CTA Case No. 42 (Decision)

ftEPUBLIC OP 'I"HR PHILIPPINF.I ' g)URT OF TAX 4P.P&Li JW!IU4 ' =. AURELIO P. REYES, \ P tition r. v rsus C.T.A. E � 42 T B LLSCTOR 0 J,((p INTERNAL EVE EI' ( - ond nt. X� � � � � � - � � � X DBC1$IO This is p titton for -r vi of th d _cisi n oft � Coll etor of Int _rnal . v nu dat d t- ob r 13 , 1954 wher in th . su of -641 1470. 04 as1essed against p tition r s d fieiency i.ncome -t x for th cal ndar y a:r 194 to 1950, in- ,- clu ive , to eth ~ ith th. co r onding p nal� ti � � Th - p tttton ~ 1 _ bu in s - an, engaged in th optic l, offic quipm nt nd h b rd h r.y bu&in a � Ouring th aforesaid ye r , p titioner fil d hi incom t x r t rns r orting inco on th basis of th "cash r ceipt and iabur - n method�� and aid th c rr spending taxes th r on as follo ~ &neunt.PI :t x d 1946 no r cord e 10,594. 08 1947 l ,332. 37 194. 19,.160. 1,494. 70 1949 1,230. 14 1950 . tll � 2,274.82 18, 559. 22 . 19!>.07 ftel' an inv stiga ion p:r viously conduct 369 ., . ~ .._.. ., r

DECISI � C. T. A. C SE O. 42 by internal revenue xaminers, r spondent Col- lector of Internal Rev nue , on October 13 , 1954 , determined the incom tax deficiencies of p ti- tioner by means of the net orth met hod , com. put d in the following manner.s Net worth as of December 31 � 1946 � � � � � �� � � � � � tl87 ,677. 98 .Lesss Net orth as of Janu ry 1, 1946� �� �� � � 134 , 597. 00 lncreas in net v.orth � � � � � 53,080. 00 Tax due thereon � � � � � � � � ,. 11 , 104. 29 Lesss Amount of tax ass essed � � � � � � � � � � 10, 594. 08 Deficienc.y tax due � � � � � � 50% surchar ge � � � � � � � � � 510. 21 255. 11 Total amount due � � � � � � � ,1947 Net wort as of Decemb r 31, 1947 � � � � � � � � � � � � 386 ,009. 45 Less: Net r th as of January l , 1947. . . . . . . . 187 ., 677. 98 Increase in net worth � � � � � 198, 331 . 47 Tax due thereon � � � � � .� � � 67 , 479. 22 L s s ount of tax assessed � � � � � � � � �. � . 332;t 37 Deficiency t ax due � � � � � � . 66,146. 85 50% surcharge � .� � � � � � � � ~3 .073. 43 Total amount due . � � � � � � . t � 29 ,220,. 2� 1248 Net ~orth as of December 31, 1948 � � � � � � � � � � � � 583 , 706. 7 Less: Net worth s of January 1. 1948� � � ~ �� Increase in net worth � � � Tax due thereon � � � � � � � � � Less: Amount assessed. � � � � 1 . 494. 70 Deficiency income tax due � � � 65 , 717. 88 50% surcharg& � � � � � � � � � 32 . 858, 94 Total amount du � � � � � � � f 9� . 5761 82 .. ~ -.~ ~� - 370

DSCISl C. T�. � C SE � 2 3- t orth a of c e~ 31. 769.�757. 15 1949 � � � � � � � � � � � Le _s . t wo.rtb s .of Ja ry lt 1949 ���� Ine e 1 net ~ � � � T x due th r n �. � � � � � Ls unt ass ~s � � � O.fi e luerneeny� %i'9nc�, om�e tax due � 50% �� �� � Total amount du � � � � � et orth a of ce r 31 ., s31s'95N() � ��� � �� � �� L worth a of anuary l a 1950 � � � � lncr as in net rt � � � Tax du th r on � � � � � � s Ta lready ass s ed ficlency tax s.till d � urcbarg � � � � � � .� o nt till d � � � � � 1946 � � ~ � � � � 765. 32 1947 � � � � � � � 99 .,220. 28 1948 � � � ~ � � � 98, o7 . s2 19 9 � 1 � � � � � 91.510. 97 1950 � � � � � � � Total defi~i ncy inco tax. � � � 5 surcharge � � � � onthly int r- e t fro arch 31. 1953 to Oct- ober 31. 1954... dmini trativ pen- lty for lat p y t � �� �� � siiof OctJoObOe.r.M..3..1 , unt du 1954 �� � � � � � � � � � �� � � � � ..!!!i~!:=:2S The fore oing d flciency' inco ta as es - nt a arrived .at after dete ining petitiPn r tax ble ineo o th ba is of th net-worth ethod (al. o kn n th inv tory method). 371

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DECISION. C. T. A. CASE NO. 42 J..isbiliti cs Admitted liabilities of J nuary 1 , 946 (See ortg g ayable on Lot at Rizal Av nu and Soler , se above ) �� � ������������� ��� �� � � � �� � � 30, �00 The net rorth of p tit'oner of January 1 , 1946 , which was originally � dopted by re .... pondent as the opening net worth for puxposes of the as ssment was �134,597. 00. It i a - parent from respondent's memorandum (se p age 86 and Ann x l of emor ndum for espondent) that he is willing to cone d that petitione �s opening net o:rth ' On s id date was 3 0 .,630. 00, thus paving the way for the edification of the assessment. Respondent also admits th follow- i ng asset s and liabilities of petitioner as of t he end of t he calend r years in qu stion: . !:!!te mb,er 31,., 194,6 , dJai.tted assets ' 5 ,079. 72 Merchandise inventory - Miscel- laneous � � � � � � � � � � ~ Mer~handise inventory - laberdashery - Local � � � � 20,053. 28 erchandise inventory � Haberdashery - Imported � � � 70 , 699. 16 Merchandise inv ntory ... Office equipment - Imported � 47 , 925.29 erchandise inventory - o tic l goods - Local � � � � � � � � 8 ,072. 33 erchandise inventory �� tical goods ... lfl'l)orted � � � � � � 21 , 414. 12 Building fi xtures � � � � � - � � 4,500. 00 Optical equipment and apparatu s 14 , 140. 03 Auto & delivery trucks ��� � � 18, 05 50.. o4o0 27, Phi lippin Racing Club � � � � � oo anila Sur ty & Fidelity Company 10,000. 00 Real est ate holdings � � � � � 5 1 , 20a�. 374

� 42 7 .. . .. :ncr n. f pectivo mo- 16 , O' � . 00 . Optic"' . �. Co . 26 , 315 o.6 2 63,979 . 21 l ,372. 5'7 l-;s) . ~ e.,....- 1, o. o ffic �(; '3- .69 Op ..i al 3,::~v . 8 1 , 583 . 27 5,3 .) c.) 301t . 5 .. i 2' . 0 "I ' "'&... .I. 375

�2 10, .oo - ti l l . OCX>� . 123, 744. 0? .11 . 98 7. 1. 4,6 7. 53 367. 93 2 4.7 � 10, . 00 29.000. 00 1 . 000. 59 ,041 . 92 6 ,1 . 47 -376

