Richard H. Fendell and Elizabeth A. Fendell v. Commissioner of Internal Revenue

WOLLMAN, Circuit Judge.

Richard H. and Elizabeth A. Fendell appeal from the Tax Court’s decision holding them liable for deficiencies in their 1975 and 1977 income tax returns. We reverse.

I. Background

Richard H. Fendell is the income beneficiary of the Richard H. Fendell Trust (Trust). In 1975, the Trust invested in two partnerships, which reported losses for the Trust’s 1975 and 1977 tax years. The Trust’s losses were reflected in the Fen-dells’ joint federal individual income tax returns for 1975 and 1977.

In 1979, the Commissioner of Internal Revenue (Commissioner) began an audit of both the…