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unjustly reward the taxpayer who cleverly conceals income in the
guise of a "perfect" set of books and records.
In view of the foregoing, we hold that petitioners bear the
burden of going forward with the evidence, as well as the
ultimate burden of persuasion, with respect to respondent's
deficiency determinations for the years in issue.
Understatement of Income for 1989 and 1990
As noted above, respondent reconstructed petitioners' income
for 1989 and 1990 using the source and application of funds
method. This method of reconstructing income is based on the
assumption that the amount by which a taxpayer's application of
funds during a taxable year exceeds the taxpayer's known sources
of funds for such year represents taxable income. A taxpayer has
the right, of course, to identify particular areas or specific
instances where the Commissioner's analysis fails to reflect the
taxpayer's actual income. E.g., Meneguzzo v. Commissioner, 43
T.C. 824 (1965). Thus, for example, the Commissioner's analysis
should be adjusted whenever the taxpayer demonstrates: (1) The
analysis does not reflect, as a nontaxable source of income,
funds accumulated at the beginning of a year and expended during
the year, or (2) the analysis includes, as an application of
funds, amounts that do not reflect expenditures made by the
taxpayer during the year.
Petitioners do not dispute the mechanics of respondent's
source and application of funds analysis other than in three
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