Rev. Rul. 60-215

Advise has been requested whether the 50 percent fraud penalty imposed by section 6653(b) of the Internal Revenue Code of 1954 is applicable to that part of a deficiency assessed to recover an erroneous allowance made under the provisions of section 6411 of the Code, where such allowance was induced by fraud.

A taxpayer filed an income tax return for the year 1955 disclosing a Federal tax liability of 306 x dollars for the taxable year, which was paid. On the return for the year 1957, the taxpayer reported a loss of 184 x dollars. Immediately thereafter, the taxpayer made application for a tentative carryback adjustment for the year 1955 under section 6411 of the Code. As a result, tax in the amount of 95 x dollars for the year 1955 was refunded as a tentative allowance. Following an examination of the taxpayer's returns for the years 1955, 1956, and 1957, a further tax liability was disclosed and the taxpayer paid an additional tax of 5 x dollars for the year 1955. Upon further examination of the taxpayer's returns, it was determined that the carryback allowance was induced by fraud and that the correct amount of tax for the year 1955 should be 372 x dollars.

Section 6653 of the Code provides, in part, as follows:

(b) FRAUD.-If any part of any underpayment (as defined in subsection (c)) of tax required to be shown on a return is due to fraud, there shall be added to the tax an amount equal to 50 percent of the underpayment. In the case of income taxes and gift taxes, this amount shall be in lieu of any amount determined under subsection (a).

(c) DEFINITION OF UNDERPAYMENT.-For purposes of this section, the term `underpayment' means-

(1) INCOME, ESTATE, AND GIFT TAXES.-In the case of a tax to which section 6211 (relating to income, estate, and gift taxes) is applicable, a deficiency as defined in that section (except that, for this purpose, the tax shown on a return referred to in section 6211(a)(1)(A) shall be taken into account only if such return was filed on or before the last day prescribed for the filing of such return, determined with regard to any extension of time for such filing), and

(2) OTHER TAXES.-In the case of any other tax, the amount by which such tax imposed by this title exceeds the excess of-

(A) The sum of-

(i) The amount shown as the tax by the taxpayer upon his return (determined without regard to any credit for an overpayment for any prior period, and without regard to any adjustment under authority of sections 6205(a) and 6413(a)), if a return was made by the taxpayer within the time prescribed for filing such return (determined with regard to any extension of time for such filing) and an amount was shown as the tax by the taxpayer thereon, plus

(ii) Any amount, not shown on the return, paid in respect of such tax, over-

(B) The amount of rebates made. For purposes of subparagraph (B), the term `rebate' means so much of an abatement, credit, refund, or other repayment, as was made on the ground that the tax imposed was less than the excess of the amount specified in subparagraph (A) over the rebates previously made.

Section 6211(a) of the Code defines a deficiency as the amount by which the tax imposed by subtitles A or B exceeds the excess of

(1) the sum of

(A) the amount shown as the tax by the taxpayer upon his return, if a return was made by the taxpayer and an amount was shown as the tax by the taxpayer theron, plus

(B) The amounts previously assessed (or collected without assessment) as a deficiency, over-

(2) the amount of rebates, as defined in subsection (b)(2), made.

Revenue Ruling 173, C.B. 1953-2, 227, provides that an ad valorem penalty (negligence, delinquency, or fraud) based upon the amount of a deficiency existing prior to the application of a relief provision such as a net operating loss carryback is to be imposed in connection with a Federal income tax liability, even though the tax as reported in the original return is equal to or in excess of the correct tax as finally determined after the application of such provision.

For purposes of a deficiency resulting from an erroneous carryback adjustment when such allowance is induced by fraud, the terms deficiency and underpayment are the same.

A deficiency, as defined by section 6211 of the Code, is determined in the same manner whether not it is due to fraud, negligence or some other cause. Once the deficiency is determined, penalties are asserted in accordance with the nature of the infraction as set forth in section 6653 of the Code. As indicated by Revenue Ruling 173, once it has been determined that any part of a deficiency has been due to fraud, the 50 percent penalty applies to the total deficiency.

In the case of Morris Kurtzon v. Commissioner , 17 T.C. 1542, which involves a similar issue, The Tax Court of the United States noted that section 271(a) of the 1939 Code (section 6211 of the 1954 Code) defines a deficiency as the amount by which the correct tax imposed exceeds the excess of the following: the amount of tax on the return, plus prior assessments, minus rebates. The court reduced such definition to the following mathematical formula:

Deficiency = correct tax-(tax on return + prior assessments-rebates) = correct tax-tax on return-prior assessments + rebates.

Applying the above formula to the facts in the present case, the resulting deficiency would be computed as follows:

Deficiency = 372 x dollars, correct tax-(306 x dollars, tax on return + 5 x dollars, prior assessments-95 x dollars, rebates), which equals 156 x dollars.

Under section 6653 of the Code, the penalty is computed not upon any part of the deficiency but upon the total amount of the deficiency. The total amount of the deficiency in this instance is the original deficiency of 5 x dollars plus the deficiency of 156 x dollars shown in the foregoing formula. The total of the deficiency on which the fraud penalty should therefore be imposed is 161 x dollars.

Accordingly, it is held that the 50 percent fraud penalty imposed by section 6653(b) of the Code is applicable to a deficiency assessed to recover an erroneous allowance of a tentative carryback adjustment made under the provisions of section 6411 of the Code, where such allowance was induced by fraud. The fraud carries over to and the 50 percent penalty is applicable to that deficiency.