The opinion
T.C. Memo. 2013-40
UNITED STATES TAX COURT
DENISE CELESTE MCMILLAN, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 4590-11. Filed February 7, 2013.
R determined deficiencies in P’s 2007 and 2008 Federal income
tax. P and R dispute whether P is entitled to deduct expenses in excess
of the gross income from her horse activity, whether the death of P’s
stallion was a casualty loss, and whether P is entitled to deduct legal
and professional expenses.
Held: P is not entitled to deductions for the expenses incurred in her
horse activity for the 2007 and 2008 tax years.
Held further, the death of P’s stallion was not a casualty loss in the
2008 tax year.
Held further, P is not entitled to deduct the disputed legal and
professional expenses for the 2007 and 2008 tax years.
Held further, P is not liable for the I.R.C. sec. 6662(a) accuracy-
related penalties for the 2007 and 2008 tax years.
-2-
[*2] Denise Celeste McMillan, pro se.
Priscilla Parrett, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
WHERRY, Judge: This case is before the Court on a petition for
redetermination of Federal income tax deficiencies that respondent determined for
petitioner’s 2007 and 2008 tax years of $10,107 and $1,560, respectively, and
section 6662(a) accuracy-related penalties for 2007 and 2008 of $2,021.40 and
$312, respectively.1
Respondent concedes that petitioner has substantiated all of her claimed
expenses for the years at issue. The issues for decision are:
1) whether petitioner is entitled to deductions arising from her horse
activity2 claimed on her Schedules C, Profit or Loss From Business, to the extent
1
Unless otherwise indicated, all section references are to the Internal Revenue
Code of 1986 (Code), as amended and in effect for the taxable years at issue. All
Rule references are to the Tax Court Rules of Practice and Procedure.
2
On brief petitioner criticizes respondent’s use of “activity” or “horse
activity”. In cases with sec. 183 issues “horse activity” is a term of art and this
Court generally uses it to discuss the issues because whether activities amount to a
business “engaged in for profit” is a legal conclusion for the Court to determine.
Therefore we refer to petitioner’s horse activity as an activity until we render a
(continued...)
-3-
[*3] they exceed her gross income from that activity for the 2007 and 2008 tax
years. More specifically, whether petitioner was engaged in her horse activity for
profit;
2) whether petitioner is entitled to a Schedule C interest expense deduction
for the 2008 tax year;
3) whether the death of the stallion Goldrush I was a casualty loss for the
2008 tax year;3
4) whether petitioner is entitled to claim deductions on Schedule C for legal
and professional expenses for the 2007 and 2008 tax years; and
5) whether petitioner is liable for section 6662(a) accuracy-related penalties
for the 2007 and 2008 tax years.
FINDINGS OF FACT
While the parties did not file a stipulation of facts, at trial they introduced a
number of exhibits, and those exhibits are hereby incorporated by reference into
2
(...continued)
conclusion regarding the sec. 183 issue.
3
The parties agree that if the Court determines that petitioner is entitled to this
expense deduction, it should be claimed for the 2008 tax year, because Goldrush
died in 2008.
-4-
[*4] our findings.4 Petitioner was single and filed Forms 1040, U.S. Individual
Income Tax Return, for the taxable years at issue. Petitioner resided in California
when she filed her petition.
During the years at issue petitioner worked full time for Tony Hoffman
Productions, Inc., out of her home in California. During the 2007 and 2008 tax
years she earned $60,630 and $60,000, respectively, from that job.
Petitioner has an affinity for horses. She began riding ponies when she was
four years old and began taking formal riding lessons when she was nine.
Petitioner is an accomplished horsewoman earning, among other trophies, a
number of plaques from the California Dressage Society from 1989 through 1999.
4
Respondent, inter alia, objects to Exhibits 22-P through 30-P, 32-P through
35-P, 37-P through 48P, and 51-P through 62-P on the grounds of relevance. Fed. R.
Evid. 401 states: “Evidence is relevant if: (a) it has any tendency to make a fact
more or less probable than it would be without the evidence; and (b) the fact is of
consequence in determining the action.” We overrule respondent’s objections and
hold that the exhibits tend to describe petitioner’s horse activity as well as the
reasonableness of her underpayment.
