-21-
A prepared by respondent's revenue agent that the facts of the
case were known to respondent prior to the date that the notice
of deficiency was mailed, we find that respondent's position was
not substantially justified as of all relevant dates.
The Research and Development Issue
Respondent disallowed the $26,676 deduction petitioners
claimed for research and development costs for computer software,
because petitioners did not establish that they accounted for the
costs in a consistent manner as required by section 174.
Specifically, respondent determined that in prior years
petitioner had capitalized and amortized the costs of computer
software; however, in 1990, petitioner expended $26,676 and
deducted the entire amount in the year it was paid.
Petitioner contends that the $26,676 paid in 1990 was to
develop a unique computer program, created from "scratch".
Petitioner claims that the software costs incurred in prior
years, which were capitalized and amortized, were not research
and development costs, but were incurred to purchase commercially
available word processing and spreadsheet programs.
Respondent's position may be incorrect but substantially
justified if a reasonable person could think it correct. Pierce
v. Underwood, 487 U.S. at 566. Whether respondent acted
reasonably on this issue ultimately turns on the facts available
to her which formed the legal basis for the position she took in
the deficiency notice and during the litigation. DeVenney v.
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