                               T.C. Memo. 2019-61



                        UNITED STATES TAX COURT



    JOHN E. ROGERS AND FRANCES L. ROGERS, ET AL.,1 Petitioners v.
         COMMISSIONER OF INTERNAL REVENUE, Respondent



      Docket Nos. 30586-09, 1052-12,             Filed May 30, 2019.
                  15682-13, 30482-13,
                  20910-14.



      John E. Rogers, for petitioners.

      Craig Connell, Bernard J. Audet, Jr., Thomas A. Deamus, Frederick Petrino,

Mayah Solh-Cade, and Briseyda Villalpando, for respondent in docket Nos.

30586-09, 1052-12, 15682-13, 30482-13, and 20910-14.

      Elizabeth A. Carlson and Mayer Y. Silber, for respondent in docket No.

20910-14.


      1
      The following cases are consolidated herewith: John E. Rogers and
Frances L. Rogers, docket Nos. 1052-12, 15682-13, and 30482-13; and Frances L.
Rogers, docket No. 20910-14.
                                        -2-

[*2]        MEMORANDUM FINDINGS OF FACT AND OPINION


       GOEKE, Judge: On April 17, 2018, the Court issued an opinion in these

consolidated cases, Rogers v. Commissioner (Rogers 2018), T.C. Memo. 2018-53,

redetermining tax liabilities. We held Mr. Rogers not liable for a civil fraud

penalty for 2006 and reserved for subsequent disposition petitioners’ liability for

accuracy-related penalties under sections 6662(a) and (h) and 6662A2 for 2005

through 2007 and 2009.

       On December 27, 2017, the Court ordered respondent to address the effect

of section 6751(b) on these cases and to advise us of any supervisory approvals

that were in the record, on the basis of our decision in Graev v. Commissioner

(Graev III), 149 T.C. 485 (2017), supplementing and overruling in part 147 T.C.

460 (2016). We also set a deadline for the parties to file any motions addressing

the application of section 6751(b). In response, petitioners filed a motion for

partial summary judgment as to the penalties, and respondent filed a motion to

reopen the record to offer evidence of section 6751(b) compliance. The Court




       2
       Unless otherwise indicated, all section references are to the Internal
Revenue Code (Code) in effect at all relevant times, and all Rule references are to
the Tax Court Rules of Practice and Procedure.
                                         -3-

[*3] denied petitioners’ motion and granted respondent’s motion, and

supplemental trial was held.

      The issues for consideration are: (1) whether petitioner Frances Rogers can

challenge respondent’s noncompliance with section 6751(b) in her claim for relief

from joint and several liability under section 6015 (innocent spouse relief); we

hold she may not; and (2) whether petitioners are liable for accuracy-related

penalties under sections 6662(a) and (h) and 6662A; we hold them liable to the

extent stated herein.

                               FINDINGS OF FACT

      We made findings of fact in Rogers 2018 relevant for purposes of

determining petitioners’ liability for the penalties at issue except with respect to

respondent’s section 6751(b) compliance.3 We briefly summarize them here for

context. Mr. Rogers is an attorney and a certified public accountant (C.P.A.) with

over 30 years of experience as a tax professional. During 2005 through 2008 he

was a partner at a major international law firm and implemented a sophisticated

tax shelter using distressed asset transactions (DAT). Mrs. Rogers is also highly

educated. She is a retired teacher and principal. She has master’s and law

      3
        Some of the facts have been stipulated and are so found. The stipulation of
facts and the supplemental stipulations of facts, with the accompanying exhibits,
are incorporated herein.
                                         -4-

[*4] degrees. She took an active role in petitioners’ real estate activities and Mr.

Rogers’ law firm during 2009 when Mr. Rogers was hospitalized for a prolonged

period.

      Petitioners litigated their tax liability for 2003, and we held them liable for

tax and a section 6662(a) accuracy-related penalty, which they paid. Rogers v.

Commissioner, T.C. Memo. 2011-277, aff’d, 728 F.3d 673 (7th Cir. 2013). Mrs.

Rogers sought a refund of the 2003 payments in a claim for innocent spouse relief.

We held that the doctrine of res judicata bars Mrs. Rogers’ claim for innocent

spouse relief because she meaningfully participated in the litigation over 2003 and

she is not otherwise entitled to equitable relief. Rogers 2018, at *98-*100.

Petitioners also owed and paid tax and penalties for 2003 resulting from the

decision in a partnership-level case, Superior Trading, LLC v. Commissioner, 137

T.C. 70 (2011), supplemented by T.C. Memo. 2012-110, aff’d, 728 F.3d 676 (7th

Cir. 2013). Respondent assessed the resulting penalties related to the partnership

item adjustments against petitioners through a computational adjustment, which

petitioners paid.

      For 2005 and 2006 we disallowed deductions relating to trusts that Mrs.

