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teachers at an agreed-upon hourly wage. Beginning in November
2000, petitioners received direct reimbursement from BUSD, as
described above. GJR’s education expenses exceeded funding for
both years in issue, and petitioners paid out-of-pocket for the
remainder.
GJR was the only student in petitioners’ afterschool program
and microschool. Petitioners did not advertise or otherwise seek
additional students. Petitioners did not apply for or receive
any grants during the years in issue. Petitioners did not
maintain a separate bank account for, or have any separate
business assets dedicated to, the afterschool program or the
microschool.
Petitioners timely filed joint Federal income tax returns
for the years in issue. Attached to each return was a Schedule
C, Profit or Loss From Business, for petitioners’ “special
education” activity. Petitioners deducted Schedule C losses with
respect to the special education activity of $24,417 and $12,351,
and reported adjusted gross income of $229,665 and $229,219 for
1999 and 2000, respectively.
On November 6, 2003, respondent sent petitioners a notice of
deficiency for the years in issue. Respondent determined that
petitioners’ special education activity was not a bona fide
business activity entered into for profit and disallowed the
claimed deductions. Respondent also determined that petitioners
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