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DECISION ... C. T.A. CASE NO. 42 l -11 ... , 9. Optical equi nt ' 12 ,,763. 58 14 , 140. 03 10. Furniture and fix- 17 , 267. 18 18 ,05 .oo . tures 11. Depr3ciation of - �~ (21,632. 28) assets (negative) 12. Real estate hoi.dings 73t: , 448. 00 738 , 698. 00 13. Race horses ��- 39 ,420. 00 A� .of Oee. 31 , lQ48 14. erchandis inventory Haberdashery � Im- ported � 46 , 498. 15 138,985. 09 15. Merchandise invent ory Office equipment ... Imported 78 ,621 ,.11 216,409/87 16. ~erchandise inventory Optic 1- Imported 93 , 861. 93 155 , 719.08 17. Building fixtures 3 , 500. 00 4 ,.500. 00 18. Optical quipment 11 , 170. 83 14 , 140. 63 19. furniture & fixtures 17,072. 9i 18,050. 40 20. Auto & delivery t r ucks 8 ,028. 00 11 , 842. 00 21 . DeP.reciation of asset �-� (negative) (39 , 256. 02) 22. Real est ate holdings 762,708. 0 767 , 208. 00 23. Race horses 39_,420. 00 as of ~~ � 31 ... l2.i2. 2 � Merchandise inventory .. Haberdashery .. Im- ported 75 ,643. 94 173 , 538. 61 25. Merchandise i nventory- Equipment - Im- ported 72 , 765. 59 271 , 209. 6 26. Merchandise inventory - Optical � - Imported 104 , 327. 22 224 ~ 343. 92 27. Building fi xtures 3 ,045. 00 4 ,500. 00 28. Optical equipment 9 , 578. 08 14 ,140. 03 29. Furniture & fixtures 14 , 984. 01 18,050.40 ,... 379

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381

DECISION- C. T. A. CASE 0. 42 - 14- opening n t orth. P�etition r, ho ever , claim that the correct valu of aid property as of January 1 , 1946 should be 5 ,000. 00. agre ith p titioner that th v lue of th building hich hould b t k n into ccount i P45 ,ooo. oo. , This is cl rly ho n by th fact that th con- tract pric for t h construction of th building also pp .ar in th p rformance bond (Exh . ). That this building was completed in Dec mb r, 1945 i shown in petition r's real property tax d clar ati on (Exhibit BBBB). Th cost is corrobo- r at d by etition r's i ncome tax r turn for 1947 hich i a docum nt antft litis motam (Exhibit 00- titioner; Exhibit 33 * R spondent on page 3 thereof , Sch dul of Depreciation) , whi ch sho that th cost of the building i 45,000.00, so that of c mber 31, 947 , it had a n t book v lu of 40.500.00 after a y arly depreciation allowanc of �2 , 250. 00 for 194 an 1947, or a total depreciation of 4,500. 00 or two years. Land at 312 Cavite St. (It pondent claim that the sum of 2 ,008. 00 (install- ment p id in 1945 and prior year on account of a lot at Cavit St. in tv anila) should not b c considered as part of the as ets of petitioner in 1945, or a of January 1, 1946, becaus t he lot was purchased by in tallment , and th l ast pay- 3 82

DECI c�� 42 - 15- ent was m d in 1946. In oth r ~ord , amounts paid by w y of installment re not ass t of th purchas r i n t h ye r of payment; only the total amount , or the purchas price wh n paid in full , becomes an asset of the purchas r in th year the final inst~lment is paid. e c n not accept this vie � / we bell. ve that in � acquisitions of property by installment, all pay- - ments made during a year are art of the pur- chaser ' s ssets in the year of payment , not in the year the final inst l lment is paid.:fthat petitioner acquired this land in 1932 by inst all- ment and not in lu~ sum is � fu r ther corroborat d by the fact that in 1933 he const ructed a build- ing thereqn hich was declared for tax purposes in th na 1e of petitioner (Exhibits JJJ and JJJ-1) , hich building r spond nt admits a forming part of petitioner's opening net orth. Ra&e horses (I t ems Nos. 4 , 3 , 23 , and 33 )� � According to resp ondent, the p tit ioner had 11 race horses a of December 31, 1946 , valued each t 3 , 285. 00 , or 36,135. 00 , "hich petitioner . d nied at first becaus. it as not in respondent ' findings (E_ h. , Net orth Summary for 1946 to 1950) or in the p1e dings. However , evidence showing th~ number of horses at later dates in- die tes that som of the horses o ned in 1948 , 1949 or 195 . ver alr ady o ned by petitioner in 1946. Considering tha the evidenc of respond nt 383

DECISION - C. T. A. CASE NO. 42 i one to prove the increase of petitioner's net worth for each of t he years involved , and that respondent has admitted certain asset . but n ver� theless contends that th invr ase in net worth is much ore than what petitioner is willing to admit, believe that evidence in t hi r pect is admissible if only to sustain t he increase in net worth for each year as found by re pendent in the d cision subject of this appeal. espondent determine the value of each hor on the basis of the average cost of the dead horses claimed as losses by p titioner in his 1948 income tax r turn (Exh. YY � e note that this valuation appears to be the 1o est of valuations placed upon horses claimed to have died in 1947� 1948 and 1950. We also not that petitioner has. not been vocal about the correct- ness of the number and valu of his horse during th period involved. It b comes necessary for us to re iew all the evidence ,on thi point . fro petitioner's summary of horses di posed of in 1950 (Exh . TTT) he sold n n (9) horses ith nam s listed ther in (see also Exh. LL for dates of certificates of ownership) , which accor- ding to his income tax return for the same year (p. 2. Exh. TT) had a cost of 27 , 400. 00 , or an 384

DECISION ... C. T. A. CASE O. 42 average of 3,044. 44 each. From the s me sum- mary (Exh. TTT) , he claims to hav lost three horses, two of ich, �Night e n � and 11Blaek Chief�, were ' alued at 9 , 200;00, or 4 ,600. 00 each ., as shown in his incom tax r tum for 1950 (Exh. TT). From the same summary (Exh. TTT). � w note that he gave away cert in ho:r;ses to his f ther-in-la , each having a co t of 3, .00. Prom the testimony of Jose arren, an official of th Mnila Jock y club, it appears that ther were eleven (11) ho~s s register din th nam of p titioner during 1946. This is admitted by petition r. d petit1on r like is pres nted .... a list of horses registered in his nam or in that of his wif sine 1949 , and thos in peti� tioner ' s son and father- in- la � From the foregoing , w find the following s (1) that p titioner owned hor es named B tt r B t � , Buha i � , and 11 Requ sted� sinc�e 19.46 until sold to illiam Li Yao in 1950, which hors s wer acquir d by petitioner at a cost of 3,044. 44 ch; (2) that the horse "Black Chief was first listed in the name of the p tition r or of his ir in 1946 and �Night Queen in 1947, and that both wer owned until the hors died in 1950, each having a cost of 4 , 600. 00; (3) that p ti- tion r acquired fonr Freedoms and Pearl Diver� in 1947 , " ram � in 1948 and �s1u E gle and 385

