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With minor exceptions, in the notice of deficiency
respondent disallowed all of the deductions claimed on the
Schedules C. According to the explanation contained in the
notice of deficiency, the deductions were disallowed because “it
has not been established that * * * these amounts were for
ordinary and necessary business expense (sic) of your business”.
[Emphasis added.] At trial, respondent further explained that
the deductions were disallowed because the underlying expenses
were determined to be PSI’s expenses, not petitioner’s. In the
notice of deficiency, respondent further determined that for each
year in issue petitioners are liable for the addition to tax
under section 6651(a)(1) for the failure to file a timely Federal
income tax return, and that petitioners are liable for an
accuracy-related penalty under section 6662(a) because the
underpayment of tax required to be shown on their return is due
to negligence.
Discussion
A. Schedule C Expenses
In general, section 162(a) allows a taxpayer to deduct all
“ordinary and necessary expenses paid or incurred during the
taxable year in carrying on any trade or business”. To qualify
for a deduction under section 162(a), the expense paid or
incurred by the taxpayer must have been paid or incurred in the
taxpayer’s trade or business. Generally, a shareholder of a
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Last modified: May 25, 2011