleys have shown us so little about the consulting

activities performed by the J. Shirleys that we are unable to

conclude that, in performing those activities, they incurred any

deductible expenses.   While it is within the purview of this

Court to estimate the amount of allowable deductions where there

is evidence that deductible expenses were incurred, Cohan v.

Commissioner, 39 F.2d 540 (2d Cir. 1930), we must have some basis

on which an estimate may be made, Vanicek v. Commissioner,

85 T.C. 731, 742-743 (1985); see also Norgaard v. Commissioner,

939 F.2d 874, 879 (9th Cir. 1991).     Because the record contains

no evidence upon which we could base such an estimate, we

conclude that the J. Shirleys have failed to prove that they are

entitled to claim any deductions under section 162(a) or any

other section.
                                    - 30 -

          c.     Depreciation

     The J. Shirleys claimed a deduction for depreciation in the

amount of $19,896 on account of property used by them as (and in)

their personal residence.       Such property constituted part of the

rental activity, which Caralan Trust reported as involving the

rental of such property to Alexion Trust.        Respondent disallowed

the whole amount of such depreciation.

     In pertinent part, section 167 provides:

     SEC. 167.    DEPRECIATION.

       (a) General Rule.--There shall be allowed as a
     depreciation deduction a reasonable allowance for the
     exhaustion, wear and tear (including a reasonable
     allowance for obsolescence)--

         (1) of property used in the trade or business, or

         (2) of property held for the production of income.

                    *    *      *     *      *   *   *

       (d) Life tenants and beneficiaries of trusts and
     estates.–-* * * In the case of property held in trust,
     the allowable deduction shall be apportioned between
     the income beneficiaries and the trustee in accordance
     with the pertinent provisions of the instrument
     creating the trust, or, in the absence of such
     provisions, on the basis of the trust income allocable
     to each. * * *

     Caralan Trust apportioned 100 percent of the $19,896

depreciation deduction to the J. Shirleys notwithstanding that

they received only $13,753 (17.81 percent) of the $77,234

distribution of income made by the Caralan Trust to the

J. Shirleys and the J E Shirley Trust (which trust received
                               - 31 -

$63,481 (82.19 percent) of that distribution).   A document

purporting to be the contract by which was created the Caralan

Trust is in evidence.   It does not apportion the depreciation in

question to the J. Shirleys.   Given the amount of the trust’s

income and the relative size of the income distribution to the

J. Shirleys, they are entitled to no more than 17.81 percent of

any deduction for depreciation on property held by the trust.

See sec. 1.167(h)-1(b)(2), Income Tax Regs. (depreciation on

trust property is split in proportion to income unless the

governing instrument or local law requires or permits the trustee

to maintain a reserve for depreciation and such reserve is in

fact maintained).   Moreover, the J. Shirleys have failed to prove

any property held by Caralan Trust was property used in a trade

or business, or held for the production of income, for which a

depreciation deduction is available under section 167(a).     We

have found that the claimed depreciation deduction of $19,896 was

with respect to property that the J. Shirleys used as (and in)

their personal residence.   Generally, no deduction is allowed

“for personal, living, or family expenses.”   Sec. 262(a).    The

J. Shirleys have proposed no facts with respect to the activities

of Caralan Trust that could lead us to find that the property in

question was used in a trade or business or was held for the

production of income.   Apparently, the property was rented to

Alexion Trust at a loss in a transaction that, from the
                                   - 32 -

perspective of either Alexion Trust or Caralan Trust, makes no

sense.

     The J. Shirleys have failed to prove facts entitling them to

the depreciation deduction of $19,896 claimed by them, and we

sustain respondent’s determination of a deficiency to the extent

based on his disallowance of such deduction.

     B.   Penalties

           1.    Section 6662(a)

     Section 6662(a) provides for an accuracy-related penalty

(the accuracy-related penalty) in the amount of 20 percent of the

portion of any underpayment attributable to, among other things,

negligence or intentional disregard of rules or regulations

(without distinction, negligence), any substantial understatement

of income tax, or any substantial valuation misstatement.

Respondent determined the accuracy-related penalty

against the J. Shirleys.    Although the J. Shirleys’ notice states

that respondent bases his imposition of the section 6662(a)

accuracy-related penalty upon “1 or more” of the three grounds

listed in section 6662(b)(1) through (3), on brief, respondent

relies only on his claims that the J. Shirleys were negligent or

substantially understated their income tax.

