Cheshire v. Commissioner

Facts

P married David in 1970. David retired from Southwestern Bell Telephone Company effective January 1, 1992 and received a retirement distribution in 1992 of $229,924. Of the $229,924 total distribution, $42,183 was rolled over into a qualified account and is not subject to federal income tax. David deposited $184,377 of the retirement distributions into the Cheshires' joint checking account, which earned $1168 in interest for 1992. P knew of David's receipt of $229,924 in retirement distributions and of the $1168 in interest earned on the distributions. The Cheshires withdrew $99,425 to pay off the mortgage on their marital residence, and they withdrew an additional $20,189 to purchase a new family car, a 1992 Ford Explorer. David also used the retirement proceeds to provide start-up capital for his new business, to satisfy loans taken out to acquire a family truck and an automobile for the Cheshires' daughter, to pay family expenses, and to establish a college fund for the Cheshires' daughter. P knew of all these expenditures. The Cheshires filed a joint federal income tax return, prepared by David, for 1992. They reported the $199,771.05 in retirement distributions but claimed only $56,150.12 of this amount as taxable. P questioned David about the tax consequences of the retirement distributions. David replied that John Daniel Mican, a certified public accountant, advised David that retirement proceeds used to pay off a mortgage are nontaxable. P accepted this answer and made no further inquiries prior to signing the return on March 14, 1993. David had lied. All retirement proceeds that are not rolled over into a qualified account are taxable. David had persistent problems with alcohol, and the Cheshires permanently separated on July 13, 1993, and they divorced seventeen months later. P was awarded unencumbered title to the marital residence and to the Ford Explorer. D audited the 1992 return and determined that David had received taxable retirement distributions of $187,741 - the difference between the total distributions ($229,924) and the rollover ($42,183). The Cheshires had understated the amount of their taxable distributions by $ 131,591. It was determined that the Cheshires had underreported the interest income earned on the retirement distributions by $717. D imposed a penalty under § 6662(a) of the Internal Revenue Code. P commenced this action in the Tax Court. She conceded that $131,591 of the retirement distributions and the corresponding earned interest were improperly excluded. P claimed she was entitled to relief as an innocent spouse under § 6015(b), § 6015(c), or § 6015(f). D conceded that P qualified for innocent spouse relief with respect to the LESOP distribution ($5919), the savings plan distribution ($23,262), and the ESOP distribution ($971). The taxable income from the retirement distributions and the corresponding earned interest remaining in dispute totaled $101,438 and $691, respectively. The Tax Court majority, consisting of twelve judges, denied P relief under § 6015(b), (c), and (f). P had failed to establish that she 'did not know, and had no reason to know' of the tax understatement as required for relief under § 6015(b)(1)(C). P was not entitled to relief under § 6015(c) because she had 'actual knowledge . . . of any item giving rise to a deficiency' within the meaning of § 6015(c)(3)(C). D did not abuse his discretion in denying P equitable relief under §6015(f) with respect to the retirement distributions and the interest income, as well as the §6662(a) penalty associated with the interest income. P appealed. 

Issues

Rule of Law

Holding and Decision

Legal Analysis

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