                        T.C. Memo. 1996-137



                      UNITED STATES TAX COURT



         ESTATE OF LEON SPEAR, DECEASED, JEANETTE SPEAR,
          HARVEY SPEAR AND ROBERT SPEAR, ADMINISTRATORS,
          AND JEANETTE SPEAR, Petitioners v. COMMISSIONER
                                                  *
                  OF INTERNAL REVENUE, Respondent



     Docket Nos.   3276-87.1       Filed March 19, 1996.




     Barry A. Furman, Patrick W. Kittredge, and Michael S. Paul,

for petitioners.

     Michael P. Corrado, Ruth M. Spadaro, and James C. Fee, Jr.,

for respondent.


     *
       This opinion supplements Estate of Spear v. Commissioner,
T.C. Memo. 1993-213, vacated and remanded 41 F.3d 103 (3d Cir.
1994).
     1
       Cases of the following petitioners were consolidated:
Estate of Abe Spear, Deceased, Morris Spear, Executor, docket No.
21480-90; Estate of Leon Spear, Deceased, Jeanette Spear,
Administrator, Robert Spear, Administrator, and Harvey Spear,
Administrator, docket No. 21481-90.
                                - 2 -


                   SUPPLEMENTAL MEMORANDUM OPINION


     COLVIN, Judge:    This matter is before the Court on remand

from the U.S. Court of Appeals for the Third Circuit in Spear v.

Commissioner, 41 F.3d 103 (3d Cir. 1994), vacating and remanding

T.C. Memo. 1993-213.

     The issues for decision on remand are:

     1.     Whether petitioners had any cash on hand on December

31, 1974.    We hold that petitioners had $200,000 cash on hand on

December 31, 1974, instead of zero as determined by respondent.

     2.     Whether petitioners are liable for the addition to tax

for fraud.    We hold that they are not.

     3.     Whether, if petitioners are not liable for the addition

to tax for fraud, respondent is barred from assessing tax for the

years in issue.    We hold that respondent is barred from assessing

tax for 1975, but not for 1976 and 1977.

     References to petitioner are to Jeanette Spear.    Section

references are to the Internal Revenue Code in effect during the

years in issue.    Rule references are to the Tax Court Rules of

Practice and Procedure.
                                   - 3 -


                              Discussion

A.   Estate of Spear v. Commissioner, T.C. Memo. 1993-213

     Jeanette and Leon Spear filed joint Federal income tax

returns for 1975, 1976, and 1977.      Respondent determined that

petitioners are liable for deficiencies in income tax and

additions to tax for fraud as follows:

                                           Additions to Tax
            Year      Deficiency             Sec. 6653(b)
            1975      $51,271.70             $25,635.85
            1976      157,706.46              78,853.23
            1977       93,536.23              46,768.12

     Using the net worth plus expenditures method, respondent

determined that petitioners had unreported income in 1975, 1976,

and 1977.

     Petitioner did not comply with an order of this Court to

testify at trial.    As a result, we sanctioned petitioners by

deeming that respondent made a prima facie showing of certain

facts alleged by respondent in paragraph 7 of the amended answer

(the deemed facts).    Estate of Spear v. Commissioner, T.C. Memo.

1993-213.    We upheld most of respondent's deficiency

determinations and held that petitioners were liable for the

additions to tax for fraud.

B.   Estate of Spear v. Commissioner, 41 F.3d 103 (3d Cir. 1994)

     Petitioners appealed our decision in docket No. 3276-87.

The Court of Appeals vacated our decision and remanded the case

with instructions that we decide it without treating respondent
                                - 4 -


as having made a prima facie showing as to the deemed facts.

Estate of Spear v. Commissioner, 41 F.3d at 117.

     The Court of Appeals said:

     there are many other places in the opinion that make it
     appear that the tax court found sufficient evidence of
     net worth and of fraud without relying on the deemed
     facts. Nonetheless, because we are unsure whether the
     court relied on these facts and shifted the burden of
     proof, and because the consequences to the taxpayers
     are so significant, we must assume that the court did
     rely on these facts. We will thus treat the sanction
     as one that essentially shifted the burden of proof
     (and production) on net worth and on fraud.

Id. at 108-109.