Petitioner filed a motion on August 30, 2012, to reopen the record to
introduce additional evidence. Because introduction of new evidence after the case
was submitted would prejudice respondent and the additional evidence would not
have had a substantial effect on petitioner’s case, we will deny the motion. See
Butler v. Commissioner, 114 T.C. 276, 286-287 (2000). The Court notes that
respondent conceded that petitioner substantiated all of her expenses and the
additional information would have additionally substantiated those expenses. The
Court also notes that this evidence was always available and petitioner could and
should, if she wanted it to be considered, have introduced it at trial.
-5-
[*5] During the years at issue petitioner was a member of the following
organizations: California Dressage Society, United States Dressage Federation,
United States Equestrian Foundation, and the United States Equestrian Team.
Petitioner began a dressage horse breeding, showing, competing, and training
activity in the mid-1970s. Petitioner would also take difficult horses on
consignment, retrain them, and sell them at a profit. She generally had between one
and six horses. However, beginning in 1998 petitioner owned only one horse.
On February 28, 1992, petitioner’s business partner at that time, Tom Valter,
wrote a check for $25,000. At trial petitioner explained that the check was written
as partial payment of the purchase price for Goldrush I (Goldrush). Petitioner
boarded Goldrush from 1992 through 2007 at Baronsgate Equestrian Center, the
name of which was changed to Lion’s Heart Ranch in 2004. Between 1992 and
1998 Goldrush sired five foals and his stud fee was $1,000 to $1,500. In 1999
petitioner testified against her former business partner in an animal abuse case and
after that “no one would breed to Goldrush”. After 1999 Goldrush did not sire any
more foals.
From 1992 through 1999 petitioner entered Goldrush in dressage
competitions. Then in 1999 Goldrush suffered from a minor lameness that “was
enough to get him eliminated from dressage competition immediately by any
-6-
[*6] judge”. Petitioner then tried “everything” to heal Goldrush. She tried to train
him through it, took him to trainers and veterinarians, fed him supplements and
medications, and even tried custom saddles and shoes. Nothing worked.
From 1999 through 2008 petitioner did not compete in any dressage
competitions. She was also not paid to train any horses for dressage competitions
during that time, nor did she take any other horses on consignment.
In 2007 petitioner decided to transport Goldrush to Australia to stand at stud.
She believed that because of his exceptional blood lines he would be “the proverbial
big frog in a small pond in Australia”. She planned on setting Goldrush’s stud fee at
$1,500 per mare and explained, at trial, that Goldrush would not have to compete
anymore. Petitioner spent over $16,000 to transport Goldrush to Australia. After
spending time in quarantine both before leaving for Australia and after arriving in
Australia, Goldrush was sent to a stud farm.
Sadly, just two months after he arrived on the stud farm, Goldrush was rushed
to the veterinarian. He had two blood transfusions and then died from a total
collapse of his immune system. After Goldrush died petitioner did not purchase
another horse.
On her Schedules C attached to her 2007 and 2008 Forms 1040 petitioner
listed HORSE BREEDING/SHOWING as her principal business or profession.
-7-
[*7] She reported no income for the two years but claimed losses of $51,697 and
$4,203, respectively.
From 2004 through 2008 petitioner reported on her Federal income tax
returns the following amounts of salary income, gross income from her horse
activity, expenses from her horse activity, net profit or (loss) from her horse activity,
and taxable income.
Gross income Expenses from Net profit or
Salary from horse horse (loss) from
Year income activity activity horse activity
2004 $60,254 $588 $36,453 ($35,865)
2005 59,336 -0- 22,277 (22,277)
2006 60,676 -0- 33,128 (33,128)
2007 60,630 -0- 51,697 (51,697)
2008 60,000 -0- 4,203 (4,203)
Total 300,896 588 147,758 (147,170)
The Court notes that respondent conceded that petitioner substantiated
all of her expenses related to the horse activity but did not concede that she
substantiated her expenses related to the casualty loss. Many of petitioner’s past
returns have been audited, and she has, for prior years, been able to substantiate her
expenses and convince respondent that her horse activity was engaged in
for profit. The main question before us is not whether petitioner was able to
-8-
[*8] substantiate the expenses of the horse activity, but whether the horse activity
was engaged in for profit in the years at issue.