Rogers’ wholly owned S corporation Sterling Ridge, Inc. (SRI), and Mr. Rogers,

respectively, used to invest in a tax shelter involving DAT (DAT adjustments)
                                         -5-

[*5] described in Kenna Trading, LLC v. Commissioner, 143 T.C. 322, 364-372

(2014), aff’d sub num. Sugarloaf Fund, LLC v. Commissioner, 911 F.3d 854 (7th

Cir. 2018). The Court found that the tax shelter investors’ adjusted bases in the

distressed assets were zero. Id. at 364-365. For 2005 SRI claimed a DAT

deduction that overstated its basis in the distressed assets by approximately 30

times; for 2006 Mr. Rogers claimed a deduction of approximately 50 times his

basis. In Rogers 2018 we also held that petitioners failed to report income

generally relating to Mr. Rogers’ promotion and implementation of the DAT tax

shelter that he received as trustee’s fees or deposits into the bank account of

Portfolio Properties, Inc. (PPI). We also disallowed business expense deductions

related to Mr. Rogers’ tax shelter promotion activities.

      With respect to SRI, we held that Mrs. Rogers’ transfer of real estate to SRI

in 2004 was properly characterized as a capital contribution rather than a sale as

reported for tax purposes. As a result, SRI overstated its basis in the subdivided

residential lots of the real estate, underreported its income on sales of the lots for

2005 and 2006, and claimed excessive amounts as cost of goods sold (COGS) for

2005 and 2006.

      We also disallowed a substantial amount of business expense deductions on

petitioners’ Schedules C, Profit or Loss From Business, and the S corporation
                                         -6-

[*6] returns for SRI, PPI, and Lucas & Rogers, Inc. (L&R). Petitioners failed to

substantiate the amount or business purpose of a significant portion of the

expenses. They deducted large amounts of their own and their adult son’s

personal living expenses (often deducting 100% of the expenses incurred)

including alarm services, utilities, insurance, taxes, landscaping, repairs on their

residences, automobile expenses, interest charges on credit cards, club dues,

travel, car rental, and meals. They failed to maintain contemporaneous logs of

their travel expenses. They improperly deducted reimbursable travel expenses

related to Mr. Rogers’ employment and travel expenses for Mrs. Rogers to

accompany her husband. The excessive amounts of claimed deductions resulted in

petitioners’ reporting insignificant amounts and even negative taxable income for

2005 through 2008 despite Mr. Rogers’ substantial compensation as an attorney.

For 2005 and 2006 PPI deducted over $3.4 million in business expenses;

excluding amounts conceded by respondent, over 85% of the amounts claimed

were disallowed. Petitioners used PPI to pay the expenses relating to Mr. Rogers’

tax promotion activities and an unrelated failing business that Mr. Rogers partially

owned and whose expenses they improperly deducted.

      Petitioners presented voluminous records of their expenses including

QuickBooks records, canceled checks, credit card statements, and in some cases
                                       -7-

[*7] receipts and invoices. The records were disorganized, included many

duplicates, and often did not reconcile with each other or with the amounts

deducted. For some expenses petitioners did not provide any records. They used

their credit cards for personal and business reasons, did not maintain adequate

records to distinguish the expenses as personal or business, and deducted the

entire amount of the interest charges. They often intermingled the finances of

their businesses and reported inconsistent tax treatment of transactions between

their businesses, e.g., one company deducted a payment but the recipient did not

report the income.

A.    2005 Tax Year Penalties

      The 2005 tax year involved audits of petitioners’ joint return and returns for

three S corporations: L&R, SRI, and PPI. Three revenue agents examined the

returns: (1) Revenue Agent Susan White (RA White), L&R; (2) Revenue Agent

Ann Pappas (RA Pappas), SRI; and (3) Revenue Agent Raymond Tabor (RA

Tabor), the Rogerses and PPI. RA Tabor prepared a revenue agent’s report that

included RA White’s and RA Pappas’ determinations. Louis M. Olivieri was each

revenue agent’s acting immediate supervisor.
                                       -8-

[*8] 1.     Penalties Determined in Notice of Deficiency

      For L&R, RA White disallowed certain business expense deductions (L&R

adjustments) and proposed to impose a section 6662(a) underpayment penalty.

She prepared a penalty consideration form with attached workpapers asserting

penalties for negligence under section 6662(b)(1), a substantial understatement of

income tax under section 6662(b)(2), and a substantial valuation misstatement

under section 6662(b)(3). On August 9, 2009, Mr. Olivieri signed the penalty

consideration form approving the penalties proposed by RA White.

      For SRI, RA Pappas disallowed SRI’s DAT deduction and certain business

expense deductions (2005 SRI adjustments). She proposed to impose

underpayment penalties under section 6662(h), the gross valuation misstatement

penalty, for the DAT adjustment and section 6662(a) for negligence, a substantial

understatement of income tax, and a substantial valuation misstatement for the

2005 SRI adjustments. She prepared a penalty consideration form with attached

workpapers asserting these penalties. On August 28, 2009, Mr. Olivieri signed the

penalty consideration form approving the penalties proposed by RA Pappas.

      RA Tabor determined that PPI had unreported income, disallowed

numerous business expense deductions on petitioners’ Schedules C and PPI’s S

corporation return (2005 other adjustments), and proposed to impose a section
                                        -9-

[*9] 6662(a) underpayment penalty for a substantial understatement of income tax.