     The Court of Appeals limited its discussion of the record

mainly to the facts bearing on the sanctions issue.    Estate of

Spear v. Commissioner, 41 F.3d at 105.   The Court also said:

     The [tax] court may, of course, elect to retry the
     case. In that event, it might be well advised to rely
     upon Jeanette's videotaped deposition in lieu of her
     testimony, although perhaps her emotional state is now
     better. On the other hand, the court may simply prefer
     to decide the case on the basis of the existing record,
     but absent the "deeming" and its consequences which we
     have declared invalid.

Id. at 117.

     The Court of Appeals also said with respect to petitioner's

videotaped deposition that "it is difficult to see how anything

more would be forthcoming at a trial."   Id. at 116.   We agree.

Neither side has requested further trial.   We conclude that

further trial is unnecessary.
                                 - 5 -


C.   Whether: (1) The Absence of Deemed Facts, or (2) the
     Finding by the U.S. Court of Appeals for the Third Circuit
     Relating to Petitioner’s Deposition Alters Our Decision
     Relating to the Deficiencies or the Net Worth Method for
     1976 and 1977

     1. Deemed Facts

     We did not consider the deemed facts in our prior opinion

with respect to the deficiencies, the net worth method, or any

issue other than fraud.     Estate of Spear v. Commissioner, T.C.

Memo. 1993-213 (slip op. at 29-30, 33, 55-56).      Thus,

the decision of the Court of Appeals in Estate of Spear v.

Commissioner, supra, that we may not consider the deemed facts,

affects only our findings and conclusions relating to fraud.      We

decide the effect of that opinion on our fraud finding below at

paragraph D.

     2.     Jeanette Spear's Deposition

            a.   Net Worth Method

     Respondent used the net worth plus expenditures method to

determine that petitioners had unreported income in 1975, 1976,

and 1977.    As part of that determination, respondent concluded

that petitioners had no cash on hand on December 31, 1974.

     An essential condition in net worth cases is that the

Commissioner establish with reasonable certainty an opening net

worth to serve as a starting point from which to calculate future

increases in the taxpayer’s assets.       Holland v. United States,

348 U.S. 121, 132 (1954).    Although Holland is a criminal case,

it also applies to use of the net worth method in civil tax
                               - 6 -


cases.   See Hoffman v. Commissioner, 298 F.2d 784, 786 (3d Cir.

1962), affg. in part on this issue T.C. Memo. 1960-160.

     Where the Commissioner has determined a deficiency by using

the net worth method, we may adjust a determination of opening

net worth shown by the trial record to be unrealistic.     Hoffman

v. Commissioner, supra; Baumgardner v. Commissioner, 251 F.2d

311 (9th Cir. 1957), affg. T.C. Memo. 1956-112; Potson v.

Commissioner, 22 T.C. 912, 928-929 (1954), affd. sub nom.

Bodoglau v. Commissioner, 230 F.2d 336 (7th Cir. 1956).     Errors

in the net worth method do not invalidate the presumption of

correctness attaching to other aspects of the Commissioner’s

deficiency determination if the determination was not arbitrary.

Hoffman v. Commissioner, supra at 788.

     We may apply the Cohan rule (enunciated in Cohan v.

Commissioner, 39 F.2d 540, 543-544 (2d Cir. 1930)), if

appropriate, to decide the amount of cash on hand at the

beginning of the period to which the net worth method is applied.

Bodoglau v. Commissioner, 230 F.2d 336, 340-341 (7th Cir. 1956),

affg. Potson v. Commissioner, 22 T.C. 912 (1954).

     The Court of Appeals stated, "based on our viewing of the

deposition, we find Jeanette's testimony as to the $380,000 cash

hoard quite straightforward, and it seems to be credible."

Estate of Spear v. Commissioner, 41 F.3d at 114.    In response to

that finding, we have carefully reviewed petitioner's videotaped

deposition testimony and the entire record to enable us to
                               - 7 -


reconsider whether petitioners had any cash on hand on

December 31, 1974.

     Petitioner’s testimony gives two possible sources of

petitioners’ cash on hand on December 31, 1974.    One is a cash

hoard from 1957; the other is their parking lot business they

have conducted since 1956.

