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Case number 19-1050 et al.

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Martha G. Smith and George S. Lackner, a balance, versus Commissioner of Internal Revenue.

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Mr. Leiden for the balance, Mr. Schumann for the appellee.

[00:00:15] Speaker 03:
Good morning, Councils.

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Mr. Leiden, please proceed when you're prepared.

[00:00:18] Speaker 00:
Good morning, Your Honor.

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May it please the court, my name is Edward Layden.

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I represent both the Mr. and Mrs. Smith.

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Mrs. Smith is, use a different name, but Mr. Martha Smith and George Lackner are married and have been for,

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for many years.

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This, as the court knows, is a case that arises from the tax court through the court's jurisdiction to hear cases arising from the tax court.

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It centers to a great, almost, I think, predominant extent on the admissibility

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of certain substantiating documents.

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As the record reflects, we really have two tranches of tax years in question, although they are sequential for reasons that probably don't bear on this particular analysis.

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2007 and 2008 were the subject of an examination that commenced earlier on.

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2008, 2010, and 2011

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were added on.

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Because notices of deficiency were issued at different times, these cases were then consolidated for trial.

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And a trial did commence before Judge Lauber in September of 2013.

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At that time, Dr. Lackner, who was the primary participant in this, Mrs. Smith did not spend very much time on this,

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and was not particularly involved with negotiations or discussions with the IRS, submitted to the court four boxes, banker boxes, full of copied receipts and canceled checks and things along these lines.

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really frankly would have been difficult for the court to sort through.

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Judge Laubert, not surprisingly said, go back and fix this.

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Now, what's interesting is from Dr. Lackner's perspective, and Dr. Lackner, as the record reflects, has had a cinematic life.

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He's a world-renowned psychiatrist.

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He's taught at Harvard, Yale, George Washington, Columbia, and around the country.

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He's also been a colonel in the United States Army, was on the VA, and before that emigrated from Hungary after having participated in the 1956 uprising against Soviet rule.

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It's a background that is, I think, cinematic is the best way to describe it.

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He takes the position now in his later years of his life, and all of this occurred while he was in his 70s, that he had already provided those documents, the ones for 2007,

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in 2009 to the IRS through its Office of the Taxpayer Advocate and only received them back just before the September 2013 trial date.

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And that was what he provided to the court at that point.

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Subsequent to that, I entered my appearance for purposes of tax years that were not at that point in at issue for which statutory notices of deficiency weren't issued until February of 2014.

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And I entered my appearance and filed a petition for those years and asked for consolidation with the other years, as much as they're sequential.

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And they deal with common issues and makes perfect sense as a matter of the judicial economy.

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Those other years, 2008, 2010, and 2011, were also the subject of documentary evidence that Dr. Lackner, again, through his own testimony, submits he had already turned over to the revenue agent in question, but that which he contends he never received back.

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We have a classic question of credibility.

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You argue below to the tax court that he had turned over the 2008, 10, and 11 records to the... Yes, he testified to that at trial, that he had... And the government through its... You don't have that?

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I'm sorry, Your Honor.

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You have a citation for that?

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It's in the brief, Your Honor.

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It was as a matter of trial testimony when Dr. Lackner testified during the tax court trial.

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All the 2008, 10, and 11 documents

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corroborating documents to the revenue agent and his- That's what he believes happened and that's what he testified to.

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In fairness, the revenue agent said that that didn't happen.

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And as a practical matter, that may not make much difference in the bigger scheme of things because that's really the avenue of relief that we seek.

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I think Judge Labrador was quite correct in saying that a trial judge

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is not set up and shouldn't be expected to conduct what is in essence a tax examination based on original documents or copies of origin.

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I'm asking about the argument at the end of your brief that there was somehow something sort of went wrong on the IRS end here because all these documents that they say they need were turned over to the agent.

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Was that legal argument presented to the tax court?

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You said he mentioned it in his testimony.

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It was a legal argument that- We did not know, Your Honor, because what we had asked for at that point was for Li Wei to present those documents.