On or before August 28, 2009, he prepared a revenue agent’s report that included

RA White’s and RA Pappas’ proposed determinations. However, the revenue

agent’s report did not provide the specific subsections for the section 6662

penalties that RA White and RA Pappas proposed. In his workpapers, RA Tabors

listed “section 6662” penalties of $907,260; that amount included a section

6662(h) 40% penalty for the DAT adjustment proposed by RA Pappas and a

section 6662(a) 20% penalty for the L&R adjustments proposed by RA White and

the 2005 SRI adjustment proposed by RA Pappas. Worksheets attached to the

revenue agent’s report contained omissions and errors with respect to the specifics

of RA White’s and RA Pappas’ proposed penalties that raise questions concerning

the approval process.4 We find these errors immaterial as Mr. Olivieri separately

approved RA White’s and RA Pappas’ proposed penalties when he executed their

penalty consideration forms.




      4
       In his revenue agent’s report, RA Tabor also mislabeled the sec. 6662(h)
40% penalty attributable to the DAT adjustment as sec. 6662(b). He mistakenly
indicated that the sec. 6662(a) penalties for the adjustments related to L&R and
SRI were under sec. 6662(c), defining negligence, contrary to RA White’s and RA
Pappas’ proposed sec. 6662(a) penalties for negligence, a substantial
understatement of income tax, and a substantial valuation misstatement.
                                       - 10 -

[*10] On or before August 28, 2009, RA Tabor prepared Form 3198, Special

Handling Notice for Examination Case Processing, also asserting section 6662

penalties of $907,260. Form 3198 labels all penalties as “section 6662” without

specifying the applicable subsections. On August 28, 2009, Mr. Olivieri signed

the revenue agent’s report and Form 3198 approving the penalties that RA Tabor

proposed attributable to the unreported income and the 2005 other adjustments.5

      Attorney Craig Connell reviewed a proposed notice of deficiency and

recommended adding a section 6662A penalty for a reportable transaction

attributable to SRI’s DAT adjustment. The parties stipulated that he made the

initial determination to assert the section 6662A penalty. During the period of his

review through the litigation of these consolidated cases, Associate Area Counsel

Julia Cannarozzi (AAC Cannarozzi) was his immediate supervisor. On September

28 and 29, 2009, AAC Cannarozzi sent several emails to an employee of the

Internal Revenue Service (IRS) Technical Services Unit. The parties stipulated

that the emails approved Attorney Connell’s determination of the section 6662A

penalty.

      5
       As we find that Mr. Olivieri approved the penalties that RA White and RA
Pappas proposed when he signed their respective penalty consideration forms, we
do not consider whether Mr. Olivieri’s execution of the revenue agent’s report and
RA Tabor’s penalty consideration form would also constitute approval for those
penalties.
                                       - 11 -

[*11] On September 30, 2009, respondent timely issued a notice of deficiency

determining penalties as follows: (1) for SRI’s DAT adjustment under sections

6662(h) and 6662A and, alternatively, under section 6662(a) for negligence, a

substantial understatement of income tax, and a substantial valuation

misstatement; (2) for the 2005 SRI adjustments, negligence, a substantial

understatement of income tax, and a substantial valuation misstatement; (3) for the

L&R adjustment, negligence, a substantial understatement of income tax, and a

substantial valuation misstatement; and (4) for PPI’s unreported income and

petitioners’ 2005 other adjustments, negligence, a substantial understatement of

income tax, and a substantial valuation misstatement.

      2.     Penalty Asserted in Pleadings

      In an amendment to the answer, respondent asserted for the first time an

adjustment to SRI’s COGS on the basis of a recharacterization of the land transfer

as a capital contribution and a section 6662(a) penalty on the resulting

underpayment. Attorney Frederick Petrino, a member of respondent’s trial team in

these consolidated cases, drafted the amendment to the answer and the

accompanying motion for leave to file the amendment to the answer. AAC

Cannarozzi was his immediate supervisor. She was also Attorney Connell’s

supervisor. On July 15, 2015, Attorney Petrino signed a draft of the amendment to
                                       - 12 -

[*12] the answer, and AAC Cannarozzi initialed and dated the draft approving the

penalty. On that same date, respondent filed the motion and lodged the

amendment to the answer with Attorney Connell’s digital signature. On August

11, 2015, the Court granted respondent’s motion and filed the amendment to the

answer. Attorney Petrino’s draft of the amendment to the answer was

substantially similar to the version lodged with the Court.

B.    2006 Tax Year Penalties

      1.     Penalties Determined in Notice of Deficiency

      RA Tabor examined the 2006 returns, assisted by other agents and

employees. Mr. Olivieri was RA Tabor’s acting immediate supervisor. On March

22, 2013, RA Tabor prepared a revenue agent’s report determining unreported

income and disallowing a DAT deduction, certain business expense deductions

(2006 other adjustments), and SRI’s COGS (COGS adjustment). The report

addressed both petitioners. RA Tabor found that petitioners acted fraudulently in

their failure to report income. The revenue agent’s report proposed a fraud penalty

of $949,014 on the underpayment attributable to the unreported income and a

section 6662 penalty of $725,718 which included a 40% section 6662(h) penalty

for the DAT adjustment and a 20% section 6662(a) accuracy-related penalty for

the balance of the underpayment. RA Tabor allocated the penalties in this manner
                                       - 13 -

[*13] because the computer program used to prepare the report allowed for the

computation of only one penalty for each adjustment. However, he did not

determine that petitioners had established that any portion of the underpayment

was not attributable to fraud.

