Bernard R. & Desiree Shepherd, Petitioner

SEC T.C. Memo. 2012-212 UNITED STATES TAX COURT BERNARD R, SHEPHERD AND DESIREE SHEPHERD, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Docket No. 26910-10.

Filed July 24, 2012.

Bernard R. Shepherd and Desiree Shepherd, pro sese.

Kristina L. Rico, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

RUWE, Judge: Respondent determined a $1,613 deficiency in petitioners' 2008 Federal income tax. The issue for decision is whether petitioners are entitled SERVED Jul 24 2012 to exclude from gross income under section 108(a)(1)(B)' discharge of indebtedness income of $ ,412.

FINDINGS OF FACT

Some of the facts häve been stipulated and are so found. The stipulation of facts and the attached exhibits are incorporated herein by this reference.

At the time the pëtition was filed, petitioners resided in New Jersey.

In November 20 7 etitioners' credit card company, Capital One Bank (USA) N.A. (Capital One) referred petitioners' delinquent account to an outside collection agency. The rincipal loan balance due on petitioners' Capital One account at the time of tl e eferral was $9,962.06. Petitioners entered into a settlement agreement with the outside collection agency, agreeing to settle their Capital One loan balance for $5,550. Petitioners made payments totaling $5,550 from March 28 to July 0, 2008. The outside collection agency then notified Capital One that petitioners had paid the full amount required by the settlement agreement. Capital On códed petitioners' account as "Settled in Full" and discharged the remainin liability on September 3, 2008.

'Unless otherwise in icated, all section references are to the Internal Revenue Code in effect for the year in issue, and all Rule references are to the Tax Court Rules of Practice änd Procedure.

In January 2009 Capital One issued to Mr. Shepherd a Form 1099-C, Cancellation of Debt, showing that $4,412 of indebtedness had been canceled on September 3, 2008. Petitioners did not report the $4,412 as income on their 2008 joint Federal income tax return.

The parties did not dispute the fair market values of the following of petitioners' assets immediately before petitioners' discharge:

Asset Fair Market Value Cash Cars Computers Householdgoods Tools Jewelry Clothing Books Lifeinsurance Investments Boat Total .

$300.00 12,550.00 100.00 2,100.00 50.00 4,000.00 350.00 25.00 1,108.24 10,223.79 300.00 31,107.03 Likewise, the parties did not dispute the amounts of the following of petitioners' liabilities:

Liability Amount Principal residence mortgage Beach house mortgage $555,015.31 177,535.00 Real estats t xes Credit card d bt Car debt Utilities Loan from N w Jersey Public Employees Retirement System Miscellansous bills Total 14,091.24 . 25,659.43 8,519.98 1,563.84 15,532.75 936.91 798,854.46 The parties disaggee about the values of three assets which are not included in the above lists. During 2008 petitioners owned a house in Mullica Hill, New Jersey (principal residence), and a house in Brigantine, New Jersey (beach house).

Petitioners continued to own these houses at the time of trial in 2012. The parties disagree about the values of these two houses. They also disagree about the value of Mr. Shepherd's pension in the New Jersey Public Employees Retirement System (PERS).

OPINION

The Commissioner' determinations in a notice of deficiency are presumed correct, and the taxpayer bears the burden of proving that the determinations are in error. Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933).

"Income from discharge of indebtedness" is included within the broad definition of income. Sec. 61(a)(12). Section 108 provides certain exceptions to section 61(a)(12). Secti n 108(a)(1)(B) excludes discharge of indebtedness income from gross income if the discharge occurs when the taxpayer is insolvent.

The amount of income excluded under section 108(a)(1)(B)"shall not exceed the amount by which the taxpayer is insolvent." Sec. 108(a)(3). The term "insolvent" means "the excess of liabilities over the fair market value of assets." Sec.

108(d)(3). Whether a taxpayer is insolvent, and the amount by which the taxpayer is insolvent, is "determined on the basis of the taxpayer's assets and liabilities immediately before the discharge." Id.

