-4-
From the net amount, petitioners then subtracted $304,212 as the
“portion deemed non-taxable (50%)”. The remaining $304,211 is
listed as the “Taxable portion of Merchant’s Bank Settlement”.
In a notice dated August 2, 2000, respondent proposed a
$304,212 increase to income on petitioners’ 1998 Federal income
tax return. Petitioners did not agree with the proposed addition
to income. On April 18, 2001, respondent issued a notice of
deficiency and determined a $700 increase in petitioners’ income
and a $285 deficiency.
On May 8, 2001, respondent sent a letter to petitioners
advising them that the “proposed notice” was incorrect and
stating “damages for emotional distress may not be treated as
damages on account of a personal physical injury.” On August 29,
2001, respondent sent petitioners a “closing letter” that stated
respondent was able to “clear up the differences between your
records and your payors’ records. * * * You won’t need to file
a petition with the United States Tax Court to reconsider the tax
you owe.”
Respondent sent petitioners a letter dated October 25, 2001,
that stated their 1998 Federal income tax return was open for
examination and that “The primary purpose of the examination is
to review the lawsuit settlement paid to Leanna Hawkins in 1998.”
Respondent sent petitioners a letter dated January 2, 2002, that
stated “The law requires us to notify taxpayers in writing if we
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