     Petitioner testified in the deposition that she and her

husband had a large cash hoard.   She testified that one night in

1957 her husband came home with a bag of money which he said his

father, Abe Spear, had given to him.   Petitioner's husband's

father died soon thereafter.   She did not remember whether the

bag was bigger or smaller than a grocery bag.    She said that she

helped him count the money, but he did most of the counting.    She

testified that the next night he came home with a second bag of

money.   She said that, combined, both bags contained “[A]bout 360

or 380 or 3 something, that was it.”   She said that in less than

1 year they put some of the money in a safety deposit box.     She

said she did not remember how long the rest of the money was in

their house.

     Another possible source of petitioners’ cash on hand on

December 31, 1974, based on petitioner’s deposition, is

petitioners’ parking lot and other businesses.    Petitioner

testified in her deposition that her husband, Leon Spear,

routinely handled cash and received cash from petitioners'

parking lot business, and used cash to pay for expenses such as
                                 - 8 -


parking lot maintenance and improvements.      Petitioners began to

operate parking lots in 1956.     Estate of Spear v. Commissioner,

T.C. Memo. 1993-213 (slip op. at 5).      Petitioner’s husband sold

used cars before that.    Id.   Petitioner testified that her

husband dealt extensively in cash in connection with the parking

lots.   We believe that petitioners accumulated cash from the

parking lot business and used it to conduct their business.

     Petitioner testified that she and her husband used cash from

the cash hoard for their parking lot business.      She said they

used a lot of the cash to develop and expand their parking lot at

8th and Race Streets.    She also said they used some of the cash

for the parking lot petitioners created after they bought and

demolished the Skipper Hotel and for the PennDOT lots that

petitioners acquired in 1973.    Petitioner also testified that

they bought a few properties between 1957 and 1970.

     Petitioner had no written records of how she and her husband

used the cash.   She testified that she only took money from, and

never put money into, the cash hoard.      She said that she had no

idea how much of the cash was left at the beginning of 1975, but

she said there was some money left.      She testified that a rough

guess was that the corporation owed petitioners a "couple of

hundred thousand dollars" in 1975.       She said the cash hoard was

pretty well down by 1977.

     The Court of Appeals limited its discussion of the record

primarily to the facts bearing on the sanctions issue.       Estate of
                                 - 9 -


Spear v. Commissioner, 41 F.3d at 105.       Thus, in evaluating

petitioner's testimony, we must also consider other evidence in

the record.

     Abe Spear borrowed $1,000 from one of his daughters in March

1954 to give to another daughter to help her with a downpayment

to buy a house.    Estate of Spear v. Commissioner, T.C. Memo.

1993-213 (slip op. at 7).    Abe Spear had about $26,000 in

mortgages on properties which were worth about $80,000 when he

died.   Id.   He paid some of his bills late and he died with some

of his deceased wife's jewelry in a pawn shop.       Estate of Spear

v. Commissioner, T.C. Memo. 1993-213 (slip op. at 37-38).       Abe

Spear named Leon Spear's brother and brother-in-law, not Leon

Spear, as executors of his will, which suggests that he did not

favor Leon Spear over them to the extent of making a secret

$380,000 cash gift to him as petitioners claim.       Estate of Spear

v. Commissioner, T.C. Memo. 1993-213 (slip op. at 37).       Leon

Spear filed exceptions to the accounting of his father's estate

alleging missing items.     Estate of Spear v. Commissioner, T.C.

Memo. 1993-213 (slip op. at 38).

     Petitioner testified that petitioners applied for a mortgage

and did not list cash as an asset.       Petitioners first claimed

that they had a cash hoard in January 1983, several years after

their first interview with respondent's agent in 1977.       Estate of

Spear v. Commissioner, T.C. Memo. 1993-213 (slip op. at 39).

Petitioners claim that they did not deposit the cash in banks
                             - 10 -


because they distrusted banks; however, they used banks

extensively.   Id. at 39.

     Giving appropriate weight to the finding of the Court of

Appeals that petitioner’s testimony relating to the cash hoard

was quite straightforward and appeared to be credible, 41 F.3d at

114, and the entire record, we conclude that petitioners used a

considerable amount of cash throughout the years before 1975 to

operate their business, and that they had a significant amount of

cash on hand on December 31, 1974.    We think the parking lots and

petitioners' other businesses provided a likely source of a

significant amount of cash on hand on December 31, 1974.   Based

on the foregoing discussion, and the entire record, we find

that petitioners had $200,000 cash on hand on December 31, 1974.

