                  T.C. Summary Opinion 2002-94



                     UNITED STATES TAX COURT



         CRAIG A. AND ROSEANN B. MILLER, Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 9973-01S.             Filed July 19, 2002.



     Ned Leiba, for petitioners.

     Christian Speck, for respondent.



     WOLFE, Special Trial Judge:    This case was heard pursuant to

the provisions of section 7463 of the Internal Revenue Code in

effect at the time the petition was filed.   The decision to be

entered is not reviewable by any other court, and this opinion

should not be cited as authority.   All Rule references are to the

Tax Court Rules of Practice and Procedure.
                               - 2 -

     Respondent determined a deficiency of $3,102 in petitioners’

1999 Federal income tax.   After a concession by petitioners,1 the

sole issue for decision is whether petitioners’ gross income for

1999 must include a check for $11,091.90 that they received in

1999 but did not cash until 2000.

     Some of the facts have been stipulated and are so found.

The stipulation of facts and the accompanying exhibits are

incorporated herein.   Petitioners resided in Tracy, California,

at the time the petition was filed.2

                            Background

     In 1993 petitioners acquired 40 acres of land in Tracy,

California.   Petitioners planted apricot trees on the land for

the purpose of commercially farming apricots.   Petitioners

entered into a management agreement with Stephen Pellegri, Sr.


     1
      In the notice of deficiency, respondent determined that
petitioners failed to report dividend income of $80. Petitioners
conceded this issue.
     2
      Prior to trial, petitioners filed a motion to shift the
burden of proof to respondent. Under sec. 7491(a) of the
Internal Revenue Code, the burden of proof shifts to respondent
if the taxpayer: (1) Has complied with substantiation
requirements under the Internal Revenue Code; (2) has maintained
all records required by the Internal Revenue Code and has
cooperated with all reasonable requests by respondent for
information, documents, meetings, etc.; and (3) introduces
credible evidence with respect to any factual issue relevant to
ascertaining the liability of the taxpayer for any tax imposed
under subtitle A or B. Petitioners have satisfied the
requirements of sec. 7491(a). However, as the discussion below
shows, the resolution of this case does not depend on which party
has the burden of proof, and therefore petitioners’ motion is
moot.
                                 - 3 -

(Pellegri Sr.), one of the more prominent farmers in the Tracy

area.   In addition to allocating various expenses between the

parties, the agreement provided that Pellegri Sr. would manage

the apricot farm, and that he would receive as “rent” on the

apricot trees 70 percent of the revenue from the trees.     The

management agreement was a 2-page, unsigned, undated, hand-

written document.   It did not cover the question of how the

parties would resolve claims that might arise against third

parties.

     Craig Miller (petitioner) had some involvement in the

operation of his apricot farm.    Among other activities,

petitioner assisted in planting trees, applying protective coats

to the trees, and spraying ditches.

     Pellegri Sr. purchased fertilizers and pesticides from John

Taylor Fertilizers Co., Inc. (JTF) for petitioners’ apricot farm.

Pellegri Sr. had been a regular customer of JTF in connection

with other farming activities before working with petitioners.

     During 1999, Pellegri Sr.’s health suffered due to cancer.

As a result, Pellegri Sr.’s sons took an increasingly active role

in the management of petitioners’ apricot farm, and petitioners

dealt primarily with Stephen Pellegri, Jr. (Pellegri Jr.).

     During April and May of 1999, petitioners’ apricots suffered

extensive damage due to misapplication of pesticides and a

failure to control a powdery mildew that developed on the
                               - 4 -

apricots.   To assess the damage, JTF hired Neil Phillips

(Phillips), an agricultural consultant employed by Rush, Marcroft

and Associates, a firm specializing in forensic agronomy.

     In June 1999, petitioner participated in a meeting (June

meeting) with, among others, John Taylor, Phillips, Pellegri Jr.,

Don Giannecchini (Giannecchini), a representative of JTF, and

Steve Bogetti (Bogetti), an owner of a packaging company.    At the

June meeting, Phillips and Bogetti estimated that the damage to

the apricots on petitioners’ farm was $105,000.