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For Dr. Lackner, who testified as well, I should add, said he didn't keep copies of the documents that he gave to the revenue agent to go back and recreate those documents.

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What he had said he did was tape them onto

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eight and a half, 11 size sheets and make copies of them.

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And he was gonna go back and do that again.

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At least that's what he told the tax court when he testified to do it.

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But we did not make a legal argument that there was some malfeasance or other untoward conduct on behalf of

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the government in this case.

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And the relief we're simply seeking is to be able to bring those documents forward, those substantiating documents.

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And the reason we say this is that there's a process to do that very thing, albeit at the tax court level.

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The revenue procedure that we cite, 2016-22, which came down

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March 23 2016 provides a process by which that could happen, which is in fact probably the the most logistically feasible thing to do would be to bring this down to appeals, where a

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subsequent examination of these documents could occur.

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And that would be the substantiating event.

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And the point being here, that if this turns on a matter of substantiation, you either have background documents or you don't.

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In this instance, the government has taken... Is there anything in the record that shows that he did turn these... I know you said his testimony.

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Did he have any substantiating documents about handing these documents over to you?

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No, Your Honor.

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He didn't have a receipt.

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He didn't have

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anything on the order of some kind of a confirmation note or anything from the revenue agent.

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And in all fairness, in the interest of full disclosure, the revenue agent's own case notes, which were admitted, I believe as 55R, don't reflect that in Cancer Island.

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So in terms of where we're coming from here, we would not base our case on any misconduct on the part of the IRS.

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that I don't think we need to go there, and I will be very reluctant to go there.

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Knowing the revenue agent in question, having worked with this agent before, and knowing the honorable nature of the IRS, having worked with the IRS for 30 years, I don't believe that that is a necessary analysis for this quarter of the tax court to do.

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I believe there is- You're talking about the payments that were coming from the VA, not the settlement one, but the other, I guess there were,

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104A4, Your Honor.

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Yes, the one that.

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Please let me just describe it here so you can tell me what I've got wrong.

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So I thought there was there were some monthly payments, although maybe I read somewhere it was only five months worth of payments that came from the VA.

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Can you explain to me were these monthly payments that went on for some prolonged period of time or just for five months?

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And then what your best argument based on the record is that those were either, I guess, a disability or pension

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Uh, payments that would be excluded based on record evidence.

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They are recurring.

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Um, the, the nature of, are they constantly?

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They are.

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Yes.

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On a monthly basis.

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It was a disability, uh, pension that, that Dr. Lackner was provided.

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Were these monthly payments made?

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I'm sorry.

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I say again, you're not in the point here.

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how long a period were these monthly payments made?

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They were commenced I believe in 2010 and from what I know they continue still.

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Okay.

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That this was and and the reason was because Dr. Lackner had been wounded in Kosovo or unstructured in Bosnia and that this was in relation to the disabilities that he suffered as a result of that and under 104A2

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of the Internal Revenue Code, those types of payments are categorically held to be exempt from taxable income because of the nature they come.

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And that was distinct from 104A2.

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It's limited to military members or people in the armed services, which of course Colonel Lackner, or Dr. Lackner, he was a bird colonel in the army, wounded in the course of combat, to which he was entitled.

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And so there was no, but you don't have any documentation

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Even over these years from the IRS to the end, they do they are not the IRS, excuse me, the VA, do they not issue sort of any annual statements just explaining the payments.

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I have not seen such a statement from my client, your honor.

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And I'm not sure that that would actually answer the question.

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What we had argued a trial was

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that because these, at least the way we characterize them and what Dr. Lackner was led to believe through a social worker would be tax free, that would mean that they would never be reported to the IRS.

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That was the argument we made there.

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In other words, by virtue of the IRS own instructions regarding 1099 miss issuance, that at least for 104A2 and by extension 104A4, that the IRS, the payor in any instance,

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the government as the VA or in any other payor for these purposes is not required and in fact is discouraged from issuing a Form 1099, which we use as the explanation of why the government wasn't aware of these payments in the first place.