In 2003 petitioner began to incur legal expenses related to a lawsuit she filed
against her homeowners association. According to her complaint, petitioner filed
this lawsuit because the homeowners association failed to respond to three of her
complaints: 1) “complaints of dogs running wild, dogs barking, and dogs defecating
throughout the Association’s common areas”; 2) construction defects related to the
“presence of mold in her bathroom, growing between the tiles themselves and
between the tile wall and the tub rim”; and 3) construction defects leading to
excessive “noise intrusion”.
OPINION
I. Burden of Proof
The Commissioner’s determination of a taxpayer’s liability for an income tax
deficiency is generally presumed correct, and the taxpayer bears the burden of
proving that the determination is improper. See Rule 142(a); Welch v. Helvering,
290 U.S. 111, 115 (1933). However, pursuant to section 7491(a)(1), the burden of
proof on factual issues that affect the taxpayer’s tax liability may be shifted to the
Commissioner where the “taxpayer introduces credible evidence with respect to
* * * such issue.” The burden will shift only if the taxpayer has, inter alia,
-9-
[*9] complied with substantiation requirements pursuant to the Code and
“maintained all records required under this title and has cooperated with reasonable
requests by the Secretary for witnesses, information, documents, meetings, and
interviews”. Sec. 7491(a)(2).
On brief petitioner raises the issue of whether the burden of proof should be
shifted to respondent pursuant to section 7491. Although voluminous, the record is
sparsely populated with credible evidence. Petitioner did not introduce complete
credible evidence at trial. It seems that petitioner believed that she did not have to
produce any evidence that respondent did not request. Petitioner was responsible
for providing the evidence needed for her case to be successful, from her
prospective, at trial. She in fact provided only incomplete records at best; therefore
the burden of proof remains on her. See Higbee v. Commissioner, 116 T.C. 438,
440-441 (2001).
II. Petitioner’s Horse Activity
Respondent argued that the expenses related to petitioner’s horse activity
were not deductible in excess of the gross income because the horse activity was not
engaged in for profit within the meaning of section 183. Because petitioner had no
gross income from the horse activity during the years at issue, respondent
disallowed all of the expenses related to that activity.
- 10 -
[*10] Section 183(a) generally disallows, subject to the exceptions in section
183(b), deductions attributable to activities not engaged in for profit. Section 183(c)
defines an “activity not engaged in for profit” as “any activity other than one with
respect to which deductions are allowable for the taxable year under section 162 or
under paragraph (1) or (2) of section 212.”
The Court of Appeals for the Ninth Circuit, to which this case is appealable
absent stipulation to the contrary, has held that an activity is engaged in for profit if
the taxpayer’s “predominant, primary or principal objective” in engaging in the
activity was to realize an economic profit independent of tax savings. Wolf v.
Commissioner, 4 F.3d 709, 713 (9th Cir. 1993), aff’g T.C. Memo. 1991-212.
However, if the investor’s primary or principal objective is to make a profit, it is not
necessary for the investor to show that his primary objective was reasonable. Sec.
1.183-2(a), Income Tax Regs.
Section 1.183-2(b), Income Tax Regs., sets forth a nonexclusive list of
factors to be considered in evaluating a taxpayer’s profit objective: (1) the manner
in which the taxpayer carries on the activity; (2) the expertise of the taxpayer or
his advisers; (3) the time and effort expended by the taxpayer in carrying on the
activity; (4) the expectation that assets used in the activity may appreciate in
value; (5) the success of the taxpayer in carrying on other similar or dissimilar
- 11 -
[*11] activities; (6) the taxpayer’s history of income or losses with respect to the
activity; (7) the amount of occasional profits, if any, which are earned from the
activity; (8) the financial status of the taxpayer; and (9) elements of personal
pleasure or recreation. No one factor is necessarily determinative in the evaluation
of profit objective, nor is the number of these factors for or against the taxpayer
necessarily determinative. Golanty v. Commissioner, 72 T.C. 411, 426 (1979),
aff’d without published opinion, 647 F.2d 170 (9th Cir. 1981); sec. 1.183-2(b),
Income Tax Regs. All facts and circumstances with respect to the activity must be
taken into account. Sec. 1.183-2(b), Income Tax Regs.
