# Synanon Church v. Commissioner > United States Tax Court · June 7, 1989 · 57 T.C.M. 602 URL: https://www.frixlaw.com/law-library/cases/4608609 ## Case - **Full name:** THE SYNANON CHURCH, v. COMMISSIONER OF INTERNAL REVENUE - **Court:** United States Tax Court - **Decided:** June 7, 1989 - **Citations:** 57 T.C.M. 602; 1989 T.C. Memo. 270; 1989 Tax Ct. Memo LEXIS 270 - **Precedential status:** Unpublished - **Opinion:** Opinion - **Cited by:** 8 later opinions in the Frix Law Library ## Citator (automated) - No negative treatment found by the automated citator. That is not the same as a confirmation that the case is good law; read the citing cases. - Full citator and citing cases: https://www.frixlaw.com/law-library/cases/4608609 ## Opinion text THE SYNANON CHURCH, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent Synanon Church v. Commissioner Docket No. 20015-84. United States Tax Court T.C. Memo 1989-270 ; 1989 Tax Ct. Memo LEXIS 270 ; 57 T.C.M. (CCH) 602 ; T.C.M. (RIA) 89270 ; June 7, 1989 ; As corrected June 7, 1989 *270 Petitioner's exemption from income taxes was revoked in May 1982 retroactively to the beginning of its fiscal year 1977. Deficiencies were determined for the fiscal years 1977 through 1983. It is Held, that petitioner is entitled to have its income from Adgap, its principal source of income, determined in the light of all the evidence, not just the Adgap ledgers; Held further, sec. 277, I.R.C. 1954 , is not applicable because petitioner was not operated primarily to furnish goods and services to its members, whether all the residents of the Synanon communities or only the members of the Board of Directors were members of the corporation. Held further, cash contributions solicited and obtained by petitioner are taxable income. Held further, the value of food and clothing contributed to petitioner is taxable to it; the value of such food and clothing is determined. Held further, four activities, the Synanon Distribution Network, Lifestyler Operations, Education/School, and Corporate Investment and Realty, carried on by petitioner, were not sec. 162(a) trades or businesses; petitioner is not, therefore, entitled to deduct any expenses in excess of income from such activities except *271 the expenses of Corporate Investment and Realty in earning rental income and in operating an investment office. Held further, petitioner is entitled to deductions for amounts determined to be executive compensation, other salaries and wages for nonexecutive employees, and in-kind compensation. Held further, petitioner is entitled to deductions for amounts determined for taxes, interest, depreciation, printing, postage and office supplies, minor consumables, air fares, telephones, and professional fees. Held further, petitioner is liable for additions to tax under secs. 6651(a) , 6653(a)(1) and (2) , and 6655 . Martin A. Schainbaum , Philip C. Bourdette , and David R. Benjamin , for the petitioner. Eugene H. Ciranni and Michael K. Williams, for the respondent. FEATHERSTON MEMORANDUM FINDINGS OF FACT AND OPINION FEATHERSTON , Judge: Respondent determined the following deficiencies 1 *272 in petitioner's Federal income taxes for the fiscal years ending August 31, 1977 through August 31, 1983: Additions to Tax 2 Fiscal Year Deficiency Section Section Section Section Ended August 31 in Tax 6651(a)(1) 6653(a)(1) 6653(a)(2) 6655 1977 $ 4,551,089 $ 0 $ 227,554 0 0 1978 4,795,490 0 239,775 0 0 1979 4,499,129 0 224,956 0 0 1980 3,377,634 844,408 168,882 0 190,836 1981 4,074,271 1,018,568 203,714 * 236,308 1982 4,620,431 1,155,108 231,022 * 437,426 1983 2,339,937 584,984 116,997 * 149,530 Following the resolution of a dispute over respondent's right to access to petitioner's records, respondent filed an answer reducing the deficiency and additions to tax to the following amounts: Additions to Tax Fiscal Year Deficiency Section Section Section Ended August 31 in Tax 6651(a)(1) 6653(a)(1) 6655 Totals 1977 $ 1,688,968 $ 0 $ 84,448 $ 0 $ 1,773,416 1978 2,324,945 0 116,247 0 2,441,192 1979 2,162,028 0 108,101 0 2,270,129 1980 1,064,163 260,040 53,208 190,836 1,568,247 1981 1,733,370 433,342 86,669 236,308 2,489,689 1982 2,599,853 649,963 129,995 437,426 3,817,237 1983 1,588,814 397,203 79,441 0 2,065,458 Totals $ 13,162,141 $ 1,740,548 $ 658,109 $ 864,570 $ 16,425,368 Also, the addition to tax under section 6653(a)(2) *273 for 1981, 1982 and 1983 remains in dispute. On July 7, 1960, petitioner received a ruling from the Internal Revenue Service (IRS) that it was exempt from Federal income tax under section 501(c)(3) . The Commissioner revoked petitioner's tax exemption retroactively to fiscal year 1977 and determined the deficiencies listed above. Petitioner does not contend in this case that it is tax-exempt. Petitioner engaged in numerous income-producing activities, some of which are stipulated to be trades or businesses, and some of which are not. The issues to be decided are as follows: 1. Whether petitioner's books and records should be considered in their entirety to determine deductible expenses as contended by petitioner, or whether the Court should limit its consideration primarily to the Adgap General Ledgers and the supporting records for those ledgers, as contended by respondent. 2. Whether section 277 has any applicability to petitioner, and who bears the burden of proof on this issue. 3. Whether petitioner's Schedule M Receipts of cash contributions should be included in gross income or excluded as gifts. 4. Whether food and clothing obtained by petitioner through the Synanon Distribution *274 Network and consumed by petitioner should be included in gross income or excluded as gifts. a. If included, what value should be given the donated goods. b. If included, what expenses, if any, should be allowed against such income. 5. Whether expenses incurred in five activities of petitioner that were not stipulated to be trades or businesses are deductible: The Synanon Distribution Network, Lifestyler Operations, Education/School, Corporate Investment and Realty, and Education/Rehabilitation. 6. Whether certain cash payments (Executive Compensation and Other Salaries and Wages) to Synanon residents who worked for petitioner are deductible as compensation. 7. Whether certain amounts expended for insurance, utilities and property expense, medical care, clothing, meals, and vehicles are deductible as in-kind compensation to employees. 8. Whether petitioner is entitled to deductions for depreciation, interest and taxes and, if so, in what amounts. 9. Whether, the following line items, expenses not stipulated as deductible, were incurred in furtherance of petitioner's trade or business activities: Printing, Postage and Office Supplies, Minor Consumables, Air fares, Telephones, *275 and Professional Fees. 10. Whether petitioner is liable for the addition to tax under IRC section 6651(a)(1) for failure to file returns for fiscal years ended August 31, 1980 to August 31, 1983. 11. Whether petitioner is liable for the addition to tax under IRC section 6653(a) for negligent underpayment of taxes for fiscal years ended August 31, 1977, through August 31, 1981 and for the additions to tax under sections 6653(a)(1) and 6653(a)(2) for fiscal years August 31, 1982 and August 31, 1983. 12. Whether petitioner is liable for the addition to tax under IRC section 6655 for underpayment of estimated taxes for fiscal years ended August 31, 1980 to August 31, 1983. FINDINGS OF FACT A. General Petitioner was incorporated under the nonprofit corporation laws of California on September 18, 1958, with the name Synanon Foundation, Inc. On November 24, 1980, its name was changed to The Synanon Church (hereinafter Synanon or petitioner). At the time the petition was filed, Synanon's principal place of business was in Badger, California. For the years before the Court, petitioner adopted a fiscal year ended August 31. In its early years, Synanon conducted rehabilitation activities *276 at several locations for drug addicts, alcoholics, juvenile delinquents and other character-disordered persons. Character-disordered individuals were maintained in self-contained communities where they were denied alcohol and drugs, were given work assignments they were required to perform, and were provided with a form of psychological therapy through what was referred to as the Synanon Game. Residents of the communities were provided with total care and subsistence, including food, housing, medical care, and recreational facilities. In December 1959, Synanon stated in a letter to the Internal Revenue Service (IRS) that 44 of its 49 residents were former narcotic addicts. On July 7, 1960, petitioner received a ruling by the IRS that it was tax-exempt under section 501(c)(3) and that contributions to it were deemed tax-deductible under section 170 . As a result of an IRS audit of Synanon's fiscal years 1969, 1970, and 1971, the Commissioner determined that one of Synanon's activities, its Advertising Gift and Premiums activity (Adgap), was a business unrelated to its charitable activities and was subject to the section 511 unrelated business income tax. Petitioner filed Forms 990, *277 Return of Organization Exempt from Income Tax, for its fiscal years 1977, 1978, and 1979 and Forms 990-T, Exempt Organization Business Income Tax Return, for 1979, 1980, 1981, 1982, and 1983 on which it reported some of its Adgap income. The only years for which petitioner filed Forms 1120, U.S. Corporation Income Tax returns, were the fiscal years 1977 and 1978. By the beginning of its fiscal year 1977, Synanon's character and activities had changed substantially. During some or all of the fiscal years 1977 through 1983, Synanon carried on the following 13 for-profit business activities in addition to Adgap: Trucking Land and Livestock Ranching Graphics and Direct Mail Ceramics General Store Construction Contracting Band Texaco Station Salvage and Recycling Bus Service Data Processing Publishing Public Safety The parties have stipulated that expenses are allowed as a deduction in an amount equal to the revenues derived from these non- Adgap activities and that no other expenses are attributable to them. These 13 activities had total income of $ 1,440,346 during the seven years in controversy. Adgap was a trade or business which engaged in the sale of promotional products and programs *278 to business and other organizations throughout the United States. In Adgap's beginning, its products were marketed by door-to-door salesmen. During the years in controversy, its sales methods included door-to-door canvassing, telephone sales and appointment sales. Revenues generated by Adgap are set forth in the following schedule: Year Gross Receipts or Sales 1977 $ 9,187,721 1978 9,777,680 1979 9,429,480 1980 7,405,695 1981 9,366,490 1982 10,543,889 1983 9,964,617 Total $ 65,675,572 The parties have stipulated that all amounts expended in furtherance of Adgap's business are deductible expenses. In addition to the foregoing stipulated trades or businesses, petitioner engaged in the following activities: (a) The Synanon distribution Distribution Network (b) Lifestyler Operations (c) Education/School (d) Corporate Investment and Realty (e) Education/Rehabilitation The parties are in dispute as to whether the first four of these activities are section 162(a) trades or businesses. In its brief, petitioner has conceded that the Education/Rehabilitation activity, carried on by its Newcomer Department, is not a section 162(a) trade or business. The following table shows the approximate number of Synanon *279 residents at the end of each of the fiscal years before the Court: Fiscal Year Ended August 31 Number 1977 1,301 1978 891 1979 812 1980 774 1981 634 1982 571 1983 559 The residents may be classified into three categories: (1) Individuals who came to Synanon with histories of drug addiction, alcoholism or juvenile delinquency, referred to as character-disordered; (2) individuals who resided and worked in the community because they were attracted to its stated purpose and lifestyle and families of some of the character-disordered persons, referred to as Squares; and (3) residents who lived in the community because they were attracted to its stated purpose and lifestyle but who worked for employers outside the Synanon community, referred to as Lifestylers. The approximate number of character-disordered persons who entered Synanon for help during the fiscal years in controversy are as follows: Fiscal Year Ended August 31 Number 1977 1,042 1978 534 1979 275 1980 156 1981 82 1982 107 1983 166 These figures do not reflect how long the character-disordered persons who entered a Synanon community during any year lived there or what proportion of the total number of residents were character-disordered persons living in the community *280 at any given time. On May 19, 1982, the Commissioner sent petitioner a notification of the revocation of petitioner's exempt status; the notice referred only to the years 1977 and 1978. On August 16, 1982, petitioner filed a section 7428 declaratory judgment action in the United States District Court for the District of Columbia seeking a review of the revocation of the recognition of exemption. On February 9, 1984, the district court dismissed the declaratory judgment action. On June 5, 1987, the United States Court of Appeals for the District of Columbia affirmed the dismissal. Synanon Church v. United States, 579 F.Supp. 967 (D. D.C. 1984) , affd. 820 F.2d 421 (D.C. Cir. 1987) . The parties have stipulated that petitioner does not contend that it was or should be tax-exempt under any provision of the Internal Revenue Code during the seven years here in controversy. The parties have stipulated that petitioner had the following amounts of income from designated sources during the fiscal years in controversy: 1977 $ 11,319,823 1978 13,648,590 1979 12,441,080 1980 8,151,178 1981 12,140,322 1982 13,016,300 1983 11,027,008 Total $ 81,744,301 The amounts of income in dispute are set forth in the findings *281 on "Taxability of Transfers of Cash and Property to Petitioner," infra. The parties have also stipulated that petitioner had the following total amounts of expenses which are deductible in computing its taxable income: 1977 $ 8,015,204 1978 8,307,830 1979 7,673,623 1980 5,850,957 1981 7,543,572 1982 8,005,948 1983 7,822,004 Total $ 53,219,138 The following schedule sets forth the expense items which petitioner claims as deductions and which are in dispute: SCHEDULE D -- EXPENSES NOT STIPULATED AS DEDUCTIBLE LINE ITEM FYE 1977 1978 1979 1980 Executive Compensation 812,000 409,078 290,309 248,892 Other Salaries & Wages 488,723 555,583 1,120,579 1,454,501 WAM Expenses 124,000 44,100 57,500 31,400 Taxes 90,108 76,505 119,930 122,372 Interest 353,625 280,518 203,360 113,141 Depreciation 761,594 691,578 596,996 522,836 Insurance 46,150 50,554 21,266 58,125 Utility & Property Expense 498,237 630,403 463,739 626,475 Medical, Clothing & Other Resident Expenses 252,580 222,895 166,564 269,514 Meals 