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When I say the government, I mean the IRS as opposed to the VA, why they weren't aware because there was no statutory reason for them to be so aware.

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There was no notice because these were non-taxable to the recipient

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and hence never answered gross income.

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Thank you.

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I'd be glad to ask Judge Sundarvas and Judge Henderson any questions you have.

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We'd be more than glad to try to answer them.

[00:11:48] Speaker 03:
No.

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None for me, but thank you, Mr. Layden.

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We'll hear from Mr. Schuman now.

[00:11:57] Speaker 04:
Good morning and may it please the court.

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My name is John Schuman and I represent the Commissioner of Internal Revenue.

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Before I begin my larger outline, I'd like to start with two of the questions that arose from Mr. Layden's presentation.

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One of which had to do with whether these documents for 2008, 10, and 11 were given to the revenue agent.

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Supposedly not returned that there was some testimony about that at trial and specifically it's at the appendix pages 310 and 311 and they're the Mr Layton explained to the tax court that they did not have a substantiation at the time.

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to document that these were disability payments and not some taxable income instead.

[00:12:56] Speaker 02:
What monthly payments does the VA issue to a retired service member that are not on an ongoing basis that are not disability or pension?

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What else?

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They don't they don't just give out money for some other category that I'm aware of if they do let me know because my husband's retired and I'd like to get the money.

[00:13:21] Speaker 04:
Yes, that no that you're absolutely right about that your honor but that that's just it though that there wasn't really a showing that these were.

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monthly payments that continued indefinitely in the same amount.

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There were actually larger payments.

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These were amounts that, again, coincided with the same timeframe as the settlement with the VA.

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And of course, the settlement included items that were taxable income and that were not non-taxable.

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I have thought the records show from your, not your personally, but from the IRS's

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what do you call the bank analysis that they had identified?

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And it was confusing to me how long the period was, but apart from the settlement payments, they had identified a pattern of payments from the VA.

[00:14:09] Speaker 02:
Now I had read somewhere and thought it was only five months, but Mr. Layden says it was ongoing from 2010.

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Did you find an ongoing, explain to me what they found, put the settlement payments aside.

[00:14:22] Speaker 02:
It was a separate category here of VA payments.

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that was found, as I understand it, through the bank deposit analysis, was that, is that what you were saying was in different amounts?

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Was that ongoing or was it limited to a short period?

[00:14:38] Speaker 04:
Well, the record is not crystal clear on this amount.

[00:14:41] Speaker 04:
The revenue agent did say that there were a series of payments, but it's not clear that they were the same amount every month it continued on.

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This is the Veterans Administration.

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And you've got someone who's undisputedly a retired service member.

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And if you see a series of payments from the VA, I just don't know on what possible basis you think the VA is making taxable payments to a retired service.

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If you could just tell me something in the law that the VA pays that's taxable to former service members in a series of payments over months, that would help me.

[00:15:24] Speaker 02:
But I'm having trouble imagining what that

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payment could possibly be except for one of the two non-taxable categories.

[00:15:32] Speaker 04:
Well, the revenue agent did look into that and tried to determine that and was not able to determine that it was a non-taxable payment.

[00:15:41] Speaker 02:
Is there any such thing in your experience, in the IRS's experience, I mean, you're personally, sorry, in the IRS's experience at the VA, this is what's baffling to me.

[00:15:50] Speaker 02:
I just don't know what the VA pays.

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He wasn't an employee at the time.

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So I don't know what they would pay on a recurring basis other than something that falls within the taxes category to a former service member.

[00:16:04] Speaker 02:
Are you aware of anything that they pay that's not a service member on a recurring monthly basis that is taxable?

[00:16:13] Speaker 04:
Well, it could have been related to the settlement because it was in the same timeframe.

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And those payments were not necessarily made all in lump sums.

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Now, some of them were, but some of them weren't.

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And there were different categories of payments.