      Around April 11, 2013, RA Tabor prepared a penalty consideration form

asserting fraud and, alternatively, negligence against petitioners. The form does

not provide the amounts of the proposed penalties or limit the fraud or negligence

penalty to a specific portion of the underpayment. Around that same date, he also

prepared Form 3198, asserting a fraud penalty of $949,014 and a section 6662

penalty of $725,718, the same amounts listed in the revenue agent’s report.

      We find that RA Tabor proposed the negligence penalty, as an alternative to

a fraud penalty, on the unreported income, and he proposed the section 6662(h)

penalty on the DAT adjustment and the negligence penalty on the COGS and 2006

other adjustments as primary or alternative penalties. For disposition of these

cases it not necessary to determine whether RA Tabor proposed these later

penalties as primary penalties or as an alternative to the fraud penalty. On April

11 and 12, 2013, Liza F. Valdez, his acting immediate supervisor, signed Form

3198 and the penalty consideration form, respectively, approving the penalties

with respect to both petitioners.
                                       - 14 -

[*14] Attorney Connell reviewed a proposed notice of deficiency determining the

above penalties to be issued to both petitioners. He recommended in a

memorandum to the IRS Technical Services Unit (technical services memo) dated

April 26, 2013, issuing a separate notice of deficiency to each petitioner and

asserting the fraud penalty only against Mr. Rogers. He also proposed to impose a

section 6662A penalty against both petitioners with respect to the DAT

adjustment. AAC Cannarozzi was his immediate supervisor during his review of

the proposed notice of deficiency and the litigation of these consolidated cases.

On April 26, 2013, before issuance of the notices of deficiency, she initialed a

copy of the technical services memo approving the section 6662A penalty against

each petitioner.

      On April 26, 2013, respondent timely issued a notice of deficiency to Mr.

Rogers determining a section 6663 fraud penalty on the entire underpayment and

alternatively penalties under sections 6662(h) and 6662A on the DAT adjustment

and a section 6662(a) accuracy-related penalty for negligence, a substantial

understatement of income tax, and a substantial valuation misstatement on the

COGS and 2006 other adjustments or alternatively on the entire underpayment.

Thus, Mr. Rogers’ notice of deficiency determined the negligence penalty against

all adjustments as either the primary or the alternative penalty. On the same date
                                        - 15 -

[*15] respondent timely issued a notice of deficiency to Mrs. Rogers determining

penalties under sections 6662(h) and 6662A for the DAT adjustment and section

6662(a) for negligence, a substantial understatement of income tax, and a

substantial valuation misstatement for the COGS and 2006 other adjustments or

alternatively on the entire underpayment.

      At issue for 2006 against both petitioners are the negligence penalty and the

section 6662(h) gross valuation misstatement penalty. Respondent concedes that

he did not obtain the required approval for a penalty for a substantial

understatement of income tax for either petitioner. He argues that approval of the

section 6662(h) gross valuation misstatement penalty by definition constitutes

approval for the lesser section 6662(a) penalty for a substantial valuation

misstatement. As we find petitioners liable for the gross valuation misstatement

and negligence penalties, we do not address this argument.

      2.     Penalties Asserted in Pleadings

      In the notices of deficiency, respondent disallowed SRI’s COGS adjustment

on the basis of a lack of substantiation and determined a section 6662(a) penalty

on the resulting underpayment. The notices of deficiency did not challenge the tax

treatment of Mrs. Rogers’ 2004 land transfer to SRI as a sale and did not assert

that the transfer was a capital contribution. Attorney Petrino drafted an
                                        - 16 -

[*16] amendment to the answer to the amendment to the petition (amendment to

the answer) and a related motion for leave to file alleging that the transfer was a

capital contribution and adjusting SRI’s COGS on the resale of the subdivided

lots. He signed drafts of the documents. However, Attorney Connell digitally

signed the amendment to the answer and the motion ultimately lodged with the

Court. On July 15, 2015, before its lodging, their supervisor, AAC Cannarozzi,

initialed the draft of the amendment to the answer. The draft was substantially

similar to the version lodged with the Court.

C.    2007 Tax Year Penalty

      Revenue Agent Rick L. Chiaculas (RA Chiaculas) examined petitioners’

2007 joint return and proposed to impose a section 6662(a) underpayment penalty

for a substantial understatement of income tax. He prepared a penalty

consideration form and a substantial understatement lead sheet asserting the

penalty. On October 6, 2011, Robert Smetana, his immediate supervisor, signed

the penalty consideration form approving the penalty.6 He did not sign the lead

sheet. On October 14, 2011, respondent timely issued a notice of deficiency

determining a section 6662(a) penalty for negligence, a substantial

      6
        The parties stipulated that Robert Smetana signed the form. He initialed it
in the box for “Team Manager Initials”. The parties also stipulated that the
penalty consideration form for 2009 was signed; it was initialed.
                                        - 17 -

[*17] understatement, and a substantial valuation misstatement. Respondent

concedes that he did not obtain the required approval for negligence or a

substantial valuation misstatement. At issue is the substantial understatement

penalty.