However, the lack of records showing the amount of petitioners’

cash on hand, the evidence in the record suggesting that Abe

Spear was not wealthy, the fact that Abe Spear chose one of Leon

Spear's brothers to be the executor of his will, and the fact

that Leon Spear contested his father's will lead us to conclude

that petitioners did not receive $380,000 in cash from Abe Spear

in 1957.

     Petitioners argue that some of the money they received from

their corporations during the years at issue are repayments of

loans they made to the corporations before the years at issue.

Petitioner testified in her deposition in this case that the

loans existed; however, she testified in an earlier deposition in
                               - 11 -


petitioners’ lawsuit against their accountant, Gil Brown, that

she did not recall any specific incidents of lending money to the

corporation.    Estate of Spear v. Commissioner, T.C. Memo. 1993-

213 (slip op. at 41).   Petitioners had no documents which

corroborate their contention that the loans were made; there are

no notes evidencing the loans or records of payments on the

loans; the loans were not shown in the books and records of

petitioners’ corporations; and there is no evidence that

collateral was requested or interest was charged.    Estate of

Spear v. Commissioner, T.C. Memo. 1993-213 (slip op. at 40-42).

     To show that funds received were loan repayments,

petitioners must show that the loans were bona fide.   This

depends on all the facts and circumstances; generally no one fact

is determinative.    John Kelley Co. v. Commissioner, 326 U.S. 521,

530 (1946).    Petitioner did not testify that petitioners intended

their expenses for their parking lots to be loans.   There is no

evidence that there were any fixed maturity dates for repayment

of the money petitioners gave to the corporations.   Considering

petitioner’s testimony and the entire record, we continue to

conclude that petitioners did not make bona fide loans to their

corporations.

     We do not conclude that our finding that petitioners had

$200,000 in cash on December 31, 1974, means that respondent’s

determination of petitioners’ opening net worth failed to be made

with the requisite “reasonable certainty”.    Holland v. United
                               - 12 -


States, 348 U.S. 121, 132 (1954).    The Commissioner’s use of the

net worth method may be valid even though the Commissioner did

not properly recognize the taxpayer’s opening net worth, so long

as the determination was not arbitrary.    Hoffman v. Commissioner,

298 F.2d 784, 786 (3d Cir. 1962); Baumgardner v. Commissioner,

251 F.2d 311 (9th Cir. 1957); Bodoglau v. Commissioner, 230 F.2d

336 (7th Cir. 1956).    Respondent was not arbitrary in applying

the net worth plus expenditures method here.

D.   Whether Petitioners are Liable for Fraud Without
     Consideration of the Deemed Facts

     In our prior opinion, we considered the deemed facts and the

entire record in holding that respondent clearly and convincingly

proved that petitioners are liable for the addition to tax for

fraud under section 6653(b) for 1975, 1976, and 1977.    Estate of

Spear v. Commissioner, T.C. Memo. 1993-213 (slip. op. at 55-56).

The mandate of the Court of Appeals instructs us not to treat

respondent as having made a prima facie showing with respect to

the deemed facts as a sanction for petitioner's failure to

testify at trial.    This changes our analysis significantly.   We

no longer find as facts the allegations in subparagraphs k, l, o,

p, r, s, t, u, v, w, y, aa, ab, ac, ad, and ae of paragraph 7 of

respondent's amended answer because they are not adequately

supported by the record.1   Assertions in the



     1
         Paragraphs k, l, o, p, r, s, t, u, v, w, y, aa, ab, ac,
                                                     (continued...)
                                - 13 -




(...continued)
ad, and ae of paragraph 7 of respondent's amended answer provide:

          (k) Petitioners refused to make available to
     agents of the respondent any records concerning their
     individual income tax liabilities for the taxable years
     1975, 1976 or 1977.

          (l) Petitioners furnished only incomplete records
     of their corporations Ezy Parks, Inc., Tumble Down,
     Inc. and Ezy Parks II, Inc. to agents of the respondent
     for the taxable years 1975, 1976 and 1977.

                    *   *   *     *      *   *   *

          (o) Petitioners did not have available on
     December 31, 1974 any cash on hand which was not
     deposited in one of petitioners' bank accounts.

          (p) There is attached hereto as Exhibit A, which
     is incorporated herein by reference and made a part
     hereof, a statement summarizing petitioners [sic] net
     worth increases and non-deductible expenditures for
     each of the taxable years 1975, 1976 and 1977.