     Between June and November of 1999, Mrs. Miller telephoned

Giannecchini and other representatives of JTF and advised them

that the Pellegris were not authorized to make a settlement on

behalf of petitioners and that in the event of a settlement

petitioners should receive the proceeds directly from JTF.

     In November 1999, Pellegri Sr. visited petitioners at their

home and informed them that he had negotiated a settlement with

JTF concerning the damage to the apricots.   Pellegri Sr.

presented petitioners with a 4-page report written by Phillips,

including a calculation that the total damage was $36,973, and a

check dated November 1, 1999, for $11,091.90 (30 percent of

$36,973).   There were no restrictions or conditions on the face

of the check.   Pellegri Sr. told petitioners that the check

represented their share of the settlement proceeds from JTF
                               - 5 -

concerning the damage to the apricots.     Petitioners expressed

their disapproval but accepted the check.

     On December 3, 1999, petitioners met with Phillips, Pellegri

Jr., and Giannecchini.   Petitioners asked Phillips to explain why

his final damage estimate was so much less than the estimate of

$105,000 that he had made at the June meeting.     Phillips claimed

that he had lost the notes that he had used in making the

previous estimate.   Giannecchini informed petitioners that the

Pellegris had executed a release of the claim against JTF but

that he did not have a copy of the release for them at that time.

Petitioners expressed their disapproval of any such release, and

they reminded Giannecchini of their instruction to him that the

Pellegris were not authorized to make a settlement on their

behalf.

     On December 7, 1999, Giannecchini brought to petitioners’

home a copy of the release and a copy of the check from JTF

payable to Pellegri Sr. for $36,973.     Both the release and the

check were dated November 2, 1999.     The release provided in

relevant part:

     In return for the payment of a total of $36,973.00,
     receipt of which acknowledged, Steve Pellegri and Sons
     hereby releases John Taylor Fertilizers Co./Wilbur-
     Ellis Co., Elf Atochem North America, their owners and
     employees, and their heirs, executors and assigns, from
     any claim of damages to their 1999 apricot crop,
     resulting from pesticide applications.
                                - 6 -

     On December 9, 1999, petitioners contacted an attorney,

Daniel McDaniel (McDaniel).    McDaniel advised petitioners not to

cash the check in order to prevent jeopardizing their legal

position against JTF.   On the basis of the information provided

by petitioners, McDaniel believed that JTF had tendered the check

to Pellegri in full and final payment for both the Pellegris’ and

petitioners’ claims.    McDaniel and petitioners calculated a claim

that petitioners were entitled to $29,506.32 from JTF.    In a

letter to JTF dated December 16, 1999, McDaniel wrote:

     my clients are willing to accept payment of the sum of
     $29,506.32 in full and final settlement of all claims
     in this matter, provided that payment is made within
     fifteen (15) days. We are holding Steve Pellegri’s
     check in the sum of $11,091.90, which can be credited
     to the $29,506.32 with the agreement of all concerned.
     This would leave a net of $18,414.42 due from your
     firm. * * * If payment is not made, however, our offer
     is withdrawn and we will proceed as deemed appropriate.

JTF did not immediately respond to the letter.

     During the following months, McDaniel made several

unsuccessful attempts to negotiate a settlement with JTF.     In

April 2000, petitioners stopped pursuing their claim against JTF

and cashed the check.   Their decision was based in part on

McDaniel’s advice against litigating and in part on petitioners’

pressing need for the money.

     Petitioners did not include the check as income on their

1999 Federal income tax return.   Instead, in a footnote on that

return petitioners disclosed receiving a payment of $11,091.90,

but they explained that they were not reporting the payment as
                                - 7 -

income for 1999 because it was received “subject to dispute and

possible litigation.”

                             Discussion

     Section 451(a) of the Internal Revenue Code provides that

the amount of any item of gross income shall be included in the

gross income for the taxable year in which received by the

taxpayer unless, under the method of accounting used in computing

taxable income, that amount is to be properly accounted for in a

different period.   A taxpayer who reports income under the cash

method of accounting must report income for the taxable year when

it is actually or constructively received.    Sec. 1.451-1(a),

Income Tax Regs.    Section 1.451-2(a), Income Tax Regs., defines

constructive receipt as follows:

     Income although not actually reduced to a taxpayer’s
     possession is constructively received by him in the
     taxable year during which it is credited to his
     account, set apart for him, or otherwise made available
     so that he may draw upon it at any time, or so that he
     could have drawn upon it during the taxable year if
     notice of intention to withdraw had been given.
     However, income is not constructively received if the
     taxpayer’s control of its receipt is subject to
     substantial limitations or restrictions. * * *

     Whether a taxpayer has constructively received income is

essentially a question of fact.    Childs v. Commissioner, 103 T.C.