D.    2009 Tax Year Penalty

      Revenue Agent Diane L. Linne (RA Linne) examined petitioners’ 2009 joint

return and PPI’s 2009 S corporation return and proposed to impose a section

6662(a) underpayment penalty for negligence. On or around September 24, 2013,

she prepared a penalty consideration form and a negligence lead sheet asserting

the penalty. On September 26, 2013, Mr. Olivieri, her immediate supervisor,

signed the penalty consideration form and lead sheet approving the negligence

penalty.7 On October 3, 2013, respondent timely issued a notice of deficiency

determining a negligence penalty.

                                     OPINION

      Section 6662(a) provides for a 20% accuracy-related penalty on an

underpayment of tax attributable to (1) negligence or disregard of rules and

regulations, (2) a substantial understatement of income tax, or (3) a substantial

      7
       The parties stipulated that the lead sheet was signed on September 26,
2013. The date is illegible. The penalty consideration form was dated September
26, 2013.
                                        - 18 -

[*18] valuation misstatement. Sec. 6662(a) and (b)(1), (2), and (3). Negligence

includes any failure to make a reasonable attempt to comply with the provisions of

the Code, including any failure to maintain adequate books and records or to

substantiate items properly, and the term “disregard” includes “any careless,

reckless, or intentional disregard.” Id. subsec. (c); sec. 1.6662-3(b)(1), Income

Tax Regs. An understatement of income tax generally means the excess of tax

required to be reported on the return over the amount shown on the return. Sec.

6662(d)(2)(A). An understatement is substantial in the case of an individual if it

exceeds the greater of 10% of the tax required to be shown on the return or

$5,000. Id. subsec. (d)(1)(A).

      A substantial valuation misstatement exists where the value or adjusted

basis of any property claimed on any return is 150% or more of the amount

determined to be the correct amount of such value or adjusted basis (200% for

returns filed on or before August 17, 2006). Id. subsec. (e)(1)(A). Under section

6662(h), the section 6662 penalty is increased to 40% if the underpayment is

attributable to a gross valuation misstatement. A gross valuation misstatement

exists if the value or adjusted basis of any property claimed on a tax return is

200% or more of the correct amount (400% for returns filed on or before August

17, 2006). Id. subsec. (h)(2)(A)(i).
                                       - 19 -

[*19] Section 6662A imposes a 20% accuracy-related penalty on the portion of an

understatement attributable to a reportable or listed transaction. Sec. 6662A(a),

(b)(2). The penalty increases to 30% if the taxpayer did not adequately disclose

the transaction. Id. subsec. (c). However, the section 6662A penalty does not

apply with respect to the portion of an understatement on which a gross valuation

misstatement penalty is imposed. Id. subsec. (e)(2)(B).

      The Commissioner bears the burden of production with respect to accuracy-

related penalties asserted against individuals. Sec. 7491(c). In Graev III, 149 T.C.

at 493, we held that the Commissioner’s burden of production under section

7491(c) includes establishing compliance with the written supervisory approval

requirement of section 6751(b). See Chai v. Commissioner, 851 F.3d 190, 216 (2d

Cir. 2017), aff’g in part, rev’g in part T.C. Memo. 2015-42. Section 6751(b)(1)

requires that the initial determination to assess a penalty be personally approved in

writing by the immediate supervisor of the individual making the initial

determination before the penalty is actually assessed. Once the Commissioner

meets his burden of production, the taxpayer bears the burden of proving that the

Commissioner’s determination is incorrect or that the taxpayer has an affirmative

defense; for example, he had reasonable cause and acted in good faith. Sec.

6664(c)(1); Higbee v. Commissioner, 116 T.C. 438, 446 (2001).
                                        - 20 -

[*20] In Chai v. Commissioner, 851 F.3d at 221, the Court of Appeals for the

Second Circuit held that written supervisory approval is required no later than the

issuance of the notice of deficiency for penalties determined therein. However, in

Clay v. Commissioner, 152 T.C. ___, ___ (slip op. at 44) (Apr. 24, 2019), we held

that written supervisory approval must be given before the proposed penalties are

first formally communicated to the taxpayer in a writing that also advises the

taxpayer of his right to appeal the penalties with the IRS Office of Appeals. Thus,

a 30-day letter with an attached revenue agent’s report constituted the initial

determination to assess the penalties proposed therein for purposes of section

6751(b). Id.

      In these cases, respondent determined various section 6662(a) and (h)

accuracy-related penalties and a section 6662A accuracy-related penalty for a

reportable transaction. However, only one accuracy-related penalty may be

applied for any given portion of an underpayment even if that portion is subject to

the penalty on more than one ground. Sec. 1.6662-2(c), Income Tax Regs.

Section 6662(a) and (h) penalties are distinct, and the initial determination under

each subsection must be separately approved for purposes of section 6751(b)(1).

Palmolive Bldg. Inv’rs, LLC v. Commissioner, 152 T.C. ___, ___ (slip op. at 19)

(Feb. 28, 2019). However, there is no requirement that all penalties be initially
                                         - 21 -

[*21] determined by the same individual or at the same time. Id. at ___ (slip op. at

16).

I.     Innocent Spouse Relief

       Two categories of penalties are at issue for 2003, those arising from

petitioners’ 2003 litigation and those from the partnership item adjustments

determined in Superior Trading and assessed through a computational adjustment.

