Daniel M. Kelley Nancey N. Kelley v. Commissioner of Internal Revenue

The Kelleys appeal decisions of the Tax Court that the statute of limitations did not bar an adjustment to their 1980 tax return, and that they were not entitled to have their deficiency determined by use of income averaging because they did not raise the issue in their petition. We reverse on both issues.

I. STATUTE OF LIMITATIONS

The taxpayers, a husband and wife, filed a joint return for 1980. The husband was a fifty percent shareholder in Holly Homes Company (HHC), a subchapter S corporation. On their 1980 tax return the taxpayers deducted $163,933 as their share of a loss passed through HHC.

The Commissioner obtained an extension of the statute of limitations from the taxpayers. The Commissioner obtained an extension from HHC for HHC’s 1979 tax year. This extension expired November 30,1983. The Commissioner did not obtain an extension from HHC for its 1980 tax year.

The Commissioner issued a Notice of Deficiency to the taxpayers on August 14, 1984. This Notice disallowed $140,625 of the losses from HHC’s 1980 tax return. The taxpayers petitioned the Tax Court, contending that the statute of limitations barred the adjustment of the loss passed through HHC. The Tax Court…