A. The Manner in Which the Taxpayer Carries On the Activity
The fact that the taxpayer carries on the activity in a business like manner
may indicate that the activity is engaged in for profit. Sec. 1.183-2(b)(1), Income
Tax Regs. In this context we consider: (1) whether the taxpayer maintained
complete and accurate books and records for the activity; (2) whether the taxpayer
conducted the activity in a manner substantially similar to comparable activities that
were profitable; and (3) whether the taxpayer changed operating procedures,
adopted new techniques, or abandoned unprofitable methods in a manner consistent
with an intent to improve profitability. Giles v. Commissioner, T.C. Memo.
2005-28; sec. 1.183-2(b)(1), Income Tax Regs.
- 12 -
[*12] The first inquiry considers whether petitioner maintained complete and
accurate books and records of the activity. At trial petitioner stated that she
followed recordkeeping procedures that her lawyers and accountants outlined. She
also states that she maintained a separate checking account for her horse activity
and kept a file for each horse. However, because of petitioner’s mistaken belief that
she need not present any evidence that respondent did not ask for, she failed to
provide documentation to substantiate those statements. Even if petitioner did
maintain those records, there is little evidence for the specific taxable years at issue
that the books and records were kept for the purpose of “cutting expenses,
increasing profits, and evaluating the overall performance of the operation.” See
Golanty v. Commissioner, 72 T.C. at 430.
Petitioner claims to have written a business plan. But again petitioner did
not present it at trial and did not attempt to orally explain her business plan during
the trial. A written business plan is not required if the “business plan was
evidenced by * * * actions”. Phillips v. Commissioner, T.C. Memo. 1997-128.
However, in Phillips the taxpayers knew the amounts of income that would be
required to cover their expenses in future years. Although petitioner may have had a
business plan, there is no evidence that for the years at issue she prepared “profit
plans, profit or loss statements, balance sheets, or financial break-even analyses”
- 13 -
[*13] for her activity. See Dodge v. Commissioner, T.C. Memo. 1998-89, aff’d
without published opinion, 188 F.3d 507 (6th Cir. 1999). Petitioner presented no
evidence of a budget or that she knew how much she could spend to maintain
Goldrush and still make a profit during the years at issue. In just four years, 2004
through 2007, petitioner’s horse activity had lost $143,555. Even if Goldrush had
not died in 2008, she would have had to breed him 96 times at her higher price of
$1,500 per mare just to break even, even though he had sired only five foals in the
entire time she had owned him before that. While semen straws might have helped,
there had been historically very few of those.
As to the second inquiry, with respect to her horse activity petitioner stated
that she had “at all time operated that business in accordance with standard industry
practices.” But her testimony was not corroborated; documentation of practices in
similar activities was not provided, and she did not introduce any other witnesses in
the field to discuss or substantiate “standard industry practice”.
The third inquiry asks whether petitioner changed operating procedures,
adopted new techniques, or abandoned unprofitable methods in a manner
consistent with an intent to improve profitability. After years of losses, petitioner
did eventually decide to transport Goldrush to Australia. This was certainly a
change in operating procedures and after her alleged blackballing by the American
- 14 -
[*14] dressage community, may have been her best hope for garnering interest in
Goldrush as a stud. This does seem to indicate that petitioner at least updated her
operating procedure to increase income. However, petitioner did not elaborate on
how this route was expected to improve profitability or, given the cost of moving the
activity to Australia, how she projected the profitability of this change.
We conclude that there is simply not enough information in the record to find
that petitioner carried on the horse activity in the years at issue in a businesslike
manner. Therefore, this factor favors respondent.
B. The Expertise of the Taxpayer or Her Advisers
Preparation for the activity by extensive study of its accepted business,
economic, and scientific practices, or consultation with those who are
expert therein, may indicate that the taxpayer has a profit motive where
the taxpayer carries on the activity in accordance with such practices. *
* * [Sec. 1.183-2(b)(2), Income Tax Regs.]