706,314 434,817 421,225 524,855 Vehicles 443,184 333,090 356,280 333,134 Attributed SDN Expense 643,888 755,933 688,726 572,739 Professional Fees 17,379 81,103 437,573 1,603,628 Other General & Admin- istrative Expenses 27,501 45,835 56,612 32,824 Printing, Postage & Office 47,653 126,493 81,330 95,398 Minor Consumables 242,623 102,773 0 0 Airfares 47,374 85,156 130,495 40,709 Telephones 195,193 187,004 172,390 109,426 SUBTOTALS 5,798,126 5,113,418 5,384,874 6,759,869 Less: Other Amounts Stipulated Deductible 578,942 270,685 254,449 80,797 TOTALS 5,219,184 4,842,733 5,130,425 6,679.072 *282 LINE ITEM 1981 1982 1983 TOTALS Executive Compensation 552,594 274,488 509,156 3,096,517 Other Salaries & Wages 1,100,887 892,112 1,423,786 7,036,171 WAM Expenses 12,500 9,800 14,600 293,900 Taxes 100,329 92,441 69,550 671,135 Interest 110,161 104,591 256,812 1,422,208 Depreciation 509,939 536,936 842,766 4,462,645 Insurance 18,921 29,096 20,295 244,407 Utility & Property Expense 603,146 456,677 407,694 3,686,371 Medical, Clothing & Other Resident Expenses 182,595 197,914 256,581 1,548,643 Meals 291,274 222,494 352,216 2,953,195 Vehicles 345,339 371,318 200,205 2,382,550 Attributed SDN Expense 710,141 674,312 504,163 4,549,902 Professional Fees 1,256,440 676,540 795,440 4,868,103 Other General & Admin- istrative Expenses 37,687 15,182 11,805 227,446 Printing, Postage & Office 72,073 113,915 127,042 663,904 Minor Consumables 0 0 0 345,396 Airfares 20,033 6,321 10,627 340,715 Telephones 110,179 128,238 106,256 1,008,686 SUBTOTALS 6,034,238 4,802,375 5,908,994 39,801,894 Less: Other Amounts Stipulated Deductible 90,549 109,580 55,344 1,440,346 TOTALS 5,943,689 4,692,795 5,853,650 38,361,548 B. Synanon's Books and Records Synanon's books and records for the period here in controversy were maintained under the assumption that Synanon was exempt from income taxes. Synanon maintained a separate ledger *283 for Adgap. In this ledger Synanon recorded Adgap's income, directly attributed Adgap expenses, and certain amounts of allocated overhead or indirect expenses such as executive compensation, labor, rent, utilities, interest, advertising and telephone costs. In addition, Synanon maintained a number of subsidiary ledgers, miscellaneous general ledgers and various departmental ledgers. Neither the ledgers nor the accounts therein were, as a general rule, related to the several businesses and other activities in which Synanon was engaged. Rather, the accounts were keyed mainly to what Synanon referred to as administrative departments. No attempt was made to keep the books and records as though any part of Adgap or any one of Synanon's other activities was a separate taxable activity unrelated to other activities. The IRS used petitioner's own books and records in determining the deficiencies in dispute. The parties have agreed to the correctness of the amounts of the entries in Synanon's books. C. Applicability of Section 277 Synanon's articles of incorporation, dated August 30, 1958, named the directors who were to serve until their successors were elected by the members. The original *284 set of bylaws, adopted September 25, 1958, stated that the members of the corporation "shall be persons who have demonstrated an interest in the purposes of this corporation" and who are approved by the Board of Directors. An amended set of bylaws, adopted January 15, 1975, contains the following: The members of the Board of Directors of the corporation shall be the members of the corporation and shall have all the powers and rights of members as provided by law. There shall be no other members of the corporation. * * * Residents of facilities owned or operated by the corporation and other persons connected with the corporation who may sometimes be referred to as either residents or members of the corporation, are not members of the corporation and shall not have the rights and powers of members, including the right to vote. * * * The by-laws were amended in 1980, 1981 and 1982 but the membership provisions were not materially changed. Residents of Synanon were required to obey the rules of Synanon. These rules covered such matters as abstinence from sugar, dressing in a particular matter, shaving of heads, vasectomies, and, at one point, changing spouses or partners. The rules evolved *285 as time passed and changed from time to time. The Synanon Game, 3 a practice in the nature of an encounter session, was used by the Synanon management to inform the residents of rules changes and to enforce compliance with them. Residents who did not comply with the rules could be required to leave the Synanon community Synanon provided all residents in its communities with food, clothing, housing, entertainment, educational services, medical care, recreation, certain transportation services, and a form of psychological therapy through the Synanon Game. Residents of the Synanon communities lived communally and shared social and recreational activities. All Synanon residents were required to do the work needed to provide these services *286 as well as to carry on the several business and nonbusiness activities in which Synanon engaged. Character-disordered persons who had lived in Synanon less than three years, minor children and retired persons received weekly or monthly cash allotments (referred to as Walk Around Money or WAM). These allotments began at about 50 cents per week and gradually rose to $ 4 to $ 5 per week by the end of three years. Most individuals who had lived and worked in Synanon for more than three years received a monthly salary which averaged $ 34 per month and, in some cases, ranged to $ 75 or $ 100 per month during the years before the Court. Members of the Board of Directors and other Synanon officers received what was referred to as executive compensation. Petitioner made all decisions as to job placement, level of compensation, and vacation and training for all Synanon residents. No contractual arrangements existed between petitioner and the Synanon residents giving them any interest in the ownership of Synanon or any of its assets. The Synanon residents have no rights to a distribution of any Synanon property at the termination of their residency and no right to restoration of any money *287 or property they may have contributed to Synanon while they lived there. Synanon residents are free to terminate their residency at any time and the Synanon management may at any time require them to leave. Synanon's principal objective during the seven years before the Court was the successful operation of its numerous business and nonbusiness activities. Valuable property was acquired and some of it profitably sold. Business income was increased and larger cash distributions were made to the long-term executive group. Synanon was not operated primarily to furnish services or goods to its members during the years in issue. D. Taxability of Transfers of Cash and Property to Petitioner During the seven years before the Court, petitioner received cash contributions (sometimes Schedule M Receipts) and income attributed to its Synanon Distribution Network (SDN). The taxability of the following income items totaling $ 5,514,642 is in dispute: Income Item Schedule M Attributed FYE Receipts SDN Income Total 1977 $ 218,381 $ 643,888 $ 862,269 1978 177,824 755,933 933,757 1979 322,953 688,726 1,011,679 1980 50,131 572,739 622,870 1981 102,094 710,141 812,235 1982 64,581 674,312 738,893 1983 28,776 504,163 532,939 Total $ 964,740 $ 4,549,902 $ 5,514,642 (1) *288 Cash Contributions Petitioner excluded cash contributions and donations from its gross income during the years before the Court by making a Schedule M adjustment. These cash contributions came from (a) relatives of residents, (b) bequests, and (c) individuals and foundations associated with petitioner. (2) Contributions of Goods (Attributed SDN Income) Through an internal department which was known as Synanon Distribution Network (SDN), more fully described below, separately incorporated in May 1983, petitioner actively sought and obtained donations of cash, food, clothing and other items. Some of the food, clothing and other goods were retained by petitioner and used in its operations. Some of the contributed items were passed on to section 501(c)(3) charitable organizations. (See E(1), The Synanon Distribution Network, infra. ) The food and clothing contributed to petitioner and not passed on to others were, for the most part, consumed within the taxable year in which the goods were received. Respondent determined, and petitioner denies, that the value of the food and clothing consumed by the Synanon residents is includible in petitioner's gross income. Respondent did not include *289 in petitioner's income the value of goods which Synanon passed on to section 501(c)(3) tax-exempt organizations. In soliciting contributions of goods, Synanon stressed that it had a section 501(c)(3) exemption ruling and that contributions to Synanon would be deductible. In particular, it emphasized the provisions of section 170(e)(3) which permits donors of inventoried goods to obtain charitable deductions for property in an amount equal to its basis plus 50 percent of the normal markup. Petitioner made purchases of food and clothing for its population at wholesale prices. Costs of providing food and clothing were, therefore, somewhat less than they otherwise would have been. The IRS determined the value of the consumed food and clothing by using the Department of Labor, Bureau of Labor Statistics, cost of living statistics on costs of food and clothing at the low standard for the community nearest Synanon for which statistics were available. These figures were applied against Synanon's average yearly number of residents as determined from petitioner's records. Synanon's actual expenditures for food and clothing were then deducted from the Bureau of Labor Statistics figure, and *290 the resulting difference was included in income. In this manner, the IRS determined petitioner's taxable income from the SDN for the years in controversy. E. Whether Certain Activities Were Trades or Businesses (1) The Synanon Distribution Network In addition to actively seeking contributions of food, clothing, computers, lumber and other items which were used in the operation of the Synanon community, petitioner through SDN, from September 1, 1977, through May 1982, obtained contributions of goods which it distributed to charitable organizations. Some items were shipped directly from donors to the charities. Petitioner sought contributions through personal conferences with representatives of potential donors, by direct mailing, by public speaking engagements, by telephone and through the work of Adgap salesmen. In seeking contributions, Synanon emphasized its tax-exempt status and charitable activities in catalogs published primarily to promote Adgap's business. A letter signed by Macyl A. Burke, included in the 1978-1979 catalog, for example, contained the following paragraph: One final note of interest to businessmen. The Synanon Distribution Network, our nonprofit, national *291 service which delivers surplus material to people in need, has grown at a tremendous rate and expects to distribute between 7 and 8 million dollars worth of goods to reputable charities in 1978. Let me urge you to examine the special brochure inserted in the catalog to find out how the Distribution Network can help you dispose of your surplus and overruns and may actually increase your profits at the same time. The brochure referred to in this paragraph is entitled "A 3-Minute Introduction to The Synanon Distribution Network." The statement described SDN as "a nonprofit service of Synanon which includes more than 25,000 businessmen, manufacturers and farmers who trust us as their primary outlet for large quantities of surplus materials, overruns and distressed merchandise." The brochure explains that a company may benefit from contributions because companies, under section 170(e)(3) "may now deduct their cost plus 50% of the gross profit of the donated goods." In the catalog for 1980-1981, SDN is described as a "nonprofit organization working hard to give people a hand instead of a hand-out." The catalog states that "We provide [businessmen] an outlet for their surplus, which allows *292 them to clear their warehouses, receive a tax deduction, and help disadvantaged people -- all at the same time." Revenues received by SDN for the period August 31, 1977, through May 1982 for passing goods along to charities were as follows: 1977 $ 0 1978 0 1979 0 1980 1,580 1981 103,020 1982 219,019 1983 0 In 1980, when Synanon began making charges for handling SDN distributions, Synanon management discussed the "semantics" to be used to describe the charge and the suggestions included "handling charge," "committed contribution" and "finders fee." In a letter dated December 5, 1980, the vice-president of SDN stated: 1. We are not really invoicing, because unlike ADGAP, we would never turn the bills over to a collection agency. We are really talking about a commitment for contribution which is analogous to someone pledging $ 100 to Muscular Dystrophy. On July 30, 1982, petitioner transferred SDN to the Game Club of Michigan, a tax-exempt organization. The name of the organization was changed to Synanon Second Market on February 19, 1985. (2) Lifestyler Operations Petitioner provided room, board and services to persons who were not employed by petitioner but who lived on properties owned *293 by petitioner. These persons were called "Lifestylers" and they paid money to petitioner for providing these services. The Lifestylers were advised that payments for room and board were not deductible as a charitable contribution. Petitioner's financial statements recorded Lifestyler revenues as "Resident contributions and room and board: Workouts." When an individual expressed an interest in becoming a Lifestyler, officers or other employees of petitioner met with the individual and worked out the terms of payment. For individuals who became Lifestylers, Synanon incurred expenses for medical care, clothing, meals, use of vehicles and the like. The following table shows the revenues and expenses attributable to the Lifestyler activity: Lifestyler Business Revenues and Expenses Lifestyler Workout Net Gain from FYE Revenues Expenses Lifestyler Operations 1977 $ 574,506 $ 117,668 $ 456,838 1978 248,609 42,437 206,172 1979 99,934 50,394 49,540 1980 43,707 19,909 23,798 1981 18,966 3,841 15,125 1982 66,851 42,088 24,763 1983 100,065 99,752 313 Total $ 1,152,638 $ 376,089 $ 776,549 The Lifestyler activity was conducted primarily as a recruiting device to attract people with social philosophies consistent with Synanon's *294 and was not a trade or business. (3) Education/School Petitioner provided nursery age through post-graduate education, including the Charles E. Dederich School of Law. At a very early age, all children were placed in what was referred to as a boarding school where they ate and lived and, when