The case: EE operated several businesses, two of which generated losses that EE deducted. The IRS disallowed those deductions as well as deductions for the profitable business. The IRS won most of its points in court, which meant significant taxes and interest for the taxpayers. The IRS also assessed the negligence penalty, which the taxpayers appealed.
Held: For the taxpayers. The taxpayers had only a high school education. They hired a full-time bookkeeper to maintain their records,; and for the last 19 years had used a CPA with 31 years' experience to prepare their returns. The CPA reviewed the bookkeeper's records, made the necessary adjustments and discussed the income tax returns with the taxpayer as well as the positions taken on them and the details of their business activities.
The court found that the taxpayers relied heavily on the bookkeeper and CPA to ensure that records were adequate and that the correct positions were taken on the tax returns. Even when the taxpayers did not provide the CPA with adequate substantiation, they were relying on the CPA to determine if he had proper documentation. The taxpayers relied reasonably and in good faith on their tax advisor and so were not liable for the negligence penalty. [Embriodery Express LLC V. Comm., T.C. Memo, 2016-136]