     Respondent bears the burden of production with respect to

all penalties.    See sec. 7491(c).     The burden imposed by section

7491(c) is only to come forward with evidence regarding the
                                 - 33 -

appropriateness of applying a particular addition to tax or

penalty to the taxpayer.     Respondent need not negate all defenses

to the additions or penalties.     See Higbee v. Commissioner,

116 T.C. 438, 446 (2001).     Respondent has met his burden with

respect to his claim of negligence by establishing that the

J. Shirleys, in understating their income and claiming improper

and unsubstantiated deductions, were negligent and disregarded

rules and regulations.     Further, the deficiency we have

redetermined indicates a substantial understatement of income.

See sec. 6662(d).     On brief, the J. Shirleys fail to address

respondent’s determination of an accuracy-related penalty.         We

assume that they rely exclusively on our finding that there was

no deficiency in tax.     Since we have found a deficiency in tax,

we sustain respondent’s determination of a penalty under section

6662(a) on the grounds of either negligence or substantial

understatement of income, modified only to take account of the

amount of the deficiency that we have determined.

             2.   Section 6673(a)(1)

     Respondent asks that we impose a penalty against the J.

Shirleys under section 6673(a)(1).        That section provides:

     SEC. 6673.     SANCTIONS AND COSTS AWARDED BY COURTS.

       (a)    Tax Court Proceedings.--

          (1) Procedures instituted primarily for delay,
         etc.--Whenever it appears to the Tax Court that--
                               - 34 -

              (A) proceedings before it have been instituted
            or maintained by the taxpayer primarily for delay,

              (B) the taxpayer’s position in such proceeding
            is frivolous or groundless, or

              (C) the taxpayer unreasonably failed to pursue
            available administrative remedies,

       the Tax Court, in its decision, may require the
       taxpayer to pay to the United States a penalty not in
       excess of $25,000.

       The purpose of section 6673 is to compel taxpayers to think

and to conform their conduct to settled principles before they

file returns and litigate.    Coleman v. Commissioner, 791 F.2d 68,

71 (7th Cir. 1986); see also Grasselli v. Commissioner, T.C.

Memo. 1994-581 (quoting Coleman).    A petition to the U.S. Tax

Court is frivolous if it is contrary to established law and

unsupported by a reasoned, colorable argument for change in the

law.    We need not find specific damages to impose a penalty under

section 6673(a)(1); rather, that section is a penalty provision,

intended to deter and penalize frivolous claims and positions in

deficiency proceedings.    Bagby v. Commissioner, 102 T.C. 596,

613-614 (1994).    The J. Shirleys do not here argue for any change

in the law, and there are numerous cases that establish that

taxpayers cannot use trusts, as the J. Shirleys have attempted to

do, to avoid tax or shift income from one taxpayer to another.

See, e.g., Zmuda v. Commissioner, 79 T.C. 714 (1982); Vercio v.

Commissioner, 73 T.C. 1246 (1980); Wesenberg v. Commissioner,

69 T.C. 1005 (1978); Barmes v. Commissioner, T.C. Memo. 2001-155;
                             - 35 -

Matrixinfosys Trust v. Commissioner, T.C. Memo. 2001-133; Muhich

v. Commissioner, T.C. Memo. 1999-192; Alsop v. Commissioner, T.C.

Memo. 1999-172; Harrold v. Commissioner, T.C. Memo. 1991-274,

affd. 960 F.2d 1053 (8th Cir. 1992); Vnuk v. Commissioner, T.C.

Memo. 1979-164, affd. 621 F.2d 1318 (8th Cir. 1980).      For the

reasons that follow, we also believe that they instituted, and

have maintained, this proceeding primarily for delay.

     We have found facts sufficient for us to conclude that the

J. Shirleys did not cooperate with respondent’s agent during her

examination of the J. Shirleys’ 1995 return.    No doubt some or

all of the redundancies in respondent’s adjustments that he has

since conceded could have been avoided had they cooperated.      Nor

did the J. Shirleys cooperate with respondent’s counsel in

preparing this case for trial.    They failed to answer

respondent’s requests for admissions.    Respondent claims, and

they do not deny, that they failed to respond to requests for

discovery and refused to participate in the stipulation of facts

process until the eve of trial.    They failed to comply with the

requirements of our standing pretrial order that (1) they file a

trial memorandum and (2) to the extent documents intended to be

introduced into evidence cannot be stipulated, such documents be

identified in writing and exchanged 15 days before trial.      At

trial, they failed to present evidence regarding any of the

adjustments giving rise to the deficiency.    They orally objected
                              - 36 -