DECISION- C. T�� CASE NO. 42 \ .18- �slack ight� in 1949 , each at a co t of P3 ,044.44, which continu d to b owned by p ti� in tioner until sold to 'illiam Li Yao 1950; (4) that petitioner in 1949 acquired horses �Royal Beauty�, �rhe Boss� and �Gilded Kntght" at cost of 3,000.00 each, hich horses cont� inued to be regist red in the name of petitioner ' s wife in 195 , and wer in f ct re- registered in her name in 1951, and transf r of tit to the fir t two named ho~es was mad in favor tif p ti- tioner. 's father-in~law only in 1952 (Exh. S) . e find that "Gilded Knight� could not have died � �n 1950 but prob b1y thereafter since it as in fa ct regi tered as alive in 1951 (Exh. SSS). Hence , the total number and valuation of horses owned by petit�on r during th period under r � vi are as follows s ~ No. of HorSi! Valua;t~ on December 31, 1946 4 13, 733. 32 December 31 , 1947 7 24 , 422. 20 Dec mber 31 t 1948 27,466. 64 8 42 , 55 . 52 Dec mber 31 , 1949, 13 Dee mber 31 , 1950 9,000. 00 3 il the res ondent did not consid r that petition r had a balance of thr ee (3 ) racf horses still on hand as of December 31 , 1950, w beli ve that this must have been due to oversight and since it is dtsclosed in petitioner ' s own evidence {Exhs . S S and W ) , we have to consider this fact by petitioner's admission. 386

' C I S ! ON .. �T. A. CASE NO. 42 ~rchandise Inv9ntories (Items.No.s, 6 and 7Ll247Z ; No�. 14 , , 1? and 16 Ll94SL; Nos. !4 , 25 and 26 Ll249h and No�� 35 and 37 /19507) . - P titioner sub- �tt d evidence to prove that ~rrors were committed in the prepar tion of his m rchandise inventoriee for t he year 1947, 1948, � 1949 and 1950 in that, i nstead of .reflecting the cost of acquisition of imported goods, the dealers ' prices wer sed, and the inventories contain d duplication and sometimes triplications of various item of merchandise. If this is correct , t e net worth of petiti ner during those year ld be reduc d and the taxabl e income would also be cor espondingly r duced. ecti n 36 of the Revenu. Code , requiring the t aking oi inventories, p rovide~~ EC, 36. nventorie�. -- Whenever in the judgment of the Collector of Internal Revenue, the use of inve tories is necessary in order to determine clear- ly th income of any ta ayer, inven. tor~es shall be taken by such taxpay r upon such basis as the Seer tary of Finance may, by regulations , prescribe, as conforming as nearly a mcy b to the best accounting practice in th trade o:t business and as most clearly reflecting the i l} come . � The l aw "� eq ires the taking of inventories if they are necessary "to det rmin clearly t h i ncome of any taxpayer , � such inventories to be tak n �upon such b~sis as the S cr tary of Fi- nance may, by regulations, prescrib , as c nform... ing as nearly as may be to the best accounting 387

.D CISIO - C. T. � C E O. 42 - 20 - pr ctic in t he t rad or busin ss and as ost clearly r fl cting th inco � I Th r egul tion pro 1 a d by the Seer tary of Finane r quir s the us of inventor! s "in v ry cas in which th ~ production, purchas , or sale of erchandis is an 1nco producing f ctor . u (S ction 144, ev nu R gulation No. 2, 39 o. a. 325. ) I n ord r that an i nv ntory ay satisfy th r quire nts of th law and r gulations , (1) it ust confer s n arly as possible to th best ccounting practic~ in the trad or busin s , and (2) it st clearly r fleet the inco of th taxpay r . An d in order that an inventory y clearly r fl ct the inco of th . taxpay r, th merchandis t be valued (l)at cost or (2) at cost or mark t price , which v r is lower . (S c . 145, Rev nue egulations Nos . 2) Th t r ttcost" ans, in th cas of rchandis purchased sine the b ginning of th taxable ye r - "x x x th invoic price 1 s trad or other discounts, xcept strict- ly c sh discounts approx1 ating a fair interest rate, which y be deduct d or not at the option of th taxpayer, provided a consistent cours is fol- lowed . To this net invoic price should be added transportation or other n cessary charges incurred in acquir- ing poss ssion ot th goods . ' Sec . 146, Rev nue Regulations o . 2. ) That th cost should be the proper b sis of t h valuation of the inventories of p titian r is not disputed by respond nt . Howev r, it is 3 88

DECISIO � C. T. A. C SE NO. ~2 alleged on behalf of r spondent that the valuation use in the inventories o:r petitioner is the cost and not the dealers' prioe as claimed by petitioner. The question to be decided� there- fore, is wh ther or not t he actual cost or the rchandis in question was used in said inv n- tories � .t>ati tioner presented avid nee during the trial to rove that the d alers' pric . was used as basis in the valuation of his erchandi'se i ventori s . Evid nee was also adduced as to ,� th actual cost of the merchandise. o evidence was presented by r spond�nt to rebut the evidence for the petitioner. Respondent relies on the certifications made by petitioner contained in the audit reports to th effect that the invento- ries were taken und r his personal supervision and priced at cost. He also sought to impugn the credibility and compet ncy of the witnesses �.or petitioner who testified to the fact that the valuation used was the dealers' price and not the cost. Likewise , it is alleged tha t having certified to the correctness of' the inventories, petitioner is estopped from claiming th incor- rectness of such inventories. Finally, it is argued that the correction of t he inv ntor1es as desir d by petitioner would r sult in pet1- ti.oner having sustained huge losses, which is incredible consid ring the increase in his n t 389

s 0 t th dal . .ric 1n ri l1a db 1 ler o r .o �� Opt c� nth Q 0 ot � rh or er uppli d t p r ns 1't ... p c 1 t nt le f ,� ' pri rt ric �� t th d l 'I! u Q c l co..,t b ut ci t b' 1 h. - s at a via ne � tpl1c 1 tr � lie tion 1 l st- of ma~.-.......tr:.n 1 in o 1. e .t b 1sb 4 t1 ony of w1tn .. d t r nt xhtbi � t r s on t t t ion r itt� h in Ms 1 1nc t . 1" u tt o1 dc r c t , tit1on r must bo . y h1 s1 � 7 e. (! 1 ul 0 e onin � 390

DECISIO C. T. � CASE O. 2 ... 23 .. has ought to establish that the bookS and rec� ords or p titioner are not correc t and do not reflect his tru ineo e , �d , eons quently 9 he has resort d t o th n t orth tho to et r - ne petitioner's taxabl inco e . C rtainJ.y., petitioner is also entitl o prov if he can, errors in the sa books a s whic ould tend to r educe his liabilit , :. prov .� atak s in a taxpayer �s ook and r cords can not b . a one-sided af'fa r . A~y ass ss ent at a deficiency tax based on th . incorr ctness of a taxpay r �s books and records would be un- just if the taxpay r can not be permitted to prov rrors in th sa e books and records to show a 1 ss r tax. l�foreov r, if the position tak n by counsel for the Government in � a .cas is corr ct 1 ections 306 and ~of the Revenue Cod , Which authorize refunds or credits ot i nt rnal r venue taxes rroneously or ill g 1- ly paid., would be but an empty gesture on the part of th Government, for taxpayers can not be per tt to prove stakes in their r cords to sp~rw . the erroneous payment of such taxes . ~ ,,f~"t,.'1i � 4 spond nt ha argu d that if th actu 1 cost of petit1oner 1 s :rchandise inventor! s � were as elai d by the latt r, he would hav suf�ered hu losses during t h period in question , 'Which is quite incredible. Respondent pos d this qu stion: "If � petition r sustained 391

