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T.C. Memo. 2005-28
UNITED STATES TAX COURT
ELIZABETH GILES, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 10918-02.
Filed February 17, 2005.
Dwight M. Montgomery, Tracie Pham, and B. Paul Husband, for
petitioner.1
Michael S. Hensley, for respondent.
1
Dwight M. Montgomery (Montgomery) and Tracie Pham
petitioned the Court on behalf of petitioner. Montgomery
represented petitioner by himself at her ensuing trial on
Dec. 15, 2003. On Jan. 14, 2004, Montgomery withdrew from the
case, and B. Paul Husband (Husband) entered his appearance on
behalf of petitioner. Husband prepared both of petitioner’s
briefs.
- 2 MEMORANDUM FINDINGS OF FACT AND OPINION
LARO, Judge:
Petitioner petitioned the Court to redetermine
deficiencies of $7,191 and $6,040 in her 1997 and 1998 Federal
income taxes.
Following petitioner’s concession as to a
procedural matter concerning the notice of deficiency, we are
left to decide as to those years whether petitioner’s activity of
breeding and showing horses (horse activity) was an “activity not
engaged in for profit” under section 183.2
We hold it was.
Unless otherwise indicated, section references are to the
applicable versions of the Internal Revenue Code, and Rule
references are to the Tax Court Rules of Practice and Procedure.
FINDINGS OF FACT
I.
Background
Some facts were stipulated.
We incorporate herein by this
reference the parties’ stipulation of facts and the exhibits
submitted therewith.3
Petitioner resided at 18500 Falling Water
Way, Riverside, California (Falling Water Way property), when her
2
As discussed herein, petitioner showed her horses at
various competitions. The parties use the term “showing”
interchangeably with the term “competing”, and so do we.
3
In addition to the stipulations, petitioner’s opening
brief asks the Court to take “judicial notice” of documents that
were filed in this case and statements made in prior Opinions of
this Court. We give those documents and statements proper
consideration without regard to “judicial notice” as that term is
used in Fed. R. Evid. 201.
- 3 petition to this Court was filed.
She was almost 60 years of age
at the time of her trial.
Petitioner is single, and she filed as such on each of her
Federal income tax returns for 1988 through 2002.
She has an
individual retirement account (IRA) for which she deducted
contributions of $2,000 for each of the years from 1988 through
1992.
The record does not disclose whether she made any other
contributions to the IRA.
II.
Petitioner’s Dental Practice
Petitioner is a dentist.
She graduated from dental school
in 1981, and she has practiced dentistry ever since.
She started
her own dental practice in 1983, and she has continued to date to
work in or for that practice.
In or about 1987, petitioner incorporated her dental
practice as Elizabeth Giles, D.D.S., Inc. (Giles Inc.).
She is
the sole shareholder of Giles Inc., and she is one of its
employees.
From 1988 through 2002, she worked 4 days a week as a
dentist for Giles Inc., for a total of 36 hours per week, and she
received wages from Giles Inc. in the following amounts:
Year
Wages
1988
1989
1990
1991
1992
1993
1994
1995
1996
$110,863
108,000
126,194
111,515
108,287
108,456
114,611
109,086
105,453
- 4 1997
1998
1999
2000
2001
2002
Total
96,283
89,250
120,500
106,250
138,250
89,250
1,642,248
As of the date of her trial, she had no imminent plans to stop
practicing dentistry.
Since 1996, Giles Inc. has operated out of a building in
Rialto, California.
Petitioner personally owns that building and
the land thereunder, both of which she purchased in 1996 at a
total cost of $136,445 and which she has leased to Giles Inc.
since 1996.
During each of the years 1996, 1997, 1998, 1999,
2001, and 2002, Giles Inc. paid petitioner rent of $24,000 as to
this lease; Giles Inc. paid petitioner rent of $22,000 in 2000.
For 1997 through 2002, petitioner reported on her Federal income
tax returns that she had realized net income from this lease of
$6,382, $6,052, $7,944, $6,659, $7,202, and $5,225, respectively.
For 1996, petitioner reported on her Federal income tax return
that she had realized from the lease a $12,357 net loss stemming
primarily from her payment of $16,950 in expenses for repairs.
Giles Inc. pays a bookkeeping service to maintain its books
and records in accordance with applicable laws and regulations.
The bookkeeping service has established for Giles Inc. a complete
and accurate bookkeeping system that the bookkeeping service uses
to prepare financial statements for Giles Inc. and to prepare
- 5 Giles Inc.’s Federal and State tax returns.
The record does not
contain any of Giles Inc.’s financial statements or indicate a
fair market value for Giles Inc. (or a fair market value for
petitioner’s interest in Giles Inc.).
III.
Falling Water Way Property
Petitioner purchased the Falling Water Way property in 1983.
The Falling Water Way property is approximately 1-1/2 acres in
size and includes the house in which petitioner lives, a barn, an
arena (added by petitioner in August 1989 at a cost of $7,797) in
which to train horses, four stalls in which to keep horses, and
some pens.
Petitioner believed during the relevant years that
the design of the Falling Water Way property allowed her to keep
a maximum of six horses on the property.
As of the time of
petitioner’s trial, the fair market value of the Falling Water
Way property was not more than $400,000.
Petitioner has paid mortgage interest and property taxes as
to the Falling Water Way property in each year that she has owned
it.
She deducted the full amount of these items on her
Schedules A, Itemized Deductions.
IV.