We have no doubt that petitioner is an accomplished horsewoman with an
extensive background in riding and showing horses. She has certainly engaged in
an extensive study of training, dressage, and horsemanship as evidenced by her
dressage clinics and tests. However, none of the educational materials in the
record relate to the economics or business aspects of profitably running a horse
activity, and petitioner’s background as a lifelong horsewoman is insufficient to
indicate expertise in the economics of this business and a profit objective. See
- 15 -
[*15] Giles v. Commissioner, T.C. Memo. 2006-15 (discounting the probative value
of reference materials that do not relate to the business aspects of the horse
activity); Giles v. Commissioner, T.C. Memo. 2005-28 (same); McKeever v.
Commissioner, T.C. Memo. 2000-288.
The main inquiry is whether petitioner received and acted on advice from the
experts as to the accepted principles and economics of profitably running a business
and not merely the general advice that a horse enthusiast would seek in training and
showing horses as a hobby. See Golanty v. Commissioner, 72 T.C. 411 (1979);
Chandler v. Commissioner, T.C. Memo. 2010-92, aff’d, 481 Fed. Appx. 400 (9th
Cir. 2012); Keating v. Commissioner, T.C. Memo. 2007-309, aff’d, 544 F.3d 900
(8th Cir. 2008); Giles v. Commissioner, T.C. Memo. 2006-15; McKeever v.
Commissioner, T.C. Memo. 2000-288 (taxpayers received general advice on
showing and promoting horses but not on how to run a profitable horse business).
Petitioner did not discuss or otherwise corroborate through evidence such as
correspondence or other documentation that she received advice on the specifics of
profitably running a horse activity, nor did she present any advisers at trial.
- 16 -
[*16] We conclude that petitioner has not established that she sought expert advice
regarding the business and economic aspects of carrying on her activity for profit;
therefore, this factor weighs in favor of respondent.
C. The Time and Effort Expended by the Taxpayer in Carrying on the
Activity
The fact that the taxpayer devotes much of * * * [her] personal time
and effort to carrying on an activity, particularly if the activity does not
have substantial personal or recreational aspects, may indicate an
intention to derive a profit. A taxpayer's withdrawal from another
occupation to devote much of * * * [her] energies to the activity may
also be evidence that the activity is engaged in for profit. * * * [Sec.
1.183-2(b)(3), Income Tax Regs.]
Petitioner did not discuss how much time per week she spent working on
her horse activity. We assume that she did spend a significant amount of time
taking care of Goldrush, including grooming and exercising him. However, we
also assume that the activity had considerable personal and recreational aspects,
even if some of the activities were mundane, arduous, or repugnant. That a
business person derives pleasure from his or her work does not necessarily show a
lack of a profit objective. See sec. 1.183-2(b)(9), Income Tax Regs.; see also
Jackson v. Commissioner, 59 T.C. 312, 317 (1972). However, there is no
indication of what work petitioner did on her horse activity that was beyond what
she would have done if the activity was a hobby. See Giles v. Commissioner, T.C.
- 17 -
[*17] Memo. 2006-15. Petitioner no doubt continued to spend a significant amount
of time on her horse activity during the years at issue; however, because the activity
also had personal and recreational aspects, we find this factor neutral.
D. Expectation that Assets Used in the Activity May Appreciate in
Value
“A taxpayer’s expectation that assets such as land and other tangible property
used in an activity may appreciate in value to create an overall profit may indicate
that the taxpayer has a profit objective as to that activity.” Giles v. Commissioner,
T.C. Memo. 2005-28 (paraphrasing sec. 1.183-2(b)(4), Income Tax Regs.).
Petitioner argues that she believed that Goldrush would appreciate in value.
However, by the first of the two years at issue, it had been more than eight years
since Goldrush had competed or sired any foals. Goldrush was too lame for
successful competition in any dressage competitions, which might have increased
his value. Petitioner also explained that she believed she was blackballed by the
dressage society and that no one would breed to Goldrush, further diminishing his
value. Petitioner did not present any evidence that Goldrush had or would
appreciate in value; and because he was the only significant asset of petitioner’s
horse activity, we find this factor weighs in favor of respondent.
