                        T.C. Memo. 2010-285



                     UNITED STATES TAX COURT



            NEEDHAM AND ANGELA JARMAN, Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 8770-08.              Filed December 29, 2010.



     Needham and Angela Jarman, pro sese.

     Edwina L. Jones and Scott L. Little, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     THORNTON, Judge:   Respondent determined the following

deficiencies and penalties with respect to petitioners’ Federal

income taxes for taxable years 2004 through 2006:
                                 - 2 -

                                            Accuracy-Related
                                                Penalty
            Year         Deficiency           Sec. 6662(a)

            2004             $14,866             $2,973
            2005              11,673              2,335
            2006               9,214              1,843

     Unless otherwise indicated, section references are to the

Internal Revenue Code in effect for the years at issue, and Rule

references are to the Tax Court Rules of Practice and Procedure.

All figures are rounded to the nearest dollar.

     The issues for decision are:      (1) Whether for each year at

issue petitioners had unreported gross receipts from the

electrical contracting business owned by Needham Jarman

(petitioner); (2) whether petitioners’ basis in a house that they

sold in 2004 was greater than the $49,500 that respondent has

conceded; (3) whether for 2004 petitioners are entitled to a

$10,230 travel expense deduction; (4) whether for 2004

petitioners received unreported taxable interest income and an

unreported taxable State income tax refund; and (5) whether for

each year at issue petitioners are liable for the section 6662(a)

accuracy-related penalty.1




     1
      Angela Jarman did not appear at trial and did not execute
the stipulation of facts. At trial respondent’s counsel orally
moved pursuant to Rule 123(b) to dismiss this case as to Ms.
Jarman for lack of prosecution. The Court will grant
respondent’s motion and enter a decision as to Ms. Jarman
consistent with the decision to be entered as to petitioner.
                               - 3 -

                         FINDINGS OF FACT

     The parties have stipulated some facts, which we so find.

When they petitioned the Court, petitioners resided in North

Carolina.

     During the years at issue petitioner was self-employed as an

electrical contractor, doing business under the name Unity

Electrical Contracting (Unity).

      After his mother died on April 17, 2001, petitioner and his

three siblings inherited her house in North Carolina (the house).

At some unspecified time petitioner began using the house as

Unity’s office and storage space.   On March 11, 2004, the

siblings and their spouses conveyed their interests in the house

to petitioners for no consideration.   On June 11, 2004,

petitioners sold the house for gross proceeds of $70,000.

     In 2004 Angela Jarman received $14 of interest income, and

petitioner received an $877 refund of 2003 State taxes.

     Petitioners filed joint Federal income tax returns for 2004,

2005, and 2006.   On Schedules C, Profit or Loss From Business

(Sole Proprietorship), they reported that Unity had gross

receipts of $69,597, $66,979, and $125,636 for 2004, 2005, and

2006, respectively.   On the 2004 Schedule C for Unity,

petitioners claimed, among other things, $10,230 of travel

expenses.   On the 2005 and 2006 Schedules C, petitioners claimed

no travel expenses but claimed fuel expenses of $8,894 and
                                - 4 -

$8,834, respectively.    Petitioners reported no income from the

2004 sale of the house.

     On the basis of his bank deposits analysis, respondent

determined that petitioners had unreported income from Unity of

$16,305, $38,904, and $29,688, for 2004, 2005, and 2006,

respectively.    Respondent disallowed the Schedule C travel

expenses claimed for 2004 but not the fuel expenses claimed for

2005 and 2006.    Respondent also determined that with respect to

their taxable year 2004 petitioners had a $70,000 unreported

capital gain from selling the house, unreported interest income

of $14, and an unreported $877 taxable refund of 2003 State

income taxes.

                               OPINION

A.   Burden of Proof

     Petitioners have the burden of proving that respondent’s

determinations are in error.    See Rule 142(a).2

B.   Unreported Business Receipts

     If a taxpayer fails to keep adequate records, the

Commissioner may reconstruct the taxpayer’s income by any

reasonable method that clearly reflects income.     See, e.g., sec.

446(b); Holland v. United States, 348 U.S. 121, 130-132 (1954).

One acceptable method is the bank deposits method.     Clayton v.


