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OWENS v. UNITED STATES

July 2, 1951

OWENS
v.
UNITED STATES.



The opinion of the court was delivered by: John E. Miller, District Judge.

This is a suit by the plaintiff to recover fraud penalties assessed against him and paid for the calendar years 1944, 1945, 1946 and 1947. The correctness of the deficiency assessments for the said years paid by the plaintiff is not here attacked, and the sole issue before the court is whether civil fraud penalties were properly assessed and collected by the Commissioner of Internal Revenue. To resolve this issue the court must determine whether the admitted deficiencies for the years in question were due to "fraud with intent to evade tax" within the meaning of Title 26, U.S.C. § 293(b).

The case was tried to the court on June 12, 1951. At the conclusion of the presentation of the evidence, the case was submitted subject to the filing of briefs by the respective parties. Said briefs have now been received, and the court, after considering the pleadings, testimony and exhibits thereto, and briefs, makes and files its findings of fact and conclusions of law, separately stated.

Findings of Fact.

1

Plaintiff is a physician and surgeon and has practiced his profession at Harrison, Arkansas, since 1922. In 1935 he and Dr. J.T. Gladden, as partners, opened a clinic, which by 1940 was expanded to a 20 bed hospital, and operated as a combined clinic and hospital throughout the years in question. It was their practice for each to operate the institution for six months, pay all bills and expenses, and at various intervals during the period, depending on income and the necessary reserve for operating expenses, to account for and pay to the other half of the profit.

In 1943 and prior thereto there were approximately 20 doctors in the five county area of which Harrison in Boone County was the center. In the town and vicinity of Harrison itself there were seven active doctors. In addition to the institution operated by the plaintiff and Dr. Gladden there were one or two other small clinics in Harrison, and small clinics at Marshall in Searcy County and Berryville in Carroll County, Arkansas. Thus, patients requiring hospitalization and surgery from the surrounding territory were usually referred to the plaintiff and Dr. Gladden. After 1943 there was a rapid decline in the number of doctors in the area by reason of death, retirement and calls to Army service so that during the war years of 1943 to 1946 the plaintiff, Dr. Gladden and a Dr. Fowler were the three most active doctors, that is, the ones upon whom the bulk of the workload fell, in the area, which, during that period, consisted of some 40,000 people.

Prior to 1943 the plaintiff maintained a normal social and recreational life, taking off one day per week from his work and taking the usual two weeks' vacation during the year. After that time, however, he experienced a marked change in the relationship between his social and business life. The demands of those in need of medical aid were such as to require him to work an average of 14 to 16 hours per day, and often it was necessary to remain on duty at the clinic and hospital all or a major portion of the night. He saw and administered to an average of 35 to 40 patients per day during the period involved herein.

Also, until 1945, he served as secretary and a member of the Board of State Medical Examiners, which position, although not in and of itself unduly burdensome, added to the stress of his duties.

However, during the period involved he did not find it necessary to give up all social and recreational activities, but, as stated above, his recreational activities were severely curtailed, and his extended vacation was usually limited to one week a year. Apparently, the situation reflected here was in common with other and all reputable, able, conscientious and zealous physicians and surgeons.

2

During the period involved the principal source of plaintiff's income was his practice and the hospital-clinic. In addition he made various investments in real estate, purchasing one or two buildings, one of which he converted in part to an apartment house, and at least one filling station. He also owned certain stocks and bonds, from which he derived some income, and purchased stock in and became a director of a bank in Harrison.

His revealed bookkeeping methods were comparatively simple. It was his practice for a daily pad or sheet to be filled out on each patient and a notation made of any charges and of any collections received for the patient's treatment. These pads were made by himself, or the nurse or other employee on duty who received the patient. In this regard, as is usual, the majority of the routine office treatments were administered by his nurse. At the end of each day, or as soon thereafter as time permitted, the plaintiff entered the daily pad entries in a log book that he kept. All entries in this log were made personally by the plaintiff. If the fee was not collected, or in the case of all charge treatments, an entry was made in the main ledger kept for that purpose. At the end of each day the daily receipts were either deposited in the bank by the plaintiff, or were placed in his safe and deposited, ordinarily by the plaintiff when he found time to go to the bank.

Plaintiff's regular nurse left his employment in 1943. She was replaced by a young lady from Siloam Springs, who remained with him for 8 or 10 months. She in turn was replaced by a Miss Jeffers who stayed for approximately one year. Next was a Mrs. Campbell who remained for approximately one year. None of these employees were experienced in handling accounts or financial matters.

Separate bank accounts were maintained by the plaintiff and by the hospital-clinic. Often money was deposited in his personal account which belonged to the hospital-clinic or to another doctor. For instance a patient might be referred to the clinic by another doctor living in the surrounding territory, and when leaving, the patient would pay his entire bill by one check. After depositing the check it would be necessary for the plaintiff to write checks paying the hospital-clinic and the other doctor the respective portions of the fee owing to each. Plaintiff also maintained a safety deposit box but kept no cash there. Plaintiff handled all financial matters through his bank account. All income was deposited there and all payments of any consequence were made by check. He obtained a bank statement at the end of each month and it was his practice to compare the statement with his check stubs, which were studiously and carefully filled out on each check written. He was very careful to keep an accurate account of his bank balance. For instance, his wife and daughter wrote individual checks during the month on the account, and at the end thereof he would total the amount of checks written by them and subtract this total from the balance shown by his check stubs. Also, on several occasions he would have the bank clarify errors in deposits reflected by the statement, as when a deposit was shown on his statement when it should have appeared to the credit of the clinic. The various real estate transactions mentioned above were consummated by his personal check. All in all his bank account records disclosed an extremely accurate picture of his financial condition, income and expenditures over the period in question.

3

At the end of each year in question the plaintiff calculated his gross income from his practice by totaling the entries in his log book, previously referred to, and adding thereto his outside income, such as rents, State Board of Medical Examiners salary, etc. These totals were handed to Mr. Smith Henley, an attorney at Harrison, who, from the figures given him, computed plaintiff's income tax. Plaintiff's books and records were not turned over to Mr. Henley.

4

Mr. B.M. Lindsey, Internal Revenue Agent, and Mr. Francis B. Reynolds, Special Agent, Intelligence Unit, Bureau of Internal Revenue, conducted an investigation of plaintiff's records in 1949 to check the correctness of his income tax returns for the years 1944, 1945, 1946 and 1947.

They used the bank account method in making the investigation, and due to the manner in which plaintiff had kept his bank account records, previously discussed, their task was a comparatively simple one. They checked all deposits, expenditures, expenses and investments item by item in determining his net income and deductions. Plaintiff made his other records, such as check stubs, office records, etc., available to them when advised of the investigation. It was found that plaintiff had understated his net income from 100% to 300% each year, and that for each year there had been a similar understatement of his allowable deductions. Also, it was shown that plaintiff's investments during each year involved exceeded the amount of his reported net income for each year. In arriving at their final figures plaintiff was given all deductions which were proper.

The following figures reveal the results of their investigation and calculations:

Deductions

Deductions per            Deductions as
Period     return         adjusted
 1944             $7,367.31                  $10,934.54
 1945               8,811.71                   24,016.94
 1946              11,989.95                   26,046.98
 1947              11,207.76                   23,731.91

Net Income

Period   Per Return  Corrected  ...

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