Petitioners asserted that they paid the penalties, and Mrs. Rogers seeks a refund in

her innocent spouse claim. In Rogers 2018, we held that she was not entitled to

innocent spouse relief because she meaningfully participated in the 2003 litigation

and she was not otherwise entitled to equitable relief. On brief petitioners concede

the penalty from the 2003 litigation and contend that Mrs. Rogers is entitled to a

refund of the partnership penalties on the basis of respondent’s alleged

noncompliance with section 6751(b). Respondent has not introduced any

evidence of written supervisory approval of the penalties.

       In her pleadings Mrs. Rogers did not assert a claim for innocent spouse

relief for the partnership penalties. She raised this issue for the first time in her

brief on the section 6751(b) issue. She argues that she has not had an opportunity

to challenge her liability for the partnership penalties or respondent’s

noncompliance with section 6751(b). Respondent asserts that the Court does not
                                          - 22 -

[*22] have jurisdiction to review section 6751(b) compliance in an innocent

spouse case and that if the Court has jurisdiction, the doctrine of res judicata bars

relief.

          Our jurisdiction over 2003 is pursuant to section 6015(e), and we held in

Rogers 2018 that Mrs. Rogers is not entitled to innocent spouse relief. However,

Mrs. Rogers now seeks to raise section 6751(b) noncompliance against penalties

determined in a partnership-level case. We lack jurisdiction to consider penalties

in a partner-level case that were determined at the partnership level. Gunther v.

Commissioner, T.C. Memo. 2019-6, at *13. The Commissioner’s noncompliance

with section 6751(b) is a partnership-level defense. Parties in a partnership-level

case may raise noncompliance with section 6751(b) as a defense. Dynamo

Holdings Ltd. P’ship v. Commissioner, 150 T.C. ___ (May 7, 2018); Endeavor

Partners Fund, LLC v. Commissioner, T.C. Memo. 2018-96, at *63. However, a

partner may not raise section 6751(b) noncompliance as a defense at the partner

level for penalties previously determined at the partnership level. Under section

6230, partner-level defenses are “those that are personal to the partner or are

dependent upon the partner’s separate return and cannot be determined at the

partnership level.” Sec. 301.6221-1(d), Proced. & Admin. Regs. The tax

treatment of partnership items and the applicability of any penalty, addition to tax,
                                        - 23 -

[*23] or additional amount that relates to an adjustment to a partnership item is

determined at the partnership level. Secs. 6221, 6226(f). Accordingly, Mrs.

Rogers is not entitled to a refund of penalties paid with respect to the partnership

item adjustments.8

II.   Deficiency Years

      A.     2005 Tax Year

      For 2005 three revenue agents proposed penalties. Respondent satisfied his

burden of production for the required approval under section 6751(b) for the

negligence and substantial valuation misstatement penalties that RA Tabor

proposed when Mr. Olivieri signed the penalty consideration form and Form 3198

that RA Tabor had prepared. Respondent satisfied his burden for each component

for the section 6662 penalties for the adjustments to L&R’s and SRI’s returns

when Mr. Olivieri executed the penalty consideration forms prepared by RA White

and RA Pappas. Accordingly, we do not address whether Mr. Olivieri’s signature

      8
        Our jurisdiction over a petition seeking sec. 6015 relief is limited to
determining whether the requesting spouse is entitled to postassessment relief
from an existing liability. Block v. Commissioner, 120 T.C. 62, 68 (2003)
(holding the Court lacked jurisdiction under sec. 6015 to determine the timeliness
of the prior underlying assessment). Sec. 6015 assumes that there is an existing
joint tax liability; it does not consider whether the underlying joint tax liability
exists. The requesting spouse cannot seek review of preassessment procedures.
Id. Accordingly, it is unclear whether we would have jurisdiction under sec.
6015(e) to consider sec. 6751(b) compliance.
                                       - 24 -

[*24] on the revenue agent’s report or Form 3198 would also constitute the

required approval for any of the penalties proposed by RA White and RA Pappas.

      The record also establishes section 6751(b) compliance for the section 6662

penalty on SRI’s COGS adjustment and the section 6662A penalty for the DAT

adjustment initially determined by respondent’s trial attorneys. Respondent

asserted the penalty attributable to the COGS adjustment for the first time in the

amendment to the answer. Both Attorneys Connell and Petrino worked on the

amendment, but the record does not identify which attorney made the initial

determination. Petitioners did not address this lack of clarity on brief. AAC

Cannarozzi approved the penalty in writing by initialing and dating a draft of the

amendment to the answer. AAC Cannarozzi was both attorneys’ supervisor.

Accordingly, we find that respondent satisfied his burden of production for section

6751(b) compliance regardless of which attorney initially determined the penalty.

      AAC Cannarozzi also approved Attorney Connell’s initial determination of

the section 6662A penalty through her emails to the IRS Technical Services Unit.

Section 6751(b) does not require written supervisory approval in any particular

form. Palmolive Bldg. Inv’rs, LLC v. Commissioner, 152 T.C. at ___ (slip op. at

17); see Deyo v. United States, 296 F. App’x 157, 159 (2d Cir. 2008) (requiring

“only personal approval in writing, not any particular form of signature or even
                                        - 25 -

[*25] any signature at all”). Moreover, it does not explicitly require a signature; it

requires the penalty be “personally approved (in writing)”. Sec. 6751(b)(1); see

Graev III, 149 T.C. at 488-489 & n.3 (a supervisor’s initials were sufficient

writing). Accordingly, we find that AAC Cannarozzi’s emails satisfied

respondent’s burden of production of section 6751(b) compliance.