Petitioner’s Horse Activity
Petitioner enjoys horses and has been involved with them
throughout her entire life.
In 1985, she joined the Arabian
Horse Association, the California Arabian Horse Association, the
United States Dressage Federation, and the Los Angeles Dressage
- 6 Federation (collectively, associations).
hired a trainer.
She also in that year
The record does not establish whether
petitioner has ever been an active participant in any of the
associations or the purpose of this trainer.
In 1988, petitioner purchased a horse named Feyras Raehele
for $11,000.
Feyras Raehele was the first horse that petitioner
ever owned, and petitioner showed and bred this horse during
1988.
Petitioner also for 1988 began attaching to her Federal
income tax return a Schedule C, Profit or Loss From Business, on
which she deducted expenses related to Feyras Raehele.
(See the
appendix for a list of the specific expenses that petitioner
claimed as deductions for 1988 and for each year thereafter until
2002.
Other than the names of these expenses, which for the most
part are the names given the expenses by petitioner on her
Federal income tax returns, the record contains little to no
information on the specifics of the expenses.)
She reported on
the 1988 Schedule C that she had a business named “Falling Water
Arabians”, that its “principal business” was “Equine Investment”,
and that its address was that of the Falling Water Way property.
She also reported on the 1988 Schedule C that this business had
realized $95 of gross income during that year and that she was
entitled to deduct with respect thereto $27,782 of expenses
(including $7,195 of depreciation on $35,975 of assets inclusive
- 7 of Feyras Raehele, a $21,300 portable shelter, $1,975 of
improvements, and a $1,700 saddle and tack).
In 1989 through 2002, petitioner acquired seven more horses,
two by purchasing them and five through breeding as discussed
infra.
She reported on her Schedules C for those years that the
name of her horse business was “Falling Water Arabians”, and she
reported on her 1989 through 1992 Schedules C that the address of
this business was that of the Falling Water Way property.4
On
her 1989 through 1991 Schedules C, she reported that the
“principal business” of Falling Water Arabians was “Horses”.
On
her 1992 through 2002 Schedules C, she reported that the
“principal business” of Falling Water Arabians was both
“Breeding” and “Competing Horses”.
During the subject years, petitioner did much of the
feeding, cleaning, grooming, and training of her horses, which in
those years numbered four and three, respectively, and she did
all of the horses’ worming and vaccinations.5
She spent 30 hours
per week with the horses, consisting primarily of time spent on
the 3 days of the week that she did not work for Giles Inc. but
also including time spent on each of the other 4 days of the
4
The 1993 through 2002 Schedules C left blank the lines for
the address of Falling Water Arabians.
5
The record does not reveal the frequency or number of
times that petitioner wormed or vaccinated any of her horses or
the amount of time that she devoted to those services.
- 8 week.6
She has never decreased the 36 hours per week that she
has worked as a dentist to devote more time to the horse
activity, and she has never increased the 30 hours per week that
she has devoted to the horse activity.
She acknowledges that the
raising of horses is a physical activity that will be more
difficult for her to perform as she gets older.
Petitioner did not maintain a separate bank account for the
horse activity, and she has never had business cards for the
horse activity.
activity.
Nor did she keep many records for the horse
The records which she kept for the horse activity
consisted primarily of minimal pedigree, registration, health,
breeding, and competition documents relating to some (but not
all) of the eight horses which were part of that activity.
V.
Petitioner’s Horses
A.
Overview
Petitioner has throughout her life owned a total of eight
horses (the eight horses referenced above), one of which was
stillborn and another one of which died 9 months after birth.
The names of the seven horses which survived birth are Feyras
Raehele, Kart Blanche, Silent Reign, Borissa, VT Kartel, Bogaz,
and Censuous.
6
Following her sales of Silent Reign and Bogaz in
The record does not reveal how much of the 30 hours per
week for 1998 was attributable to time that petitioner spent with
a horse named Silent Reign. As noted below, petitioner sold
Silent Reign on Dec. 31, 1997, but continued to keep it at the
Falling Water Way property.
- 9 1997 and 2001, respectively, petitioner as of the time of her
trial owned four horses, all of which are Arabian mares.
As to
the seven horses which survived birth, petitioner keeps and kept
Feyras Raehele, Silent Reign, and Borissa at the Falling Water
Way property; the record does not indicate where petitioner keeps
or kept the other four horses.
Petitioner does not intend to sell any of the four horses
that she owns, and she has only occasionally shown three of her
eight horses; i.e., Feyras Raehele in 1988 and Kart Blanche and
Bogaz in multiple years thereafter.
She has bred only two of her
eight horses; i.e., Feyras Raehele in 1988 and Borissa in 1990,
1991, 1997, and 2000, and she intends in the future to breed only
one of her horses; i.e., Borissa.
She received consideration
only for the sale of Bogaz; as noted below, she sold Silent Reign
to her daughter for no reported consideration.
B.
Feyras Raehele
Feyras Raehele is a purebred Arabian mare that was foaled on
May 19, 1979, and that is or was registered with the Arabian
Horse Registry of America, Inc., as purebred Arabian horse No.
0193012.
Its parents are Prince Tazzraf and Feyra Diba, both of
which at the time of Feyras Raehele’s registration were
registered with the Arabian Horse Registry of America, Inc., and
had lineage that included many other horses that were then so
registered.
- 10 Petitioner purchased Feyras Raehele in January 1988 for
$11,000, and she showed it during that year in at least one
competition.7
She also during 1988 bred Feyras Raehele because
the opportunity arose for her to pay $5,000 to breed it and any
other mare an unlimited number of times with a stallion named
GoKart that had previously commanded a breeding fee of $15,000.