they became old enough, received instruction. Their parents were, in this manner, freed of the responsibility of taking care of their children and were enabled to take appropriate work assignments in the community where the school was located or elsewhere. Petitioner obtained grant moneys from state and local governments and from private sources to educate some youngsters. Lifestylers paid to have their children educated in the school. Payments were made by some parents who did not reside in the Synanon community to have their children enrolled in the school. The Education/School activity was not a trade or business. (4) Corporate Investment and Realty Before and during the years in issue, petitioner purchased, used, developed and sold real property and realized a profit on most sales. Petitioner maintained records from which its basis, allowed and allowable depreciation, and gain or loss *295 on the sale of such properties could be determined. In developing or improving the properties, petitioner used the services of civil engineers, architects, landscape designers, skilled craftsmen and executives. During the years in issue petitioner sold 20 pieces of property for a total net gain of $ 6,617,101. The parties have stipulated that the income derived from these sales was capital gain. The amounts of capital gains or loss realized from these real estate sales in fiscal years 1977, 1978, 1979, 1980, 1981 and 1982 are as follows: Capital Gain (or Loss) 1977 $ (208,979) 1978 2,420,825 1979 2,176,556 1980 74,390 1981 1,549,373 1982 604,936 Total Net Gain $ 6,617,101 No real property was sold in fiscal year 1983. In addition, petitioner rented apartments and received gross rents of $ 841,293. As petitioner had funds available, it invested the funds in certificates of deposit, treasury bills, stocks and other instruments. Petitioner set up an investment office to manage its portfolio and, incidentally, to provide investment services to those residents who had funds to invest and who wanted advice. In total amounts, petitioner had income of $ 420,379 from dividends, $ 512,102 from *296 interest on U.S. obligations, and $ 1,461,220 from other interest during the seven years before the Court. F. Cash Payments to Synanon Residents (1) Executive Compensation The following table shows the amounts of cash petitioner paid as executive compensation to its officers and directors during the fiscal years 1977 through 1983, the amounts allowed by respondent as deductions, and the numbers of executives receiving that cash compensation: Amounts Numbers of FYE Amount Allowed Executives 8/31/77 $ 815,260 $ 3,260 14 8/31/78 426,103 17,025 17 8/31/79 308,433 18,124 13 8/31/80 313,470 64,578 15 8/31/81 736,594 184,000 16 8/31/82 366,488 92,000 19 8/31/83 679,156 170,000 18 For fiscal year 1977, Synanon paid Charles E. Dederich, the founder of Synanon, a total amount of $ 575,000, including a $ 500,000 pre-retirement bonus. For fiscal year 1978, petitioner paid Dederich $ 100,123. Excluding the $ 500,000 bonus, the amounts were paid to Dederich as salary pursuant to the September 1, 1976, lifetime employment and consultation agreement described infra. Additional amounts were paid to Dederich under this September 1, 1976, employment agreement; however, petitioner claims a deduction only for the $ 575,000 and $ *297 100,123 amounts. 4 The executives who were paid the cash compensation were involved in the supervision and management of all of petitioner's affairs and activities. Synanon was organized into departments which performed assigned functions. Each of the departments reported to a member of Synanon's Board of Directors or a member of the board's executive committee. Prior to 1976, nominal payments of cash salary were made by petitioner to its officers and directors. Beginning *298 in late 1975, Dederich in discussions with Synanon's directors, decided the time had come to pass out some of the organization's cash to himself and certain other Synanon people. A transcript of a directors' meeting of December 11, 1975, shows that the directors decided that this could best be done in the form of salaries because nonprofit corporations are legally prohibited from distributing their assets or profits to private individuals. During these discussions, the transcript shows, the participants considered establishing a separate, for-profit corporation called Home Place Investors, Inc., which over the course of time would acquire petitioner's more valuable assets. The transcript also shows that the amounts paid out as salaries would be used to capitalize Home Place Investors, Inc. 5 *299 *300 *301 Dederich in the course of these discussions with Synanon's directors, according to the transcript of an April 27, 1976, meeting of the directors, stated that he wanted himself and his wife Betty made totally financially independent for the rest of their lives. 6 Subsequently, the Board of Directors decided that petitioner should enter into a long-term employment and consulting agreement with Dederich. When concerns were raised over the Internal Revenue Service's ability to seize Synanon's assets if it prevailed in the dispute concerning whether Adgap's *302 income was subject to unrelated business income tax, a transcript of a meeting of August 13, 1976, shows that one of Synanon's attorneys suggested that the contract with Dederich be secured by a first deed of trust on Synanon's real estate. 7 *303 This decision to pay larger salaries generally applied only to Dederich and a limited, inner group. 8 *304 *305 Synanon's general counsel suggested, according to the transcript, that another benefit from paying the salaries would be the resulting reduction of Adgap's net income, which possibly would lessen the Internal Revenue Service's interest in taxing Adgap. On August 13, 1976, petitioner's Board of Directors adopted resolutions concerning the salaries to be paid Dederich and other Synanon executives. Dederich was to be paid an annual salary of $ 75,000 effective for petitioner's fiscal year ending August 31, 1976. It was further resolved that petitioner should enter into a lifetime employment and consultation agreement pursuant to which Dederich would receive a $ 75,000 per year salary prior to his retirement and then a $ 50,000 per year consultation fee following his retirement from petitioner's active management. Deeds of trust in Dederich's favor on petitioner's Home Place property and Marshall, California, ranch property were authorized to secure Synanon's obligation to Dederich under the employment and consultation agreement. On September 1, 1976, petitioner and Dederich entered into an employment and consultation agreement along the lines authorized in the August 13, 1976, corporate resolutions. The agreement provided that Dederich would be furnished with the rooms, meals and services necessary to perform his duties. Dederich also received *306 deeds of trust to two real properties of Synanon to secure the agreement in the event of petitioner's default. On February 6, 1980, the two deeds of trust were released to petitioner. The minutes of an August 15, 1977, meeting of Synanon's executive committee include a resolution that Synanon pay Dederich $ 500,000 cash immediately as a pre-retirement bonus. An October 20, 1978, resolution of Synanon's board states that at a prior meeting on October 20, 1977, a decision was made to increase Dederich's salary under the employment and consultation agreement to $ 100,000 a year. The resolution states the board determined that it was in the best interests of petitioner to amend the employment agreement to pay the increased compensation and ratifies and affirms the acts of its officers and directors in paying Dederich $ 100,000 per year beginning September 1, 1977. The post-retirement $ 50,000 per year consultation fee arrangement remained unchanged. On the Forms 990-T (Exempt Organization Business Income Tax Return), petitioner filed for its fiscal years 1981, 1982 and 1983, it allocated 25 percent of the cash executive compensation paid for each fiscal year to Adgap. On these 990-T's, *307 Synanon treated only the portion of its Adgap sales which was attributable to outside sales commission representatives as unrelated business income subject to tax. It further allocated and took as a deduction only the portion of the Adgap executive compensation attributable to sales by the outside sales representatives. For example, on the 990-T for its fiscal year ending August 31, 1982, from the $ 77,275 of gross Adgap sales of the outside sales representatives which it reported as unrelated business income, Synanon took a deduction of $ 641 for the executive compensation directly connected to such unrelated business income. The $ 641 deduction was based on the ratio of the commission representative sales to total reported Adgap sales for the fiscal year. (366,488 total compensation X 25% X 77,275 (commissioned representative sales) / 10,401,816 (Adgap sales)) (2) Other Salaries and Wages The following table sets forth the amounts designated Other Salaries and Wages or Nonexecutive Compensation paid by Synanon for each of the fiscal years in controversy, the amounts allowed by respondent, and the amounts initially in dispute: Initially Amount Allowed Disputed 1977 $ 551,087 $ 62,364 $ 488,723 1978 706,359 150,776 555,583 1979 1,387,693 267,114 1,120,579 1980 1,630,080 175,579 1,454,501 1981 1,406,324 305,437 1,100,887 1982 1,202,570 310,458 892,112 1983 1,617,396 193,610 1,423,786 Total $ 8,501,509 $ 1,465,338 $ 7,036,171 *308 These salaries and wages were paid to nonexecutive employees. The nonexecutive employees included (1) resident Squares, (2) character-disordered persons who had lived in a Synanon community for a minimum of three years, and (3) employees who worked for petitioner but did not reside in a Synanon community. In its brief, petitioner has conceded that its Education/Rehabilitation activity was not a trade or business. Accordingly, the portion of the nonexecutive compensation paid to employees who worked in its Rehabilitation or Newcomer Department is not deductible. The amount of the concession is $ 51,823 for the seven years. This leaves a total amount of $ 6,984,348 in dispute. Apart from the disputed amount, petitioner has conceded that a total amount of $ 293,000 paid to character-disordered persons who had lived in Synanon less than three years, school children, and retired persons, as WAM or Walk Around Money, is not deductible. Petitioner concedes that the following amounts of WAM are not deductible. 1977 $ 124,000 1978 44,100 1979 57,500 1980 31,400 1981 12,500 1982 9,800 1983 14,600 The nonexecutive employees performed the services required for: the operation of Adgap, the thirteen other *309 activities stipulated to be trades or businesses, the activities which were nonbusiness in character (SDN, Lifestyler Operation, Education/School, and Corporate Investment and Realty) as well as the conceded Education/Rehabilitation activity. These employees also prepared and served food at the community dining room, maintained the housing, provided medical care for the residents and performed other tasks required for the operation of the Synanon community. The average number of people employed by Synanon during the years before the Court was as follows: Fiscal Year Ended August 31 Number of Employees 1977 636.2 1978 587.1 1979 532.6 1980 502.3 1981 487.2 1982 440.4 1983 420.0 These average numbers were computed by reference to the number of man-months the employees worked during the year. Petitioner maintained records on the cash payments made to its nonexecutive employees. The records, however, were not, in general, related to the several business and nonbusiness activities carried on by Synanon. Instead, the records were related to 41 administrative departments which were used during all or part of the period here in controversy. The records on these departments do not include payments to character-disordered *310 residents who had lived in Synanon less than three years, school children, retired individuals, dependents and individuals receiving executive compensation. Nonexecutive employees were given work assignments in Synanon's several administrative departments. Skill level and work production were factors taken into account in determining pay levels. The nonexecutive employees performed, among other duties, support services for Adgap and other business activities. They solicited business in person and by telephone. They processed and filled orders for goods and billed customers. They kept records on revenues and expenses and performed other needed services. The following table shows the total cash payments to employees of each of the 41 administrative departments during each of the seven years before the Court: 1977 1978 1979 1980 Acquisition $ .00 $ .00 $ 6,360.00 $ 15,454.00 Agriculture 7.996.00 6,836.00 12,871.00 19,127.00 CED Archives 5,013.39 8,798.00 6,342.00 20,534.00 Ceramics 1,076.00 1,019.00 159.00 .00 Chairman's 11,508.00 13,347.00 8,170.00 7.987.00 Office Circus .00 .00 .00 12,848.00 (Research) Clerk's Office 25,598.76 14,073.00 32,055.36 40,540.60 Construction 28,802.00 15,846.00 39,220.13 100,932.94 Communications 18,724.20 46,569.15 56,372.27 63,713.41 Director's 11,110.50 118.00 .00 .00 Office Distribution .00 17,515.00 31,852.88 46,304.06 School Staff 40,120.82 22,470.45 56,405.18 87,182.96 Entertainment .00 .00 .00 .00 Executive 24,915.38 27,926.69 76,555.81 67,285.06 Staff Founders .00 2,511.00 93,432.66 50,495.32 Food Service 34,502.70 25,487.00 43,663.00 98,297.15 Foremen's .00 11,757.00 27,971.00 67,949.69 Office Game Lab. .00 .00 .00 .00 General Office 54,380.99 192,665.44 363,557.10 384,366.69 Home Staff 5,518.00 .00 .00 .00 Industries 11,838.10 64,336.72 143,036.53 67,161.49 Office Salesmen 61,079.92 62,621.56 130,546.66 161,337.05 Investment 262.00 5,843.00 750.00 .00 Founders .00 .00 .00 .00 Law Dept. 24,743.00 28,440.00 105,653.69 165,035.29 Housekeeping 3,224.00 7,283.00 9,499.00 4,907.00 Maintenance 38,345.69 24,344.00 22,556.00 30,425.50 Material/ 2,981.00 2,551.00 648.00 .00 Purchasing Medical Dept. 20,439.00 22,935.00 30,574.00 51,105.96 Lake Havasu $ .00 $ .00 $ 2,406.00 $ 66,938.96 Necomer Staff 6,847.00 2,529.00 7,522.50 13,115.00 Public Relations .00 2,199.00 4,380.00 .00 President's .00 1,745.00 78.00 10,259.00 Office Publications .00 436.00 9,263.29 1,812.00 Research 1,461.59 .00 .00 .00 Public 8,387.02 13,115.10 2,512.00 .00 Safety Synanon Systems 1,345.00 9,858.00 .00 .00 Texaco 2,733.08 657.00 .00 .00 Station Supply 49,064.24 17,843.00 7,928.40 16,370.00 Transportation 31,135.00 27,072.00 45,363.00 51.040.55 Visual Comm. 17,935.08 5,612.00 9,989.00 7,554.71 $ 551,087.46 $ 706,359.11 $ 1,387,693.46 $ 1,630,080.39 Less amounts reimbursed by SDN for 1983 *311 1981 1982 1983 Acquisition $ 600.00 $ .00 $ .00 Agriculture 6,703.50 9,465.00 5,480.00 CED Archives 11,845.50 4,750.00 11,575.00 Ceramics .00 .00 .00 Chairman's 6,679.50 .00 .00 Office Circus 600.00 .00 .00 (Research) Clerk's