Choi v. Commissioner

Charles and Jin Choi (plaintiffs), a married couple, owned and operated a grocery store. In addition to selling groceries, the store cashed the paychecks of groceries-purchasing customers free of charge. To do so, the Chois deposited a customer’s paycheck into the grocery store’s bank account and then returned the amount due to the customer in cash out of the store’s cash register. The cash in the store’s register came exclusively from customer purchases and withdrawals from the store’s bank account. The Chois did not maintain detailed financial records, and they underreported their income to the Internal Revenue Service (IRS) (defendant), which led to Charles’s conviction of criminal tax evasion. Unable to rely on the Chois’ records, the IRS indirectly reconstructed the couple’s taxable income from the store using the bank-deposits-plus-cash-expenditures method. This method calculated taxable income by adding together the value of any bank deposits (less any identifiable, nontaxable amounts) and the value of any expenditures of nondeposited cash. The Chois deposited approximately $2 million in checks into the account and withdrew approximately $1.4 million in cash to supply the registers. The IRS treated all of the withdrawn cash as nontaxable, maximizing the amount that theoretically could have been dispersed to customers cashing their paychecks. Accordingly, the IRS determined a deficiency of approximately $600,000 in unreported income and imposed a civil penalty. The Chois petitioned the United States Tax Court for relief, challenging the IRS’s application of the bank-deposits-plus-cash-expenditures method to calculate taxable income. The court determined that the IRS’s use of the method was appropriate and upheld the deficiency and penalty. The Chois appealed.