to one of respondent’s witnesses testifying under a pseudonym,

but failed to file any reply to respondent’s written response to

their objection.   They were more than 6 months tardy in

responding to our order of June 14, 2000, that they make a motion

to substitute parties and change caption.   They requested a

briefing schedule, and the Court ordered briefs, yet their brief

fails to address the substance of respondent’s adjustments.    In

their brief, they fail to make any specific reference to any page

of the transcript of trial or reference any exhibit.   We infer

from their failure adequately to brief the issues in this case a

lack of legitimate purpose in instituting this proceeding.     They

failed to file an answering brief, and, thus, let stand,

unrebutted, 141 proposed findings of fact made by respondent.

They established the Alexion and Caralan Trusts, which invoked,

and then disavowed, the jurisdiction of this Court.

     The J. Shirleys instituted and maintained these proceedings

primarily for delay; their positions in this proceeding are

frivolous and groundless, and they unreasonably failed to pursue

administrative remedies.   We, therefore, shall require them to

pay a penalty under section 6673(a)(1) of $12,500.
                                  - 37 -

III.   The C. Shirleys

       A.   Deficiency in Tax

             1.    Introduction

       C E Shirley Trust reported as income the income distribution

of $63,481 received from Caralan Trust.       It deducted $286 on

account of a distribution of income to Congo Trust.       It computed

a depreciation deduction of $647 and apportioned that deduction

in full to Congo Trust.       Congo Trust took into account both of

those items.       It also reported rental receipts of $12,000 on

account of a rental activity involving the C. Shirleys’ principal

residence.     It claimed related deductions (not including

depreciation) of $23,101, giving rise to a loss of $11,101.

Congo Trust computed a depreciation deduction of $8,558, which it

apportioned to the C. Shirleys.       The only trust-related item on

the C. Shirleys’ 1995 return is a deduction of $10,463 on account

of unreimbursed expenses related to Congo Trust.

       Respondent determined a deficiency in the C. Shirleys’ tax

by notice dated August 5, 1999 (the C. Shirleys’ notice).       One

adjustment giving rise to that determination is a positive

adjustment to the C. Shirleys’ gross income of $12,000, which

increase is attributable to $12,000 of rental income reported on

the Congo Trust 1995 return.       Respondent concedes that

adjustment.       A second adjustment is a negative adjustment of

$10,463, reflecting the C. Shirleys’ deduction of $10,463 on
                                - 38 -

account of unreimbursed expenses related to Congo Trust.

Respondent concedes that adjustment on the ground that it was a

mistake (it should have been a positive adjustment).       A third

adjustment is a positive adjustment in the amount of $65,951 on

account of trust “gross receipts”.       From respondent’s trial

memorandum, we learn that such third adjustment combines two

adjustments, the first being an adjustment of $63,481, on account

of the income distribution received by the C E Shirley Trust, and

the second being an adjustment of $2,470 on account of gross

receipts from business omitted from gross income by the

C. Shirleys.     Respondent concedes the $63,481 adjustment on the

ground that it duplicates, in part, the adjustment made to the

J. Shirleys’ gross income on account of Alexion Trust’s gross

receipts.    The $2,470 adjustment constitutes a new matter, on

which respondent bears the burden of proof.       See Rule 142(a).   We

accept respondent’s concessions and agree he bears the burden of

proof with respect to the $2,470 item.

     Given respondent’s concessions, we are left to consider

three positive adjustments:     interest income of $25, unreported

deposits of $33,980, and unreported business gross receipts of

$2,470.

            2.   Discussion

     In the C. Shirleys’ notice of deficiency, respondent’s

ground for the interest adjustment is:       “All interest income is
                               - 39 -

includable in income unless specifically exempted by law.”

Respondent’s ground for the unreported deposits of $33,980 is:

“Business gross receipts were not included in the amount shown.”

During 1995, Curtis Shirley was self-employed as a computer

consultant, performing those services, personally, for

compensation.   The C. Shirleys had one or more bank accounts, and

Curtis Shirley extended credit to his customers.   On the

C. Shirleys’ 1995 return, they reported no income from any

source.   Section 61(a)(4) includes interest as an item of gross

income.   Together, section 61(a)(1) and (2) include as items of

gross income, compensation for services, including fees,

commissions, fringe benefits, and similar items, and gross income

derived from business.   Not only has respondent shown likely

sources for the income items in question, but, with respect to

the $33,980 of unreported deposits, a bank deposit is prima facie

evidence of income and respondent need not prove a likely source

of that income.    Tokarski v. Commissioner, 87 T.C. 74 (1986); see

also Factor v. Commissioner, 281 F.2d 100, 116 n.28 (9th Cir.