Petitioner considered this opportunity to be a good chance for
her to breed Feyras Raehele with a respectable stallion at a
significantly reduced fee.
She paid the $5,000 breeding fee in
1988, and she deducted this payment as an expense for 1988.
Petitioner’s 1988 breeding of Feyras Raehele with GoKart produced
Kart Blanche.
This was the only time that petitioner has bred
Feyras Raehele, and it was the only time that petitioner has bred
a horse other than Borissa.
Petitioner continues to own Feyras Raehele, and she keeps it
at the Falling Water Way property.
As of the time of
petitioner’s trial, the fair market value of Feyras Raehele was
not more than $10,000.
The record does not indicate the amount
of income, if any, that petitioner has realized from her
ownership of Feyras Raehele.
7
The record does not contain information on any show in
which Feyras Raehele has competed, or whether Feyras Raehele has
competed in more than one show.
- 11 C.
Kart Blanche
Kart Blanche is a purebred Arabian mare that was foaled on
April 21, 1989, from the just-mentioned breeding of Feyras
Raehele.
Kart Blanche is or was registered with the Arabian
Horse Registry of America, Inc., as purebred Arabian horse No.
0428977.
Its parents are GoKart and Feyras Raehele, both of
which at the time of Kart Blanche’s registration were registered
with the Arabian Horse Registry of America, Inc., and had lineage
that included some other horses that were then so registered.
Petitioner has never bred Kart Blanche.
Petitioner showed Kart
Blanche from 1990 to 2000 at 34 competitions, and Kart Blanche
won 3 of those competitions.
Petitioner continues to own Kart Blanche, and its fair
market value as of the time of her trial was not more than
$35,000.
The record does not indicate the amount of income, if
any, that petitioner has realized from her ownership of Kart
Blanche.
D.
Silent Reign
Petitioner purchased Silent Reign in 1989 for $3,500.
Silent Reign has never been bred, shown, or otherwise used for
profit in the horse activity.
Petitioner reported on her 1997
Federal income tax return that on December 31, 1997, she sold
Silent Reign to her daughter for no consideration.
She reported
on that return that she had claimed $3,339 of depreciation on
- 12 Silent Reign, that her adjusted basis in Silent Reign was $161
($3,500 purchase price less $3,339 of claimed deprecation), and
that she was entitled to recognize a $161 ordinary loss on this
sale.
The parties do not dispute that petitioner is entitled to
deduct this reported loss as reported.
Petitioner continues to keep Silent Reign at the Falling
Water Way property.
Petitioner’s 1997 through 2002 Federal
income tax returns do not specifically report her receipt of any
compensation for this service.
E.
Borissa
Borissa is a purebred Arabian Polish mare that was foaled on
February 24, 1982, and that is or was registered with the Arabian
Horse Registry of America, Inc., as purebred Arabian horse No.
0268206.
Its parents are Borexpo and Psyche, neither of which at
the time of Borissa’s registration was registered with the
Arabian Horse Registry of America, Inc., and the lineage of which
included no other horse that was then so registered.
Petitioner “leased” Borissa in 1989 for $1,000 in order to
avail herself of her continued right to breed mares in exchange
for the $5,000 breeding fee mentioned above, and she purchased
Borissa in 1990 for $2,500.8
of four times.
8
Petitioner has bred Borissa a total
She first bred Borissa in 1990 while she was
The record does not elaborate on this lease or otherwise
allow us to discern its terms.
- 13 leasing it.
This first breeding produced VT Kartel.
Borissa a second time in 1991.
She bred
This breeding, which apparently
also was connected with petitioner’s payment of the $5,000
breeding fee,9 produced Bogaz on May 19, 1991.10
She bred Borissa
a third time between July 7 and September 30, 1997, in the sense
that she paid a $3,000 breeding fee to the Bishop Lane Farm to
board, care for, and breed (including possibly by artificial
insemination) Borissa with a named stallion.11
This breeding
produced the referenced horse that was stillborn in 1998.
then bred Borissa a fourth and final time in 2000.
She
This final
breeding produced Censuous in 2001.
Petitioner continues to own Borissa, and she keeps it at the
Falling Water Way property.
As of the time of petitioner’s
trial, Borissa’s fair market value was not more than $20,000.
Borissa is the only horse that petitioner has bred since 1989,
9
Although the contract underlying the $5,000 breeding fee
refers only to GoKart, and the stallion that helped produce Bogaz
was not GoKart, petitioner deducted no other breeding fees from
1988 until 1997.
10
Although the record does not indicate the period of
gestation for a horse such as Borissa, we recognize that the
length of this pregnancy was 20 weeks at the most. Given that
the parties have stipulated that Bogaz was the product of a 1991
breeding of Borissa and that the record establishes that Bogaz
was foaled on May 19, 1991, we find the relevant dates of this
pregnancy accordingly.
11
Petitioner also paid as to this breeding a $250 fee for
the transportation of semen. She deducted the total breeding fee
of $3,250 ($3,000 + $250) for 1997.
- 14 and it is the only one of her horses that she will breed in the
future.
F.
VT Kartel
VT Kartel was a purebred Arabian stallion that was foaled in
1990 from the first breeding of Borissa.
VT Kartel experienced
medical complications contemporaneously with its birth, and it
died in 1991 9 months after its birth.