cD. CI �IO � C 'E O. � 42 - 24 - sueh loss , wh r did h ge t th on y to ae uir thos ss ts whieh he piled p during those y ars?' It would r lly be difficult to answer this qu t1on if th 1nco e tax returns of p titian r r to b con der � t res - pond nt has shown t t p titionar�s 1neome t r turns ar not corr et, nd after giving p t1- t1on r cr i t for t h di crepanei s f ound n hi inv ntor s, p titian r ~till pe rs o have d ri d con id r 1 profits will h r - aft r b hown. ar , ther for , con trained to susu in t st nd of p tit on ~ r s r � rds the ct ual co t of h1 entori s r...ich . ust be t k n int o ccount in the d t r n~ tion of his net wort � (S pag s 1- o this d cision) On oth r point hich ght b stated in f vor of tition r is t e f ct t hat the original mnv ntori e submitt d to res pond nt. s id ori in 1 inv ntori st hav b en 3 b t- t d t r spondent at the nd of ach year, pur- su nt t ection 1 of nu R u1 tion No . V-1, or the oo pin R gul tions .43 o. G. 5'63). e invoi which wo~ld prov b yond doubt t act 1 cost of the import d rc ndise in question wer also submitted by petitioner to r spend nt wh n th cas was being i nv s - tigat b x n r of th Bur nu of Int rn 1 Revenu � Th or~inal inv ntori s coul not b 392

DECISIO .. C. T. A. CAo.E NO . 42 ... 25 ... submitted by respondent at the trial , whil only a por tion of the invoices was produced. This do s not sp ak w 11 of the stand taken b respond nt in this o s � ~� J.QJ.ng :t: .xtures 1 9R furniture and fixtures, nd 1 9l;t8s I tau lips . 22 . t o 31 .for 191�2 and OSt J8 t o >+2 for 122 �'�- P titioner in ~his case -appaars t o have agr d wit \�th ltams and mounts r ... gar ding building fix t ures, opt� cal quip nt , ' furnitur and fixt es and a to deliv ry ) uc s appea~1ng in the report of ' a ner ' osi co \ (Exh . W) , which was mad the ba sis of respondent;�\s � .. . . .. . ~II' I 'I' decision. Since no evi nee h,a$ been sub �~-~ i\ t o contr vert the s .aid i t em , " must sustain .I the items a th y app ar in the said Exhibit , and therefore sustain p titioner1 s vien on ' such items . t any rate , respondent app ear tt> have I' ' agr ed t the computat ion , but he ha separ t ed th port ion in :regard to epreciation nd tr~a-ted the s e as a liabilit y. inc i t is gen r lly accepted accounting procedure to d duct depre- ciat i on directly from the val u of the asset involved, r at her t ha n car ry the depr eciatior. a a liability in t he stat ment of assets and lia-- bilities (Fi nley & Miller, PriD 1 l s of ccou t- ing..Intermediate .� 1953 ed. PP� 126, 415 ), t he 393

OECISION- C. T. A. C SE N � 42 separ ate items for depreciation of depreciable assets should be disregarded. ) Rt.ta! estate hoJ.dings . (Item No � 12. ~Z.... �32 and 43 ). - The difference in the i tan s of real st ate holdings for each of the years 1947 , 1948. 1949 and 1950 is attributable to th fa ct that petition r deducted the accumulated depreciation at he :rate of 2,250.00 a y ar on the building at the corn . r of Raon and ales ts., Whereas the same amount is carried as a liability and includ d in the iter, tmder d reciation or de- preciable a set � Since the question is similar to the one involved in the p c ding items (Items .... Nos. 8-11 for 1947; Items Nos. 17-21 for 1948; ,etc. ) , suffic�e it to say that the petition r's presentation is more in line with regular account- ing proc dure; and since there would be no dif� erence in the final analysis, we believe that th f'gures presented by p titioner on this point , for clarity and consistency, must have to be sustained. Accounts receivable (Ite No. 34 ..... Th petitioner did not disput the report of Exam. ine~ Cosico as to the balanc of 148 , 435. 97 r lating to accounts receivable as of December 31 , 1900 (s e Exh. ). How ver , respondent presented the Balanc Sheet of petition r as of December 31 , 1950, prepared by petitioner ' s accountant (Exh. 12 , p. 28, Vol. 3 , B. I.R.

DEC! ION- C. T. A. C SE NO. 42 -27- .. records) which shows the amount of accounts re- ceivable t 17 ,799. 67. e consider and hold the 1 tter amount as cor rect , because it ap ears to conform it petitioner ' s o n books o.f account as prepared by an ind pend nt certified account- � ant , the sta em nt having been made ante liti mo~sm� Philipping Ready.. ~x Concrete Corpo,ration s ares of stock ( tern No. 44)��Petitioner appears to have acquired in March , 1950, 100.ooo �, �.shares of stock for 100 ,000. 00. This amount of -100. 000. 00 was treated by re~pondent as part of the assets f p titioner as of December 31 , 1950. On the ther and , it is contended by petitioner that he sold 90 , 000 shares to tty. E. A. Pica2o sometime in Sept .ember , 1950 with the right to repurchase reserved by petitioner until December 20 , 1950. Petitioner having failed to xercise t e option to repurchase ,. Atty. Picazo became the absolute owner of th said share of stock aft r December 20, 195 � Therefore , petitioner claims that he owned only .10,000. 00 worth of the shares of stock of the Fhilippin R ady-Mix Con- crete Corporation as of December 31 , 1950, instead of 100?000. 00 as claimed by r spondent/ Att y. Picazo, who as pr sented as a it- ness , testified that he bought the 90. 0 shares of stock in question from petitioner , as evident d by a document of ale (Exh. E � Th pr.ice paid 1 according to the document of sale , as 35 ,000. 00 , 395

396

DECISION� .t . A. C E NO. 42 registering the sal to his secretary may b accepted as correct; but not having received the ne certificates ~f stock in his name after a con. siderable length of time , h should have taken personal interest in the matter to hav th sale or transf r duly registered in the book of th corporation . Petitioner would just1.fy Atty. Picazo's lack of interest 'in said shares of stock , . fter purchasing the same a few month ~efore , to the precarious financial situation of the cor- poration. But Atty. Picazo bought the said shares of stock for 35 ,000. 00 , and 35 ,000. 00 , by any standard , is not an insignificant amount which may be lightly disregarded. � Moreover , nowhere in the books and records of petitioner does the alleged sale of th said shares of stock appear; neither was the loss of 55 ,000. 00 1�esultibg from the sale of said shares of stock re orted by petitioner in his 1950 inco~e tax ret ur n . We are , therefore , of the opi.nion that the pr ponderance of th evidence in this case leans h vily in favor of the stand .f respond nt. Accordingly, the sum of tlOO.��ooo. oo representi~g th cost of acquisition of said shares of stock by petitioner , has been properly treated by respondent as part of the orm r's asset s as of Dee mber 31 , 1950. J]ispu.t�d. liaW.l!l;i,e,s. - Respond nt disalll:lwed the deducti on from the asset s of pet itioner of certain liabilities amounting to tl70 'j000. 00 as 397

