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all the facts and circumstances, it would be inequitable to hold
her liable for the deficiencies. Sec. 6013(e)(1)(A) through (D).
In addition, the understatement must exceed 10 percent of her
adjusted gross income for the preadjustment year. Sec.
6013(e)(4).
Respondent concedes that there were joint returns filed,
that there were substantial understatements attributable to Mr.
Hemmings, and that the requirements of section 6013(e)(4) are
met. We, therefore, are faced with the questions whether the
ACLI and ELMS deductions are grossly erroneous items, whether
Mrs. Hemmings knew or had reason to know of the substantial
understatements, and whether it would be inequitable to hold her
liable for the resulting deficiencies.
A. Grossly Erroneous Items
Not all disallowed deductions are grossly erroneous items.
Douglas v. Commissioner, 86 T.C. 758, 763 (1986). The phrase
includes "any claim of a deduction * * * in an amount for which
there is no basis in fact or law." Sec. 6013(e)(2)(B). A
deduction has no basis in fact where the transaction never took
place and has no basis in law where no substantial legal argument
can be made to support its deductibility. Douglas v.
Commissioner, supra at 762-763.
Mr. and Mrs. Hemmings claimed deductions for losses, and
respondent disallowed the deductions in this case on the grounds,
inter alia, that they had no basis in fact and no basis in law
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