      Petitioners do not challenge the form of the written approval. Rather, they

argue that trial attorneys do not have the authority to make an initial penalty

determination for the first time in the notice of deficiency or respondent’s

pleadings. This position is inconsistent with caselaw and without merit. See

Graev III, 149 T.C. at 494-498.

      B.     2006 Tax Year

      RA Tabor proposed the section 6662(a) negligence penalty on the

unreported income as an alternative to the fraud penalty. He also proposed a

section 6662(h) gross valuation misstatement penalty for the DAT adjustment and

a section 6662(a) negligence penalty on the remaining adjustments for both

petitioners. We do not need to address whether these later penalties were primary

penalties or alternatives to the fraud penalty as our issue is limited to whether they
                                        - 26 -

[*26] were approved in writing by a supervisor.9 RA Tabor asserted the above

penalties in his revenue agent’s report and then prepared two forms asserting these

penalties. He prepared a penalty consideration form that asserted the fraud and

negligence penalties but did not indicate, or provide a limit to, the portion of the

underpayment to which these penalties applied. He also prepared Form 3198 that

included amounts for the fraud penalty on the unreported income, the section

6662(h) penalty on the DAT adjustment, and the 20% section 6662(a) penalty on

the remaining portion as listed in the revenue agent’s report. His supervisor, Ms.

Valdez, approved the above penalties when she executed the penalty consideration

form and Form 3198. Accordingly, respondent satisfied his burden of production,

showing that he complied with section 6751(b) for the negligence and gross

valuation misstatement penalties irrespective of whether they were primary or

alternative penalties.

      Attorney Connell recommended not asserting the fraud penalty against Mrs.

Rogers. He recommended issuing a separate notice of deficiency to each

petitioner. This recommendation does not alter our finding that respondent

obtained the required approval of the section 6662(a) and (h) penalties against

      9
        Questions exist concerning whether RA Tabor asserted the fraud penalty on
the entire underpayment or only on a portion of it. However, we do not need to
resolve these questions because we held Mr. Rogers not liable for fraud.
                                         - 27 -

[*27] Mrs. Rogers. RA Tabor proposed the section 6662(a) and (h) penalties

against Mrs. Rogers (as an alternative to the fraud penalty), and Ms. Valdez

approved the penalties. Attorney Connell also initially determined the section

6662A penalty against both petitioners, against Mr. Rogers as an alternative to the

fraud penalty, and against Mrs. Rogers (partially in the alternative to a section

6662(h) penalty). AAC Cannarozzi approved the penalties by initialing and dating

a copy of the technical services memo.

      Respondent also obtained the required written supervisory approval for the

penalty attributable to the 2006 COGS adjustments. In the 2006 notices

respondent disallowed SRI’s COGS deduction on the basis of a lack of

substantiation and determined a section 6662(a) penalty on the resulting

underpayment; RA Tabor proposed this penalty, and Ms. Valdez approved it in

writing. Respondent filed an amendment to the answer to disallow the COGS

adjustment on the alternative ground that petitioners mischaracterized the 2004

land transfer as a sale and as a result overstated SRI’s basis in the land and

overstated SRI’s COGS on the subsequent resale of the land as subdivided lots.

The amendment to the answer also determined a section 6662(a) penalty

attributable to the underpayment from the COGS adjustment. Either Attorney

Petrino or Connell made the initial determination of the penalty, and their
                                       - 28 -

[*28] supervisor, AAC Cannarozzi, approved the penalty in writing by initialing

the amendment to the answer before its lodging with the Court. We hold that

respondent satisfied his burden of production for section 6751(b) compliance for

the COGS adjustment whether required before issuance of the notices of

deficiency or the amendment to the answer’s filing.

       C.    2007 and 2009 Tax Years

       The record contains executed penalty consideration forms for 2007 and

2009 showing written supervisory approval of the penalties at issue. Respondent

has met his burden of production for his section 6751(b) compliance for the

section 6662(a) penalties for a substantial understatement of income tax for 2007

that RA Chiaculas proposed and for negligence for 2009 that RA Linne proposed.

III.   Liability for Penalties

       Respondent determined a section 6662(h) gross valuation misstatement

penalty for 2005 and 2006 for the portions of the underpayments attributable to

SRI’s and Mr. Rogers’ DAT adjustments, respectively. They had adjusted bases in

the distressed assets of zero. For 2005 SRI claimed a DAT deduction of

approximately 30 times its basis in the distressed assets; for 2006 Mr. Rogers

claimed a DAT deduction of approximately 50 times his basis. As the

misstatements were greater than 200%, the amounts claimed as DAT deductions
                                        - 29 -

[*29] result in gross valuation misstatements, and petitioners are liable for the

section 6662(h) penalties for 2005 and 2006 unless they establish that they had

reasonable cause for the underpayments and acted in good faith. See sec. 6664(c);

sec. 1.6662-5(g), Income Tax Regs.