.... I f � fc r� � � � -- 398

DEC SION. c.r.A. c se o. 42 voucher of the Aur lio P. Reyes Department Store (Exh. C). 'las pres nted. No similar voucher was .ad or issued in the CpS of the lean secur d from Francisco P. Reyes . No record or ntry regarding this loan app ars in th books of petitioner. The circumstance surrounding the all ged loans secur d from Congressman Eulogio odriguez , Jr. are described in sufficient d tail in th memorandum of couns 1 for petition r , from which . � ... Eulogio Rodriguez , Jr. Loan of 20 ,000. 00 - Th de osition of Congres - man Eulogio Rodriguez, Jr. was submit- t eidb iatnd�vad� MDiuttreindgi nt h ee vdi deepnocsei s Ex. tion , counsel for re . ond nt ho r pre- sent subjected the itness to cross ... examination. The testimony of Cong~ ressman Eulogio Rodriguez, Jr. ras cl ar that in 1946 he accommodated th petitioner ith a loa of 20,000.00, which he gave in cash and for which the p titioner executed a �val ' (D - position t . s. n. , p . 3 ). That loan of 20 ,000.00 was reduced to only 10,000. 00 in 1947, because of a payment of 10,- 000. 00 (Affidavit of Congressman Rod- riguez , Jr., par. 2 , Exh. S). In 1948, the loan was again increased to the original amount of 20 ,000. 00 (Affidavit , Par. 3, Exh. S). Again , in 1949, th petitioner made a partial payment of 10 ,000 .00, reducing the loan to 10,- 000. 00 (Affidavit , par. 4 , Esh. S) , and in 1950, the petitioner once more borrowed an additional mount of 20 ,. rooo.oo, increasing the totil outstand- ing loan to 30,000. 0Q---. s of .,December 31 , 1950 (Affidavit , Par~--5 , Ex!!. S ). Th contents of his affidavit , w ich vas admitted as Exh. S, were all con- firmed by him during the dep sition (Deposition , t.s . n., ~ � 3). Con ress- man Rodriguez , Jr. testified that he 399

DECISION- C. T. A. CASE NO. 42 had been paid by the petitioner in the sum of 25 ,000. 00 , hich he acknowledg d by signing a voucher present d to him (Exh. T ). The voucher , dated in 1952 ,. indicates that the payment was made ith Prudential Bank & Trust Co. Ch ck No. B0- 3938, dated in 1952 , in the sum of 25 ,000. 00 (Exh. U). H testified , how ver, that he asked the petition r to have the check cashed for him , after hich th cash as delivered to him by Mr. Aurelio � Reyes (Deposition, t.s . n. , p. 4). The testimony of Cong- re man Rodriguez confirms the expla- nation of the pet1tioner for the app ar. anee of his indorsement at the back of the check (Exh. U). The petitioner previousl y testified that he indor ed the check because he cashed the check ith the Bank ~on request of Congress- man Rodriguez (t. s . n. , f> � 235 ). (pp . 11-12.) ' Congressman Rodriguez testified tha th loan of 20 ,000. 00 m de by him to petitioner in 1946 was taken into account by the Bur-eau of Internal Revenue hen � an assessment for d fici n- cy incom tax was issued against him. This is not d nied by respondent. Juan c. s. Viado , bookkeeper of petitioner, allegedly loaned to p titioner the sum of 20 ,000. - 00 in cash ~ sometime in 1948, which wa videnced by a promissory note. Th note was paid in . 1949 , also in cash, and the promissory note was returned to p tition r. Viado claims that l.th sum of 20 ,000. 00 is part of hi share of the pro- ce ds of the sale of a property owned in common by him nd his brother , which property was sold in 1948. Th examiner of th Bureau of Internal R.venue, who investigated the case of petitioner, 400

cD.ErC.!AI. c se ~o . 42 t stified , ho ever , that when he interviewed Viado befor his report was submitted , th lat ter told him that the said 20 ,000. 00 as part of his s ving o t of his sal r i es . H was receiving a salary of 125. 00 month f r om petitioner. o ouch r was m d or issu d by petitioner hen p yment we mad , and no entry about the loan appears in his records. ~meon eyes also allegedly loaned to peti- tional' the sum of 25 , 000.00 in 1950 ,. evidenced by a romis ory note , which s aid y means of a check dra '0 on the rudent ial Bank and Trust Co., dated October 13 , 1952. No voucher is alleged to have been made or i ssued and th account is not recorded in etitioner ' s books r records. The loan of 2 ,.oco.oo secured from R mon r.eneses in 1950 was given by the lender to Mrs . A relio � R yes . The circumstances surrounding the loan are r lated in the memorandum of coun- sel for petitioner, as foll o s $ ~~s . Aurelio P. Reyes testified th. t she borrowed 20,000. 00 from r . Ramon Meneses sometime in the early P.ar t of .950 , round arch or April (t . s.n . j p. 58). In acknow edgment of th loan , she g ve him a promissory note , �1hich she has failed to locate, sine~ i t was r et urned to her upon partial payment of the original loan. parti al paym nt o 7,()(X). 00 was ade ometime in 1951 (t �� n., P� 59) and th b&lance of 13 ,000. 00 s e id ced by a promissory note , dated Ap:ril 4 , 1951 , which has been admi tt d in evidence s xhibit ' J ' . ~~s . ureli 401

DECISION- C.T.A. CASE NO. 42 -34- P. Reyes was able, however, to pro- du e the receipt issued by Mr. Ramon Menes s on October 3, 1950, acknowledging payment of �1,200.00 as interest for the loan of 20,000.00 (Exh. 'H'). We respectfully submit that the in- terest of 1,200.00 computed at the original rate of interest of 12% per annum (t.s.n., P� 66) corresponds to interest for six months and did suf- ficiently establish that the loan was originally incurred sometime in April of 1950 which is just six months be- fore October 3, 1950. Stated other- wise, 6% interest on 20,000.00 is 1,200.00t which was paid as per Exh. 'H'. Besides the receipt, Exhibit 'H', the bank statement of the petitioner showing the debit of a check in a si- ilar amount of 1,200.00 on October 5, 1950 w'Kas' introduced in evidence as Exhibit 'and the particular entry in the bank statement referring to Check No. 382520 for 1,200.00 which was debited by the bank on October 5, 1950 was marked in r ed pencil as Exhi- bit 'K-1 '� �That the original loan was t20,- 000.00 and that the promissory note of 13,000.00 executed on April 4, 1951 (Exh. 'J') was merely a renewal for � the balance is further proven by ano- ther bank statement of the petitioner produced by the �itness showing the debit of �1,000.00 October 5, 1951 (Exh. '1' ). The particular check show- int the debit of 7,000.00 on April 5, 1951 has been e closed in red pencil and marked as Exh. '1-1'. Various other checks which had been ed by the petitioner on his ife to make pa ial payments on account of the principal and interest on the loan were produced before this Honorable Court and admitted as Exhibits L, M, N, O, P.Q, and R. These checks have all been properly endorsed by Mr. Ramon Meneses. The witness further testified that at �the time she was under cross- examination, there was still an out- standing liability in favor of Mr. Meneses in the sum of f7,000.00, more or less (t.s.n., PP� 66-67)f 402

I ' fl. � � 40 3 .