                    *   *   *     *      *   *   *

          (r) Petitioners owned all of the stock and
     completely controlled Jay Faunce, Inc.

          (s) Jay Faunce, Inc. did not actively conduct any
     business activities at any time.

          (t) The sole function of Jay Faunce, Inc. was to
     acquire and hold title to real estate properties
     acquired by petitioners with unreported income.

          (u) Petitioners used unreported income to acquire
     eight real estate properties in their names or the name
     of a wholly owned nominee corporation.

          (v) During the taxable years 1976 and 1977,
     petitioners acquired at least six real estate
     properties which they concealed by holding title for
     these properties in the name of their nominee
     corporation Jay Faunce, Inc.
                                                   (continued...)
                                - 14 -


other subparagraphs in paragraph seven are amply supported by the

record,2


(...continued)
          (w) Petitioners deposited unreported income into
     34 bank accounts in twelve different banks during the
     taxable years 1975, 1976 and 1977.

                    *   *   *     *      *   *   *

          (y) Petitioners' adjusted gross income as
     determined by petitioners' net worth increases and non-
     deductible expenses was $127,762.80 for 1975,
     $322,213.21 for 1976, and $211,173.54 for 1977.
          (aa) Petitioners' correct taxable income was
     $121,494.80 for 1975, $314,232.21 for 1976, and
     $206,568.44 for 1977.

          (ab) Petitioners with fraudulent intent to evade
     tax substantially understated their income for the
     taxable years 1975, 1976 and 1977.

          (ac) Petitioners fraudulently with intent to
     evade tax failed to report $93,071.80 of taxable income
     for 1975, $276,309.21 of taxable income for 1976, and
     $148,035.54 of taxable income for 1977.

          (ad) Petitioners fraudulently with intent to
     evade tax understated their tax liabilities by
     $51,271.70 on their 1975 income tax return, by
     $157,706.46 on their 1976 income tax return, and by
     $93,536.23 on their 1977 income tax return.

          (ae) A part of the underpayment of tax required
     to be shown on the petitioners [sic] income tax returns
     for their 1975, 1976 and 1977 taxable years is due to
     fraud.
     2
       The following subparagraphs of paragraph seven are
supported by the record and the findings of fact in our prior
opinion:

          (a) Petitioners Leon Spear and Jeanette Spear
     were married individuals during the years 1975, 1976
     and 1977.
                                                   (continued...)
                           - 15 -




2
 (...continued)
     (b) During the years 1975, 1976 and 1977,
petitioners owned and controlled two corporations known
as Ezy Parks, Inc. and Tumble Down, Inc.

     (c) Ezy Parks, Inc. was incorporated in
Pennsylvania on December 26, 1956 and at all times was
wholly owned and controlled by petitioners.

     (d) Tumble Down, Inc. was incorporated in
Pennsylvania on December 18, 1958 and was at all times
wholly owned and controlled by petitioners.

     (e) During the years 1975, 1976 and 1977, Ezy
Parks, Inc. and Tumble Down, Inc. each leased numerous
parking lots which they in turn operated and managed
[in] a business whereby cash fees were received from
customers who parked their cars on the parking lots
operated by Ezy Parks, Inc. and Tumble Down, Inc.

     (f) Ezy Parks II, Inc. was incorporated on
November 13, 1975 in Pennsylvania and was at all times
wholly owned and controlled by petitioners.

      (g) Ezy Parks II, Inc. was also engaged in the
operation and management of parking lots and received
cash fees from customers who parked their cars on these
lots.

     (h) Petitioner Leon Spear supervised and managed
the operations of Ezy Parks, Inc., Tumble Down, Inc.
and Ezy Parks II, Inc. during the taxable years 1975,
1976 and 1977.

     (i) The parking lots operated and managed by
petitioners through their wholly owned corporations
were businesses in which receipts from customers were
predominantly in cash.

     (j) Petitioner Jeannette Spear maintained the
business records and handled the banking transactions
for Ezy Parks, Inc, Tumble Down, Inc. and Ezy Parks II,
Inc. during the taxable years 1975, 1976 and 1977.

               *   *   *     *      *   *   *

                                                (continued...)
                                 - 16 -


and thus, the Court of Appeals' instruction concerning the

treatment of the deemed facts does not affect our analysis to

that extent.

     In our prior opinion, several badges of fraud were present.