      Respondent also determined section 6662A penalties for 2005 and 2006

partially in the alternative. In Kenna Trading, LLC v. Commissioner, 143 T.C. at

371-372, the Court determined that the distressed asset transactions at issue were

listed transactions reportable pursuant to section 1.6011-4(e)(2)(i), Income Tax

Regs. Petitioners claimed deductions from the DAT tax shelter on their 2005 and

2006 tax returns and failed to make any disclosures. Accordingly, they are liable

for section 6662A 30% penalties for the portions of their 2005 and 2006

understatements from the DAT transactions to the extent the understatements are

not already subject to the 40% section 6662(h) gross valuation misstatement

penalty. See sec. 6662A(e)(2)(B).

      We find that petitioners were negligent in their underpayments of tax for

2005 and 2006. They had substantial amounts of unreported income from Mr.

Rogers’ business activities, his promotion of the DAT tax shelter, and the sale of

SRI residential lots. They were also negligent in their failure to maintain adequate

books and records to substantiate the amounts or business purpose of their
                                        - 30 -

[*30] business expenses. Petitioners’ books and records are in disarray. They

presented voluminous, disorganized records to the Court. The records did not

reconcile with the amounts of the deductions claimed or with each other. They

deducted substantial amounts of personal expenses for not only themselves but

also their adult son and his family. They claimed substantial amounts of travel,

entertainment, and meal expense deductions without providing contemporaneously

maintained records. They deducted a significant amount of travel expenses

incurred for Mrs. Rogers without a business purpose for the travel. For 2006

petitioners reported negative taxable income despite Mr. Rogers’ significant salary

as an attorney. On the basis of this pattern of behavior, we hold that petitioners

are liable for the section 6662(a) and (b)(1) penalty for negligence with respect to

their 2005 and 2006 underpayments.

      At issue for 2007 is a section 6662(a) and (b)(2) penalty for a substantial

understatement of income tax. In Rogers 2018, we allowed a small portion of the

deductions disallowed in the notice of deficiency, and respondent conceded other

deductions. If petitioners’ understatement of income tax for 2007 (recomputed

pursuant to Rule 155) exceeds the greater of 10% of the tax required to be shown

on the return or $5,000, respondent’s determination of the penalty under section

6662(b)(2) is sustained.
                                         - 31 -

[*31] At issue for 2009 is the section 6662(a) and (b)(1) penalty for negligence.

PPI deducted COGS of over $1.4 million, an amount conceded or disallowed in its

entirety, on the basis that the fair market value of SRI’s unsold lots had decreased.

Neither SRI nor PPI sold any residential lots during 2009. For 2009 petitioners

continued to deduct personal living expenses and failed to maintain adequate

records. They had a multiyear pattern of underreported tax liability, deduction of

personal expenses, and failure to maintain proper records. Accordingly, we find

that they acted negligently with respect to their underpayment for 2009.

      The section 6662(a) and (h) penalties may not be imposed with respect to

any portion of an underpayment of tax for which the taxpayer establishes that he

had reasonable cause and acted in good faith. Sec. 6664(c)(1). Whether a

taxpayer has acted with reasonable cause and in good faith depends on the facts

and circumstances of the case. Sec. 1.6664-4(b)(1), Income Tax Regs. Generally

the most important factor is the taxpayer’s effort to assess his proper tax liability.

Id. A taxpayer’s knowledge, education, and experience are relevant factors to

indicate reasonable cause and good faith. Id.

      Petitioners have not established that they are entitled to a reasonable cause

defense for any of the penalties at issue. They were acting under the guidance of

Mr. Rogers, a tax professional with over 30 years of experience. Although they
                                       - 32 -

[*32] claim that other tax professionals favorably reviewed distressed asset

transactions similar to the DAT tax shelter, Mr. Rogers should have known on the

basis of his education and business sophistication that the DAT tax shelter would

not result in the sought-after tax benefits. We previously found that Mr. Rogers’

knowledge and experience should have put him on notice that the DAT tax shelter

would be recharacterized in accordance with its substance and would not generate

the desired tax benefits. See Kenna Trading, LLC v. Commissioner, 143 T.C. at

369-370.

      Petitioners’ failure to substantiate large amounts of the business expenses

underlying their deductions is inexcusable considering that Mr. Rogers is a C.P.A.

and a tax attorney and should understand the importance of recordkeeping. They

deducted personal living expenses for not only themselves but also their adult son

and his family. At trial, oftentimes we found Mr. Rogers to lack credibility.

Petitioners argue that we should dismiss the penalties because Mr. Rogers suffered

from alcoholism during the years at issue. He was hospitalized for an extended

period during 2009. However, he was able to run several businesses during the

years at issue and to implement highly sophisticated tax shelter transactions, and

he was a partner of a major international law firm. He continued to function at a

high level. In addition, Mrs. Rogers is highly educated and has significant
                                         - 33 -

[*33] business experience. She is a trained lawyer, represented clients in property

tax abatements, and assisted with office management at Rogers & Associates. We

hold that petitioners acted with negligence and failed to show reasonable cause or

good faith to avoid penalties.

         The Court has considered all of the parties’ arguments and, to the extent not

discussed above, concludes that those arguments are irrelevant, moot, or without

merit.

         To reflect the foregoing,


                                                       Decisions will be entered under

                                                  Rule 155.