     2
      Petitioners have not claimed and the record does not
suggest that sec. 7491(a) applies to shift the burden of proof to
respondent with regard to any factual issue.
                                 - 5 -

Commissioner, 102 T.C. 632, 645 (1994); DiLeo v. Commissioner, 96

T.C. 858, 867 (1991), affd. 959 F.2d 16 (2d Cir. 1992); Bevan v.

Commissioner, T.C. Memo. 1971-312, affd. 472 F.2d 1381 (6th Cir.

1973).     This method assumes that if a taxpayer is engaged in an

income-producing activity and makes deposits to bank accounts,

then those deposits, less amounts identified as nonincome items,

constitute taxable income.    See Clayton v. Commissioner, supra at

645-646.    Where the Commissioner has used the bank deposits

method to determine deficiencies, the taxpayer bears the burden

of showing that the determinations are incorrect.     See DiLeo v.

Commissioner, supra at 871; Bevan v. Commissioner, supra.

     The record is devoid of any books or records of the receipts

and expenses of Unity, and petitioner does not claim to have

maintained any.     Petitioner does not dispute making the deposits

underlying respondent’s bank deposit analysis.     But he contends

that certain deposits were merely transfers from his personal

accounts into his business account.      Respondent has conceded that

deposits totaling $3,600 in 2004 and $800 in 2005 were transfers

from petitioners’ savings account to petitioner’s business

account.     Petitioners have failed to show that any additional

disputed amounts included in respondent’s analysis represent

interaccount transfers.3    Accordingly, we sustain respondent’s


     3
      With respect to some amounts which petitioner contends
represent interaccount transfers, the evidence indicates that
                                                   (continued...)
                                - 6 -

determinations as to petitioners’ unreported taxable income from

Unity, except to the extent of respondent’s concessions.

C.   Sale of Real Property

     Gross income means all income from whatever source derived,

including gains derived from dealings in property.    Sec.

61(a)(3).   The gain from the sale of property is the amount

realized less the property’s adjusted basis.    See sec. 1001(a).

Generally, a property’s basis is its cost.    Sec. 1012.   If

property is acquired from a decedent, however, the basis is the

property’s fair market value at the date of the decedent’s death,

unless the alternate valuation date is elected.    Sec. 1014(a).

Where property is acquired by gift, the basis is the same in the

hands of the donee as it was in the hands of the donor, except

that, if the basis exceeds the fair market value of the property

at the time of the gift, then, for purposes of determining loss,

the basis shall be the fair market value.    Sec. 1015(a).

     A taxpayer’s adjusted basis for determining gain or loss is

the taxpayer’s basis, adjusted as provided in section 1016.     Sec.

1011(a).    Under section 1016(a)(1), the basis of property must be

adjusted for, among other things, expenditures, receipts, losses,

or other items, properly chargeable to capital.



     3
     (...continued)
respondent’s bank deposits analysis never included them as
taxable income in the first instance.
                               - 7 -

     In 2004 petitioners sold the house for gross proceeds of

$70,000.   In the notice of deficiency respondent determined that

this entire amount represented capital gain because petitioners

had established no basis in the house.    In this proceeding

respondent has conceded, on the basis of stipulated county

property records, that petitioners had a basis in the house of

$49,300.   Petitioner contends that this amount should be

increased by $9,854, which he claims is the amount he paid with

respect to a mortgage on the house so that Unity could use it as

an office and storage space after his niece moved out of it at

some unspecified time.4   Petitioner has failed, however, to

substantiate either the purported mortgage debt or the payments

he purportedly made with respect to it.    Furthermore, on this

record we are unable to conclude that petitioners have not

already deducted any such payments in reporting Unity’s profit or




     4
      More particularly, petitioner claims that after his mother
died he and his siblings agreed to let his niece live in the
house so long as she would make the payments on a mortgage that
had been obtained by unspecified persons at some unspecified
time, apparently for the purpose of remodeling the house. He
claims that after the niece fell into arrears on the mortgage
payments, he paid the bank $5,538 to keep the house out of
foreclosure and another $4,316 of mortgage payments before
selling the house.
                                   - 8 -

loss.5       Petitioner has failed to establish a basis in the house

greater than the $49,300 that respondent has conceded.