- 18 -
[*18] E. The Success of the Taxpayer in Carrying on Other Similar or
Dissimilar Activities
“The fact that the taxpayer has engaged in similar activities in the past and
converted them from unprofitable to profitable enterprises may indicate that [she] is
engaged in the present activity for profit, even though the activity is presently
unprofitable.” Sec. 1.183-2(b)(5), Income Tax Regs.
Although petitioner has a long history of working with and showing horses,
there is no indication in the record that petitioner’s horse activity has ever been
profitable. Petitioner’s previous lack of success in carrying on a similar profitable
activity favors respondent.
F. The Taxpayer’s History of Income or Losses With Respect to the
Activity
A series of losses during the initial or start-up stage of an activity may
not necessarily be an indication that the activity is not engaged in for
profit. However, where losses continue to be sustained beyond the
period which customarily is necessary to bring the operation to
profitable status such continued losses, if not explainable, as due to
customary business risks or reverses, may be indicative that the activity
is not being engaged in for profit. If losses are sustained because of
unforeseen or fortuitous circumstances which are beyond the control of
the taxpayer * * * such losses would not be an indication that the
activity is not engaged in for profit. * * * [Sec. 1.183-2(b)(6), Income
Tax Regs.]
See also Engdahl v. Commissioner, 72 T.C. 659, 669 (1979) (holding that horse
breeding has 5- to 10-year startup stage); Burger v. Commissioner, T.C. Memo.
- 19 -
[*19] 1985-523, aff’d, 809 F.2d 355 (7th Cir. 1987). For the two years at issue
petitioner claimed a combined loss of $55,902. Petitioner does not argue and we do
not find that her horse activity was in or near the startup phase. However, she
contends that the losses stemmed from her testimony against her former business
partner, Tom Valter, and her subsequent ostracism from the dressage community
along with Goldrush’s lameness and death which were unforeseen circumstances
beyond her control.
Petitioner testified against Tom Valter in 1999, and Goldrush’s lameness
began in 1999. By the years at issue, 2007 and 2008, neither her testimony nor
Goldrush’s lameness was a new or unforseen circumstance. However, in 2008
Goldrush’s death was an unforeseen circumstance. Accordingly, this factor is
neutral.
G. The Amount of Occasional Profits, If Any, Which Are Earned From
the Activity
“The amount of profits in relation to the amount of losses incurred, and in
relation to the amount of the taxpayer’s investment and the value of the assets used
in the activity, may provide useful criteria in determining the taxpayer's intent.” Sec.
1.183-2(b)(7), Income Tax Regs.
- 20 -
[*20] Petitioner presented no evidence that her horse activity was ever profitable.
From 2004 through 2008 the activity had a net loss of $147,170. Petitioner had not
bred or shown Goldrush from at least 1999 until his death in 2008, and except for
her expensive Australian venture she did not discuss any other sources of income for
her horse activity. We find this factor favors respondent.
H. The Financial Status of the Taxpayer
“Substantial income from sources other than the activity (particularly if the
losses from the activity generate substantial tax benefits) may indicate that the
activity is not engaged in for profit especially if there are personal or recreational
elements involved.” Sec. 1.183-2(b)(8), Income Tax Regs. Petitioner earned a
modest income from Tony Hoffman Productions, Inc. During the 2007 and 2008
tax years she earned $60,630, and $60,000, respectively. Petitioner did spend a
significant amount of money on her horse activity. She also claimed substantial tax
benefits which would have dropped her taxable income to zero for the years at
issue. See McKeever v. Commissioner, T.C. Memo. 2000-288.
We agree that petitioner expended more money on her horse activity than
she could prudently afford. Further, by funding the activity in part with loans, the
hoped-for tax savings at issue in this case, and withdrawals from her retirement
accounts, she has put herself in substantial financial jeopardy. See Helmick v.
- 21 -
[*21] Commissioner, T.C. Memo. 2009-220. Respondent, focusing on the
substantial tax benefits and consistent history of losses, concludes it was not a
for-profit activity. As was the case in McKeever, we believe there is some truth to
both parties’ assertions, but we do not fully accept either party’s conclusion. We
find this factor is neutral.
