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"understatement" as the excess of the amount of tax required to be
shown on the return over the amount of tax actually reported on the
return. The understatement is "substantial" when the amount of the
understatement exceeds the greater of 10 percent of the amount of
tax required to be shown on the return for the taxable year or
$5,000. Sec. 6661(b)(1)(A). There is an exception to this addition
to tax, however, if there is substantial authority for the position
taken on the taxpayer's return, or when there is adequate disclosure
on the return of the relevant facts affecting the treatment of the
item. Sec. 6661(b)(2)(B)(i) and (ii).
In this case, there was neither substantial authority for
petitioners' positions nor adequate disclosure. As set forth above,
we have determined that the trading in the Merit stock forwards
markets lacked economic substance and was not undertaken "primarily
for profit". Any substantial authority that exists with respect to
such trading establishes that petitioners' positions were erroneous;
the deduction of losses in transactions that lack the requisite
profit motive and economic substance is not permitted. United
States v. Generes, 405 U.S. 93, 103 (1972); Gregory v. Helvering,
293 U.S. at 469. Nor do petitioners' returns adequately disclose
the facts surrounding their claims of Merit stock forwards losses.
Identification of the controversy here resolved against petitioners
can only be made by examining the records of Merit's operation and
petitioners' trading pattern. That information did not appear on,
or with, petitioners' Federal income tax returns. Accordingly, the
additions to tax under section 6661(c) are properly imposed.
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