                        T.C. Memo. 1997-23



                      UNITED STATES TAX COURT



  JEFFREY L. BEECROFT AND CAROL LARKIN-BEECROFT, Petitioners v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 13597-95.                    Filed January 14, 1997.



          Held: Ps' motion for administrative and
     litigation costs will be denied.



     Stuart S. Lipton, for petitioners.

     Patricia Montero, for respondent.



                        MEMORANDUM OPINION


     LARO, Judge:   Petitioners moved the Court on September 18,

1996, to recover administrative and litigation costs under
                                - 2 -

section 7430 and Rule 231.1    Respondent issued petitioners a

notice of deficiency reflecting her determination that they were

liable for a $14,939 deficiency in their 1993 Federal income tax

and a $2,988 penalty under section 6662(a).     Petitioners

petitioned the Court to redetermine respondent's determination.

     Before trial, the parties settled all issues raised in the

notice of deficiency.   The parties agree that the 1993 deficiency

is $7,539 and that the penalty is $466.    We must decide whether

petitioners are entitled to any of their claimed administrative

and litigation costs.   We conclude they are not.    Section

references are to the Internal Revenue Code.     Rule references are

to the Tax Court Rules of Practice and Procedure.     Dollar amounts

are rounded to the nearest dollar.

                              Background

     We decide petitioners' motion based on the record, including

respondent's objection and the parties' affidavits, declaration,

and exhibits.   Neither party requested a hearing, and we conclude

that one is not necessary.    Rule 232(a)(3).   Petitioners are

husband and wife, and they resided in Altadina, California, at

the time of their petition.    They filed a 1993 Form 1040, U.S.




     1
       Although petitioners' motion mentions only litigation
costs, the motion refers to costs that were incurred prior to the
notice of deficiency (i.e., administrative costs). We consider
petitioners' motion to be a motion for both administrative and
litigation costs.
                                   - 3 -

Individual Income Tax Return, using the filing status of "Married

filing joint return".

       Mr. Beecroft is a production designer.     Petitioners' Form

1040 reports that Mr. Beecroft received $207,559 of wages during

1993 from the following payees:

               EP Production Services.................$94,066
               Time Warner Entertainment.............. 1,549
               First Premiere Co...................... 70,425
               The BonBon Picture Co.................. 41,519
                  Total                               207,559

Respondent determined that petitioners failed to report $21,025

of wages paid to Mr. Beecroft in 1993 by EP Management Services,

Inc.       EP Management Services, Inc., issued Mr. Beecroft a 1993

Form W-2, Wage and Tax Statement, for these wages.       Petitioners

claim that they did not report these wages because they did not

receive this Form W-2, and they believed that any wages Mr.

Beecroft received from EP Management Services, Inc., were

included in a Form W-2 that he received from EP Production Co.2

The notice of deficiency states that "We have adjusted your gross

wages to agree with the amounts shown on Forms W-2."

       Petitioners' 1993 Form 1040 also reports a deduction for a

$24,661 loss from Mr. Beecroft's sole-proprietor business (the

Business).       The Business provided services on production design,


       2
       Petitioners received pay stubs for the respective checks
tendered to Mr. Beecroft from EP Production Services and EP
Management Services, Inc., and petitioners now concede that the
Form W-2 from EP Production Services did not list wages and
withholding credits attributable to EP Management Services, Inc.
                                - 4 -

and petitioners reported the Business' revenue and expenses on

Schedule C, Profit or Loss From Business (Sole Proprietorship).

The Business had $1,275 of gross receipts in 1993.   Of the

$24,661 loss reported for the Business, $7,344 was claimed for

seminars and classes ($927), research expenses ($5,152), and

theater review ($1,265).   Respondent disallowed petitioners'

claim for the $7,344 amount.   As stated in the notice of

deficiency: "Since you did not establish that the business

expense shown on your tax return was paid or incurred during the

taxable year and that the expense was ordinary and necessary to

your business, we have disallowed the amount shown."