.... l � � t 404

,� t 405

DECISION- c . r . A. CASE NO. 42 -38- similar ritten documents~ in the bsene of other r�l vant evidenc ., dese,rv cant con ider tion. This is speci 11 'ti:ru h r the /'posed borrow- er bas a pend ng tax as essment. In order that such transactions a.y pr r y consid red , it � i essenti l that the � xist nee the of u t b . proven y cl and convinci g evidenc pendent of promi _sory notes, �val �. ch cks or _,.... other i ila d cuments. ~ In the in tant case. only th loan secur d by petition r f Congr s an Rodrigu z and Ramon neses app a.r t b v b en satisf orily proven by corroborativ vidence independent of t prom! so.ry notes or vales� signed by tb borrow- er , p tition� r h rein. The loan given by Congres.s an Ro rigu z to petitione.r wa�s pro en not <~nly b eans of the �val �executed by peti- tioner. It was shown that the loan as taken into consideration� by respondent i self in th a &essment of the deficiency inco tax against Congress an Rodrigu z. It would be� inconsistent for respondent to r ject the same loan a a liability _of petitioner. With .respe1:t. t �o the 1 n ecured from mon Meneses . it has ben s � n that interest was paid and a receipt cov ring pay- nt of interest as sub t ted in evidenc-e. -- The ree i:pt appears to have een xecut ed and deliv red to the wif . of petitioner on October 3., 1'950., 4 06

inr � l fir t i u i f r of n for go ng t nd lia liti an ti ini 1 ut it y- nd r i t d1 tX st h ve e i� n it th f 11 in (C ntinued to 9 ) 407

.t DECISION- C. I . A. CASE NO . 42 - 40- Begipning Ne t � rth of Petitioner QQ January 1 1 1946 Assets - Assets dmitted by parties 302 , 250. 00 Plus assets roven at trial~ 45 ,000. 00 (1 ) Building 2 , 003.. 00 (2) Installments paid on a l ot 349 , 258. 00 Total assets Liabilities - Liabilities admitted by pa rties 30 000. 00 Net worth as of Jan. 1 , 1946 . 319 , 258.00 Increase in Net Worth and Def iciency Tax ue ' in 124~ ss ts Assets admitted by ~arties ~814 , 642 .33 Plus assets proven at trial: 13,733. 32 Race horses 828 , 375. 65 Total assets Liabilities - Liabilities admitted by par ties 6,500. 00 Plus liabilities proven at trial 112 ,279.30 Tot 1 liabilities 6 500. 00 Net worth as of Dec . 31 , 1946 Less net worth as of Jan . 1, 1946 105 , 779.30 29 ,491.72 Increase in net worth in 1946 Pl us non- deductible exp enditures: 10 ,594. 08 . Personal, living and family xp nses 18, 897. 64 9 , 448. 8,2 Gross income 346. 46 L ss person l exempti ons Net Taxable income in 1946 Tax due Less tax already paid efici .ncy Tax Add 50% surcharge Deficiency tax and surchar e 408

�c. 42 t- u iliti $ - Li bi.t tles ad., 'tt ;y partie& P us ia illti s pro n at t~:ial To al liabilitie l7 �� 409

'- D.ErC�lS�l SE ' . 42 2- 3, db ov. 19 f .. 1 n y y id d 410

2 3 4 !) b 7 Tot l Li litie � y rtie n at tr 1 � l 49 1 ro 21 i in 19� .~o e&.ici nc t x due. 41 1

�, �I�Sl�.O - � ~r: ; � 42 ~ - s� '" 52:3 . 1. 7 - 1 -$1 9. 7 T1 412

DEC ION- II C. t .. � . S ~ � -2 ) t_ it ;lncc:mnt 1 co Nation l a p t1 , t :r- in . t " q io - - � � o I n: al in t bl� 8DlC)Ufl'-tS � an ine - t - this en ' ition r' . t xabl - h y r by n of t e ining th taxable net. inco � f t xp y r b m a s ~f b 1 rth. m th d is as follo � ncreas�; in - p-1 � o ibl di bu 1 t qu 1 t �J { le net inc ./'":" r n ta, .T. � o� J. ,. i db this o F b~ ry 13, 19 tbe � in. } Th& p:~cedure for det r n � t xabl n e:r: tbi f 1 r t d ei t s � �z� \ \ 413 �

DECISicri- C. T�� C t"' � .6 po dent c im t a hi uthority to u e ortb � thod i nction d b S ction$ 5 n 38 of the venu C<>d � ~ ction 15 . - r th Collector of Int .rn 1 t p er t x dn t e best vide e \ obt in ble hn a\ basis for th \ s ss nt of a nat~on 1 int mal~ v ue tax '\ h ll not b fo 1\t;o ing ._ itbin the \ 1 (\' y l a or egul tion , o n th i\ 1 - o b i ved that ny such report f., fo� \ I pl t*� or rron o e. S c o 3 id t tl t inco I a ta-xpa . r shal .f /b e .I I I I f\' 414

DECISION- c . T . A. CASE O. 42 ..47 - the� bas.is of ~his annual .aecountinq p�&r.i'Od in accordance it the met od of accounting r gular- ly empl . yed by hi ink ing his books, but .if no such met .od of ccounting 1 s b n mp loy d ., or if t h method employ d does not e~arlv refl;ee~ the . income,. the comwuta:ti.on in meth od a s in of the Cg.J. l ec;tor of In,t1rnal Revenu does cleaa::lv Section 15 of the Revenue Code app ars in Title 1 under the heading Organization of Bu- reau and is . th refore . 9 n ral p r ovision which is applicable to all internal revenue tax&s � while '. ection 38 is em o ie � n Tit! l l of t e Cod / under the heading � !nco ~ax and i applicabl solely to inco taxes. But i.le ction 15 i g neral provision and ac .. 8 s pecially pplicable to inco e taxes ., there is nothin-g in th t o ection from which any implication m y / be drawn that S ction 15 has no application to income taxes . Tl tw sections are complement ry --.._ to 4!!nd not ineon istent . ith aeh other.j Section 3B is a c py of Section 41 of th u. S. Int mal Rev nue .od of 1939 (Se-c .. 446 of the u. s. eode of 1954). hile e g:ree with counsel for petit ioner that decisions of th u. s. Supreme Court in net orth cas s are not binding in this jurisdiction, such d cisions h ve a strong persuasive forc e and are generally ? ' 415

- .I !011~- , C.T.A. C SE NO. 42 -4e ... 611 d a d ppli d by our ourt � (S Per z . Arn oran t t d by coun l f p ition r are replettt ith eit ti s of :r1can deci ion wbic:b nav � been cit d in tll an tak n by t � � T g li y o th use of t n t rt t i b ing saU on thr m � n g.ro .d � viz ( ) "lnue:a . in I t W h* i not syn .n .. o w lneo " J (2) xp~y r's t d of cou t ing foll nd � (3) The inv t ( r et rth ) t o 1 s gr ssly inaccurat an r itrar"J� e gr that i ncr se in net w rtn� & not s n nymou to � , t i co � d fin d in S cti 28 f th Cod � h v r t 1e net incon; of a t- xp yer ....an ..... ct d t.~ � n d r om th inc m tax return w i cb h i re uired -to 1 , o fr 171 his book and re � - � xp r� � n b nd th Unit us. � -e:t tne net ort 1 n of d termiring n �t inc � ( I { Th t the :taxpaye � 1 . thod of accolinti ng / t - � hould 5 f 1 �1.e � 9 n ra _ly m d tt:�<1. ut Section 38 i rt t hod I c l z:ly reflec-t his J.ncom � '\the Coll ' ct.or of In- \ l 416