I. Elements of Personal Pleasure or Recreation
“The presence of personal motives in carrying on of an activity may indicate
that the activity is not engaged in for profit, especially where there are recreational
or personal elements involved.” Sec. 1.183-2(b)(9), Income Tax Regs. However,
“We also note that a business will not be turned into a hobby merely because the
owner finds it pleasurable; suffering has never been made a prerequisite to
deductibility.” Jackson v. Commissioner, 59 T.C. at 317.
Petitioner was an avid horsewoman and has ridden since she was 4 years
old. “‘[A]n enterprise is no less a “business” because the entrepreneur gets
satisfaction from his work; however, where the possibility for profit is small (given
all the other factors) and the possibility for gratification is substantial, it is clear that
the latter possibility constitutes the primary motivation for the activity.’” Dodge v.
Commissioner, T.C. Memo. 1998-89 (quoting Burger v. Commissioner, T.C.
Memo. 1985-523). The record is sparse on the elements of petitioner’s
- 22 -
[*22] personal pleasure related to her horse activity. Respondent therefore suggests
that this factor is neutral, and we agree.
After considering all of the above factors, as applied to the unique facts and
circumstances of this case, we conclude that for the specific tax years at issue
petitioner’s horse activity was not engaged in for profit within the meaning of
section 183. Petitioner did not argue it, but the main theme of our analysis of the
above factors was what a reasonable winding down of petitioner’s horse activity
would have been. It had been more than eight years since Goldrush had competed
or sired any foals, and the above analysis shows that petitioner was no longer and
had not in a long time been engaged in the horse activity for profit. Therefore
petitioner is not entitled to deduct expenses related to her horse activity.
III. Schedule C Interest Expense Deduction
Petitioner deducted $6,296 of interest expense on her 2008 Schedule C for
her IT and Database Management Business. At trial she explained that it should
have been deducted on the Schedule C for her horse activity. Because we found
supra that petitioner was not engaged in her horse activity for profit, she is not
entitled to this Schedule C interest expense deduction.
- 23 -
[*23] IV. Casualty Loss
Section 165(a) allows as a deduction any loss sustained during a taxable year
and not compensated for by insurance or otherwise. Section 165(c) limits the
allowance of losses in the case of individuals. Section 165(c)(3) allows as a
deduction to an individual certain losses commonly referred to as casualty losses. A
casualty loss is allowable to a taxpayer for a loss of property not connected with a
trade or business or a transaction entered into for profit if the loss results from “fire,
storm, shipwreck, or other casualty, or from theft”.5 See id. Pursuant to section
165(h), the casualty loss deduction is allowed only to the extent that the loss from
each casualty exceeds $100 and to the extent that the net casualty loss for the
taxable year “exceeds 10 percent of the adjusted gross income of the individual” for
that taxable year.
The amount of the casualty loss allowed under section 165 is the lesser of:
(1) the fair market value of the property immediately before the casualty reduced by
the fair market value of the property immediately after the casualty; or (2) “The
amount of the adjusted basis prescribed” in section 1.1011-1, Income Tax Regs.,
5
We found supra that petitioner was not engaged in her horse activity for
profit.
- 24 -
[*24] “for determining the loss from the sale or other disposition of the property
involved.” Sec. 1.165-7(b)(1)(ii), Income Tax Regs.
Petitioner deducted a casualty loss on her 2007 Federal income tax return for
the death of Goldrush.6 Respondent argues that the death of Goldrush does not
qualify as a casualty. We have previously explained that “the term ‘other casualty’
must be restricted to mean events of the same kind or the same characteristics as
those specifically enumerated in the statute. The casualties enumerated are unusual,
and unexpected events which are caused by a sudden or destructive force.”
Daugette v. Commissioner, T.C. Memo. 1977-56. In Daugette we found the death
of the taxpayers’ horse from colic was not a casualty loss because “the horse’s
death was not due to a sudden or destructive force and the cause of death was not
an unexpected or unusual occurrence in horses” but was due to the horse’s own
inherent “physical weakness”. In the case at hand, according to the veterinary
hospital that treated Goldrush, he died because of the sudden occurrence of an
“immune mediated disease.” This Court and other courts do not allow “a casualty
loss deduction for losses resulting from diseases.” Maher v. Commissioner, 76 T.C.