Respondent acknowledges that petitioners correctly listed the fair market values of most of their assets and liabilities. Petitioners and respondent dispute whether petitioners met their burden of proving the fair market values of the beach house and the principal residence, which were petitioners' largest assets.

Additionally, petitioners and respondent dispute whether Mr. Shepherd's pension is an asset for purposes of determining whether petitioners are insolvent under section 108(d)(3).

Burden of Proof Regarding the Fair Market Values of the Beach House and the Principal Residence "The burden of proving insolvency under section 108(a)(1)(B) is on petitioners." Bressi v. Commissioner, T.C. Memo. 1991-651, 1991 Tax Ct. Memo LEXIS 693, at *18 (citing Rule 142(a) and Welch v. Helvering, 290 U.S. 111, 115 (1933)), aff'd without published opinion, 989 F.2d 486 (3d Cir. 1993). Therefore, petitioners have the burde of proving the fair market value of all their assets immediately before the discharge.² See sec. 108(d)(3).

Beach House Respondent argu s hat petitioners have not met their burden of proving the fair market value of their beach house immediately before the discharge.

Petitioners contend the offered sufficient evidence to prove that the fair market value of the beach house was approximately $340,000.3 To support the fair arket value of their beach house petitioners offered into evidence a "Civil ction Stipulation of Settlement" (settlement) between petitioners and the City of rigantine. The settlement provides that the value of the beach house for loc 1 property tax purposes is $380,000 for the 2010 tax year.

Petitioners signed the s tlement on May 16, 2011.

2In some cases the burden of proof with respect to relevant factual issues may shift to the Commissiäner under sec. 7491(a). However, petitioners have not argued that the burden of p 00f should shift to respondent, nor have they produced credible evidence as reqùired by sec. 7491(a)(1). Therefore, we hold that the burden of proof does not slïift to respondent.

3At trial M . Shephe d testified that petitioners purchased the beach house in 1996 for $118,000. Peti ioners offered into evidence a Wells Fargo monthly mortgage statement for the beach house loan showing the unpaid principal balance of $177,539.03 on December 18, 2008.

"This Court has held previously that a value placed upon property for the purpose of local taxation, unsupported by other evidence, cannot be accepted as determinative of fair market value for Federal income tax purposes in the absence of evidence of the method used in arriving at that valuation." Pierce v.

Commissioner, 61 T.C. 424, 431 n.⁶ (1974); see Gilmartin v. Commissioner, T.C.

Memo. 1973-247, 1973 Tax Ct. Memo LEXIS 40, at *20-21; Bishop v.

Commissioner, T.C. Memo. 1962-146, 1962 Tax Ct. Memo LEXIS 163, at *61.

The settlement does not describe the beach house nor the method-used to determine the value of the beach house. Additionally, the settlement shows the beach house's valuation for tax purposes for 2010, whereas petitioners' debt was discharged on September 3, 2008. As a result, we find that the settlement is not convincing evidence of the fair market value of the beach house immediately before petitioners' discharge.

At trial Mr. Shepherd testified that in his opinion the value of the beach house immediately before the discharge was approximately $340,000. Mr.

Shepherd's valuation testimony was allegedly based on comparable sales that he assembled for the purpose of a property tax appeal. Apparently, this was for the 2010 tax year, which was at least two years after the discharge ån September 3, .

2008. While comparable sales can be persuasive evidence of fair market value, .. 8 - see First Nat'l Bank of Kenosha v. United States, 763 F.2d 891, 896 (7th Cir.

1985), petitioners neither offered into evidence nor described in detail the comparable sales or their dates.

In order to corroborate Mr. Shepherd's testimony, the Court would need t r view the comparable sales to determine whether a proper valuation,methodo gy was used and that the comparable sales occurred in close proximity to the date of discharge. As a result, we find that Mr. Shepherd's testimony is not convinemg evidence of the fair market value of the beach house immediately before peti ioners' discharge.

Accordingly, we fmd that petitioners did not meet their burden of proving the fair market value of he beach house immediately before the discharge.

· Principal Reside e Respondent argu s t at petitioners have not met their burden of proving the fair market value of the principal residence immediately before the discharge.