Estate of Spear v. Commissioner, T.C. Memo. 1993-213 (slip. op.

at 58-61).   We now conclude that the badges of fraud without the

deemed facts enumerated in supra note 2, do not clearly and

convincingly establish petitioners' fraudulent intent.




     2
      (...continued)
           (m) The three corporations, Ezy Parks, Inc.,
     Tumble Down, Inc. and Ezy Parks II, Inc. which were
     owned and operated by petitioners generated substantial
     cash receipts for each of the years 1975, 1976 and
     1977.

          (n) The respondent has determined the petitioners
     [sic] correct taxable income for the taxable years
     1975, 1976 and 1977 on the basis of petitioners [sic]
     net worth increases and non-deductible expenditures
     during each of the years 1975, 1976 and 1977.

                     *   *   *     *      *   *   *

          (q) On April 7, 1976, petitioners incorporated an
     entity known as Jay Faunce, Inc.

                     *   *   *     *      *   *   *

           (x) Petitioners made investments and expenditures
     far in excess of the amounts of income they reported on
     their tax returns for the taxable years 1975, 1976 and
     1977.

          (z) Petitioners reported on their respective
     income tax returns adjusted gross income of only
     $35,902.00 for 1975, $45,893.00 for 1976, and
     $206,568.44 for 1977.
                                - 17 -


     1.   Implausible or Inconsistent Explanations of Behavior

     In finding that petitioner’s explanations were implausible

or inconsistent, we stated that petitioner’s testimony about the

cash hoard was not believable.    Estate of Spear v. Commissioner,

T.C. Memo. 1993-213 (slip op. at 59).     The Court of Appeals

found her testimony to be quite straightforward and to appear to

be credible, Estate of Spear v. Commissioner, 41 F.3d at 11, and

we have modified our earlier findings to what we believe is an

appropriate extent based on her testimony, especially relating to

petitioners’ dealing in cash before 1974. We conclude that this

badge of fraud is no longer present.

     2.   Large Understatements of Income

     The discrepancies between petitioners' actual net income and

the income they reported is reduced to the extent of their cash

on hand on December 31, 1974.    This badge of fraud is less

compelling than before.
                                 - 18 -


     3.     Inadequate Records

     4.     Failure to Supply Complete Information to Return
            Preparer

      These two badges are not affected by removal of the deemed

facts from our consideration.

     5.     Diversion of Corporate Funds

     6.     Dealings In Cash

     Petitioner testified that her husband dealt extensively in

cash as a matter of course in conducting their parking lot

business.    These two badges of fraud are less compelling without

the deemed facts.

     We conclude that without the deemed facts that are not

otherwise supported by the record, and based on our reevaluation

of petitioner's testimony and the entire record, fraud has not

been proven by clear and convincing evidence.     We hold that

petitioners are not liable for the addition to tax for fraud

under section 6653(b) for 1975, 1976, and 1977.

E.   Statute of Limitations

     1.     Background

     Petitioners timely filed joint Federal income tax returns

for 1975, 1976, and 1977.      Petitioners reported gross income of

$48,893 for 1976 and $70,708 for 1977.     Twenty-five percent of

those amounts are $12,223 for 1976 and $17,677 for 1977.

     More than 3 but less than 6 years after petitioners' returns

for 1976 and 1977 were due to be filed, petitioners signed Forms
                                     - 19 -


872 (Consent To Extend Time To Assess Tax) for 1976 and 1977

which extended the time to assess tax to December 31, 1986.

Petitioners did not consent to extend the time to assess tax for

1975.     Respondent mailed a notice of deficiency for 1975, 1976,

and 1977 on December 23, 1986.         That date was more than 6 years

after petitioners filed their 1975 return.

     Generally, the Commissioner must assess tax within 3 years

after the due date of a timely filed return.         Sec. 6501(a).

Respondent bears the burden of proving that an exception to the

3-year limit on the time to assess tax applies if, as here, the

notice of deficiency was mailed more than 3 years after the

filing date.         Farmers Feed Co. v. Commissioner, 10 B.T.A. 1069

(1928).

        2.      Statute of Limitations for 1975

        Respondent contends that no limit on the time to assess tax

applies for 1975 because respondent proved fraud.         Sec.