634, 654 (1994), affd. without published opinion 89 F.3d 856

(11th Cir. 1996).    We have long held that the doctrine of

constructive receipt is to be applied sparingly and is to be

invoked only when the taxpayer has an unrestricted right to
                                - 8 -

receive payment of money that is available to him.    Furstenberg

v. Commissioner, 83 T.C. 755, 792-793 (1984); Basila v.

Commissioner, 36 T.C. 111, 115-116 (1961) (citing Gullett v.

Commissioner, 31 B.T.A. 1067, 1069 (1935)).

     Ordinarily a check constitutes income to a cash basis

taxpayer when he receives it.   See Walter v. United States, 148

F.3d 1027, 1029 (8th Cir. 1998); Estate of Kamm v. Commissioner,

349 F.2d 953, 955 (3d Cir. 1965), affg. T.C. Memo. 1963-344;

Kahler v. Commissioner, 18 T.C. 31 (1952).    However, if a check

is received subject to a substantial limitation or restriction,

the check does not constitute income to a cash basis taxpayer.

See Fischer v. Commissioner, 14 T.C. 792, 802 (1950); Bones v.

Commissioner, 4 T.C. 415, 420 (1944); sec. 1.451-2(a), Income Tax

Regs.   In Bones, we held that where cashing a check would impair

a taxpayer’s legal position by creating a situation that might be

construed as an accord and satisfaction concerning a disputed

claim, the taxpayer’s refusal to cash the check did not result in

constructive receipt.   Id. at 420.

     The question of what constitutes an accord and satisfaction

is not easily decided, and it is not essential to the disposition

of this case to make any definitive holding as to whether cashing

the check would have created an accord and satisfaction.   See id.

Rather, the focus is on the reasonableness of petitioners’

decision not to cash the check in light of the governing law
                               - 9 -

concerning accord and satisfaction.    See id.; Stoller v.

Commissioner, T.C. Memo. 1983-319.     In Bones v Commissioner,

supra at 420, we concluded that “the circumstances were such that

petitioner could reasonably and prudently understand his position

to be such that if he accepted the offer which was made upon the

condition stated an accord and satisfaction would have resulted.”

A taxpayer’s subjective belief, however, is irrelevant in

determining whether the receipt of a check is subject to

substantial limitations or restrictions (i.e., whether cashing it

would have created an accord and satisfaction).     Fromson v.

United States, 32 Fed. Cl. 1, 7 (1994).

     Whether cashing a check would have created an accord and

satisfaction is to be resolved under State law.    See id. at 7-8;

Stoller v. Commissioner, supra (holding taxpayer in constructive

receipt where taxpayer refused to cash a check purporting to

represent final payment for services performed although under New

York law, taxpayer could have cashed the check without impairing

his claim by endorsing the check “without prejudice”, “under

protest”, or the like).   Accordingly, whether petitioners

constructively received $11,091.90 in 1999 turns on whether they

had a reasonable belief that cashing the check would have

impaired their claim against JTF under the law of the State of

California.

     California Uniform Commercial Code section 3311 (California
                              - 10 -

Code section 3311)(West 2002) provides in pertinent part:

     Accord and satisfaction by use of instrument

          (a) If a person against whom a claim is asserted
     proves that (1) that person in good faith tendered an
     instrument to the claimant as full satisfaction of the
     claim, (2) the amount of the claim was unliquidated or
     subject to a bona fide dispute, and (3) the claimant
     obtained payment of the instrument, the following
     subdivisions apply.

          (b) Unless subdivision (c) applies, the claim is
     discharged if the person against whom the claim is
     asserted proves that the instrument or an accompanying
     written communication contained a conspicuous statement
     to the effect that the instrument was tendered as full
     satisfaction of the claim.