VT Kartel was or is registered with the Arabian Horse
Registry of America, Inc., as purebred Arabian horse No. 0449954.
Its parents were GoKart and Borissa, both of which at the time of
VT Kartel’s registration were registered with the Arabian Horse
Registry of America, Inc., but the lineage of which included no
other horse that was then so registered.
G.
Bogaz
Bogaz is a purebred Arabian stallion that was foaled on
May 19, 1991, from the second breeding of Borissa.
Bogaz is or
was registered with the Arabian Horse Registry of America, Inc.,
as purebred Arabian horse No. 0468432.
Its parents are Pegaz and
Borissa, both of which at the time of Bogaz’s registration were
registered with the Arabian Horse Registry of America, Inc., but
the lineage of which included no other horse that was then so
registered.
Petitioner had Bogaz gelded.
2000 at 31 competitions.
She showed Bogaz from 1992 and
Bogaz won one of those competitions but
- 15 did not earn significant amounts of money as a show horse.12
Petitioner sold Bogaz in 2001 for $20,000.
H.
Censuous
Censuous was foaled in 2001 from the fourth breeding of
Borissa.
VI.
The Showing of Petitioner’s Horses
Petitioner showed Feyras Raehele in 1988 at least once, but
she did not show Feyras Raehele during any other year.
From 1988
through 2000, she showed Kart Blanche and Bogaz at a total of 65
competitions, each of which was held by the International Arabian
Horse Association.
The specific numbers of times that petitioner
has shown Kart Blanche and Bogaz through 2000 are as follows:
Year
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
Total
12
Kart Blanche
Bogaz
Total
2
0
0
6
7
5
3
2
2
3
4
34
0
0
1
0
0
5
13
1
5
3
3
31
2
0
1
6
7
10
16
3
7
6
7
65
The record does not indicate the amount of income, if
any, that petitioner has realized from showing Bogaz. Nor does
the record indicate the specific amount of expenses that
petitioner incurred during and as a result of her ownership of
Bogaz, or whether those expenses were greater than or less than
$20,000.
- 16 The record does not indicate the amount of income, if any,
that petitioner earned from any of these competitions.
VII.
Relevant Financial Data
The attached appendix lists the gross income, specific
operating expenses, depreciation, total expenses, and net income
(loss) that petitioner reported for the horse activity on her
1988 through 2002 Schedules C.
With the exception of $20,000
that petitioner received in 2001 from the sale of Bogaz, we know
nothing about the specific source of the other items of reported
gross income.
While some of those other items of income may have
been prize money earned at shows, petitioner reported some of the
amounts of these other items net of cost of goods sold, which
indicates to us that not all of those amounts were prize money
from the shows.
From 1988 to 2002, petitioner reported on her Federal income
tax returns the following amounts of total income (exclusive of
income (loss) from the horse activity), income (loss) from the
horse activity, total income, and taxable income.
Total income
(exclusive of income
or (loss) from the
Year
horse activity)
1988
1989
1990
1991
1992
1993
1994
$111,854
108,078
126,236
113,487
109,003
109,536
116,888
Income
(loss)
from the
horse activity
Total
income
Taxable
income
($27,687)
(28,736)
(37,973)
(28,136)
(29,545)
(43,422)
(34,072)
$84,167
79,342
88,263
85,351
79,458
66,114
82,816
$56,874
50,593
56,944
49,945
45,438
36,195
55,677
- 17 1995
1996
1997
1998
1999
2000
2001
2002
Total
110,881
94,609
105,051
95,693
129,362
112,940
145,474
94,486
1,683,578
(38,203)
(37,313)
(24,215)
(21,068)
(22,777)
(17,649)
209
(27,072)
(417,659)
72,678
57,296
80,836
74,625
106,585
95,291
145,683
67,414
1,265,919
40,981
27,896
48,895
45,228
78,961
63,531
113,860
44,953
815,971
Petitioner projected at trial that the horse activity also would
lose money for 2003.
VIII.
Gavilan Hills Property
Gavilan Hills is an area in California near Riverside, Lake
Elsinore, and Corona, California.
In or about October 1990,
petitioner purchased 11.53 acres of vacant, unimproved land in
Gavilan Hills (Gavilan Hills property) at a cost of $70,000.
The
Gavilan Hills property is approximately 10 miles from the Falling
Water Way property.
Petitioner has never developed the Gavilan
Hills property, and she has never kept any of her horses there.
During the relevant years, she rode one or more of her horses on
the Gavilan Hills property as a change of pace from riding it (or
them) round and round in the arena on the Falling Water Way
property.
Petitioner purchased the Gavilan Hills property aspiring to
sell the Falling Water Way property, to build a house on the
Gavilan Hills property, to move her residence to the Gavilan
Hills property, and to design the Gavilan Hills property so that
she could continue operating the horse activity on the Gavilan
- 18 Hills property and possibly expand that activity to include the
boarding of horses.
At or around the time that she bought the
Gavilan Hills property, she abandoned this aspiration when she
realized that she could not sell the Falling Water Way property
at the price that she believed was necessary to fulfill her
aspiration.
Petitioner now intends to sell the Gavilan Hills
property undeveloped.
Petitioner has paid property taxes for the Gavilan Hills
property during each year that she has owned it.
She has not
claimed any of those taxes on the Schedules C that she filed for
the horse activity.
OPINION
This is yet another case of a high-salaried taxpayer
claiming that she may reduce the income taxes payable on her
salary by deducting losses incurred in a pastime that is
allegedly engaged in for profit.