Office 45,663.32 39,103.50 63,933.60 Construction 6,505.50 30,551.58 6,839.44 Communications 33,659.23 61,075.00 40,770.00 Director's 5,850.00 300.00 .00 Office Distribution 69,088.00 32,777.00 58,611.50 School Staff 39,272.50 27,850.00 59,664.00 Entertainment .00 50.00 2,525.00 Executive 31,732.50 46,057.50 70,518.00 Staff Founders 69,463.00 2,050.00 .00 Food Service 76,916.78 57,889.85 85,329.00 Foremen's 111,914.58 182,637.49 244,733.69 Office Game Lab. 5,531.00 .00 .00 General Office 132,621.94 54,577.80 89,509.51 Home Staff .00 .00 .00 Industries 157,821.85 91,263.99 127,514.00 Office Salesmen 271,080.78 203,089.99 412,410.30 Investment 13,385.22 20,820.00 15,413.00 Founders 14,675.00 29,800.00 15,371.00 Law Dept. 132,900.50 178,982.94 251,865.00 Housekeeping 880.00 .00 .00 Maintenance 5,359.00 .00 .00 Material/ .00 .00 .00 Purchasing Medical Dept. 46,973.48 61,864.92 59,717.82 Lake Havasu $ 9,758.66 $ .00 $ .00 Necomer Staff 518.00 50.00 12,340.00 Public Relations .00 .00 .00 President's 1,529.00 .00 .00 Office Publications .00 .00 .00 Research .00 .00 .00 Public .00 .00 .00 Safety Synanon Systems 24,062.00 9,150.00 35,461.00 Texaco .00 .00 .00 Station Supply 1,000.00 .00 .00 Transportation 65,756.25 49,238.72 28,693.30 Visual Comm. 5,977.00 9,175.00 8,801.00 $ 1,406,323.59 $ 1,202,570.28 $ 1,707,075.16 89,679.22 $ 1,617,395.94 *312 G. In-Kind Compensation Petitioner provided both executive and nonexecutive resident employees with housing, meals, clothing, transportation, education services, child care, medical care and other items necessary for subsistence. All resident employees were given job assignments and were expected to perform them. In addition, petitioner provided similar subsistence services for character-disordered persons who had resided in Synanon less than three years, school children, retired individuals, and physically infirm persons; these individuals were not petitioner's employees during the seven years in controversy. Petitioner's contemporaneous records do not separate the costs of providing the various subsistence services to its employees from the costs attributable to nonemployees. Moreover, petitioner's contemporaneous records do not segregate the costs attributable to the employees of the several activities in which petitioner was engaged. The costs of providing the subsistence services to all of its residents are reflected in the following expenses: Item 1977 1978 1979 Insurance $ 46,150 50,554 21,266 Utility & Property Expense 498,237 630,403 463,739 Medical, Cloth- ing & Other Resident Expns. 252,580 222,895 166,564 Meals 706,314 434,817 421,225 Vehicles 443,184 333,090 356,280 Other General & Admin. Expns. 27,501 45,835 56,612 Totals $ 1,973,966 1,717,594 1,485,686 *313 Item 1980 1981 1982 1983 Insurance 58,125 18,921 29,096 20,295 Utility & Property Expense 626,475 603,146 456,677 407,694 Medical, Cloth- ing & Other Resident Expns. 269,514 182,595 197,914 256,581 Meals 524,855 291,274 222,494 352,216 Vehicles 333,134 345,339 371,318 200,205 Other General & Admin. Expns. 32,824 37,687 15,182 11,805 Totals 1,844,927 1,478,962 1,292,681 1,248,796 H. Depreciation The following table shows the composition of $ 4,612,384 of deductions for depreciation claimed for the fiscal years 1977 through 1983 on properties in the indicated categories and the amounts respondent allowed as deductions: Buildings & Machinery & Amount FYE Improvements Equipment Transportation Total Allowed 8/31/77 $ 516,144 $ -- $ 245,450 $ 761,594 $ -- 8/31/78 512,683 -- 178,895 691,578 -- 8/31/79 406,701 -- 190,295 596,996 -- 8/31/80 368,120 30,600 137,616 536,336 13,500 8/31/81 303,898 110,293 146,319 560,510 50,571 8/31/82 328,006 104,617 147,892 580,515 43,579 8/31/83 516,649 157,547 210,659 884,855 42,089 The deductions respondent allowed were for depreciation [expenses] shown on the Adgap books and pertain solely to depreciation for machinery and equipment. The properties for which depreciation is claimed were located at the following sites: Depreciation -- FYE's: Location 8/31/77 8/31/78 8/31/79 8/31/80 Marin Co., CA $ 196,000 200,420 196,920 * 222,020 Tulare Co., CA 76,500 121,500 124,200 137,300 Santa Monica, CA 183,044 128,963 18,100 -- Kerhonkson, NY -- -- -- 3,700 Chicago, IL -- -- 500 5,900 Detroit, MI -- -- -- 4,200 Havasu, AZ -- -- -- 1,800 Los Angeles, CA -- -- 5,132 10,200 San Francisco, CA 60,600 61,800 61,850 300 Subtotal 516,144 512,683 406,702 385,420 Unidentified by location 245,450 178,895 190,294 150,916 TOTAL $ 761,594 691,578 596,996 536,336 Location 8/31/81 8/31/82 8/31/83 Marin Co., CA ** 197,501 *** 43,579 -- Tulare Co., CA 165,240 318,696 **** 804,097 Santa Monica, CA -- -- -- Kerhonkson, NY 3,820 640 -- Chicago, IL -- -- -- Detroit, MI 4,000 -- -- Havasu, AZ 10,417 5,504 17,240 Los Angeles, CA -- 2,745 32,945 San Francisco, CA 371 421 -- Subtotal 381,349 371,585 854,282 Unidentified by location 179,161 208,930 30,573 TOTAL 560,510 580,515 884,855 *314 Petitioner, during the fiscal years 1977 through 1983, sold 20 of its real properties. Included in the 20 real properties sold were: all of Synanon's depreciable Marin County, California, real properties; all of its depreciable Santa Monica, California, real properties, except the Texaco service station; all of its depreciable Kerhonkson, New York, real property; all of its Chicago, Illinois, depreciable real property; all of its depreciable Detroit, Michigan, real property; all of its depreciable Havasu, Arizona, real property; all of its depreciable Los Angeles, California, real property; and all of its depreciable San Francisco, California, real property other than its Oyster Point property. Not sold were petitioner's depreciable Tulare County, California, Home Place property and Strip property; its Santa Monica, California, *315 Texaco station; and its San Francisco, California, Oyster Point property. Petitioner during its fiscal years 1977 through 1983 had the following depreciation expense on its two Tulare County, California, depreciable real properties (the Home Place and the Strip) and its two San Francisco, California, depreciable real properties (the Oyster Point property and the paint factory sold in February 1980): Year Tulare County San Francisco 1977 $ 76,500 $ 60,600 1978 121,500 61,800 1979 124,200 61,850 1980 137,300 300 1981 165,240 371 1982 318,696 421 1983 466,464 -- The parties have stipulated that petitioner realized $ 6,617,101 of capital gains income from its real estate sales. (See (E)(4), Corporate Investment and Realty, supra. ) In computing such gains, an amount for depreciation allowed was subtracted from Synanon's original cost and cost of improvements. For example, as to the petitioner's Marin County, California, properties, the parties stipulated as follows: Marin County Properties: Bay Property: 18500 State Route 1, Marin County, CA Acquired during January 1966: Cost $ 344,963 Ranch: 6055 Marshall-Petaluma Rd., Marin County, CA Acquired during October 1970: Cost $ 643,075 Walker Creek: 4300 Marshall-Petaluma Rd., Marin County, CA Acquired during December 1971: Cost $ 526,963 Total cost for three properties $ 1,515,001 Sold in April 1981: Sale Price 6,111,989 Total Basis (Cost and Improvements) 6,091,480 Total Depreciation allowed 1,686,700 Total Gain $ 1,707,209 *316 Synanon's depreciable machinery and equipment during its fiscal years 1980, 1981, 1982 and 1983, consisted of data processing equipment, equipment devoted to Adgap, furniture, office equipment, video equipment, other equipment, livestock and livestock equipment. Petitioner during its fiscal years 1980 through 1983 had the following depreciation on its machinery and equipment: Item 1980 1981 1982 1983 Adgap data processing $ 13,500 $ -- $ -- $ -- equipment Church data processing 3,800 -- -- -- equipment Adgap equipment -- 69,805 35,455 44,020 Data processing equip. -- 8,545 -- -- Video equipment 4,750 11,814 15,092 31,282 Furniture 1,000 5,324 17,542 31,340 Office equipment -- -- 12,346 14,855 Other equipment -- -- 9,377 25,020 Livestock 6,150 11,938 11,938 7,743 Livestock equipment 1,400 2,867 2,867 3,287 $ 30,600 $ 110,293 $ 104,617 $ 157,547 Synanon, during the years in issue, had a Transportation Department. The vehicle pool maintained by this department included automobiles, trucks, buses, tractors, heavy equipment and motorcycles. In 1974, Synanon established a Safari Club and a Motorcycle Club. In operating the Safari Club, petitioner purchased recreational vehicles and equipment for the use of its residents. By *317 June 1978, Synanon owned 410 motorcycles. Motorcycles in the Synanon fleet were assigned to the Motorcycle Club members. Synanon also, as of May 1983, owned a total of 17 boats. The boats were used for educational and recreational purposes. The Synanon College offered a course in Boating Operations and Maintenance. The boats were also utilized for rescue service in Tomales Bay, Marin County, California. From 1974 to 1980, Synanon owned a total of 15 aircraft. Two of the aircraft were gliders. Three of the aircraft were DeHaviland Beavers. The planes were used extensively in training Synanon residents in a flight school operated by its Education/School department. Petitioner's fiscal year 1977 U.S. Corporation Income Tax Return, dated June 21, 1982, gives the following information concerning the $ 516,144 depreciation deduction Synanon claimed for its buildings, leasehold properties, and mobile homes: Depreciation Cost or allowed or Method of Life Date other allowable in figuring or Depreciation acquired basis earlier yrs. deprec. rate for this yr. Buildings various $ 9,985,739 $ 2,009,301 S/L various $ 399,800 Leasehold properties various 2,423,345 791,715 S/L 20 yrs. 83,644 Mobile homes various 564,722 10,338 S/L 10 yrs. 32,700 Bldgs. sold in 1976 -- -- (216,503) -- -- -- *318 Petitioner's fiscal year 1978 U.S. Corporation Income Tax Return gives the following information on the $ 535,983 depreciation deduction on buildings, mobile homes and leasehold properties. Depreciation Cost or allowed or Method of Life Date other allowable in figuring or Depreciation acquired basis earlier yrs. deprec. rate for this yr. Buildings various $ 8,956,481 $ 2,192,600 S/L various $ 420,100 Leasehold properties various 613,356 43,038 S/L 10 yrs. 60,120 Mobile homes various 2,423,345 875,359 S/L 20 yrs. 55,763 Bldgs. sold in 1976 -- (2,423,345) (1,524,222) -- -- -- I. Taxes, Licenses and Interest The following table shows the taxes, license and registration fees, and interest paid by petitioner during its 1977 through 1983 fiscal years and the amounts allowed by respondent as deductions: Real and Other Taxes Personal Licenses and Amount Year Property Tax Registration Interest Allowed 1977 $ 79,099 $ 43,195 $ 353,625 $ 32,186 1978 71,496 6,714 280,518 1,705 1979 115,269 14,897 203,360 10,236 1980 121,680 754 113,141 162 1981 99,103 2,770 110,161 1,544 1982 93,815 (821) 114,684 10,646 1983 49,871 21,789 256,812 2,110 The amounts allowed by respondent were for taxes and interest expenses listed on the Adgap books. J. Printing, Postage *319 and Office Expense; Minor Consumables; Air fares and Telephone The following table shows the amounts paid by petitioner during its 1977 through 1983 fiscal years for printing, postage and office expense; minor consumables; air fares and telephone: Printing Postage Minor Year & Office Consumables Air fares Telephone 1977 $ 133,337 $ 242,623 $ 127,365 $ 437,409 1978 191,054 102,773 212,701 684,565 1979 207,993 -- 231,705 498,172 1980 163,678 -- 100,813 405,057 1981 178,530 -- 106,013 440,474 1982 232,453 -- 126,085 539,118 1983 274,315 -- 112,792 355,966 Respondent allowed as deductions the following amounts for the above expenses: Printing, Postage Minor Year & Office Consumables Air fares Telephone 1977 $ 85,684 -- $ 79,991 $ 242,216 1978 64,561 -- 127,545 497,561 1979 126,603 -- 101,210 325,782 1980 68,280 -- 60,104 295,631 1981 106,457 -- 85,980 330,295 1982 118,538 -- 119,764 410,880 1983 147,273 -- 102,165 249,710 K. Professional Fees During its 1977 through 1983 fiscal years, petitioner paid $ 4,312,092 of professional fees. This $ 4,312,092 was expended for legal fees, expenses, witness fees, audit fees, petty cash expenditures, attorneys' fees, attorney expenses, settlements, trust account reimbursements and expenses of Synanon's in-house law department. *320 The in-house law department expenses consisted of expenditures for petty cash, publications, travel, goods and lodging. The following table shows the types of cases in which some of the fees were paid, the fees which petitioner concedes are nondeductible, and the fees the deductibility of which is disputed: Adgap and Conceded by Libel Property Collision Petitioner as FYE Cases Cases Cases Nondeductible Disputed 8/31/77 $ -- $ 2,812 $ 26,238 $ 5,095 $ 12,284 8/31/78 -- 19,983 22,963 81,103 -- 8/31/79 48,400 24,537 36,736 82,986 354,587 8/31/80 331,910 55,903 29,620 365,248 1,238,380 8/31/81 359,421 26,722 25,797 15,169 1,241,271 8/31/82 188,775 74,754 6,986 3,731 672,809 8/31/83 42,987 125,348 5,399 2,679 792,761 Total $ 971,493 $ 330,059 $ 153,739 $ 556,011 $ 4,312,092 Respondent agrees the libel cases fees are deductible, except to the extent section 277 applies and limits their deductibility. Respondent also agrees the property cases and the Adgap and collision cases fees are deductible. Of the $ 4,312,092 of disputed fees, $ 971,493 has not been attributed to particular cases, matters or expenditures. The remaining $ 3,340,599 of fees were paid in the following cases, matters or expenditures: FYE FYE FYE FYE 8/31/77 8/31/78 8/31/79 8/31/80 1) Apar Guardianship $ 71 $ -- $ 20 $ 20 2) Arizona -- -- -- -- 3) Benjamin -- -- -- -- 4) CED Defense Fund Reim. -- -- -- (113,645) 5) CIR I -- -- -- -- 6) Confidential Settlement -- -- -- 503,977 7) Crawford -- -- 1,091 -- 8) Eidson -- -- -- -- 9) Excise Tax -- -- 10,685 -- 10) Expense Reim. Law Dept. -- -- -- -- 11) FOIA -- -- -- -- 12) Gambonini 605 -- 725 2,843 13) Guardianship/Chil- dren Legal Fees -- -- -- -- 14) Home Place Petty Cash -- -- -- 4,049 15) IRS -- -- -- -- 16) Kerhonkson Petty Cash -- -- -- 408 17) Kohl -- -- -- -- 18) Los Angeles Petty Cash -- -- -- 312 19) Lukjanczyk -- -- -- 98 20) Macready Estate -- -- -- 557 21) Marino & Smith -- -- 665 774 22) Morantz -- -- 269,930 216,561 23) Morantz/State of California -- -- -- 159,120 24) Mulrooney -- -- -- 5,215 25) Office Expense -- -- -- 31,242 26) People v. Dederich et al -- -- 10,871 -- 27) Petty Cash Expense Law Department -- -- -- 331 28) Publications Law Department 768 -- 153 (5,777) 29) Pub. Exp. Morantz Law Department -- -- -- 44 30) Ross -- -- -- 1,847 31) San Francisco Petty Cash -- -- -- 674 32) State of California -- -- 10,975 100,766 33) Strip. -- -- -- 191 34) Superior Court (Tulare) -- -- 1,072 -- 35) Synanon Atty's Expense -- -- -- 2,098 36) Reclassification -- -- -- (23,700) 37) Tolchin 10,840 -- -- 1,936 38) Tomales Bay Petty Cash -- -- -- 13,438 39) Travel, Food & Lodging -- Law Dept. -- -- -- 3,091 Total $ 12,284 0 $ 306,187 $ 906,470 *321 FYE FYE FYE 8/31/81 8/31/82 8/31/83 Total 1) Apar Guardianship $ -- $ -- $ -- $ 111 2) Arizona -- -- 641,014 641,014 3) Benjamin 72,877 8,095 42,267 123,329 4) CED Defense Fund Reim. (47) -- -- (113,692 5) CIR I -- -- 60 60 6) Confidential Settlement 5,000 445,317 -- 954,294 7) Crawford -- -- -- 1,091 8) Eidson -- (317) -- (317 9) Excise Tax -- -- 145 10,830 10) Expense Reim. Law Dept. -- -- (26,779) (26,779 11) FOIA 116 85 -- 201 12) Gambonini 3 -- -- 4,176 13) Guardianship/Chil- dren Legal Fees 1,590 -- -- 1,590 14) Home Place Petty Cash -- -- -- 4,049 15) IRS -- 639 66,502 67,141 16) Kerhonkson Petty Cash -- -- -- 408 17) Kohl -- 11 -- 11 18) Los Angeles Petty Cash -- -- -- 312 19) Lukjanczyk -- -- -- 98 20) Macready Estate -- -- -- 557 21) Marino & Smith 660,136 15,291 12,798 689,664 22) Morantz 37,065 -- -- 523,556 23) Morantz/State of California 12,000 -- -- 171,120 24) Mulrooney -- -- -- 5,215 25) Office Expense 33,918 -- -- 65,160 26) People v. Dederich et al 3,520 -- -- 14,391 27) Petty Cash Expense Law Department 20,695 19,059 13,537 53,622 28) Publications Law Department 19,116 -- -- 14,260 29) Pub. Exp. Morantz Law Department -- -- -- 44 30) Ross -- 465 -- 2,312 31) San Francisco Petty Cash -- -- -- 674 32) State of California 12,764 -- -- 124,505 33) Strip. -- -- -- 191 34) Superior Court (Tulare) -- -- -- 1,072 35) Synanon Atty's Expense 100 435 201 2,834 36) Reclassification -- -- -- (23,700 37) Tolchin 217 (5,046) 29 7,976 38) Tomales Bay Petty Cash -- -- -- 13,438 39) Travel, Food & Lodging -- Law Dept. 2,780 -- -- 5,871 Total $ 881,850 $ 484,034 $ 749,774 $ 3,340,599 *322 Synanon received the following amounts of income from settlements or judgments in the indicated cases: FYE FYE FYE Case 8/31/81 8/31/82 8/31/83 Gambonini $ 987 $ -- $ -- Tolchin -- -- 1,600 Confidential Settlement -- 475,000 -- The following is a brief description of the cases listed in the foregoing table: The Apar Guardianship involved the establishment of a guardianship over a child by Synanon residents. Arizona involved a state criminal prosecution for securities fraud brought against Dederich and other Synanon executives. Benjamin involved a state criminal prosecution for kidnapping brought against Synanon executive Benjamin and other Synanon residents. CIR I was a suit brought by petitioner in this Court to contest its Federal Insurance Contributions Act (FICA) tax liability. Crawford was a custody suit concerning the two children of a Synanon resident. Eidson was a tort suit brought by a person who alleged that he had been beaten by Synanon residents. Excise Tax was a case involving Synanon's liability for excise tax. FOIA was an action brought by Synanon under the Freedom of Information Act (FOIA) to obtain the information contained in the files of certain government agencies on Synanon. *323 Gambonini was a suit brought by a neighbor of Synanon who was embroiled in a trespass dispute and alleged that she was harassed by Synanon residents. IRS was the tax exemption declaratory judgment action brought by petitioner in the United States District Court for the District of Columbia. Synanon Church v. United States, 579 F.Supp. 967 (D.D.C. 1984) Kohl was a suit brought against petitioner by a former Synanon resident for alleged torts and breach of contract concerning his employment. Lukjanczyk was a conversion suit against Synanon by a former resident over certain wood carvings. McCready Estate involved the collection of a sizeable bequest to petitioner. Marino & Smith were tort suits by persons who had come on or near petitioner's premises and were mistreated by Synanon residents. Morantz and Morantz /State of California involved an attorney, Paul Morantz, who represented a number of former residents in suing petitioner. Two Synanon residents planted a rattlesnake in Morantz's mailbox. Mulrooney was a tort suit by persons who had come upon petitioner's premises and claimed they were beaten and harassed by Synanon residents. People v. Dederich involved the prosecution of Dederich *324 and two Synanon residents for attempted murder by placing a rattlesnake in Paul Morantz' mailbox. Ross involved a suit against petitioner by a former resident who alleged torts and breach of contract. State of California concerned attempts by the California attorney general to place petitioner into receivership or obtain control of Synanon's assets. Superior Court/Tulare was an action brought by Synanon for return of items seized under a search warrant issued in the rattlesnake incident criminal investigation. Tolchin involved a suit brought by former Lifestylers who alleged petitioner had ordered the wife to have an abortion. L. Additions to Tax For all the years before the Court, petitioner was advised that it was exempt from Federal income taxation by the following counsel who were residents of Synanon: Name Title Year Licensed Dan L. Garrett, Jr. General Counsel 1949 (9/1/76 to 2/12/80) Howard M. Garfield Chief Attorney 1969 (9/1/76 to 9/1/78) Philip C. Bourdette Attorney 1971 (9/1/76 to 9/1/78) Chief Attorney (9/1/78 to 2/12/80) General Counsel (2/12/80 to 8/31/83) David R. Benjamin Attorney 1973 (all years) 1975 All these attorneys were licensed by the State of California. David R. Benjamin was also *325 licensed by the State of Washington. For the taxable years 1979 through 1983, Garrett, Bourdette and Benjamin advised petitioner that it was under no obligation to file Form 1120, U.S. Corporation Income Tax Return, because of its contention that it was tax-exempt as a church. For all taxable years in issue, petitioner was advised that it had zero tax liability by the following accountants who were residents of Synanon: Name Year Licensed as CPA State Ronald V. Cook 1967 California Martin Rubenstein 1964 California David W. Ross Passed CPA examination California 1974 For the fiscal years 1977 and 1978, petitioner filed Forms 990 accompanied by letters in which petitioner argued that it generated only "related business income." After the Commissioner revoked its exemption ruling for 1977 and 1978 on May 19, 1982, petitioner filed Forms 1120, U.S. Corporation Income Tax Returns, for 1977 and 1978. For the fiscal years 1979, 1980, 1981, 1982 and 1983, petitioner filed Forms 990-T, Exempt Organization Business Income Tax Return (under section 511 of the Internal Revenue Code ). On these Forms 990-T, petitioner reported that Adgap had the following amounts of gross receipts compared with the gross *326 receipts or sales stipulated in this proceeding: Fiscal Year Forms 990-T Stipulated Amounts 1981 $ 282,890 $ 9,366,490 1982 77,275 10,543,889 1983 38,544 9,964,617 The computations on these Forms 990-T indicate that petitioner reported on the Forms 990-T only the sales made by outside (nonresident) salesmen. The Forms 990-T contain no references to the other 13 businesses in which petitioner was engaged during the years here in controversy. OPINION During the years before the Court, petitioner carried on a wide variety of activities which produced revenue and which involved expenditures of funds. These activities were headquartered in one or more controlled communities in which the residents performed services and were provided with housing, food at a common dining room, clothing, medical care, education services and other necessities. Before the litigation of petitioner's exempt status was concluded, petitioner contended that all of its activities were exclusively religious or charitable in nature and that, as a church, it was exempt from all Federal income taxes under section 501(c)(3) . In the present proceeding, petitioner concedes that it is not tax-exempt for the years in issue and urges *327 that all of its activities with one exception were, in fact, business activities carried on for profit. Petitioner's principal income-producing activity was Adgap. The parties agree that Adgap was a trade or business but dispute the amount of the allowable deductions attributable to it. As to petitioner's 13 non-Adgap activities, the parties have agreed they were trades or businesses, that the expenses are deductible in amounts equal to the revenues derived from them, and that no other expenditures are attributable to those activities. In addition, petitioner engaged in the following five activities: Corporate Investment and Realty, Lifestyler Operations, the Synanon Distribution Network, Education/School, and Education/Rehabilitation. Respondent maintains that petitioner's expenditures in these five activities are not deductible. Petitioner concedes that the Education/Rehabilitation activity was a charitable activity and not a trade or business. Also, petitioner contends that cash and goods donated to Synanon through the Synanon Distribution Network are not taxable and, if taxable, the value of the goods received by petitioner was not as great as respondent has determined. 1. *328 Books and Records Petitioner kept two sets of ledgers, one set for Adgap and, the other, a set of miscellaneous ledgers for all of its other activities. The IRS examined petitioner's books and records and based the deficiency determinations, as modified by the answer, on those books and records. In his opening statement, respondent's counsel stated: Now, the deficiency, your Honor, I want to emphasize, is based on the books and records of the taxpayer, based on their own books and records. There's no dispute in this case as to the amount of any expenditure. There's no dispute in this case as to the amount of any item of income. The only dispute is whether certain expenditures are deductible expenditure [sic]. And there's some dispute as to whether certain receipts are income. A major controversy remaining for resolution is the amounts of the expenses attributable to Adgap. Petitioner argues that the Adgap ledgers do not contain all Adgap expenses and that they were not intended to do so. Rather, petitioner argues, the Adgap ledgers were primarily tools of management which were designed to reflect some of the more controllable expenses. Petitioner contends that its taxable *329 income must be determined by regarding Synanon as a single entity and all of its books and records must be taken into account. Respondent emphasizes that petitioner's officials testified that Adgap's books and records were accurate and complete and were kept in accordance with proper accounting standards. In determining the deficiencies for the years in controversy, the IRS agents relied on those books. On this ground, respondent argues that petitioner has been allowed all the expense deductions to which it is entitled. We agree that Synanon is a single entity and is taxable as such. As we shall discuss (Issue 4, infra ), however, a corporation such as Synanon may engage in a variety of activities, some of which are for-profit business activities and some of which are not. The parties have recognized this legal principle by expressly stipulating or asking the Court to decide the business or nonbusiness character of petitioner's several activities. Synanon did not keep separate ledgers in which the income and expenses of each business or nonbusiness activity were separately recorded. We think it quite apparent that the Adgap ledger did not cover all expenses allocable to Adgap. *330 In arriving at the taxable income of Synanon as an entity, certain items of expense must be allocated between the business activities for which expenses are allowable as deductions and the activities for which the expenses are not. Respondent complains that the testimony offered by petitioner on the allocation of the expenditures for executive compensation (Issue 6(a), infra ), other salaries and wages (Issue 6(b), infra ), and in-kind compensation (Issue 7, infra ), was not documented by records made during the years in controversy. That is true. The testimony represented what the witnesses stated was their best judgment in the light of their knowledge of the facts. But any such allocation, of necessity, represents the judgment of the witness and, ultimately, the judgment of the Court. This is the foundation on which the oft-cited rule of Cohan v. Commissioner, 39 F.2d 540 (2d Cir. 1930) , rests. The objective of this proceeding is to determine the amount of petitioner's taxable income and its resulting tax liability. Bookkeeping entries "are not determinative of tax liability." Helvering v. Midland Mutual Life Ins. Co., 300 U.S. 216 , 223 (1937) . Petitioner's ledgers "are no more *331 than evidential, being neither indispensable nor conclusive. The decision must rest upon the actual facts * * *." Doyle v. Mitchell Bros. Co., 247 U.S. 179 , 187 (1918) . Respondent has cited no law or principle of law, and we know of none, which estops petitioner from showing its true tax liability. Accordingly, we hold that petitioner is entitled to have its tax liability determined in the light of all the facts. 