A recent Tax Court Memorandum decision, S. Ghadiri-Asli v. Comm’r, T.C. Memo 2019-149, serves as a reminder for healthcare providers to report properly all gross receipts and to substantiate business expenses claimed as deductions.

One of the two taxpayers, a physician, practiced medicine as a sole practitioner who specialized in infectious diseases. During the years in question, the physician’s billing and collection functions were performed by a third party outside billing service. All payments were remitted directly to the physician. Using the information provided by the physician to the billing service that included explanation of benefit (EOB) forms, patient face sheets and other correspondence received by the physician, the billing service would bill both third-party payors and patients for medical services provided by the physician. Each month the billing service would send the physician a summary of billings and collections received using the EOB’s and the other information provided by the physician. Each summary included an invoice for the services provided by the billing service based on a percentage of the total monthly payments received by the physician during the prior month. Although occasionally the physician questioned discrepancies between the monthly summaries and the physician’s bank statements, the physician always paid the amount invoiced by the billing service and generally the discrepancies were due to timing differences in billing and collection.

The taxpayer couple used a registered tax preparer to prepare their individual income tax returns with the information contained in the Forms 1099 that the physician’s husband, who acted as his wife’s de facto office manager, had provided the preparer. The husband never provided the return preparer with the monthly summaries that the collection and billing company had provided the physician.

Upon audit, the taxpayer husband did not cooperate with the agent. As a result, the agent reconstructed the taxpayers’ income from Forms 1099 and bank statements that the agent had subpoenaed. The agent also issued a summons to the billing and collection service for the monthly summaries of the taxpayer physician’s billings. After an unsuccessful meeting with the taxpayer husband, the agent determined that the taxpayers had unreported gross receipts from the physician’s medical practice that totaled over $400,000 during the three tax years under audit. In addition, the agent denied certain business deductions and concluded that the net amount of a monetary settlement paid to the taxpayer husband to settle a suit against his former employer for emotional distress should have been included in income. The agent also assessed a fraud penalty based on the significant amounts of income that the taxpayers had not properly reported.

After a trial, the Tax Court upheld the assessed taxes and the fraud penalty for all three years. In support of its finding, the Tax Court pointed both to the failure of the taxpayers to report a significant amount of their income over the three-year period and their failure to provide their tax return preparer with all available records as to the receipts from the physician’s medical practice.

Similarly, the Tax Court upheld the agent’s denial of several business-related deductions claimed by the taxpayers based on the failure of the taxpayers to maintain sufficient books and records to substantiate their claimed deductions. In fact, the taxpayers failed to submit into evidence at trial a “shoe box of receipts” for expenses. To make things worse, during trial, the taxpayer physician conceded that her office rental expense as deducted on the taxpayers’ tax returns was far in excess of the amounts actually paid.

Because the taxpayers did not provide evidence that their underpayment of tax was not attributable to fraud, the Tax Court upheld the civil fraud penalty that had been assessed by the Internal Revenue Service, an addition to tax of 75 percent of the underpaid taxes. The Court found that by “consistently and substantially” understating their gross receipts and expenses, the facts in their case were sufficient to indicate fraud. By giving false information to their preparer, this was further evidence of fraud. Because “[b]oth [taxpayers] participated in this fraud,” the Tax Court found that both were liable for the taxes and the civil fraud penalty.