D.   Travel Expense Deduction

     A taxpayer may deduct ordinary and necessary expenses paid

or incurred during the taxable year in carrying on a trade or

business if the taxpayer maintains sufficient records to

substantiate the expenses.       Secs. 162(a), 6001; sec. 1.6001-1(a),

Income Tax Regs.       Section 274(d) imposes strict substantiation

requirements for, among other things, traveling expenses and

expenses relating to listed property, defined in section

280F(d)(4)(A)(i) to include passenger automobiles.       See sec.

1.274-5T(a), Temporary Income Tax Regs., 50 Fed. Reg. 46014 (Nov.

6, 1985).       Under these requirements, the taxpayer must

substantiate the claimed deduction with adequate records, or by

sufficient evidence corroborating the taxpayer’s own statement,

showing the amount of the expense, the time and place of the use

of the listed property, and the business purpose.       Sec. 274(d);




         5
      On the Schedule C for Unity attached to petitioners’ 2004
joint Federal income tax return, petitioners claimed a $4,344
deduction for “Repairs and maintenance”. We note that this
deduction, unexplained in the record, approximates the $4,316 of
mortgage payments that petitioner claims to have made after
allegedly taking over the mortgage payments from his niece. The
record, which does not contain petitioners’ earlier tax returns,
does not foreclose the possibility that other amounts of mortgage
payments might have been claimed as deductions against Unity’s
operations in earlier years.
                                 - 9 -

see also sec. 1.274-5T(b)(6), (c)(2), Temporary Income Tax Regs.,

50 Fed. Reg. 46016, 46017 (Nov. 6, 1985).

     Rather than account for expenses item by item, the taxpayer

may determine the ordinary and necessary expenses of the business

use of a vehicle by using a standard mileage rate prescribed by

the Commissioner.   Sec. 1.274-5(j)(2), Income Tax Regs.   For 2004

the standard mileage rate was 37.5 cents.    Rev. Proc. 2003-76,

sec. 5.01, 2003-2 C.B. 924, 925.    A taxpayer who uses the

standard mileage rate to determine the ordinary and necessary

expenses of using a vehicle must still substantiate the amount of

each business use (i.e., the business mileage) and the time and

business purpose of each use.    Sec. 1.274-5(j)(2), Income Tax

Regs.

     On the 2004 Schedule C for Unity petitioners claimed $10,230

of travel expenses.   Attempting to substantiate this claimed

deduction, petitioner relies on mileage logs which indicate that

he drove 49,535 miles in 2004.    But applying the 2004 standard

mileage rate to 49,535 miles would result in a mileage allowance

of $18,576 rather than the $10,230 petitioners actually claimed.

Petitioners have not explained the discrepancy.    Two possible

explanations are:   (1) The claimed travel expenses were not

actually based on the mileage logs; or (2) petitioners implicitly

concede that the mileage shown on the mileage logs is greatly

overstated.   In any event, we find that the mileage logs are
                               - 10 -

unreliable.    The mileage numbers, which appear as uniform

handwritten notations in the margins of notebook paper on which

jobs are listed at generally indecipherable locations, appear

likely to have been added at one time after the fact.     Except for

a relatively few entries that end with the numeral 5, all the

mileage entries are multiples of 10.    At trial petitioner

admitted that he regularly rounded up his mileage.    In many

instances, identical mileage is recorded for different

destinations.6   The mileage entries also contain other

discrepancies that cause us to conclude that the mileage logs are

unreliable.7   Petitioners have not supplemented the mileage logs

with material corroborating evidence.    We conclude that

petitioners have failed to meet the strict substantiation

requirements of section 274(d).

     Generally, if a taxpayer establishes that deductible

expenses were incurred but fails to establish the amounts, we may

estimate the amounts allowable, provided that evidence in the

record provides a rational basis for the estimate.    Cohan v.


     6
      For instance, for the first 3 months of 2004 the mileage
logs include 21 entries that show identical mileage of 110 miles,
even though the trips were to at least six different
destinations.
     7
      In some instances, another number has been written over the
original entry to increase the number of miles claimed. In one
log entry, petitioner listed travel of 25 miles to and from a
particular location, whereas several other entries list 125 miles
traveled to and from the same location.
                              - 11 -

Commissioner, 39 F.2d 540, 543-544 (2d Cir. 1930); Vanicek v.