We must decide whether
petitioner’s horse activity was “an activity not engaged in for
profit” within the meaning of section 183 during 1997 and 1998.
If it was, petitioner may not deduct for those years the amounts
of losses greater than her income from that activity.
Although
petitioner argues in brief that respondent bears the burden of
proof pursuant to section 7491(a)(1), petitioner’s counsel (on
behalf of petitioner) conceded at trial that petitioner bears the
burden of proof.
Petitioner also made a similar concession in
- 19 her reply brief when she opted not to object to a proposed
finding in respondent’s opening brief that petitioner bears the
burden of proof on the basis of her counsel’s concession.
See
Rule 151(e)(3) (“In an answering or reply brief, the party shall
set forth any objections, together with the reasons therefor, to
any proposed findings of any other party”); see also Jonson v.
Commissioner, 118 T.C. 106, 108 n.4 (2002) (the failure to object
to a proposed finding of fact may be treated as a concession of
that proposed finding), affd. 353 F.3d 1181 (10th Cir. 2003);
Morgan v. Commissioner, T.C. Memo. 2000-231 (same), affd. 23 Fed.
Appx. 813 (9th Cir. 2001).
We hold on the basis of these
concessions that petitioner bears the burden of proof.13
Section 183, which applies to activities engaged in by
individuals or S corporations, generally limits the deductions
for an “activity not engaged in for profit” to the amount of
gross income received from the activity.
Sec. 183(a) and (b).
Section 183(c) defines an “activity not engaged in for profit” as
“any activity other than one with respect to which deductions are
13
Even if the applicability of sec. 7491(a)(1) had been at
issue, we would have concluded that it did not apply. Petitioner
has not in this proceeding presented “credible evidence” on the
substantive issue at hand. See Higbee v. Commissioner, 116 T.C.
438, 442 (2001); see also Blodgett v. Commissioner,
F.3d
(8th Cir. Jan. 12, 2005), affg. T.C. Memo. 2003-212. Nor has she
proven that she complied with the requirements of sec.
7491(a)(2)(A) and (B) to substantiate items, to maintain required
records, and to cooperate fully with respondent’s reasonable
requests. See Weaver v. Commissioner, 121 T.C. 273, 275 (2003).
- 20 allowable for the taxable year under section 162 or under
paragraph (1) or (2) of section 212.”14
Pursuant to the
jurisprudence of the Court of Appeals for the Ninth Circuit, the
court to which an appeal of this case most likely lies, an
activity is engaged in for profit if the taxpayer’s “predominant,
primary or principal objective” in engaging in the activity was
to profit.
Wolf v. Commissioner, 4 F.3d 709, 713 (9th Cir.
1993), affg. T.C. Memo. 1991-212.
In this context, the term
“profit” denotes economic profit, independent of tax savings.
Id.; Antonides v. Commissioner, 91 T.C. 686, 693-694 (1988),
affd. 893 F.2d 656 (4th Cir. 1990).
Petitioner, as noted above, bears the burden of proving that
she entered into and during each year in issue remained in the
horse activity with a predominant, primary, or principal
14
Sec. 162 deals with “trade or business expenses” which
are “ordinary and necessary expenses paid or incurred * * * in
carrying on any trade or business”. Sec. 212(1) and (2) deals
with expenses for the “production or collection of income” or
“management, conservation, or maintenance of property held for
the production of income”. Deductions are generally allowable
under sec. 162 for the expenses of carrying on an activity which
constitutes a trade or business of the taxpayer. See sec. 162;
sec. 1.183-2(a), Income Tax Regs. To be engaged in such a trade
or business, “the taxpayer must be involved in the activity with
continuity and regularity”, and “the taxpayer’s primary purpose
for engaging in the activity must be income or profit”.
Commissioner v. Groetzinger, 480 U.S. 23, 35 (1987); see also
Warden v. Commissioner, T.C. Memo. 1995-176, affd. without
published opinion 111 F.3d 139 (9th Cir. 1997).
- 21 objective of earning a profit.15
Rule 142(a)(1); Welch v.
Helvering, 290 U.S. 111, 115 (1933); Wolf v. Commissioner, supra
at 713; Beck v. Commissioner, 85 T.C. 557, 570 (1985).
Whether
the requisite profit objective exists must be resolved on the
basis of all surrounding facts and circumstances.
Golanty v.
Commissioner, 72 T.C. 411, 426 (1979), affd. without published
opinion 647 F.2d 170 (9th Cir. 1981); sec. 1.183-2(b), Income Tax
Regs.
A taxpayer’s objective of profit need not be reasonable,
but it must be bona fide.
Golanty v. Commissioner, supra at 426.
While the analysis of a taxpayer’s objective in engaging in an
activity focuses on the taxpayer’s subjective intent, the finder
of fact need not rely solely upon the taxpayer’s statement of
intent but may resort to objective facts to decide the true
intent.
See Indep. Elec. Supply, Inc. v. Commissioner, 781 F.2d
724, 726 (9th Cir. 1986), affg. Lahr v. Commissioner, T.C. Memo.
1984-472; Dreicer v. Commissioner, 78 T.C. 642, 645 (1982), affd.
without opinion 702 F.2d 1205 (D.C. Cir. 1983); sec. 1.183-2(a),
Income Tax Regs.; see also Wolf v. Commissioner, supra at 713.