Petitioners contend they offered sufficient evidence to prove that the fair market value of the principal residence was $380,000 immediately before the discharge 4 4At trial Mr. Shephe d testified that petitioners obtained a $580,000 mortgage on the principál residence in 2005. Mr. Shepherd further testified that in 2005 the approximate appr ised value of the principal residence was $750,000. Petitioners offered into evi ence a Chase monthly mortgage statement showing the unpaid principal balancc on the principal residence loan was $555,015.31 on August 15, 2008.

Petitioners offered the following evidence to support their valuation: (1) a letter dated March 29, 2011, from Chase Home Finance LLC (Chase) showing the value of the principal residence; and (2) a "2008 Final/2009 Preliminary Tax Bill" (tax bill).

Petitioners applied for a loan modification for the principal residence through the Federal Home Affordable Modification Program (HAMP). As part of Chase's review to determine whether petitioners' loan qualified for a HAMP modification, Chase had to value petitioners' principal residence.

In a letter Chase informed petitioners that an "exterior broker price opinion/appraisal"5 was used to value the property as of March 2011 at $380,000.

Section 108(d)(3) requires that the fair market value of a taxpayer's assets be determined "immediately before the discharge." Chase determined the fair market value of the principal residence as of March 2011, almost three years after the date of petitioners' discharge.' Furthermore, the letter from Chase does not describe the property nor explain, even briefly, the methodology used to determine its value. We find that Chase's valuation of the principal residence as of March 5The letter from Chase does not explain what "exterior broker price opinion/appraisal" means.

6We take judicial notice of the large downturn in national residential real estate values that occurred after September 2008.

2011 is not convincing evidence of the fair market value of the principal residence immediately before petitioners' discharge.

Petitioners offered into evidence a tax bill they received for their principal residence. The tax bill shcws a net taxable value of $337,700 for petitioners' principal residence. 'The tax bill does not describe the property in detail nor the methodology used in determining the tax value. As we noted earlier, a value placed upon property for local taxation purposes is not determinative of fair market value of the proper:y for Federal-income tax purposes in the absence of evidence of the method used in arriving at that valuation. See Pierce v.

Commissioner, 61 T.C. at 431 n.⁶; Gilmartin v. Comníissioner, 1973 Tax Ct.

Memo LEXIS 40, at *20-21; Bishop v. Commissioner, 1962 Tax Ct. Memo LEXIS 163, at *61.

.

Furthermore, in New Jersey the assessed value of property is generally not equivalent to the fair market value of the property. _S_ee Citý of Passaic v. Passaic Cnty. Bd. of Taxation, 113 A.2d 753, 756 (1955) ("There has been general agreement for over a cer cy that individual property valuations and assessments have been and are marr d by the grossest inequities.").

In fact, the statutory framework for property assessments in New Jersey specifically.contemplates that the assessed value of a pr operty for tax purposes will not be equivalent to the fair market value of the property. See N.J. Stat. Ann. sec. 54:3-17 (West 2002) (each county tax administrator must annually determine the "ratio or percentäge of true value at which the real property of each taxing district is in fact assessed"); id. sec.

54:1-35.3 (The director of the division of taxation must determine the "ratio of aggregate assessed to aggregate true valuation of real estate of each taxing district.").

We find that the tax bill is not convincing evidence of the fair market value of the principal residence. We further find that petitioners have not met their burden of proving the fair market values of the principal residence and the beach house immediately before the discharge. Accordingly, petitioners have failed to establish that they were insolvent as defined in section 108(d)(3).

Mr. Shepherd's Pension We have previously found that petitioners were not insolvent as defined in section 108(d)(3) because they failed to meet their burden of proving the fair market values of the beach house and the principal residence. Nevertheless, we will discuss whether Mr. Shepherd's pension is an asset because the parties have discussed this issue extensively.

Petitioners contend that Mr. Shepherd's pension is not an asset for purposes of determining insolvency under section 108(d)(3). Respondent disagrees.