[00:16:25] Speaker 02:
Well, have you added them?

[00:16:26] Speaker 02:
We knew what the settlement amounts are.

[00:16:28] Speaker 02:
So have you added them together?

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Do we know that these were just settlement payments?

[00:16:35] Speaker 04:
Well, he was definitely paid the settlement payments, but they weren't all in one payment.

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And I guess what I would go back to is that to prove a deduction or an exclusion from income, the taxpayer has the burden of showing that these were non-taxable in nature.

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And there was simply no documentation of this, although if it had been disability payments, I'm certain there would have been some documentation from the end.

[00:17:01] Speaker 02:
But the IRS had a luminary, sort of very minimal showing.

[00:17:05] Speaker 02:
And then the burden shifts to the taxpayer.

[00:17:08] Speaker 02:
Is that not what the statute says?

[00:17:10] Speaker 04:
Correct, yes.

[00:17:11] Speaker 04:
We did show that the income had come in and then it was up to the, as it was presumed to be taxable, and then it's up to the taxpayer to show otherwise.

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That it's in a non-taxable category.

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And here there was simply no documentary evidence.

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There was no substantiation whatsoever.

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Nothing that would convince the tax court.

[00:17:31] Speaker 03:
Just one quick clarification.

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When you say it was presumed to be taxable, you mean

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It was presumed to be taxable because there was documentation that showed that these amounts were added to the bank account.

[00:17:42] Speaker 04:
Yes, it was part of the bank deposits analysis.

[00:17:44] Speaker 04:
Yes, your honor.

[00:17:45] Speaker 03:
And then that creates, the way this works is that creates an assumption that it's taxable income.

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And then the burden is on the taxpayer to show that even though there was money deposited in the bank account, that that was actually non-taxable.

[00:17:58] Speaker 04:
Right.

[00:17:59] Speaker 04:
Right, that's correct, your honor.

[00:18:02] Speaker 02:
And I just want to clear on one thing that you, because I

[00:18:05] Speaker 02:
I had thought, and this could be my error completely, I had thought that there were sort of two categories of VA payments here that were at issue.

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One was a set of payments that was the settlement agreement.

[00:18:20] Speaker 02:
But I had thought there was a separate argument that there were these other payments from the VA that recurred on a monthly basis.

[00:18:30] Speaker 02:
It wasn't clear to me how long they repeated.

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they occurred on a monthly basis that were distinct from the settlement agreement.

[00:18:36] Speaker 02:
Are you saying I'm incorrect in understanding it that way from the briefing that in fact we don't know if there were any VA payments separate from the settlement agreement?

[00:18:47] Speaker 04:
Well the problem here is that in 2010 there were a number of payments from the VA and taxpayer even though he had the burden to do so did not provide

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substantiation of what was what.

[00:19:00] Speaker 04:
So it was up to the revenue agent to try to figure that out without really any cooperation from the taxpayer.

[00:19:06] Speaker 04:
And he tried to do that and tried to determine if there was evidence that these were non-taxable, but he was unable to find that.

[00:19:18] Speaker 02:
Did you do a bank deposit analysis for 2011?

[00:19:21] Speaker 02:
Yes.

[00:19:22] Speaker 02:
Were there monthly VA payments in 2011?

[00:19:28] Speaker 04:
I'm not certain of that, Your Honor.

[00:19:31] Speaker 02:
The retired military colonel, as we've been told, who presumably would be getting some sort of retirement benefits from the VA.

[00:19:42] Speaker 02:
Is that right?

[00:19:42] Speaker 02:
I mean, the government doesn't dispute his retired, or do you?

[00:19:45] Speaker 02:
The IRS doesn't dispute his retired status as a former military officer?

[00:19:49] Speaker 04:
No, I believe we stipulated to his retirement from the Army.

[00:19:53] Speaker 02:
And so he would be getting some monthly payments, would he not?

[00:19:57] Speaker 02:
either disability or pension?

[00:20:01] Speaker 04:
Well, that's what the revenue agent asked the taxpayer.