     Petitioners' 1993 Form 1040 also reports $101,891 in

itemized deductions.   Of this amount, $62,545 was claimed for

$66,255 of Mr. Beecroft's employee business expenses.3    The

$66,255 amount was claimed for vehicle expenses ($7,196), travel

expenses, including lodging, airplane, car rental, etc.

($30,434), meals and entertainment ($3,117), and other business

expenses ($26,131).    Respondent disallowed the $62,545 amount.

As stated in the notice of deficiency: "Since you did not

establish that the business expense shown on your tax return was

paid or incurred during the taxable year and that the expense was




     3
       The difference between the $62,545 and $66,255 amounts
reflects the 2-percent limitation on miscellaneous itemized
deductions.
                               - 5 -

ordinary and necessary to your business, we have disallowed the

amount shown."

     On February 3, 1995, respondent sent a 30-day letter to

petitioners proposing that petitioners were liable for a $14,939

deficiency in 1993 income tax and a $2,988 penalty under section

6662(a).4   Respondent issued the subject notice of deficiency on

April 20, 1995, reflecting her determination of a deficiency and

penalty in the same amounts as proposed in the 30-day letter.

The deficiency and penalty shown in the notice of deficiency are

primarily due to the adjustments mentioned above.   Before the

notice of deficiency was issued, petitioners did not present

respondent with any substantiation for the disallowed deductions

or any explanation concerning the fact that the $21,025 of wages

shown on the Form W-2 from EP Management Services, Inc., was not

includable in their 1993 gross income.

     On June 12, 1995, petitioners' counsel, Stuart S. Lipton,

mailed a letter to an Internal Revenue employee at an Internal

Revenue office in Los Angeles, California.   This letter states:

     Dear Patty:

          This is to confirm that there will be a meeting in
     Room 4336 in the offices of the IRS at 300 North Los
     Angeles Street at 12:45 p.m. on June 27, 1995, at which
     Charles Thiras, accountant for the taxpayer, will
     present documentary evidence to support the validity of


     4
       Petitioners claim that this 30-day letter was the first
notice that they received alerting them that respondent was
auditing their 1993 Federal income tax return.
                               - 6 -

     the deductions initially disallowed by the IRS in the
     final examiner's report for the 1993 tax year.

          The taxpayer understands that the time for filing
     a Tax Court petition in this matter expires on or about
     July 19, 1995, and that he will therefore be expected
     to make a complete showing regarding the claimed
     deductions at this meeting on June 27. Prior to the
     meeting on June 27, an executed Form 2848 authorizing
     Mr. Thiras to act on behalf of the taxpayer will be
     prepared and delivered.

          On behalf of the taxpayer, I want to thank you for
     giving us this last opportunity to show the correctness
     of the returns as filed without having to resort to
     unnecessary and expensive litigation in the Tax Court.
     If there is anything in particular that you believe
     Mr. Thiras should bring with him to the upcoming
     meeting (such as the type of supporting documentation
     required), please let me know in advance of the meeting
     date so that proper arrangements can be made. I am
     mindful of the fact that given the late date of this
     scheduled meeting, it will not be possible for the
     taxpayer to seek a postponement. However, we would
     appreciate being advised of the name of the examining
     agent who will be assigned to this matter.

          If you have any questions, please do not hesitate
     to contact me.

                          Sincerely,

                               /s

                          STUART S. LIPTON

Petitioners did not present any documentation or explanations to

respondent at the time of this scheduled meeting.

     Petitioners petitioned the Court on July 18, 1995, alleging

in their petition that they were not liable for any deficiency or

penalty for 1993.   On September 18, 1995, the Court filed

respondent's answer to the petition.   In her answer, respondent
                                - 7 -

generally denied all of petitioners' allegations of error and

facts related thereto.

     On March 22, 1996, Mr. Lipton met with one of respondent's

revenue agents.    At this meeting, Mr. Lipton presented some

documents to attempt to substantiate petitioners' entitlement to

the disputed deductions.    Following this meeting, the revenue

agent concluded that the expenditures had been made, but that

petitioners had not shown that the expenditures were business

related.