1960).    The C. Shirleys have proposed no findings of fact

relative to either the interest income or the bank deposits.

They have failed to prove that they did not have the interest

income in question, and we find that they did have unreported

income of $33,890.
                                   - 40 -

       In 1995, Curtis Shirley personally performed computer

consulting services for Ventana.       In December 1995, checks

totaling $2,470 were issued by Ventana for those services, made

out to “C.E. Shirley”, which checks were cashed by Curtis E.

Shirley.    On brief, respondent states the issue as whether the

C. Shirleys understated their 1995 Form 1040 Schedule C

(business) gross receipts by $2,470.        The item in question is an

item of gross income, either as compensation for services or as

business gross receipts.     See sec. 61(a)(1) and (2).    The

C. Shirleys failed to report it on the C. Shirleys’ 1995 return.

The endorsement on the two checks in evidence reads “Curtis E.

Shirley”, without any qualification, which is consistent with the

named payee:     “C.E. Shirley”.    Notwithstanding some ambiguity as

to the identity of the payees (Curtis E. Shirley or the

C E Shirley Trust), we infer from that endorsement that the

checks were payable to Curtis E. Shirley.       We find that he

omitted from gross income $2,470 on account thereof.

     B.    Penalties

            1.   Section 6662(a)

     Respondent determined a section 6662(a) penalty against the

C. Shirleys in language identical to that used with respect to

the J. Shirleys, except for the amount of the penalty.       On brief,

the C. Shirleys, like the J. Shirleys, fail to address that

penalty.    Our analysis is the same with respect to the
                                - 41 -

C. Shirleys as it is for the J. Shirleys, and we shall not repeat

it.   We sustain the penalty on the same grounds, modified only to

take account of the deficiency that we have determined.

            2.   Section 6673(a)(1)

      We likewise impose a penalty under section 6673(a)(1)

against the C. Shirleys for substantially the same reasons that

motivated us with respect to the J. Shirleys.   The C. Shirleys

did not fail to reply to admissions, since they were not served

with any.    Their petition, however, is replete with frivolous and

groundless claims.    For example:

      The Notice of Deficiency is required by the Internal
      Revenue Code to be signed by a duly appointed
      assessment officer. There is nothing to indicate that
      the person signing (rubber-stamped signature) the
      Notice of Deficiency or the Form 4549-A attachment
      (unsigned) are [sic] duly authorized to perform that
      function. Internal Revenue Code §6201 and 26 USC
      §6065, clearly defines that a duly authorized signature
      be present on these forms. Petitioners have no means
      to confirm that the signatures are that of a duly
      authorized person.

      Petitioners, on information and belief, alleges [sic]
      that the sole purpose of the respondent’s Notice of
      Deficiency is for the obvious purpose of ensnaring the
      Petitioners into a fraudulently obtained Federal Tax
      Court jurisdiction. Petitioners’ position is that the
      respondent knew or should have known that he has
      violated the petitioners’ right of due process in
      forcing this filing.

      On the provision that the Petitioners are properly
      documented in their “Individual Master File” (IMF),
      this [sic] petitioners’ source of revenue is from
      within the several states and does not conform to any
      federally regulated “taxable objects”. The petitioners
      do not fall under the definition found in the IRC
      3121(h), since the petitioners do not reside in the
                             - 42 -

     District of Columbia or are employed by the [Federal]
     government.

     We reach the same conclusions with respect to the C.

Shirleys that we reach with respect to the J. Shirleys.     Although

the C. Shirleys’ deficiency in tax is less than the J. Shirleys’,

the C. Shirleys’ petition clearly evidences their willfulness in

disregarding settled principles before they decided to litigate.

We, therefore, shall require them to pay a penalty under section

6673(a)(1) of $12,500.


                                      An order of dismissal

                                   for lack of jurisdiction will

                                   be entered in docket No.

                                   17076-99.   Appropriate orders

                                   will be issued, and decisions

                                   will be entered under Rule

                                   155 in docket Nos. 10151-99,

                                   10152-99, 10153-99, 17074-99,

                                   and 17075-99.