2. Applicability of Section 277 Petitioner seeks to offset the expenses which it incurred in maintaining the self-contained communities in which it carried on its operations against the income which it derived primarily from Adgap. Respondent argues that section 277(a) forbids the reduction of Adgap income by expenses attributable to maintaining the community services and facilities. In the form in which it was effective for the years in issue, section 277(a) contained the following provision: (a) General Rule. -- In the case of a social club or other membership organization which is operated primarily to furnish services or goods to members and which is not exempt from taxation, deductions for the taxable year attributable to furnishing services, insurance, goods, or *332 other items of value to members shall be allowed only to the extent of income derived during such year from members or transactions with members * * *. Deductions disallowed under this provision in one year can be used in succeeding years to offset membership income. The parties agree that for this section to apply: (1) the organization must be a social club or other "membership organization;" (2) it must be operated primarily to furnish services or goods to its members; and (3) it must not be exempt from tax. Although the parties argue at length over who were Synanon members, they expressly or implicitly agree that petitioner meets the first and third of these requirements. The issue is whether petitioner was operated primarily to furnish goods and services to its members. Respondent points out that petitioner furnished a wide variety of goods and services to Synanon residents. A substantial part of petitioner's assets and income and the time of 70 percent of its residents, according to respondent, were devoted to providing those goods and services. To become and remain a resident of Synanon, an individual was required to agree to abide by the rules of the community. Based on *333 these facts respondent argues that Synanon was similar to a social club and was operated primarily to furnish goods and services to its members. The goods and services were furnished to the residents at less than cost, and petitioner seeks to offset the resulting "loss" against the income derived from its profitable Adgap business. Respondent ask us to conclude that section 277 , therefore, denies a deduction for the cost of such goods and services in excess of the income received from the members for furnishing them. Petitioner denies that all Synanon residents were members of the corporation and contends that, in any event, Synanon was not operated primarily to furnish goods and services to its residents. Petitioner points to the bylaws of the corporation in effect during the years in issue which provide that "The members of the Board of Directors of the corporation shall be the members of the corporation," and that "Residents of facilities owned or operated by the corporation and other persons connected with the corporation who may sometimes be referred to as either residents or members * * * are not members of the corporation and shall not have the rights and powers of members *334 * * *." The testimony of witnesses confirm that those bylaws were followed. Further, petitioner argues that successful performance of its entrepreneurial activities, which generated over $ 81,000,000 in revenue during the seven years in issue, was its primary objective, and not the furnishing of goods and services to Synanon residents. The residents, petitioner argues, were merely employees of Synanon. They had no voice in Synanon's operations, acquired no proprietary interest in Synanon and could not prevent termination of their residency at any time. On this ground, petitioner maintains that it was not the type of organization described in section 277 and that the section does not, therefore, apply in this case. We hold for petitioner on this issue. Section 277 came into the tax law as section 123 of the Tax Reform Act of 1969, Pub. L. 91-172, 83 Stat. 537. The accompanying S. Rept. 91-552 (1969), 1969- 3 C.B. 423 , 471 , explains the reason for enacting the provision as follows: In some cases, membership organizations, which also have business or investment income, serve their members at less than cost and offset this book loss against their business or investment income and as *335 a result pay no income tax. In an important decision, 9 it was held that a non-exempt water company was not subject to tax when the "losses" in supplying its members water offset its investment income. Other courts have held to the contrary. Explanation of provision. -- Both the House bill and the committee's amendments provide that in the case of a taxable membership organization the deduction for expenses incurred in supplying services, facilities or goods to the members is to be allowed only to the *336 extent of the income received from these members. The purpose is to prevent membership organizations from escaping tax on business or investment income by using this income to serve its members at less than cost and then deducting the book "loss." See also H. Rept. 91-413 (Part 1) (1969), 1969- 3 C.B. 200 , 221 . In the words of this Court in Concord Consumers Housing v. Commissioner, 89 T.C. 105 , 116-117 (1987) : The effect of section 277 is to prevent taxable membership organizations from avoiding tax on nonmembership income by operating membership activities at a loss and using this loss to offset the nonmembership income. * * * See also Associated Barbers and Beauticians v. Commissioner, 69 T.C. 53 , 70-75 (1977) . In deciding this issue, we shall not undertake the task of formulating a generally applicable legal standard for determining who is a "member" of a "membership organization" described in section 277 . Rather, we rest our decision on the requirement that, for the section to apply, the organization must be "operated primarily" to furnish goods and services to its members. This provision "refers to the manner in which petitioner operated and conducted its activities during *337 the years in issue and entails a factual determination." Armour-Dial Men's Club, Inc. v. Commissioner, 77 T.C. 1 , 7 (1981) , affd. 708 F.2d 1287 , 1289 (7th Cir. 1983) ; Associated Barbers and Beauticians, 69 T.C. 53 , 74 (1977) . We are convinced that Synanon was not "operated primarily" to furnish goods and services to its members regardless of whether the bylaws effectively limited the membership to the Board of Directors or whether all the Synanon residents were members. 10 Synanon was incorporated in August 1958. In its early years, it was devoted to the treatment of drug addicts, alcoholics, juvenile delinquents, and other character-disordered individuals in its self-sufficient community. In a letter dated December 1, 1959, written in connection with its section 501(c)(3) tax exemption, Synanon represented that 44 of its 49 residents, or 89 percent, were narcotic addicts and, further, that no *338 one, including the members of the Board of Directors, received any compensation. A set of bylaws, adopted September 25, 1958, provides that "Members of this corporation shall be persons who have demonstrated an interest in the purposes of this corporation" and who are approved as members by the Board of Directors. In its early years, it received more than three-fourths of its support from contributions from the general public. During that early period, respondent may be correct in his views that Synanon was operated primarily for the benefit of its residents. By the beginning of fiscal year 1977, the first year here in controversy, however, Synanon's operations had changed dramatically. It had developed extensive nonmembership sources of revenue. Adgap had become a significant business based primarily upon the sale of premiums, advertising gift specialties and promotional items. Its gross sales exceeded $ 65,000,000 during the fiscal years 1977 through 1983 and its profits were substantial. During the same years Synanon also sold 18 pieces of real estate and realized millions of dollars in gains on 13 of the sales. At various times during those years, Synanon carried on other *339 income-producing activities during all or part of those years. The net income derived from these sources was not used in any substantial measure to increase the quantity or improve the quality of the goods and services provided the residents but, as discussed below, was accumulated or distributed in large measure to Dederich and other individuals in the management hierarchy. The Synanon residents, having no proprietary rights, could stay in a Synanon community only with the management hierarchy's permission. They could be pushed out at any time. As we view the evidence, the provision of goods and services to the residents, even if they are regarded as members, had become only an incidental part of Synanon's operations during the years 1977 through 1983. Providing such goods and services was simply one of petitioner's numerous activities. Synanon was operated primarily, though not exclusively, to make a profit from Adgap and other business activities. That profit was intended ultimately to benefit Synanon's founder and an inner group of long-term residents. By no stretch of the imagination could we find as a fact that Synanon was "operated primarily" to provide goods and services *340 to either the Board of Directors or all the residents of the Synanon communities. See and compare Concord Consumers Housing v. Commissioner, 89 T.C. 105 (1987) ; Armour Dial Men's Club, Inc. v. Commissioner, 77 T.C. 1 (1981) , affd. 708 F.2d 1287 (7th Cir. 1983) ; Associated Barbers and Beauticians v. Commissioner, 69 T.C. 53 , 75 (1977) . Although other Code sections deny some of the disputed deductions, section 277 does not apply in this case. 3. Taxability of Transfers of Cash and Property to Petitioner Petitioner received donations of cash, food and clothing from a variety of sources which respondent has determined were taxable income. Petitioner has conceded that the following items are income: (1) government support checks surrendered by residents; (2) cash transfers from an organization in Arizona; (3) vehicles turned over to Synanon by incoming residents; (4) receipts from speaking engagements; (5) funds transferred by residents or their families, and (6) cash received from Lifestylers (individuals who lived in the community but worked outside). Respondent does not contend that items donated to Synanon which it transferred to section 501(c)(3) exempt organizations are taxable. *341 In dispute are cash transfers totaling $ 964,740 for the seven years before the Court received in the form of bequests and moneys received from relatives of residents and from individuals and foundations related in one way or another to Synanon. Also in dispute is the taxability of contributed food and clothing determined by respondent to have had a value of $ 4,549,902 over the seven-year period. Respondent contends that these transfers to Synanon were taxable income under the broad provisions of section 61 . That section provides that gross income includes "all income from whatever source derived." Petitioner argues that the transfers of cash, food and clothing were nontaxable gifts under section 102 . That section provides that gross income "does not include the value of property acquired by gift, bequest, devise or inheritance." By defining gross income to include "all income from whatever source derived," the Congress indicated its intention that income should be taxed comprehensively and, in doing so, intended to exercise to the full measure its constitutional power. Helvering v. Stuart, 317 U.S. 154 , 169 (1942) ; Helvering v. Clifford, 309 U.S. 331 , 334 (1940) ; United States v. Robertson, 190 F.2d 680 , 682 (10th Cir. 1951) . *342 In view of the general purpose to tax all income, specific exemptions, such as section 102 , "should be construed with restraint." Commissioner v. Jacobson, 336 U.S. 28 , 48 (1949) ; United States v. Robertson, supra at 682 . An examination of the evidence before us in the light of these principles convinces us that the disputed cash and property transfers to Synanon were taxable income. On July 7, 1960, Synanon received the ruling that it was exempt from income taxes under section 501(c)(3) and that contributions to it were deemed tax-deductible under section 170 . Not until May 19, 1982, did the Internal Revenue Service notify Synanon that its tax-exempt status was revoked. On August 16, 1982, Synanon initiated a section 7428 declaratory judgment action in the United States District Court for the District of Columbia seeking a review of the revocation. On February 9, 1984, the district court dismissed the declaratory judgment action and on June 5, 1987, the United States Court of Appeals for the District of Columbia affirmed the dismissal. Synanon Church v. United States, 820 F.2d 421 (D.C. Cir. 1987) . Thus, for all the years in controversy petitioner took the position with the public *343 and in court that it was organized and operated exclusively for charitable purposes within the meaning of section 501(c)(3) . During the years before the Court, Synanon aggressively solicited contributions and bequests of cash, food, clothing and other items from the public, including its Adgap customers. Through published materials, 11 *344 in public speaking engagements, and in private meetings, its Adgap salesmen and others placed heavy emphasis on Synanon's addict rehabilitation work and sought money and goods ostensibly to carry on that work. In dealing with customers with food and clothing inventories, Adgap salesmen emphasized the tax deductions they could receive under section 170(e)(3) for contributing such inventories -- their basis for the property plus one-half of the normal mark-up for resale. Under section 170(e)(3) , Synanon was required to give a donor a written statement that donated goods would be used only for the ill, needy or infants. 12 *346 The record includes standard letters which were sent to all donors thanking them for their donations and assuring them that their "contributions will be used in accordance with our tax-exempt purposes which are, in the *345 opinion of counsel, solely for the care of the ill, needy or infants." During the period when Synanon was making these representations that it was engaged in exclusively charitable activities, it was operating Adgap and 13 other activities as for-profit businesses. Given the evidence that Synanon represented itself so extravagantly to be an exclusively charitable organization in soliciting contributions of cash and goods and the facts that the contributions of cash went into Synanon's general fund and donated goods were, in large part, used by the Synanon residents, the clear inference is that the donors were misled. They had the mistaken belief that they were contributing to a charity when, in fact, they were donating goods to a predominantly business, profit-seeking organization. In these circumstances, we think the contributions of cash and goods to Synanon were gross income under section 61 . The language of section 61 , "all income from whatever source derived," has been held to encompass all "accessions to wealth, clearly realized, and over which the taxpayers have complete dominion." Commissioner v. Glenshaw Glass Co., 348 U.S. 426 , 431 (1955) ; James v. United States, 366 U.S. 213 , 219 (1961) . *347 The economic benefit accruing to the taxpayer is the controlling factor in telling whether a gain is income. Rutkin v. United States, 343 U.S. 130 , 137 (1952) ; United States v. Rochelle; 384 F.2d 748 , 751 (5th Cir. 1967) . Synanon realized economic benefits in the form of food and clothing and cash additions to its general fund from the donations it received and used for its own purposes. The situation is analogous to a "lender" who advances funds to a purported borrower of money which the "borrower" falsely promises to return. In a series of cases, the courts have held that the borrower who obtains money which he does not expect to repay is taxable on his "borrowings." United States v. Rochelle, 384 F.2d at 751 ; Cohen v. United States, 297 F.2d 760 , 762 , 764 (9th Cir. 1962) ; Leaf v. Commissioner, 33 T.C. 1093 , 1096 (1960) , affd. per curiam 295 F.2d 503 (6th Cir. 1961) ; see also Akers v. Scofield, 167 F.2d 718 (5th Cir. 1948) . Similarly, petitioner received contributions which it represented it would use for charitable purposes but it diverted those contributions to its own use. The contributions which it did not pass along to other charitable organizations are taxable income. To *348 support its argument that the cash, food and clothing that it received are not taxable income, petitioner cites Commissioner v. Duberstein, 363 U.S. 278 , 286 (1960) . In that case, the Supreme Court, deciding whether a transfer was a section 102 gift or compensation for services, held that the donor's intent is the controlling criterion, i.e., -- "what the basic reason for his [the donor's] conduct was in fact -- the dominant reason that explains his action in making the transfer." In that context, the Court reasoned that a section 102 gift proceeds from a "detached and disinterested generosity" and "out of affection, respect, admiration, charity or like impulses." See also Commissioner v. Lo Bue, 351 U.S. 243 , 246 (1956) ; Robertson v. United States, 343 U.S. 711 , 714 (1952) . Petitioner's argument assumes that, because Synanon's donors were making contributions to an organization with a section 501(c)(3) exemption ruling, the donors had the requisite detached and disinterested generosity. The record contains no testimony from the contributors showing why they made their donations or why the testators made their bequests. 