�2 9- . �ch tern 1 v n yl tl t u el- rl ..� h l.tlC bt i or y u $ d � l-� r l to-r to 0$ . inq i r 0 l ti T l.n t of t v. � c li cell ti n lar h. t s. � � tu f 11 1 1 ail ab t 'it i d t in t Y� f cu t l 1 hi fi, i tory:- 'Jt ) th - 0 � i c r i ~ ry , 'I 10 f thE u of U(; .ry �n o a nc in li . c:tu of t n m th , r ta r ( t th n f t gi n pro , I, /'

d to th b olute c.c r ey of rrived t by th u of sweb �v-emm nt �d b at th rcy of taxpayers. er it cle rly ap e ~ � �r., that an . bus or i jusUe h r bown to exi in th us of tb m th d � thi Court ill t he it t t �o l e . lts assist nc to lf unju t or incorrect ass �. s. nt.. ini � t r for � i that Section 38 of th ev uthoriz s the Coll ctor of In~ernal . nu to loy th n t orth th r a taxp y r ke s no bo ks or ~ cords or her� such ooks or reeoaa do not cl arly re-� fl et hi tb 1 ex r s d on _our cl i io in Perez v. 418

ECIS1 1- . T.A!I CAS . ys Th proposition tha~ th C .. stonn 's uthor1ty to li$ th n th or n othe�r in . 1r ct thod in d t rmining inc:o � 1 rooted in o:r � t ms fro Section 41 of b In- t mal R v � u Cod of 1939 ha~ b n upported th . C s . fr .qu ntly th t the � re ment ion cf the indir ct teehniq f o d t ing inc . lls forth a reeitation of th . provision f t at s etion. Support foJ: the pro- position is not la~king in discua-sion b 1 tx n. X X . lt p ars to us to b ll established that the p.r vailing vi in tb nit States is that the us of th n to orth or any indirect t o o pr ing ur .ported in~ome pu. rs-�. mitted under ~Section i e� 41 of t h Intern 1 ven Co of 1939 (S etion 44 of th 1954 Cod ). Section 3 of our e nue Cod � having bue.sn. patterned after S ction 4 of the Code. the constr ction plac po t s ctio by t e U. S. court ha � strong p r - s asive fore i t is j ri di .ction. e hav n do bt, there or , that S c- ii tion 38 of our u Cod worded perudts the use cf the net tb eth by h Coll etor of lo- t rnal Revenue wher Biz ct proof Qf d r-deela ation of income- is not v ilable by any other na. x x x 11 lt i 9 d, v r , t at a �ng- th- t th n t o od � r.' p � ' i t e n t .la ~tis n t app li~a 1 to the case o . h r in petiti th. tdi r it u r ot pr nt. Th foll ing ondition � aecor. l.ng cou s 1 f pe�ti on r, . r indi p nsable 1:tt i ites for t . e. 1J~r~er use f th t .ortb ethods "{1) r ta ks. or i ooks r that t ey do not i me. 419 �.

Sl . C.,T. _ CAS� � 42 -� : 2 . J / Th qu s io h $ be n .a kedt clition o t in, or v_ thy in th c e at r? tion r 11 r _.. th n ati e. p- i ly pe~t to Condi tio ~ � 2 , les t t� � . tly, c of tb n hi e �.s: t, "i n r n tp -d 0 hi T a� t o<> ione d no refl ct h o r et i n 420

DECI I - e 0. 4 C. T. A. CA cl rly h m in d SCU$Si of the fir t 1 su (r ferr�ng t ~h ereas s in n t �orth f petat! ne:r) � and a ls t e d to th r n u fo pe it on r dat d � 7 , 1956. In sai nnex � it is mitt d that p titioner inc r d in- co t fici n � during t e y s 947. 1 nd 1950, liVen dtnout considering t e it 1 put y t. Conditio � 5. r f _rring to for p o 1 an t,h� r non-d uctibl s 11 for non- ax le c ipts and for ls d itt d ving been co li d wi h. T i ~ d pos i bl la gel by agr m nt of th p rties. Condi n � 2., � latl. g to th op ning n orth , h en .ust b t bli h dth :re - le c i f� is le d not to hav b n eleqrly tab ish � n ~ 1 it i true tl t t opening net worth of p it on r as of J n. 1. 1946 , hich s d by r spond t in d r- mining p titioner's yearly 1 cr s & in n t orth fro 1946 to 195 � h s en to b e:rrone ru �� yet on th ubmitt$d hy the p rtie � t e ening net o th he. , b en t bli shed 1 h re son�bl certainty. ( ee p lt may � t � ted in favor o p~titi ner nd hi. couns 1 h t .Y c e t d illi gly du ing th tr �al of 1his cas;e in bringi g t li ht peti- tioner� openin1 n t worth. hlch happily 421

DECISION � C. T. � CASE NO. 42 - 54 - facilitat ed t he early termination of the tx� 1 and he l ped the C urt in great measure i' n the prop er determi nation of the i s sue. Condition No. 3 , which requi res , accordi ng to c ounsel for petitioner, that the Government must track down al l relevant le ds furnished by the taxpayer reasonably suscepti ble of being checked ," has been in our opinion , adequately met. Leads furnished by petitione r i n regard to his assets and liabilities ere investigated a checked , and , where found t o have been clearly established,' were admit ted by r espon- , dent. The same is true lit h petiti oner 's non- t axable receipts and income. I t may be true that there were certain flaws in th findings of respondent , but the fla s that we have ob- serv d operated mor e to the advantage of peti- tion r tha of the Government. Note, for in-a .: tance , the subject of non- deductible expenditure.s , among which are the personal , living and family expe.nses of the f"axpayer (Sec . 31, Revenue Code ), whi ch expenditures are required t o be added t o his increase in net worth to arrive at his gross inc ome. 1 Respondent, without consider:fng 11 r ela- ' vant leads� . simply estimated petitioner's per- sonal expenses as the equivalent of his personal exemptions deductible under Section 23 of the Revenue Code. In effect , respondent did n-ot find any non-deductible expenditure of p titioner f or personal , living & family exp ens es duri ng �.?; ' 422

ao. U~J..Q.LY � ,... � T � A� CASE 42 ll ' t t p tition r Nould � � i l th � pr ri�ety of t orth � t nod s lied to hi c e u of the f il of res on e t t o r .asonabl hi non duc't1bl � exp n- for rsonalt living and fa of in� co . of tl . ta ay r, ich c unts f r t incr ase J.n his net o.rt , has lik� i b n o .li with. The vid nc of record -~ho th t p~ti ioner h~s, or h(d during th p riod vi � fl 'uriuhing h ines in optic l , off~c equip t, nd habe: ry. int in d xpensiv ace h~r es of hich he kept no .:r cord� .. H h d onsidexable r .al es- tat tr n etions, wni-ch x: also not r corded. t only x oxd � � hich is � hat appears in t I incom tax return � H 1 g s lI.to h y; con- tr ct :r 0 1 1 n , n :r o~ of � hich w �o also kept. r. hieh pGrsonal lo ns � not app ar I 't a'V1 e n pent for p rson 1il l1ving n xr f rnily nso ~nd m�s p inv st !\_ .� r i al ,t in 1ne0kle-. r du ing v .n ;" R ci g �1 / ; ident of t P i l ~i c sid :ring the a 11:11 tt~ ly i'naqe'<'Wat ~ \ r c rc.t' / cf WE~ El'tit!oner �. find n d1f�ic:J~1y in exp:r s � . i th opi iGo that these are ;~o e\ of the pr: - ba 1 source . of t:�tl 1 � int � � I no :r quir I ,, '' / /f -1 ' 423.