     The Court called this case for trial in San Francisco,

California, on June 3, 1996.    Mr. Lipton appeared on behalf of

petitioners, and respondent was represented by her counsel.      The

parties' counsel reported to the Court that the case was ready

for trial, and the Court set the trial for June 7, 1996.    On

June 6, 1996, the parties' counsel appeared before the Court and

notified the Court that they had settled their differences.

Counsel read the terms of the settlement into the record, and, on

October 15, 1996, the Court filed the parties' stipulation of

settled issues (Stipulation).    As stated in the Stipulation,

petitioners agree to report the $21,025 of wages reported on the

Form W-2 issued by EP Management Services, Inc., and they agree

that they are liable for an accuracy-related penalty under

section 6662(a).    Respondent agrees that petitioners are entitled

to a $5,211 prepayment credit for Federal withholding on the

wages (including $306 that is attributable to excess Medicare
                               - 8 -

withheld), and that petitioners can deduct the related State

income tax withholding ($1,477) and State disability insurance

($273) on their Schedule A, Itemized Deductions.    Respondent also

agrees that petitioners can deduct $20,000 of the $62,545

itemized deductions in dispute, and that petitioners can deduct

$5,172 of the $7,334 Schedule C expenses in dispute.

     In connection with petitioners' motion for administrative

and litigation costs, petitioners claim that they incurred

$34,003 in administrative and litigation costs from July 5, 1995,

to August 31, 1996, stemming primarily from approximately

110 hours of legal services at a rate of approximately $300 per

hour. Petitioners request an award of $20,000 of these costs,

plus an award of 60 percent of the unstated attorney's fees that

they incurred in the preparation and prosecution of the motion at

hand.

                            Discussion

     Section 7430(a) provides that the prevailing party may be

awarded:   (1) Reasonable administrative costs incurred in

connection with an administrative proceeding within the Internal

Revenue Service and (2) reasonable litigation costs incurred in

connection with a court proceeding.    The Congress enacted

section 7430 as part of the Tax Equity and Fiscal Responsibility

Act of 1982, Pub. L. 97-248, sec. 292(a), 96 Stat. 324, 572, and,

as relevant hereto, the Congress amended section 7430 as part of

the Technical and Miscellaneous Revenue Act of 1988, Pub. L.
                                - 9 -

100-647, sec. 6239(a), 102 Stat. 3342, 3743-3747, effective with

respect to proceedings commenced after November 10, 1988.

Section 7430 was amended most recently by the Taxpayer Bill of

Rights 2, Pub. L. 104-168, secs. 701-704, 110 Stat. 1452,

1463-1464 (1996), effective with respect to proceedings commenced

after July 30, 1996.

     In order for this Court to award reasonable administrative

and litigation costs under section 7430, seven requirements must

be met.   The record must show that:

     (1) The moving party filed a timely motion for an award of

reasonable administrative and litigation costs.      Rule 231(a).   We

find that petitioners met this requirement.

     (2) The moving party substantially prevailed in the

administrative proceeding and the proceeding in this Court.

Sec. 7430(c)(4)(A)(i).   Respondent concedes that petitioners met

this requirement.

     (3) The moving party did not unreasonably protract the

administrative proceeding or the proceeding in this Court.

Sec. 7430(b)(4).    Respondent concedes that petitioners met this

requirement.

     (4) The Commissioner's position in the administrative

proceeding and the proceeding in this Court were not

substantially justified in law or in fact.5   Sec.

     5
       In relevant part, the Taxpayer Bill of Rights 2 (TBR2),
Pub. L. 104-168, secs. 701-704, 110 Stat. 1452, 1463-1464 (1996),
                               - 10 -

7430(c)(4)(A)(i), (7)(A) and (B); Pierce v. Underwood, 487 U.S.

552, 564-565 (1988); Huffman v. Commissioner, 978 F.2d 1139,

1143-1147 (9th Cir. 1992), affg. in part, revg. in part on other

grounds and remanding T.C. Memo. 1991-144; Powers v.

Commissioner, 100 T.C. 457, 470, 472 (1993).    As discussed below,

we hold that respondent's position was substantially justified.

     (5) The moving party exhausted any administrative remedies

available to him or her in the Internal Revenue Service.6      Sec.

