1993 Tax Ct. Memo LEXIS 442 | Tax Ct. | 1993
1993 Tax Ct. Memo LEXIS 442">*442 An appropriate order will be issued and decision will be entered under Rule 155.
MEMORANDUM OPINION
FAY,
OPINION OF THE SPECIAL TRIAL JUDGE
POWELL,
The deficiency in this case results, in part, from the disallowance of a loss in the amount of $ 126,866 claimed with respect to alleged straddle transactions of forward contracts for government-backed financial securities with First Western Government Securities, Inc. (First Western). 2 The First Western losses were the subject of the Court's opinion in
In concluding that the transactions were not bona fide, the Court examined various aspects of the First Western program, including the risk of profit and loss, the hedging operation, the margins required and fees charged, the pricing of the forward contracts, and the manner in which the transactions were closed. 1993 Tax Ct. Memo LEXIS 442">*445 In all of these areas we found that the First Western operations were deficient and not conducted as they should have been if bona fide financial transactions were being conducted. We also pointed out that there were other "gremlins" in First Western's world that dispelled the notion that these transactions were bottomed in financial reality -- reversing transactions months later, confirmations being months late, transactions being made with no documentation, etc.
In the case currently before the Court, petitioners concede that their transactions with First Western were conducted in the same way as the transactions discussed in
1.
Summary judgment under Rule 121 is appropriate when "there is no genuine issue as to any material fact and * * * a decision may be rendered as a matter of law."
Petitioners contend that the increased interest under section 6621(c) is inapplicable to them, relying on
1993 Tax Ct. Memo LEXIS 442">*449
2.
Respondent determined that an addition to tax under section 6653(a) was due for negligence. Section 6653(a) provides in relevant part that "If any part of any underpayment * * * is due to negligence or intentional disregard of rules and regulations * * * there shall be added to the tax an amount equal to 5 percent of the underpayment." "Negligence is a lack of due care or the failure to do what a reasonable and ordinarily prudent person would do under the circumstances."
The negligence question focuses on petitioner Jerome Kozlowski. He entered into the transactions with First Western, and we will refer to him hereafter as petitioner. Petitioner contends that the addition to tax under section 6653(a) is unwarranted because he exercised due care when he entered into the transactions with First Western. The gravamens of his contention are that he relied on expert advice and that his motive for entering into the transactions was not to avoid taxes.
Petitioner has a background in engineering. Over the years he had made investments in real estate and in other ventures. He was told about the First Western program by Mr. Disser, another engineer with whom petitioner worked. It does not appear that Mr. Disser had any expertise in dealing with straddles in forward contracts that were the heart of the First Western program. Petitioner relied on the information concerning the program1993 Tax Ct. Memo LEXIS 442">*452 that was supplied by First Western. This information contained a legal opinion as to the tax aspects of the program. Petitioner also relied on a certified public accountant who prepared his returns. It does not appear that the accountant had any expertise with forward contracts of the nature allegedly traded by First Western.
Petitioner testified that most of his net worth was invested in short-term (12 to 18 month) bonds and that he invested in the First Western program to insure that if interest rates fell his income would be protected. Petitioner, however, could not explain how the program would accomplish this result. Furthermore, his interest rate forecast 5 submitted to First Western does not indicate whether interest rates would move up or down. 6
1993 Tax Ct. Memo LEXIS 442">*453
With regard to petitioner's reliance on experts, such reliance, standing alone, will not insulate a taxpayer from the addition to tax for negligence. It must be shown that the expert had the expertise and knowledge of the pertinent facts to render such an opinion on the subject matter.
Finally, we note that petitioner's alleged motive for getting into the First Western transactions is simply cut from whole cloth. Petitioner was at a loss to explain how the program worked, much less how it could have been used to protect a future stream of income. Even if the transactions had been bona fide, it would have been virtually impossible to use the First Western program as a device for hedging interest rates. The raison d'etre of the program was to convert ordinary income into long term capital gains and defer income. Furthermore, any true hedging of interest rates would depend on there being the potentiality for delivery of the underlying securities. That was not a part of First Western's world. See
1993 Tax Ct. Memo LEXIS 442">*456 Petitioners have not shown that they used due care, and respondent's determination with respect to the addition to tax under section 6653(a) is sustained.
Footnotes
1. Unless otherwise indicated, section references are to the Internal Revenue Code in effect for the year in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩
2. In the notice of deficiency, respondent made other adjustments to interest income, business expenses, boat and aircraft expenses, rental losses, and income from the sale of a capital asset. By stipulation, the parties have resolved these issues. The other adjustments are mathematical and will be resolved during the Rule 155 computations.↩
3. Petitioners also contend that the increased interest provisions are not constitutional. We have rejected that argument.
(1985), affd. without published opinionSolowiejczyk v. Commissioner , 85 T.C. 552">85 T.C. 552795 F.2d 1005">795 F.2d 1005↩ (2d Cir. 1986).4. Furthermore, as we discuss
infra , , revg.Heasley v. Commissioner , 902 F.2d 380">902 F.2d 380 (5th Cir. 1990)T.C. Memo. 1988-408↩ , is otherwise distinguishable.5. An interest rate forecast was an intergral part of First Western's program. The customer would forecast whether interest rates would increase or decrease in the future. Theoretically, this forecast was used in determining the long and short legs of the straddles. See
, 89 T.C. 849">852 (1987), affd.Freytag v. Commissioner , 89 T.C. 849">89 T.C. 849904 F.2d 1011">904 F.2d 1011 (5th Cir. 1990), affd.501 U.S. . As a practical matter, the forecast had little to do with the alleged transactions.↩ , 111 S. Ct. 2631 (1991)6. The record is somewhat unclear as to whether petitioner dealt directly with First Western or through some type of a joint venture with Mr. Disser and a Mr. Fox. Mr. Disser's interest rate forecast was that rates would go up. If that controlled the alleged trading, and if the First Western program could have been used as a hedging device, then the account was hedged in the wrong direction.↩
7. In discussing
, and sec. 6621(c), we noted that the case was distinguishable. The Court of Appeals in that case found that there was a profit motive. There is no credible evidence of a profit motive here.Heasley v. Commissioner ,supra↩