Mr. Shepherd is employed by Gloucester township and is a contributing .

member of PERS. On March 21, 2007, Mr. Shepherd obtained a $21,973.30 loan from PERS against his perïsion. Mr. Shepherd testified that this amount was the maximum he could-borrov/ from PERS. On May 1, 2007, Mr. Shepherd made his first of 58 monthly loan repayments of $378.85 to PERS. Mr. Shepherd continued making contributions to hi pension after he received the loan.

Petitioners classified Mr. Shepherd's loan from PERS as a liability under section 108(d)(3). We r.ote that it is wholly inconsistent to show a loan as a liability if the loan is fully secured by collateral and the collateral is not listed as an asset. By including the loan and not the underlying collateral, petitioners are presenting themselves a more insolvent than the reality of the matter. For consistency purposes, p ti ioners must either remove the loan as a liability or include the collateral th t ecures the loan as an asset.

The term "insolvänt" means "the excess of liabilities over the fair market value of assets." Sec. 108(d)(3). This Court has held that the word "assets" as used in the definition of th term "insolvent" for section 108(d)(3) includes "assets exempt from the claims af creditors under applicable State law." Carlson v.

Commissioner, 116 T.C. 8 , 105 (2001). .We reasoned that if a debtor's assets, including assets exempt fröm the claims of creditors under State law, exceed liabilities, tlíen the debtor has the ability to pay a tax on income from the discharge of indebtedness.

Id. at 104. Mr. Shepherd's pension is exempt from claims of creditors under New Jersey State law. See N.J. Stat. Ann. sec. 25:2-1 (West 1997 & Supp. 2012). Under the Court's holding in Carlson, Mr. Shepherd's pension will not escape classification as an asset under section 108(d)(3) solely because of its exemption from claims of creditors.

Mr. Shepherd had the ability to withdraw some portion of his pension on the date of petitioners' discharge. A member of PERS "may borrow from the retirement system, an amount equal to not more than 50% of the amount of his accumulated deductions". N.J. Stat. Ann. sec. 43:15A-34 (West 1991 & Supp.

2012). A member of PERS may have more than one loan outstanding at any time.

See id. Mr. Shepherd continued making contributions to his pension with PERS every pay period from the date he received the loan from PERS to the date of petitioners' discharge. Additionally, during this period Mr. Shepherd made monthly loan repayments of $378.85 to PERS.

In other words, Mr. Shepherd's loan balance with PERS decreased from the date he obtained the loan to the date of petitioners' discharge while his accumulated contributions to his pension increased over that period. Therefore, we note that Mr. Shepherd's outstanding loan balance on the date of petitioners' discharge must have been less than 50% of his accumulated contributions to his pension. As a result, Mr. Shepherd had the right to immediately withdraw some portion of his accumulated contributions as a loan from his pension.with PERS immediately before petitioners' discharge of indebtedness. We find h t the portion of Mr. Shepherd's pension that could have been withdrawn as a loan from PERS is an asset for purposes of insolvency under section 108(d)(3).7 Petitioners did not provide any evidence of Mr. Shepherd's accumulated contributions to the pension immediately before the discharge. Therefore, we are unable to determine wh portion of Mr. Shepherd's pension could have been withdrawn as a loan. A cordingly, we find that petitioners have not met their burden of proving the fair niarket value of the portion of Mr. Shepherd's pension that constitutes an asset.

Conclusion Section 108(d)(3) re uires that a taxpayer establish the fair market value for all of his assets and liab lit es in order to make a determination of insolvency. If .

we were to accept petitioners' valuation of their houses and exclude from liabilities the loan from PFjRS, petitioners would be approximately $32,000 7Therefore, it is unnecessary for us to decide whether Mr. Shepherd's entire pension constitutes an a(cid:0)541setunder sec. 108(d)(3).

insolvent. However, petitioners have not met their burden of proving the fair market values of the beach house, the principal residence, and Mr. Shepherd's pension. Since petitioners have not established they were insolvent as defined in section 108(d)(3), petitioners are not entitled to exclude their discharge of indebtedness income from gross income under section 108(a)(1)(B).

In reaching our decision, we have considered all arguments made by the parties, and to the extent not mentioned or addressed, they are irrelevant or without merit.

To reflect the foregoing, Decision will be entered for respondent.