Subdivision (c) of section 3311, referred to above, does not

apply here to prohibit discharge of the claim.   According to the

Uniform Commercial Code Comments, California Commercial Code

section 3311 follows California’s common law rule that cashing a

check offered as full satisfaction of a disputed claim results in

an accord and satisfaction, thereby precluding the payee from

cashing the check and refusing to be bound by the condition.

Cal. Commercial Code sec. 3311, comments 2, 3. (West 2002).

     Whether California Commercial Code sec. 3311 applies to this

case turns on whether the check or an accompanying written

communication contained a conspicuous statement to the effect

that the check was tendered as full satisfaction of the claim.

Pellegri Sr. personally delivered the check to petitioners at

their home.   Although Pellegri Sr. informed petitioners that he

had negotiated a settlement with JTF, there were no restrictions
                              - 11 -

or limitations on the check itself.    Petitioners received the

check accompanied by Phillips’s report, which explained the

computation of the total damages.   About 3 weeks later on

December 7, 1999, Giannecchini delivered to petitioners a copy of

the release.   The release provided that in return for a payment

of $36,973, receipt of which was acknowledged, Pellegri released

JTF and its associates from any claim of damages to their 1999

apricot crop resulting from pesticide applications.    Although the

release failed to mention petitioners and implied that the

Pellegris were the owners of the apricots, it would have been

reasonable for petitioners to believe that cashing the check

might have discharged their claim against JTF under California

Code section 3311.

     Section 1207(a) of the California Commercial Code is

identical to section 1-207 of the Uniform Commercial Code in

effect in New York,   N.Y. Uniform Commercial Code Law sec. 1-207

(McKinney 1993), on which we relied in Stoller v. Commissioner,

supra.   In the Stoller case we held the taxpayer in constructive

receipt of income on receipt of a check even though the amount of

the underlying obligation remained in dispute.    Section 1207(b)

of the California Commercial Code states that “Subdivision (a)

does not apply to an accord and satisfaction.”    The law of

California concerning accord and satisfaction on its face is
                              - 12 -

different from the law of New York, on which we relied in the

Stoller case.

     California Civil Code section 1526(c) (California Code

section 1526(c))(West Supp. 2002) provides that “the acceptance

of a check or draft by a creditor constitutes an accord and

satisfaction when the check or draft is issued pursuant to or in

conjunction with a release of a claim.”   The reference to

“release” in California Code section 1526(c) “must therefore

contemplate a mutual understanding (not necessarily in writing)

that was reached before the debtor issued the check containing

the notation.”   Dirs. Guild of Am. v. Harmony Pictures, Inc., 32

F. Supp. 2d 1184, 1189 (C.D. Cal. 1998) (emphasis added).    In

Dirs. Guild of Am. the court stated that because the parties did

not reach a mutual understanding before the issuance of the

check, a letter that the debtor enclosed with the check stating

that the check was “full and final payment and settlement of any

and all contributions, interest, audit fees, and liquidated

damages” did not constitute a release within the meaning of

California Code section 1526(c).   Id. at 1186, 1189.3

     Here, although there was no mutual understanding of a



     3
      In Dirs. Guild of Am. v. Harmony Pictures, Inc., 32 F.
Supp. 2d 1184, 1189 (C.D. Cal. 1998) the United States District
Court concluded that relevant portions of California Civil Code
sec. 1526 and California Commercial Code sec. 3311 are in
conflict, and the court gave effect to the later-enacted
Commercial Code sec. 3311.
                              - 13 -

release between JTF and petitioners before the check was issued,

there may have been such a mutual understanding between JTF and

the Pellegris prior to the issuance of the check.4   Petitioners

reasonably could have believed that there was a mutual

understanding between JTF and the Pellegris before the issuance

of the checks to Pellegri Sr. and to petitioners and that the

mutual understanding would be imputed to petitioners, thereby

creating an accord and satisfaction under California Civil Code

section 1526(c).