[00:20:05] Speaker 04:
That's what the revenue agent was trying to determine.

[00:20:08] Speaker 04:
And again, did not receive any cooperation.

[00:20:10] Speaker 04:
And so had to try to figure it out for himself.

[00:20:12] Speaker 04:
And he did not find that evidence.

[00:20:17] Speaker 04:
And the tax court, in a factual finding, determined that the substantiation was not sufficient.

[00:20:24] Speaker 02:
This might be a crazy argument.

[00:20:26] Speaker 02:
Because you all are one government.

[00:20:28] Speaker 02:
Does the IRS ever ask the federal agency what the basis for payments are?

[00:20:34] Speaker 02:
Is that any part of an IRS inquiry like this?

[00:20:38] Speaker 04:
I don't know if that's a routine part of the process.

[00:20:42] Speaker 04:
Ordinarily, the revenue agent is getting information from you.

[00:20:46] Speaker 04:
That's the first source.

[00:20:47] Speaker 04:
That's the horse's mouth.

[00:20:47] Speaker 04:
So that's where they get them.

[00:20:49] Speaker 02:
In this case, the whole reason you were doing the bank deposit analysis is you weren't getting much from.

[00:20:54] Speaker 02:
I'm just wondering why this could have been cleared up quite easily.

[00:20:59] Speaker 02:
And since he's a retired service member, I should think the IRS would be aware that it's likely that he's getting pension or disability payments from the VA.

[00:21:11] Speaker 02:
And so just to sort it out, wouldn't it have been... There may well be a reason.

[00:21:16] Speaker 02:
Please tell me why it wouldn't have been to this non-IRS person here.

[00:21:20] Speaker 02:
It would have been...

[00:21:23] Speaker 02:
Probably a logical and pretty easy thing to do is just ask the VA.

[00:21:28] Speaker 04:
Well, we did have information about the settlement and about the non-taxable items.

[00:21:32] Speaker 04:
But again, there was no cooperation from the taxpayer here.

[00:21:36] Speaker 04:
And the commissioner's determination of tax liability as set out in the notices of deficiency are presumed correct under case law.

[00:21:46] Speaker 04:
And taxpayers have the burden of proving them erroneous.

[00:21:49] Speaker 04:
They had that burden, as well as now in this court, the burden of showing that there's a definite and firm conviction that this factual finding by the tax court was a mistake.

[00:22:03] Speaker 04:
And I submit that he cannot meet those burdens.

[00:22:09] Speaker 04:
The other item I was going to discuss regarding the case was that on pages

[00:22:18] Speaker 04:
310 and 311 of the appendix, the taxpayer testified at trial that he could have regenerated these documents from 2010 and 2011.

[00:22:31] Speaker 04:
And he simply didn't do so, didn't submit it to the court.

[00:22:37] Speaker 04:
So we have their ability to submit these documents, but not the fact of them having done so.

[00:22:45] Speaker 04:
And I see my time has expired.

[00:22:50] Speaker 04:
I'm happy to answer any further questions or present a broader picture of the case than these two elements.

[00:22:58] Speaker 02:
In all the assorted receipts, there were some utility bills for Connecticut and California.

[00:23:06] Speaker 02:
Why is a utility bill from a state in which you reside but in which you have a rental property not

[00:23:14] Speaker 02:
relevant, the bill itself, relevant evidence of a payment, a deductible mental income payment.

[00:23:27] Speaker 04:
Your honor, this item was not raised by taxpayers on appeal in this court.

[00:23:32] Speaker 04:
And I think they've waived all objections to the specifics of this.

[00:23:37] Speaker 04:
But we did address this in tax court in the respondent's answering brief after the trial.

[00:23:46] Speaker 04:
And we went through each and every element of the deductions for those years that were claimed, including utilities.

[00:23:55] Speaker 04:
and indicated why they could not, why there was a lack of substantiation as to each one of those items.