DECISION � ,, C .. T. A. CASE. NO. 42 ... 56 - that the Gove rnment prove flfith absolut~ ~ 'Certainty the sour~e s fr om w&ich petitioner der~" ~~d his unreported income. It is sufficient if� 'evidence is adduced of the likely source or sourc �s of such income. In this case, there is amp'l? evidence of the probable s ources fr om which peti- . tioner co uld have derived his undeclared income �in quantity sufficient to account for the net worth increases�. (Holland v. U. � supra. ) The third issue refers to the propriety of �I the imposition of the 50$ fraud enalty provided ,. in Section 72 of the Revenue Code. Th e pertin ent portion of said sec~ion relating to the fraud penalty readst " x x x In case of willful neglect to file the return or list ~it hin the time prescribed by -law , or in case a false or fraudulent return "" or list is willfully made , the Col- lector of Internal Revenue shall add ~ to the tax or to the deficiency tax . in case any payment has been made on the basis of such return before the discoYery of the falsity or ~raud, a surcharge of fifty p..ar cent p m of the amount of such tax or defi ciency tax." Among the circumstances generally recognized as justifying the imposition of th fraud penalty ares (l } int1e~tional underst atement of income, substantial 'in a~ount ~. sa ox substantial in relation to tne �total reported income; (2) i!'- tentional overstatement of deductions. substan- I tial in amount p.e.r s.e. or substantial ih relation to the total/ reported income; and {3) recurrenEe of the understatement of income or overstatement

DECIS - 0 - C. T. A. CASE NO. 42 - 57 - of deductions for more than one tax year. (Balter, Fraud Under Federal Tax Law, 2nd ed. Ll953/ , p . 226, cited in Perez v. Araneta, supra. ) In the case at bar, the understatements of petitioner's income are -substantial in amount ~ ~ or substantial in r~lation to the total reported income~ Such substantial understatements of income have been clearly estab~ished in 1946, which recurred in the following yea up to 19~ , xcept in 1949. In fa ct, petition r admits that understatements were made in his ." returns, although in amounts less than tho stablished during the trial~ as shewn in Anne"x ' �A attached to the memorandum for petitioner dated February 27 ,, 1966. The following is a com- parative statement of the net incomes declared in his returns and the net inco~es established by the net worth method , together with the . under-declarations . Net Income Declared Net Income Net Income fstibl:ished l.Jndecl a red 1946 51 , 380~ 26 ill05..779. 30 ' 54 ,399. 04 -1947 12 , 660.98 149 , 277. 79 136 ,616.81 1948 13, 615.8? 49,098. 62 35,482.75 1950 14�, 395. 07 161 , 583.70 147,177.63 The net inco e undeclared in 1946 is more than 100% of the net income declared. In 1947 , the undeclared net income is more than 1,079% of the net income dec la;ea� . In -1948; the -un.. / \ declared net income is mor than 260% of the net income declared. In 1950, the undeclared net 425

DECISION - C. T. A. C SE NO. 42 - 58 - I income is more than 1 ,000 of the deIclare d net income. Ve have no hesi tancy in expressing the opinion that , under the cirscumstances, such ug~ underdeclara tions could not have been the re- sult of honest mistakes . In pes v. .s. 317 u. S. 492 , it was held that affirmative wi llful � att rrpt . may b inferred from any conduct , the I� ' likely effect of hich wou ld be to mi~ead or t o conceal. iaving arrived at the conclusion that �the fraud ~enal ty has been pre erly i mp osed in thi s cas , the l as t issue as regard s the st at ute of limitations upon asses ment and collection properly applic able to the case is easy of solu- , / tion . The arne question as fully discussed by us in Perex v. raneta, supza from which we quote: Under Section 331 , th Collect- or of Internal Revenue has 5 years after the return as filed within which to ass ss an internal revenue t ax , and no procee ing in court without assess - ment can be begun after expirat ion of sai eriod. HoNever, under ction 332 {a), it is provided that in the case of a false or fraudulent return th intent to evade tax or f a failur t fil a return, the tax may be as- ssss d, or a proceeding in court fox the collection of uch tax may be begun ithout assessment, at any tim within ten years after th discovery of the falsity, fraud, or omission. In con- nection ith the issue as to the legal- ity of the impositi n of the f raud penalty, e expressed th opinion that th fraud penalty is applicable. Accordingly, it is also our opinion t at the 10-year period provided in Section 332 {a) wi t hin w ich a deficiency income tax may be assessed applies.

UC\,..L~..L � C. T. .� CASE N ~ � 42 1& no qu stion that th in tb...~. s c~se r$ 11 y a s from th d ,_. t f diseov ry e fraud. It follo that said ss es~ro n ts r vali ly mad � nd since und r t he law, t he Collector of I te al R venu h s o y a aft r saess nt it in � ich to collect the t ax. it is obvious th t the right of t 1 'lo e rn .ent coll c th eficiency i nco.e tax asses s -d g i nst p titian~ � for the ye~r 19 7 to 1 � a not p �:>scribe � this se, t ' e sscs m n s ~de it in equ ntly. th ri ht of th nt to s ss t defi ciene'/ i c o.,. tax in ques ion 1 s n t ,� pr s _ib d. he r ight t o olleet by jud cial action ha not als o p escri d, judicial p oc d.. ing vi g b en i nst tut~d by petit! r I i ... -~ lf ithin 5 y ars aft t till c int n h vi t at aft .r h laps ars ft r th retur s , or w r th Collectox n is not ut iz to eoll e ny d f ci n y inco t X by rrant o dl t int and lAvy. F r t f going c ns�d ion � w of th opinion that - (1} h tmdeela e t xa .le incon� s of p ti.. tion r for t e y a:r 1946" 1947, 194 nd 19 ha b n cl arly e tablish d by th . u.s of tb n t o.rth Cl. �d; t oo. or y {2) . he u of t 1e n t \! ort other method, to n~ v u r orte �nco is e a l - authori2ed under Sections 1~ nd 38 of t e ven Cod ; 427

- !)t:cr~lc - .... C. T. 1... Ci ~E N � 42 (3) The 50%' s :r:c a:rge presc ibed in Section 72 of the evenue Cod ~a een properly OS d ; I nd (4} Th right of t 1 Gover � nt tc r.s n t defici~ cy i nc ome ta gainst p titio r for ti years 1946, 1947, 1948 ard 1950 and the right t coll ct defici ncy ta by judicial action e n t r eseribed. 11 ccordingly, t~e d cision p eal d f r i s - " by r.:~odified , n t.:tio;Lr is here y o dered to pay th greg~t a o'nt o. 10 ,758. 2rl , r t r se ting deficiency inccmo t x and 0% ur- charg corresp ndi g to taxable ye rs 1946, 1947. ' 1948 and 1950, cc-rr.put .. d and it mi: d on p age. 40- 44 of t i d cisicn, such pa~ent to m d ;ithin a eascnabl e period to be fix d by res- pondent . �it cost agai~st pet itioner. ... 0 EREO. I' nil � J ly 26 , 1956. ~:> J 1~ . L ~AI.I 1\ssoc at Judge A . NO NAELE Pre i di n J u 9 rr H. L iCIA t dg 428