     Although we believe that California Commercial Code section

3311, discussed above, states the California law relevant to this

case, we note that the common law of California would govern if

no statute applied.   Under the common law of California, the

elements of accord and satisfaction are:   (1) A bona fide dispute

between the parties; (2) a clear expression by the debtor that

what he tendered was subject to the condition that it was to be

in full satisfaction of the creditor’s unliquidated claim; and

(3) a clear understanding by the creditor when accepting what was


     4
      The release indicates that it was signed by Stephen
Pellegri on 11/02/99 and for JTF on 11/03/99. The check from JTF
to Pellegri is dated 11/02/99. The check from Pellegri to
Roseann Miller is dated 11/01/99. Neil Phillips’s letter
concerning the amount of the loss computation is undated, but a
page of supporting data indicates fax transmission on 11/05/99.
The record does not disclose the date of any oral agreement
between the Pellegris and JTF. The meeting between petitioners
and Pellegri Sr., when Pellegri Sr. presented his check to
petitioners and showed them Phillips’s report, took place on
11/12/99.
                                 - 14 -

tendered that the debtor intended such remittance to constitute

payment in full of the particular claim in issue.      Thompson v.

Williams, 259 Cal. Rptr. 518, 521 (Ct. App. 1989).

     A writing is not essential to an accord and satisfaction; it

may be implied.   Id.     Whether a transaction constitutes an accord

and satisfaction depends on the intention of the parties as

determined from the surrounding circumstances, including the

conduct and statements of the parties, and notations on the

instrument itself.      In re Marriage of Thompson, 48 Cal. Rptr. 2d

882, 887 (Ct. App. 1996).     A claim can be discharged by accord

and satisfaction under California law even if a check is received

without written or oral warning that the check is in full

satisfaction of a claim if “the surrounding circumstances [are]

sufficient to give * * * [the creditor] notice of that fact.”

Keppard v. Intl. Harvester Co., 581 F.2d 764, 767 (9th Cir.

1978).   In the present case, although there was no restriction or

limiting condition written on the check, the circumstances were

sufficient to give rise to an inference that cashing the check

might discharge the claim.     Petitioners received the check

personally from Pellegri Sr., who informed them that he had

negotiated a settlement with JTF concerning the damage to the

apricots.   Pellegri Sr. gave them Phillips’s report, which

explained in detail how the damages were computed.     Petitioners

subsequently were given a copy of the release.
                              - 15 -

     Under California law knowledge of a creditor’s agent may be

imputed to the creditor to make an accord entered into by the

agent valid where the creditor, with knowledge of the acts of the

agent, accepts the remittance from the agent and uses the

proceeds.   B&W Engg. Co. v. Beam, 137 P. 624 (Cal. 1913).    In B&W

Engg.v. Beam, supra at 628, the court stated:

     if plaintiff’s assignor was not willing to accept such
     payment in full satisfaction of its claim in keeping
     with the settlement made by Crowley it should, within a
     reasonable time, have repudiated such settlement and
     returned the money paid thereunder. * * * Failing in
     this the acceptance and retention of the payment in
     question was, under all the circumstances of the
     transaction, tantamount to an express ratification of
     the compromise made by Crowley, and operated to estop
     plaintiff’s assignor from denying the authority of
     Crowley to execute such agreement.

     Here, the lease agreement between petitioners and the

Pellegris did not address potential claims against third parties.

The Pellegris did not have express authority from petitioners to

release JTF from liability to petitioners arising from the crop

damage.   Prior to the execution of the release, petitioners had

notified Giannecchini that the Pellegris were not authorized to

enter into a settlement on their behalf.   Petitioners also

retained counsel who advised them not to cash the check,

apparently to avoid an accord and satisfaction.   Under these

circumstances, we conclude that there was reasonable basis for

petitioners to believe that if, rather than repudiating the

settlement by the Pellegris by returning the check or at least
                             - 16 -

continuing their protest, they had instead cashed the check, then

an accord and satisfaction would have been created.

     Under the circumstances of this case, there was substantial

reason for petitioners to believe that an accord and satisfaction

would have been created under California law if they had cashed

the check here in question in 1999.    The realistic possibility of

an accord and satisfaction constituted a substantial limitation

or restriction on the receipt of the proceeds.    Therefore,

petitioners were not in constructive receipt of the proceeds in

1999.

     Reviewed and adopted as the report of the Small Tax Case

Division.

     To reflect petitioners’ concession,

                                           Decision will be entered

                                      under Rule 155.