[00:24:06] Speaker 02:
Since it wasn't specifically briefed by them, do you recall what the rationale for the utility bills was?

[00:24:12] Speaker 04:
Your honor, I could look that up in our brief below because we certainly did address all of that line by line and item by item.

[00:24:24] Speaker 04:
I don't recall exactly what it was for the utilities.

[00:24:31] Speaker 04:
If you could.

[00:24:34] Speaker 02:
That's okay.

[00:24:38] Speaker 02:
That's fine.

[00:24:39] Speaker 02:
It's perfectly understandable.

[00:24:40] Speaker 02:
You said they didn't raise a specific argument.

[00:24:44] Speaker 02:
Thank you.

[00:24:46] Speaker 03:
Make sure my colleagues don't have any further questions for you, Mr. Schuman.

[00:24:50] Speaker 03:
Okay.

[00:24:51] Speaker 03:
Thank you.

[00:24:53] Speaker 03:
decisions of the tax court be affirmed.

[00:24:55] Speaker 03:
Thank you.

[00:24:55] Speaker 03:
Thank you, Mr. Schuman.

[00:24:57] Speaker 03:
Mr. Layden, we'll give you two minutes for rebuttal.

[00:24:59] Speaker 00:
Very well, Your Honor.

[00:25:00] Speaker 00:
Thank you.

[00:25:01] Speaker 00:
I'll just try to answer some of the questions that Judge Millett raised and also to address Mr. Schuman's point as regard to out of state expenditures.

[00:25:13] Speaker 00:
Mr. Schumer is quite correct that in 2010, there were some of the payments for disability were lump sum payments.

[00:25:20] Speaker 00:
There were makeup payments in that period that then became monthly afterwards.

[00:25:25] Speaker 00:
And that was a reason why some of that was in amounts that weren't recurring at that point.

[00:25:31] Speaker 00:
It was that these were made up

[00:25:32] Speaker 00:
making up for past periods that had not been covered, for whatever reason, Dr. Lachter had not received them.

[00:25:40] Speaker 00:
So that explains, I hope, or at least addresses the nature of the payments.

[00:25:45] Speaker 00:
In terms of these out-of-state expenditures, along with all of the rental expenses, that's sort of our point.

[00:25:52] Speaker 00:
And I think we did raise it to the extent, I know in a brief we talked about that these were places where Dr. Lackner didn't live.

[00:26:00] Speaker 00:
We all agree he lives in DC.

[00:26:02] Speaker 00:
And so to characterize him as the service did, as being personal expenses, just didn't make sense.

[00:26:09] Speaker 00:
But at the end of the day, what this boils down to is there are records here.

[00:26:14] Speaker 00:
No one, because they've been described as being disorganized, has really looked at them.

[00:26:19] Speaker 00:
No one at this level, certainly not the appellate level, certainly at the trial level, should have to.

[00:26:25] Speaker 00:
That's why we have an appeals office and that's why we have revenue agents.

[00:26:29] Speaker 00:
So what we're asking for as relief is the opportunity to have someone take a look at this.

[00:26:34] Speaker 00:
Now, as respect to the point as to why these 2008 through 2011 receipts were not issued, we asked for the court's permission to do that.

[00:26:43] Speaker 00:
The tax record shows that we did make that request before the court's final determination and were denied.

[00:26:51] Speaker 00:
That's the reason they were not submitted, because the court would not grant us leeway to open the administrative record to receive those documents.

[00:27:01] Speaker 00:
Again, I thank you.

[00:27:02] Speaker 00:
I'll be more than glad to answer any questions.

[00:27:05] Speaker 00:
Just in conclusion, we would ask the court to reverse the tax court and to submit for, at our point, the remedy we seek is referral to the IRS Office of Appeals for further consideration of these years under audit.

[00:27:21] Speaker 03:
Thank you, counsel.

[00:27:22] Speaker 03:
Thank you to both counsel.

[00:27:23] Speaker 03:
We'll take this case under submission.

[00:27:24] Speaker 00:
Thank you, honors.