13 Even though the donors made their gifts in response to representations *349 they would be used for charitable purposes, the donors did not testify as to why they made their contributions, and no evidence was presented which was competent to show the intent of the testators who left money or property to Synanon. As pointed out above, petitioner represented to its donors that they could receive deductions sufficient to make their donations profitable. We are not, therefore, prepared to find that the gifts and bequests proceeded from "detached and disinterested generosity" within the meaning of Duberstein. See Webber v. Commissioner, 219 F.2d 834 (10th Cir. 1955) , affg. 21 T.C. 742 (1954) ; Publishers New Press, Inc. v. Commissioner 42 T.C. 396 , 400-401 (1964) . More important, we are not convinced that the Duberstein "detached *350 and disinterested generosity" test is the correct one for distinguishing section 61 gross income from section 102 gifts where the donee organization, misrepresenting itself to be a tax-exempt charity, seeks and obtains donations which it plans to, and does, use in carrying on business activities for profit and thereby enriches itself. When the transfer of property without consideration is made to a profit-seeking organization outside of a family setting, a searching inquiry is necessary to ascertain the circumstances of the transfer. The law's policy of exempting charitable organizations from income tax and allowing deductions for contributions to such organizations is based on the purposes and charitable works of the organization. See Crosby Valve & Gage Co. v. Commissioner, 380 F.2d 146 , 147 (1st Cir. 1967) , affg. 46 T.C. 641 (1966) . As stated by the Supreme Court in Bob Jones University v. United States, 461 U.S. 574 , 591 (1983) : When the Government grants exemptions or allows deductions all taxpayers are affected; the very fact of the exemption or deduction for the donor means that other taxpayers can be said to be indirect and vicarious "donors." Charitable exemptions are *351 justified on the basis that the exempt entity confers a public benefit -- a benefit which the society or the community may not itself choose or be able to provide, or which supplements and advances the work of public institutions already supported by tax revenues. History buttresses logic to make clear that, to warrant exemption under section 501(c)(3) , an institution must fall within a category specified in that section and must demonstrably serve and be in harmony with the public interest. * * * [Fn. refs. omitted.] There is no similar policy supporting the exemption from tax of an organization which obtains donations by misrepresenting itself to be engaged exclusively in charitable activities when, in fact, it is engaged in profit-seeking business activities. Petitioner emphasizes that, when the donors made the transfers, Synanon's name appeared on the Cumulative List of exempt organizations and contributions to it were deductible under section 170 . Because Synanon was on the Cumulative List when the donations were made, the argument goes, the character of the donations as nontaxable gifts within the meaning of section 102 was not altered by the revocation of petitioner's tax-exempt *352 status. Petitioner's argument confuses the allowability to donors of deductions for charitable contributions under section 170 with the taxability of contributions in the hands of the recipient. The IRS publishes a Cumulative List of organizations to which contributions may be made and deducted by contributors. Once an organization has received an exemption ruling it is, as a general rule, placed on the Cumulative List, and contributors may rely on the list in claiming deductions. If the character, purpose, activities or method of operation of the organization itself changes from those on which the ruling was based, the organization ceases as a matter of law to qualify as a tax-exempt organization. Its exemption, as in this case, may be revoked retroactively. Under the validation provisions of section 7428(c) and the Commissioner's exercise of discretionary authority under section 7805(b) , however, deductions may be allowed for contributions made to a listed organization until its name is removed from the Cumulative List even though the organization itself is taxable. See Rev. Proc. 82-39 , 1982- 2 C.B. 759 . The Cumulative List serves mainly as a guide for taxpayers in determining *353 whether donations to particular organizations will be deductible. Good faith requires the IRS to honor a listing for the benefit of donors until it is deleted from the list. The right of an organization itself to tax exemption, however, depends on its continued operation exclusively for charitable purpose and otherwise complying with section 501(c)(3) , not the appearance of its name on the Cumulative List. Petitioner had ceased to be a section 501(c)(3) organization at least as early as September 1, 1977, the beginning or the period in controversy, and it does not here contend otherwise. Indeed, petitioner's position throughout the trial of this proceeding that practically every activity in which it was engaged was a trade or business carried on for profit is precisely contrary to its claim to section 501(c)(3) exempt status. The character of Synanon's receipts in the form of donations in its hands is thus to be determined by the law applicable to an organization engaged in a trade or business and not the law applicable to exempt organizations. See Birmingham Business College, Inc. v. Commissioner, 276 F.2d 476 , 481-482 (5th Cir. 1960) , affg. a Memorandum Opinion of this Court; *354 Stevens Bros. Foundation, Inc. v. Commissioner, 324 F.2d 633 , 640-642 (8th Cir. 1963) , affg. 39 T.C. 93 (1962) . 4. Value of the Food and Clothing Petitioner maintained records for its department known as "The Synanon Distribution Network" on which it recorded the goods, when received, measured in units (quantity). As discussed above, petitioner redistributed substantial quantities of the contributed goods to charitable organizations and assigned an estimated retail value to those distributions. Petitioners did not, however, place a value on the food and clothing consumed by the residents in the Synanon community. Faced with the absence of reliable records showing the value of the consumed food and clothing, respondent calculated the expenditures Synanon would have been required to incur in providing food and clothing for the Synanon residents by reference to statistics of the Bureau of Labor Statistics. The estimated total expenditure for food and clothing was computed by utilizing the statistics for a low standard of living for Bakersfield, California, for the years 1977 and 1978, and a low standard of living for San Diego, California, for the years 1979 through 1983. These *355 figures were then multiplied by petitioner's average yearly number of residents for each year as determined from petitioner's records. From the product, respondent subtracted Synanon's actual expenditures for food and clothing as recorded on its books. The resulting difference was then included in income for each year. Citing Weimerskirch v. Commissioner, 596 F.2d 358 , 362 (9th Cir. 1979) , revg. 67 T.C. 672 (1977) , petitioner argues that respondent has failed to carry his burden of coming forward with substantive evidence to sustain his position. Petitioner's argument disregards the stipulation that food and clothing were actually received, Synanon's own records on some of the items received, and the reams of testimony from several witnesses on the activities of the Adgap salesmen and other Synanon representatives. When the trial record shows the actual receipt of an item such as cash, food or clothing, the Weimerskirch rule does not relieve the taxpayer of the burden of proving the amount or the character of that receipt. Delaney v. Commissioner, 743 F.2d 670 , 671-672 (9th Cir. 1984) , affg. a Memorandum Opinion of this Court; Schad v. Commissioner, 87 T.C. 609 , 619 (1986) , affd. *356 without published opinion 827 F.2d 774 (11th Cir. 1987) . To sustain its burden of proof, petitioner offered no evidence of the value of the contributed food and clothing which it consumed. In the absence of any evidence from petitioner on this point, we find that, in the circumstances of this case, respondent's valuation method was a reasonable one. Pollard v. Commissioner, 786 F.2d 1063 , 1066 (11th Cir. 1986) , affg. a Memorandum Opinion of this Court; Giddio v. Commissioner, 54 T.C. 1530 , 1533 (1970) . We think, however, that respondent's figures should be modified. Petitioner has shown that many of the goods received were not of retail value. Some of the items were not salable because of mislabeling or defects in the manufacturing process. Some of the food had deteriorated and was not useable. Moreover, by purchasing food and clothing for the entire community, Synanon rarely paid retail prices. Further, some of the residents provided some of their own clothing. These factors lead us to conclude that respondent's calculations should be reduced to some extent. Taking into account the fact that the burden of proof rests with petitioner, we find that the amounts of the income attributable *357 to food and clothing determined by respondent under the formula described above should be reduced by 10 percent each year. Cohan v. Commissioner, 39 F.2d 540 (2d Cir. 1930) . Petitioner argues that the expenses incurred in obtaining the donations should be applied to reduce the value of the contributed food and clothing. In the discussion which follows, however, we have dealt with the allowability of the expenses attributable to the Synanon Distribution Network and held that such expenses are allowable as deductions to the extent of the income attributable to this activity. Because the SDN expenses exceed the income from this source, we need not consider petitioner's argument on this point. We find that the value of the contributed food and clothing used by Synanon was $ 4,094,912, i.e., 90 percent of the value determined by respondent. 5. Whether Certain Activities were Trades or Businesses With respect to the 13 non-Adgap activities listed in our findings, it is stipulated, as noted above, that "expenses are allowed as a deduction in an amount equal to the revenues derived from those non-Adgap activities, and that no other expenses are attributable" to those activities. On brief, *358 petitioner concedes "for the purposes of this litigation, based on the reasoning in Love Box Co. v. Commissioner, 842 F.2d 1213 (10th Cir. 1988) , petition for cert. filed, 56 U.S. Law Week 2569 (U.S. May 21, 1988) (No. 85, 1804), all expenses associated with the rehabilitation of character-disordered persons with less than three years' residency could be viewed not to be deductible as business expenses under section 162 ." This activity is referred to by the parties as Education/Rehabilitation. Remaining in dispute are the following activities: (a) Synanon Distribution Network, (b) Lifestyler Operations, (c) Education/School, and (d) Corporate Investment and Realty. In broad terms, respondent takes the position that these four disputed activities were not section 162(a) trades or businesses because, he argues, the activities were not carried on with the objective of making a profit. Instead, he argues that these activities were related to the furtherance of the communal lifestyle of the Synanon community and that none of the related expenses may be deducted. Petitioner maintains that it had a profit objective for each of the four activities and that each was, therefore, a section 162(a) *359 trade or business. The basic principle of examining each activity to ascertain whether its objective was to make a profit has been repeatedly sanctioned by the courts. In numerous cases, the courts have held that the expenses (in excess of income) incurred in activities of a corporation which are not carried on for profit are not deductible. International Trading Co. v. Commissioner, 275 F.2d 578 , 585 (7th Cir. 1960) , affg. a Memorandum Opinion of this Court (resort property maintained for the families of shareholders); Transport Manufacturing & Equipment Co. v. Commissioner, 434 F.2d 373 , 377 (8th Cir. 1970) , affg. a Memorandum Opinion of this Court (mansion occupied by shareholder's wife and daughter); Mel Dar Corp. v. Commissioner, 309 F.2d 525 , 534 (9th Cir. 1962) , affg. a Memorandum Opinion of this Court (property purchased for accommodation of shareholder's daughter); American Properties, Inc. v. Commissioner, 28 T.C. 1100 , 1114 (1957) , affd. 262 F.2d 150 (9th Cir. 1958) (maintaining racing boats for the benefit of the shareholder). In all of these cases, the courts distinguished between profit and nonprofit motivated activities of business corporations and concluded that *360 a nonprofit motivated activity, even if operated by a profit-making concern, does not constitute a trade or business for purposes of section 162(a) . Deductions were allowed only to the extent of the related income. All of the foregoing cases involved stock corporations. Contrary to petitioner's argument, we think that each of petitioner's activities as a membership corporation must similarly be examined to determine whether the objective of the activity was to make a profit. Thus, in Adirondack League Club v. Commissioner, 55 T.C. 796 (1971) , affd. 458 F.2d 506 (2d Cir. 1972) , a membership corporation exempt as a social club was not permitted to offset losses from its exempt recreational activities against profits from timber cutting operations because the recreational expenses did not arise from the carrying on of a for-profit trade or business. Similarly, in Five Lakes Outing Club v. United States, 468 F.2d 443 (8th Cir. 1972) , the court held that a corporation exempt as a social club could not merge its profitable activities with its exempt activities by simply putting them under the same corporate roof. See also Iowa State University of Science & Tech. v. United States, 500 F.2d 508 , 522 (Ct. Cl. 1974) . *361 Even if any one of these four disputed activities was not a section 162(a) business, petitioner is entitled to deductions for expenses incurred in carrying on the activity in amounts not to exceed income attributable to the activity. In respondent's opening statement, the following colloquy occurred which, as we understand it, was