7430(b)(1).    Respondent concedes that petitioners met this

requirement.

     (6) The moving party has a net worth that did not exceed

$2 million at the time the petition was filed in the case.

Sec. 7430(c)(4)(A)(iii); 28 U.S.C. sec. 2412(d)(2)(B) (1988).

Respondent concedes that petitioners met this requirement.

     (7) The amount of costs claimed is reasonable.    Sec.

7430(a), (c)(1) and (2).   Respondent challenges the

reasonableness of petitioners' claimed costs.    On the basis of



amended sec. 7430 to place on the Commissioner the burden of
proving that her position in the administrative proceeding and
the proceeding in this Court were substantially justified. We
need not, and do not, decide whether the TBR2 is applicable to
the instant matter to place the burden of proof on respondent
with respect to this prong. We rule on petitioners' request for
an award of administrative and litigation costs based on the
preponderance of the evidence; it is irrelevant in this case who
bears the burden of proof. See Deskins v. Commissioner, 87 T.C.
305, 322-323 n.17 (1986).
     6
        This requirement applies only to a judgment for an award
of reasonable litigation costs. Sec. 7430(b)(1).
                                - 11 -

our holding that respondent's position was substantially

justified, we do not decide this issue.

     These seven requirements are in the conjunctive; each

requirement must be met before this Court may order an award of

administrative and litigation costs to a taxpayer under section

7430.    Minahan v. Commissioner, 88 T.C. 492, 497 (1987).    An

award of reasonable administrative and litigation costs to a

taxpayer in a Tax Court proceeding is discretionary with the

Court hearing the case, and appellate courts apply an abuse of

discretion standard to review our determinations of the amount of

costs, if any, awarded to a taxpayer and whether the

Commissioner's positions were or were not substantially

justified.     Powers v. Commissioner, supra at 470, and the cases

cited therein; see also H. Rept. 97-404, at 12 (1981).

        We turn to the first requirement in dispute; namely, whether

the Commissioner's position was substantially justified.

Respondent took a position in the administrative proceeding when

respondent issued the notice of deficiency to petitioners on

April 20, 1995.     Sec. 7430(c)(7)(B).   Respondent took a position

in this proceeding when the Court filed respondent's answer on

September 18, 1995.     Sec. 7430(c)(7)(A); Huffman v. Commissioner,

supra at 1148; see also Han v. Commissioner, T.C. Memo. 1993-386.

Ordinarily, we consider the reasonableness of each of these

positions separately.     Huffman v. Commissioner, supra at 1144-
                                - 12 -

1147.   In the instant setting, however, when these positions are

the same, we evaluate their reasonableness.

     Whether the Commissioner's position was substantially

justified turns on a finding of reasonableness, based on the

facts and circumstances of the case, as well as on any legal

precedents that may relate thereto.      Nalle v. Commissioner,

55 F.3d 189, 191 (5th Cir. 1995), affg. T.C. Memo. 1994-182;

Coastal Petroleum Refiners, Inc. v. Commissioner, 94 T.C. 685,

688-696 (1990).   We ask ourselves "whether * * * [the

Commissioner] knew or should have known that her position was

invalid at the onset".     Nalle v. Commissioner, supra at 191.   For

petitioners to prevail, respondent's position, in fact as well as

law, must not have been "justified to a degree that could satisfy

a reasonable person."    Pierce v. Underwood, supra at 565.

Whether the Commissioner's position has a reasonable basis in

fact and law turns in part on whether there is "substantial

evidence" to support it.    Id. at 564-565; Powers v. Commissioner,

supra at 473.   The fact that the Commissioner concedes an issue,

in and of itself, does not mean that the Commissioner's position

was not substantially justified within the meaning of section

7430(c)(4)(A)(i).   Sokol v. Commissioner, 92 T.C. 760, 767

(1989).   It remains, however, a relevant factor to consider in

determining the degree of the Commissioner's justification.

Estate of Perry v. Commissioner, 931 F.2d 1044, 1046 (5th Cir.