Section 1.183-2(b), Income Tax Regs., sets forth a
nonexclusive list of nine factors to consider in ascertaining a
taxpayer’s objective in engaging in an activity.
are:
These factors
(1) The manner in which the taxpayer carries on the
15
Sec. 183(d) provides a statutory reversal of the burden
of proof if a taxpayer meets specified criteria. Petitioner does
not meet those criteria.
- 22 activity; (2) the expertise of the taxpayer or his advisers;
(3) the time and effort spent by the taxpayer in carrying on the
activity; (4) the expectation that assets used in the activity
may appreciate in value; (5) the success of the taxpayer in
carrying on other similar or dissimilar activities; (6) the
taxpayer’s history of income or losses with respect to the
activity; (7) the amount of occasional profits, if any; (8) the
financial status of the taxpayer; and (9) elements of personal
pleasure or recreation.
None of these factors is controlling in
and of itself, and a decision as to a taxpayer’s intent is not
governed by a numerical preponderance of the factors.
Golanty v.
Commissioner, supra at 426; Allen v. Commissioner, 72 T.C. 28, 34
(1979); sec. 1.183-2(b), Income Tax Regs.
Petitioner relies primarily on her testimony to establish
both her proposed findings of disputed facts and her objective as
to the horse activity.
We give petitioner’s uncorroborated
testimony limited weight for that purpose.
See Ruark v.
Commissioner, 449 F.2d 311, 312 (9th Cir. 1971), affg. per curiam
T.C. Memo. 1969-48; Clark v. Commissioner, 266 F.2d 698, 708-709
(9th Cir. 1959), affg. in part and remanding T.C. Memo. 1957-129;
Tokarski v. Commissioner, 87 T.C. 74, 77 (1986).
Our perception
of petitioner while viewing her testifying at trial coupled with
our review of the record leads us to discount her uncorroborated
testimony.
For the most part, she testified generally, vaguely,
- 23 and/or in reply to leading questions asked by her counsel during
direct examination.
Portions of her testimony also were
inconsistent with other portions, with stipulated facts, and/or
with documentary evidence.
We illustrate the inconsistencies in
petitioner’s testimony through seven examples.
First, she
testified that she purchased her first horse, Feyras Raehele, in
1985.
We find (and she has stipulated) that she purchased her
first horse, Feyras Raehele, in 1988.
Second, she testified that
she purchased Feyras Raehele while she was going to dental
school.
Per her own admission, she completed dental school in
1981, 7 years before the actual year in which she purchased
Feyras Raehele and 4 years before the year that she testified was
the year in which she purchased Feyras Raehele.
Third, she
testified that she “contributed” Silent Reign to her daughter
under an agreement whereby her daughter would breed Silent Reign
and she and petitioner would split the profits.
She reported on
her 1997 Federal income tax return that she sold Silent Reign to
her daughter during 1997 and that she was entitled to recognize a
$161 ordinary loss on this sale.
Fourth, she testified that she
sold Bogaz in 2000 and that she purchased the Gavilan Hills
property in 1991 for $7,000.
The record establishes that she
sold Bogaz in 2001 and that she purchased the Gavilan Hills
property in 1990 for $70,000.
Fifth, she testified that during
the subject years she did all of the training of her horses.
On
- 24 her Federal income tax returns for those respective years, she
reported that she had paid $1,518 and $1,645 of “training”
expenses during those years.
Sixth, she testified in one setting
that she currently owns three horses; she then testified in
another setting that she currently owns four horses.
She also
first testified that she keeps breeding papers on most of her
horses, but then, in reply to a question asked three questions
later, testified that she keeps breeding papers on all of her
horses.
Seventh, she repeatedly referred to incorrect dates, and
she specifically acknowledged during her testimony that her
memory is poor.
We now turn to the nine enumerated factors and discuss them
seriatim.
1.
Manner in Which the Activity Is Conducted
The fact that a taxpayer carries on an activity in a
businesslike manner may indicate that the activity is engaged in
for profit.
Sec. 1.183-2(b)(1), Income Tax Regs.
Subfactors to
consider in deciding whether a taxpayer has conducted an activity
in a businesslike manner include (1) whether the taxpayer
maintained complete and accurate books and records for the
activity, (2) whether the taxpayer conducted the activity in a
manner substantially similar to those of other comparable
activities that were profitable, and (3) whether the taxpayer
changed operating procedures, adopted new techniques, or
- 25 abandoned unprofitable methods in a manner consistent with an
intent to improve profitability.
Engdahl v. Commissioner,
72 T.C. 659, 666-667 (1979); sec. 1.183-2(b)(1), Income Tax Regs.
Petitioner argues that this factor favors her.
She asserts
that she kept accurate books and records for the horse activity
and that she changed her business behavior to reflect the
marketplace.
She claims that her books and records were accurate
in that respondent has not challenged the substantiation of the
expenses reported on her Schedules C for the subject years.
She
claims that she acted in a businesslike manner by (1) leasing
Borissa before buying it and buying Borissa only after concluding
that its foal, VT Kartel, was of “excellent” quality,
(2) breeding only her best mare on account of space limitations,
(3) not breeding any of her horses from 1992 through 1996,
because she believed that the market included too many bad
Arabian horses, but showing her horses during that period to
increase their value, (4) resuming her breeding activity in 1997
when she believed that Arabian horses were again in demand, and
(5) using written business plans for the horse activity.
We evaluate this factor by analyzing the three subfactors
mentioned above.
A.
Maintaining Complete and Accurate Books and Records
The failure to keep financial records such as journals,
ledgers, income and expenses reports, income statements, and
- 26 projections indicates a lack of businesslike operations.