a concession to that effect: THE COURT: Well, let me, before you sit down, let me ask you -- MR. CIRANNI: All right. THE COURT: -- as I understand it, we have an organization here which is engaged in numerous activities. MR. CIRANNI: That's correct, your Honor. * * * THE COURT: If the activity is not carried on for business purposes, for the making of a profit, then in that event, the income which is derived by that business, that is received by that business, is taxable subject to deductions which are particulary [sic] allocable to that business. MR. CIRANNI: That's correct. THE COURT: In other words, the amount of the income derived from a non-business activity, is taxable, but the taxpayer is entitled to reduce that income by the expenses incurred in producing the non-business income. MR. CIRANNI: That's right, but he can't reduce it to less than zero. *362 * * * Notwithstanding this apparent concession, respondent on brief argues that the expenses of these disputed activities were not paid or incurred in carrying on a section 162(a) trade or business and are not, therefore, deductible to any extent. Respondent's position on this issue is inconsistent not only with the concession in the opening statement but also with the administrative practice of the Commissioner "not to inquire whether a profit motive exists unless claimed deductions exceed gross income. * * * the lack of a profit motive will cause disallowance of only the difference between the amount of the deductions and the gross income from the activity." Brannen v. Commissioner, 78 T.C. 471 , 521 (1982) , affd. 722 F.2d 695 (11th Cir. 1984) (Judge Whitaker , dissenting). This practice is designed to avoid the taxation of gross receipts. See Commissioner v. Tellier, 383 U.S. 687 , 691-692 (1966) . Thus, referring to the cases cited above, in American Properties, Inc. v. Commissioner, 28 T.C. 1100 (1957) , affd. 262 F.2d 150 (9th Cir. 1958) , only the expenses of the racing boats over the income from the boats were denied as deductions. In International Trading Co. v. Commissioner, 275 F.2d 578 , 587 (7th Cir. 1960) , *363 affg. a Memorandum Opinion of this Court, only the excess of expenses over rent received from the shareholders was disallowed. Again, in Mel Dar Corp. v. Commissioner, 309 F.2d 525 (9th Cir. 1962) , and Transport Manufacturing & Equipment Co. v. Commissioner, 434 F.2d 373 (8th Cir. 1970) , only actual losses were denied deduction -- expenses which were offset by income were allowed full deduction under section 162 . See sec. 1.162-12, Income Tax Regs. The principle has been codified for individuals in section 183(b)(2). Similarly, section 277 , quoted above, allows social clubs and other membership organizations operated primarily to furnish goods and services to members -- usually a nonprofit activity -- deductions for expenses attributable to the furnishing of those services to the extent of the income derived from that source. The allowance of a deduction for nonbusiness expenses to the extent that they generate income is thus a firmly established principle of the tax law. Even if one or more of these activities were not a section 162(a) trade or business, petitioner is entitled to a deduction for its expenses in an amount not exceeding the income generated by that activity. (a) *364 The Synanon Distribution Newtwork Through its Synanon Distribution Network (SDN), petitioner, as discussed above, aggressively sought and obtained donations of surplus food and clothing from manufacturers, wholesalers and other sources. In carrying on this activity, it incurred expenses in the stipulated amount of $ 4,549,902. Much of the food and clothing was consumed by Synanon residents; the remainder of the donations was passed along to section 501(c)(3) tax-exempt organizations. Respondent takes the position that none of the expenses incurred in this activity is deductible because it was not a trade or business. Petitioner has argued, and we have rejected the argument, that the goods it obtained and used for its own purposes were gifts, not taxable income. Petitioner could hardly contend that it was in the business of soliciting gifts and, as we understand its briefs, does not so contend that this phase of SDN was a business. The parties agree that the value of the goods that petitioner passed along to section 501(c)(3) organizations was not includable in petitioner's gross income. But petitioner argues that it developed a trade or business of soliciting and distributing *365 goods to charities for which it charged fees, that this phase of SDN was a trade or business, and that its expenses are, therefore, deductible. There is testimony that Synanon's objective was to make a profit from charging section 501(c)(3) organizations fees for services in making the goods available to them, but we do not find that testimony convincing. That testimony is directly contrary to the representations in the Synanon catalogs that SDN was a nonprofit activity. Moreover, in an affidavit by Macyl A. Burke, who supervised SDN, filed in the tax exemption declaratory judgment proceeding, Burke stated that "in the fall of 1980 the Synanon Distribution Network began charging nominal handling fees to recover part of its administrative expenses." In fact, the regulations under section 170(e)(3) , which was used to induce contributions, provide that a donation will not qualify as a deduction if the transferee receives money, property or services for the transfer of the property; an exception is made if the donee organization charges a fee, small in relation to the value of the property, "designed to reimburse the donee organization for its administrative, warehousing, or other similar *366 costs." Sec. 1.170A-4A(b)(3)(ii), Income Tax Regs. Recovering only costs hardly represents a profit objective. We hold that SDN was not a trade or business. Petitioner is entitled to deductions for expenses not in excess of $ 4,094,912, the amount which we have found to be includable in petitioner's income from its SDN activity. (b) Lifestyler Operations Petitioner provided room, board and services to persons who were not employed by petitioner but who lived on property owned by petitioner. These persons were called Lifestylers and they paid money to Synanon for the services they received. From this source, Synanon received total revenue of $ 1,152,638 for the seven years in controversy. In return for this revenue, Synanon incurred expenses for medical care, meals, use of vehicles and the like. Testimony offered by petitioner shows that the expenses in this respect amounted to a total of $ 376,089 The parties have debated at length the issue as to whether the Lifestyler activity was a section 162(a) trade or business. In the light of all the evidence, we have concluded that, even though Synanon's revenues exceeded its expenses from its Lifestyler operations, the activity was *367 primarily a recruiting device rather than a trade or business. A number of Synanon residents, including Lawrence Akey, Controller of Synanon, for example, began their relationship with Synanon as Lifestylers. The record does not establish that Synanon attempted to attract Lifestylers as part of a business but that it used the Lifestyler activity as a means of attracting residents with philosophies similar to those espoused by Synanon. However, this activity produced income, and the claimed deductions are less than the stipulated income from this source. For the reasons stated in the foregoing discussion of the Synanon Distribution Network issue, petitioner is entitled to the Lifestyler deductions totaling $ 376,089. (c) Education/School Petitioner maintained an educational program which provided services for children from nursery age through high school age. The facility was a boarding school which provided housing, meals, laundry, recreation, health care, and basic child care. The school was licensed by the state, kept good records, administered standardized tests, and used innovative educational methods. Petitioner received grant moneys from government and private sources. *368 Some Lifestylers paid to educate their children in the school. Payments were made by some parents not residing in Synanon for their children who were enrolled in the school. As we view the evidence, the school was not a trade or business but was operated primarily for the benefit of residents with children of school age. The record does not show that petitioner is entitled to any deductions for the operation of the school in excess of the amount of income from it. The parties may identify such income and expenses in connection with the Rule 155 computation. (d) Corporate Investment and Realty During the years in issue, as detailed in our findings, petitioners sold several pieces of real property that it had purchased, improved and, in some instances, used for community or business purposes. It is stipulated that petitioner realized net capital gains of $ 6,662,680 from this source. In addition, petitioner received gross rents in each of the years before the Court, in a total sum of $ 891,293. Petitioner invested some of its gains from these and other sources in certificates of deposits, stocks, treasury bills and other instruments from which during the tax years it received total *369 interest income of $ 1,973,322 and dividend income of $ 420,379. To manage its portfolio of investments, petitioner set up and maintained an investment office which also incidentally provided investment advice to some of the Synanon residents. Petitioner contends that this entire activity was a trade or business and, as to the real estate activity, states that it sold "these properties to customers in the ordinary course of business with the intent to make a profit." But petitioner cannot have it both ways. If these properties were sold in the ordinary course of a business, the gain would be taxable as ordinary income rather than as capital gain. E.g., Graves v. Commissioner, 867 F.2d 199 (4th Cir. 1989) , affg. a Memorandum Opinion of this Court; H-H Ranch, Inc. v. Commissioner, 357 F.2d 885 , 887 (7th Cir. 1966) , affg. a Memorandum Opinion of this Court. Yet the parties have stipulated that the gain was capital in nature. In view of the stipulation and the absence of convincing evidence to the contrary, we hold that the real estate portion of this activity was not a section 162(a) trade or business. As to some of the properties, petitioner argues that they were used in the land *370 and livestock (or agricultural) activity which, it is stipulated, was a trade or business and, therefore, section 1231 makes the gain capital in nature. Similarly, if any of the properties that were sold were used in the rental business at the time of the sale, section 1231 would apply. But the applicability of section 1231 to any such properties does not aid petitioner's trade or business argument with respect to its realty activity. The parties have stipulated to the adjusted basis of the several properties that were sold. The stipulated basis includes not only the cost of each property but also the cost of the improvements made to it. To allow deductions for the cost of making the improvements in addition to the basis adjustments for such improvements, as petitioner seems to argue, would be duplicative. As to the properties that were rented and produced the rental income of $ 891,293, petitioner is, of course, entitled to the allowable related deductions. The deductions for taxes, interest and depreciation are discussed infra, but we have been unable to quantify any other rental expenses. As to the costs of operating the investment office, we think the ordinary and necessary *371 expenses are deductible. In arriving at the deductible amount of "other salaries and wages" as well as in-kind compensation, we have included the expenses of that office in the allowable amounts. 6. Deductibility as Compensation of Executive Compensation and Other Salaries and Wages (a) Cash Executive Compensation Petitioner claims deductions totaling $ 3,645,504 for cash executive compensation paid to its officers and directors during the taxable years in question. Respondent has allowed petitioner a deduction for $ 548,987, thus leaving the deductibility of the remaining $ 3,096,517 in issue. There is no controversy as to whether petitioner paid the disputed amounts designated executive compensation. The parties have focused almost exclusively on whether the cash payments to petitioner's officers and directors were actually compensation or a distribution of Synanon's assets. Petitioner asserts the entire $ 3,096,517 in issue was bona fide executive compensation and is fully deductible. Respondent, on the other hand, disputes that any of the $ 3,096,517 was in fact compensation. He asserts the payments, while in the guise of salary or bonus, were in actuality part of a scheme *372 by Dederich and other Synanon insiders to distribute petitioner's assets. The burden of proof rests with petitioner. Welch v. Helvering, 290 U.S. 111 (1933) . A determination as to whether all or any portion of the $ 3,096,517 in issue was in fact compensation, does not end our inquiry. For petitioner to receive a deduction, the compensation paid must also be an expense of its carrying on a trade or business. Section 162(a)(1) . Amounts paid in the form of compensation, but which are not in fact paid as the purchase price for services, are not deductible. Section 1.162-7(b)(1), Income Tax Regs. Where an expense is incurred partly for the conduct of business and partly for the conduct of nonbusiness activities, an allocation must be made. 1. Nature of the payments as compensation. Petitioner was organized and ostensibly operated as a nonprofit corporation under California law. In actuality, as we have noted, the parties have stipulated that petitioner carried on 14 for-profit business activities during the years before the Court. From all the evidence, the officers and executives, rather than serving as fiduciaries for a charitable entity, acted as if they were the proprietary *373 owners of Synanon. The record is also clear that, since petitioner's incorporation in 1958, Dederich has dominated and controlled Synanon's Board of Directors. He served as chairman of Synanon's board from 1958 through January 29, 1978, and then was succeeded by his daughter. Under petitioner's amended 1975 bylaws, the only members of Synanon are its directors. The bylaws make the chairman's term indefinite; he can be removed only by a two-thirds vote of the board. All other directors serve a one-year term or until the chairman declares their office vacant. Also, regular directors' meetings did not have to be held because the bylaws authorized the board to delegate its powers to an executive committee. Moreover, even following Dederich's resignation as chairman, he c [Text truncated at 120,000 characters. The full text is on the page linked above.] --- Source: Frix Law Library, https://www.frixlaw.com/law-library/cases/4608609. Public record. Not legal advice.