1991); Powers v. Commissioner, supra at 471.
                              - 13 -

     Petitioners claim that respondent's position was

unreasonable because:   (1) Petitioners were not given an

opportunity to participate in an audit examination or Appeals

conference prior to the mailing of the notice of deficiency and

(2) the notice reflected neither a credit for the withheld

Federal tax nor a deduction for the withheld State tax and excess

Social Security tax shown on the Form W-2 from EP Management

Services, Inc.   Petitioners also claim that respondent used the

cost of litigation as a tool to extract from petitioners an other

than equitable ending to this case.

     We are not persuaded by petitioners' arguments that

respondent's position was unreasonable.     Indeed, the record

points to the opposite conclusion.     Respondent's position was

premised primarily on petitioners' failure to substantiate items

claimed on their returns as business expenses.     Deductions are a

matter of legislative grace, and petitioners must prove their

entitlement to a deduction.   New Colonial Ice Co. v. Helvering,

292 U.S. 435, 440 (1934).   Section 6001 also imposes on

petitioners an affirmative duty to maintain books and records

sufficient to support items reported on their returns.     With this

well-established law in mind, we believe that it was reasonable

for respondent to make the adjustments shown in the notice of

deficiency and to refuse to concede any of these adjustments

until she received and verified petitioners' substantiation for

these amounts.   Harrison v. Commissioner, 854 F.2d 263, 265
                              - 14 -

(7th Cir. 1988), affg. T.C. Memo. 1987-52; Sokol v. Commissioner,

92 T.C. 760, 765 (1989).   We also note that petitioners

ultimately agreed that they were wrong with respect to their

claim for 70.67 percent of the dollar amount of these adjustments

(i.e., the Stipulation reflects the fact that petitioners were

not allowed to deduct $64,843 of the $91,755 amount in dispute

(21,025 + 7,334 + 63,396)).   It is also hard to believe that

petitioners neither received the Form W-2 from EP Management

Services, Inc., nor knew that Mr. Beecroft had received $21,025

in wages that were not reported on their 1993 Form 1040.

     We find no persuasive evidence in the record to support

petitioners' claim of overreaching by respondent's agents.    To

support their claim, petitioners submitted a May 15, 1996, letter

from Mr. Lipton to respondent's counsel that petitioners allege

reflects the terms of a settlement that they entered into with

respondent on May 15, 1996.   Petitioners allege that respondent

backed out of this settlement in an attempt to increase the

expenses that petitioners were incurring in litigating this

matter and otherwise to force petitioners to settle this case for

an inequitable amount.   We are unpersuaded by this letter or by

petitioners' claim with respect thereto.   The record contains no

evidence that this letter accurately reflects a settlement offer

tendered to petitioners by respondent.   As a point of fact, the

record contains a letter from respondent's counsel to Mr. Lipton

that was sent by facsimile during the morning of May 16, 1996.
                               - 15 -

This facsimile states specifically that Mr. Lipton's letter

incorrectly reflects respondent's settlement offer.    Although

petitioners attempt in their motion to support their position of

overreaching by respondent with Mr. Lipton's naked assertions of

fact, we do not consider these assertions to be proof.

Rule 143(b); see Niedringhaus v. Commissioner, 99 T.C. 202, 214

n.7 (1992); Viehweg v. Commissioner, 90 T.C. 1248, 1255 (1988);

Evans v. Commissioner, 48 T.C. 704, 709 (1967), affd. 413 F.2d

1047 (9th Cir. 1969).

     We conclude that respondent's positions had a reasonable

basis in law and fact.   Based on this conclusion, we need not and

do not decide the reasonableness of the claimed expenses.    We

note in passing, however, that we have been involved with enough

cases of this type to know that the instant case was nothing more

than a routine substantiation case, and why it was not resolved

at the scheduled meeting of June 27, 1995 (which we believe it

easily could have been), we do not know.

     We hold that petitioners are not entitled to administrative

or litigation costs under section 7430.    In so holding, we have

considered all arguments by petitioners for a contrary holding,

and, to the extent not discussed above, find them to be

irrelevant or without merit.

     To reflect the foregoing,

                                           An appropriate order will

                                    be issued denying petitioners'
- 16 -

     motion for an award of

     administrative and litigation

     costs.