6501(c)(1).          Respondent does not argue that any exception other

than fraud under section 6501(c)(1) applies to 1975.         We have

concluded that respondent did not prove fraud for 1975, 1976, or

1977.        See par. D, above.   Thus, assessment of the deficiency and

addition to tax for 1975 is barred by the statute of limitations.

                a.     Statute of Limitations for 1976 and 1977

        Respondent contends that assessment and collection for 1976

and 1977 are timely because petitioners omitted a substantial
                              - 20 -


amount of income.   Sec. 6501(e)(1)(A).   Section 6501(e)(1)(A)

provides in part:

     If the taxpayer omits from gross income an amount
     properly includible therein which is in excess of 25
     percent of the amount of gross income stated in the
     return, the tax may be assessed, or a proceeding in
     court for the collection of such tax may be begun
     without assessment, at any time within 6 years after
     the return was filed. * * *

     Respondent bears the burden of proving that the 6-year limit

on the time to assess tax applies.     Reis v. Commissioner, 1 T.C.

9, 13-14 (1942), affd. 142 F.2d 900 (6th Cir. 1944).

          b.   Six-Year Requirement

      Less than 6 years after the due date for petitioner's 1976

and 1977 returns, petitioners signed Forms 872 to extend the time

to assess tax to December 31, 1986.    Respondent issued the notice

of deficiency on December 23, 1986.    Petitioners concede that

respondent issued the notice of deficiency in time to qualify

under section 6501(e)(1)(A) if more than 25 percent of gross

income was omitted from each return.

          c.   Twenty-Five Percent Omission From Gross Income

     Respondent must prove that petitioners omitted more than 25

percent of gross income from their 1976 and 1977 returns.    Sec.

6501(e)(1)(A); Romine v. Commissioner, 25 T.C. 859, 871 (1956).

     Petitioners contend that respondent does not meet the 25

percent requirement.   Petitioners contend that respondent may not

rely on the general presumption of correctness of a deficiency

notice to meet this burden, and that the mere existence of bank
                              - 21 -


deposits does not establish that the deposits were taxable.     Reis

v. Commissioner, supra; Kavoosi v. Commissioner, T.C. Memo. 1986-

190; Easton v. Commissioner, a Memorandum Opinion of this Court

dated February 5, 1943; see also Hurley v. Commissioner, 22 T.C.

1256, 1264-1265 (1954), affd. 233 F.2d 177 (6th Cir. 1956).

     We said above at par. A that respondent may use the net

worth method in this case.   If we find that the net worth method

shows that petitioners omitted more than 25 percent from gross

income, then respondent has met the burden of proving that

section 6501(e)(1)(A) applies.    See, e.g., Courtney v.

Commissioner, 28 T.C. 658, 668-669 (1957); Harris v.

Commissioner, T.C. Memo. 1977-222; Micciche v. Commissioner, T.C.

Memo. 1966-138; Bynum v. Commissioner, T.C. Memo. 1958-19; Smith

v. Commissioner, T.C. Memo. 1957-171; Boatsman v. Commissioner,

T.C. Memo. 1957-93; Estate of Williams v. Commissioner, T.C.

Memo. 1955-321.   Respondent did so here.   Petitioners reported

gross income of $48,893 for 1976 and $70,708 for 1977.     Twenty

five percent of those amounts is $12,223 for 1976 and $17,677 for

1977.   Petitioners failed to report more than these amounts for

1976 and 1977.

     Petitioners argue that respondent may not establish that

they omitted 25 percent of their gross income by the net worth

method because it is arbitrary.   Petitioners contend that

respondent omitted cash on hand and loans receivable, and did not

show that petitioners had a likely taxable source of income or
                             - 22 -


negate all nontaxable sources of income.    We decided this issue

in our prior opinion without using the deemed facts.    We now find

that petitioners had $200,000 cash on hand on December 31, 1974.

We adjust the net worth analysis to account for that fact.

Hoffman v. Commissioner, 298 F.2d 784, 786 (3d Cir. 1962),

affg. in part on this issue T.C. Memo. 1960-160; Baumgardner

v. Commissioner, 251 F.2d 311 (9th Cir. 1957); Bodoglau v.

Commissioner, 230 F.2d 336 (7th Cir. 1956); Potson v.

Commissioner, 22 T.C. 912, 928-929 (1954).    Thus, respondent

is barred from assessing tax for 1975, but is not barred from

assessing tax for 1976 and 1977.

     To reflect the foregoing,


                                           Decision will be entered

                                   under Rule 155.