Surridge v. Commissioner, T.C. Memo. 1998-304.
The failure to
maintain a separate bank account or to prepare a budget also
indicates a lack of businesslike operations.
Id.
Petitioner did not maintain a separate bank account for the
horse activity, and we do not find on the basis of credible
evidence that she kept a separate set of books and records for
the activity.
We also do not find on the basis of credible
evidence that petitioner, as to the horse activity, prepared
financial statements, profit and loss projections, budgets,
break-even analyses, or marketing surveys, each of which may aid
a taxpayer in cutting expenses, increasing profits, and
evaluating the overall performance of an activity, Golanty v.
Commissioner, 72 T.C. at 430, or that she prepared a business
plan for the horse activity as it would pertain to the subject
years.
While petitioner did retain some records on the horse
activity, we do not find on the basis of credible evidence that
she ever used those records or the data reflected therein to
evaluate or improve that activity’s financial performance.
See
Burger v. Commissioner, 809 F.2d 355, 359 (7th Cir. 1987), affg.
T.C. Memo. 1985-523; Connolly v. Commissioner, T.C. Memo.
1994-218, affd. without published opinion sub nom. Redd v.
Commissioner, 58 F.3d 635 (5th Cir. 1995).
- 27 Petitioner points the Court to a one-page fill-in-the-blanks
form with seven headings (including one for the name of the
business and another one for the year) that she alleges is a
legitimate and sufficient business plan for the horse activity.
We disagree with this assertion.
This form on its face refers
specifically to 1991, and we are unable to find that petitioner
ever used this form to guide her in the horse activity as to any
year, not even as to 1991.
The claim of usefulness of the form
as a business plan also suffers from the fact that (1) neither it
nor petitioner’s testimony specifies when it was prepared, (2)
petitioner never filled in a line on the form that references the
manner in which revenue in the activity may increase, although
the activity in its 3 years of existence from 1988 through 1990
had generated minimal revenues and had experienced losses
totaling almost $100,000, and (3) petitioner failed to conduct
the horse activity consistently with lines on the form that were
filled in.
As to the latter, the form states that petitioner
will (1) sell the Falling Water Way property, (2) start showing
Silent Reign, (3) build on the Gavilan Hills property, and
(4) “breed, show, sell”.
Petitioner has never done any of the
first three enumerated items.
Nor as to the fourth enumerated
item has she consistently bred, shown, and/or sold her horses
from 1991 to date.
While petitioner did show two of her horses
occasionally from 1992 to 2000, she did not show any of her
- 28 horses in 1991, the purported year of the plan.
Moreover, while
petitioner did breed one of her horses in 1991, she declined to
breed any of them again until 1997.
She also did not sell a
horse for consideration until 2001.
Petitioner also relies erroneously on her assertion that
respondent did not challenge her substantiation of the expenses
reported on the subject returns.
Respondent in the notice of
deficiency did reflect such a challenge as to the amounts of
those expenses that equaled the amounts of the reported losses.16
The notice of deficiency states specifically as to those expenses
that “it has not been established that the claimed expenses were
incurred or, if incurred, paid by you during the taxable year for
ordinary and necessary business purposes or that any claimed
amount qualifies as an allowable deduction under the provisions
of the Internal Revenue Code.”
Moreover, even if respondent had
declined to make this challenge, it would not have meant as
petitioner would have it that she kept and used books and records
for the horse activity in a businesslike fashion.
See Golanty v.
Commissioner, supra at 430; Burger v. Commissioner, T.C. Memo.
1985-523; accord McKeever v. Commissioner, T.C. Memo. 2000-288
(taxpayers’ ability to substantiate claimed expenses does not
16
In other words, respondent for each of the subject years
allowed petitioner to deduct her claimed expenses up to the
amount of the gross income from the activity that she reported
for that year.
- 29 necessarily mean that they kept or used books and records in a
businesslike fashion); Steele v. Commissioner, T.C. Memo. 1983-63
(checks were not businesslike records although they sufficed to
substantiate claimed expenses).
Although a taxpayer such as
petitioner need not maintain a sophisticated cost accounting
system for any or all of her purported business activities, she
is expected to keep records that enable her to make informed
business decisions as to the activity, see Burger v.
Commissioner, 809 F.2d at 359, and otherwise allow her to cut
expenses, increase profits, or evaluate the activity’s overall
performance, see Sullivan v. Commissioner, T.C. Memo. 1998-367,
affd. without published opinion 202 F.3d 264 (5th Cir. 1999);
Abbene v. Commissioner, T.C. Memo. 1998-330; Steele v.
Commissioner, supra.
Petitioner presented no credible evidence
that she used any record to implement cost-saving measures or to
improve profitability.
B.
Conducting the Activity Similarly to Comparable
Businesses Which Are Profitable
The fact that a taxpayer operates an activity similarly to a
comparable business which is profitable indicates that the
taxpayer had a profit objective as to the activity.
Petitioner did not conduct the horse activity similarly to
the manner in which she understood that comparable businesses
conducted their horse breeding activities.
As to other breeders,
petitioner testified that most of them “just breed away”.
- 30 Petitioner not only did not “just breed away”; she rarely bred
her horses at all.
The record indicates, and we find as a fact,
that petitioner has bred only two of her seven horses that
survived birth, the first in 1988 and the second only four times
in approximately 14 years.