593, 597 (1981) (and the cases cited thereat), aff’d, 680 F.2d 91 (11th Cir. 1982).
6
As noted above, Goldrush died in 2008; therefore, this expense deduction
should have been claimed on petitioner’s 2008 Federal income tax return.
- 25 -
[*25] Therefore petitioner is not entitled to a casualty loss deduction for the death of
Goldrush.
V. Schedule C Legal and Professional Expense Deductions
Section 162(a) provides a deduction for ordinary and necessary business
expenses paid or incurred during the taxable year in carrying on any trade or
business. A trade or business expense is ordinary for purposes of section 162 if it is
normal or customary within a particular trade, business, or industry, and is
necessary if it is appropriate and helpful for the development of the business.
Commissioner v. Heininger, 320 U.S. 467, 471 (1943); Deputy v. du Pont, 308 U.S.
488, 495 (1940). In contrast, “personal, living, or family expenses” are generally
nondeductible. Sec. 262(a).
Petitioner incurred legal and professional fees in connection with a lawsuit
against her homeowners association for failing to respond to the three complaints
discussed in the facts. During the years at issue petitioner worked full time for Tony
Hoffman Productions, Inc., out of her home. However, she never explained how the
lawsuit was related to that work. Therefore, petitioner is not entitled to an expense
deduction for the Schedule C legal and professional fees.
- 26 -
[*26] VI. Section 6662(a) Accuracy-Related Penalties
Respondent determined that petitioner is liable for the section 6662(a)
accuracy-related penalty for 2007 and 2008 of $2,021.40 and $312, respectively.
Pursuant to section 7491(c) respondent has the burden of production with respect to
the accuracy-related penalty.
There is a section 6662(b)(2) “substantial understatement” of income tax for
any tax year, in the case of individuals, if the amount of the understatement exceeds
the greater of (1) 10% of the tax required to be shown on the return for the tax year
or (2) $5,000. Sec. 6662(d)(1)(A). Section 6662(a) and (b)(1) also imposes a
penalty for negligence or disregard of the rules or regulations.
For the purposes of the penalty, “‘negligence’ includes any failure to make a
reasonable attempt to comply with the provisions of this title”. Sec. 6662(c). Under
caselaw, “‘Negligence is a lack of due care or the failure to do what a reasonable
and ordinarily prudent person would do under the circumstances.’” Freytag v.
Commissioner, 89 T.C. 849, 887 (1987) (quoting Marcello v. Commissioner, 380
F.2d 499, 506 (5th Cir. 1967), aff’g on this issue 43 T.C. 168 (1964) and T.C.
Memo. 1964-299), aff’d, 904 F.2d 1011 (5th Cir. 1990), aff’d, 501 U.S. 868
(1991).
- 27 -
[*27] There is an exception to the section 6662(a) penalty when a taxpayer can
demonstrate (1) reasonable cause for the underpayment and (2) that the taxpayer
acted in good faith with respect to the underpayment. Sec. 6664(c)(1). Regulations
promulgated under section 6664(c) further provide that the determination of
reasonable cause and good faith “is made on a case-by-case basis, taking into
account all pertinent facts and circumstances.” Sec. 1.6664-4(b)(1), Income Tax
Regs.
Many of petitioner’s past returns have been audited, and each time she was
able to both substantiate her expenses and show that her horse activity was for
profit. Therefore we find that she acted in good fath and it was reasonable for her to
continue to report her activity in that manner (including her misplaced interest
expense deduction). Petitioner also acted reasonably and in good faith even if
naively in attempting to ascertain the fair market value of Goldrush for her casualty
loss. Petitioner has previously been able to settle the issue of her legal fees; and
because she believed that result carried over, it was reasonable and she acted in
good faith with respect to those fees. Therefore, we find that petitioner is not liable
for either of the section 6662(a) accuracy-related penalties.
- 28 -
[*28] The Court has considered all of petitioner's contentions, arguments, requests,
and statements. To the extent not discussed herein, we conclude that they are
meritless, moot, or irrelevant.
To reflect the foregoing,
An appropriate order will be
issued, and decision will be entered
under Rule 155.