Commissioner, 85 T.C. 731, 742-743 (1985).   In the case of travel

expenses and expenses paid or incurred with respect to listed

property, however, section 274(d) overrides the Cohan doctrine,

and these expenses are deductible only if the taxpayer meets the

stringent substantiation requirements of section 274(d).      Berkley

Mach. Works & Foundry Co. v. Commissioner, 623 F.2d 898, 906-907

(4th Cir. 1980), revg. T.C. Memo. 1977-177; Sanford v.

Commissioner, 50 T.C. 823, 827 (1968), affd. 412 F.2d 201 (2d

Cir. 1969); sec. 1.274-5T(a), Temporary Income Tax Regs., supra.

Because petitioners have failed to meet those stringent

substantiation requirements, we sustain respondent’s

determination disallowing the deduction for travel expenses

petitioners claimed on their 2004 joint Federal income tax

return.8

E.   Interest Income and State Income Tax Refund

     Respondent determined that petitioners failed to report on

their 2004 joint return a $877 refund of 2003 State income taxes

and $14 of interest income.   Petitioners have not disputed


     8
      For 2005 and 2006 petitioners claimed, and respondent did
not disallow, deductions for fuel expenses. At trial petitioner
asserted that he is entitled to deduct larger amounts of travel
expenses (although he has not specified particular amounts) on
the basis of his mileage logs. His mileage logs for 2005 and
2006, however, suffer the same defects as those just discussed.
For this reason, if for no other, we must reject petitioner’s
contention.
                              - 12 -

receiving these amounts and have advanced no argument that these

amounts are not properly included in their taxable income.    We

sustain respondent’s determinations as to these items.

F.   Accuracy-Related Penalties

     Respondent determined that for each year at issue

petitioners are liable for an accuracy-related penalty pursuant

to section 6662(a) and (b)(1) and (2) for negligence or

substantial understatement of income tax.   Respondent bears the

burden of production with respect this penalty.   Sec. 7491(c).

To meet this burden, respondent must produce evidence

establishing that it is appropriate to impose this penalty.     Once

respondent has done so, the burden of proof is upon petitioners.

See Higbee v. Commissioner, 116 T.C. 438, 449 (2001).

     Negligence includes any failure to make a reasonable attempt

to comply with the provisions of the internal revenue laws and is

the failure to exercise due care or the failure to do what a

reasonable and prudent person would do under the circumstances.

Sec. 6662(c); Neely v. Commissioner, 85 T.C. 934, 947 (1985);

sec. 1.6662-3(b)(1), Income Tax Regs.   Negligence also includes

any failure by the taxpayer to keep adequate books and records or

to substantiate items properly.   Sec. 1.6662-3(b)(1), Income Tax

Regs.   Petitioners failed to keep adequate books and records and

to properly substantiate claimed deductions.   Respondent has
                                - 13 -

carried his burden of production with respect to the section

6662(a) penalties for negligence.

     Section 6662(a) and (b)(2) imposes a 20-percent

accuracy-related penalty on any portion of a tax underpayment

that is attributable to any substantial understatement of income

tax, defined in section 6662(d)(1)(A) as an understatement that

exceeds the greater of 10 percent of the tax required to be shown

on the return or $5,000.    The exact amounts of petitioners’

underpayments will depend upon the Rule 155 computations, taking

into account respondent’s concessions and in accordance with our

findings and conclusions.    To the extent that those computations

establish, as seems likely, that petitioners have substantial

understatements of income tax, respondent has also met his burden

of production in this regard.    See Prince v. Commissioner, T.C.

Memo. 2003-247.

      The accuracy-related penalty does not apply with respect to

any portion of the underpayment for which it is shown that the

taxpayer had reasonable cause and acted in good faith.     Sec.

6664(c)(1).   Petitioners have made no attempt to explain their

failure to report income, to keep adequate books and records, and

to substantiate items properly.     We hold that for each year at

issue petitioners are liable for a section 6662(a) penalty for

negligence and, alternatively, for substantial understatements of

income tax insofar as the Rule 155 computations show any.
                        - 14 -

To reflect the foregoing and respondent’s concessions,


                                     An appropriate order

                              will be issued, and decision

                              will be entered under Rule

                              155.