Although petitioner attempted to
rationalize the minimal breeding of her horses by testifying that
she endeavored to breed her horses only with “national champions”
in order to improve the value of the foals, she contradicted that
testimony shortly after giving it by testifying that she aimed to
breed her horses either with national champions or with simply
“good horses”.
We do not find that all, or in fact any, of the
horses which petitioner used to breed her mares were “national
champions”.
We also are unpersuaded by petitioner’s assertion that her
minimal breeding was due to her belief that the design of the
Falling Water Way property allowed her to breed only one of her
horses at a time.
Although the Falling Water Way property has
only four stalls in which to keep horses, petitioner acknowledges
in her reply brief that horses can also be kept in the pens.
We
also note that even if the Falling Water Way property did limit
petitioner’s keeping of horses on the property to a maximum of
six, an assumption that the record does not allow us to find as a
fact, she has never owned six horses at one time and she has
never kept more than three horses on the Falling Water Way
- 31 property.
Moreover, of the 5 horses that petitioner maintained
during the subject years, one (Bogaz) was a gelding that she
maintained for 10 years before selling it and another (Silent
Reign) was a horse that she kept at the Falling Water Way
property for more than 5 years after selling it.
C.
Changing Methods To Improve Profitability
A change of operating methods, adoption of new techniques,
or abandonment of unprofitable methods may also indicate a profit
objective.
Sec. 1.183-2(b)(1), Income Tax Regs.
Petitioner alleges that she changed her method of operation
for the better when she stopped breeding horses from 1992 through
1996 on account of a depressed market and started breeding them
again in 1997 when she sensed that the market had improved.
We
find no credible evidence to support petitioner’s claim that the
market for Arabian horses was depressed from 1992 through 1996 or
that it changed favorably for her in 1997.
In addition, while
petitioner testified that she was making her horses well known
from 1992 through 1996 by showing them, she sold for
consideration only one of her horses after that period and that
was not until 5 years after the period ended.
Petitioner also alleges that she attempted to improve the
horse activity’s profitability by causing a reduction in the
operating expenses of the horse activity for the 4-year period
from 1997 through 2000, when compared to the 4-year period from
- 32 1993 through 1996.
We are unpersuaded by this allegation.
While
the horse activity’s operating expenses did in fact decrease
during the second 4-year period, this decrease was not due to any
special effort made by petitioner.
It was due primarily to a
decrease during the latter 4-year period of the horse activity’s
boarding/training expenses.
From 1993 to 1996, petitioner began
showing Kart Blanche and Bogaz more frequently than in prior
years.
Given that these two horses were relatively young as of
January 1, 1993, and that they had received minimal training
beforehand, the need for them to train for the shows, and hence
the training expenses, were naturally greater during the earlier
4-year period.17
As the horses were trained, their training
expenses obviously declined.
Such a decline occurred naturally
and did not result from any special effort by petitioner to
change operating methods, adopt new techniques, or abandon
unprofitable methods.18
17
We note that petitioner deducted “training” expenses for
1988, then deducted “boarding and training” expenses for 1989
through 1996, and then deducted “training” expenses for 1997
through 2002. We understand the deduction of “boarding/training”
to include the cost of boarding the horse at the training
facility as part of its training.
18
In the same vein, we also reject petitioner’s assertion
that she personally learned to train horses from 1992 through
1996 and thus was able to reduce expenses by training her horses
after 1996. Petitioner’s 1997 through 2002 Federal income tax
returns claim deductions for training in the total amount of
$17,276.
- 33 Petitioner also claims that she undertook to decrease the
horse activity’s operating expenses by learning in 1993 and 1994
to perform some basic veterinary services.
Even assuming that
petitioner learned to perform these services as claimed, an
assumption that is not supported by the credible evidence in the
record, such efforts did not effectively decrease the horse
activity’s veterinary expenses.
Petitioner’s tax returns from
1988 through 2002 show that the horse activity’s veterinary
expenses have remained fairly constant throughout all of the
years of the horse activity’s operation.19
D.
Conclusion
We conclude on the basis of our analysis of the justdiscussed three subfactors that petitioner did not carry on the
horse activity in a businesslike manner.
This factor favors
respondent.
2.
Petitioner’s Expertise
A taxpayer’s expertise, research, and study of the accepted
business, economic, and scientific practices of an activity, as
well as his or her consultation with experts, may be indicative
of a profit objective.
19
Sec. 1.183-2(b)(2), Income Tax Regs.
Nor are we persuaded that petitioner acted in a
businesslike fashion by first leasing Borissa and buying it only
after ascertaining that its foal was of “excellent” quality. We
know little about this lease. Moreover, given that VT Kartel
experienced medical complications beginning with its birth and
died 9 months later, the facts at hand would appear to disprove
petitioner’s claim that VT Kartel was an “excellent” foal.
- 34 Petitioner asserts that she is a lifelong experienced
businesswoman who before starting the horse activity read books,
viewed videos, and consulted with experts consisting of her
sister, her (petitioner’s) daughter, a professional horse
trainer, and an individual who bred and judged horses in Europe.
Petitioner also asserts that she joined relevant trade
associations in 1985 and that she was knowledgeable of some
veterinarian services and the training and showing of horses.
Petitioner concludes that this factor weighs in her favor.
We
disagree.
The mere fact that petitioner may have aspired to breed
horses does not necessarily mean that she entered into the horse
activity with the requisite profit objective.
The credible
evidence in the record does not establish that petitioner read or
viewed the referenced materials or consulted with her so-called
experts before entering into the horse activity in 1988.
While
petitioner testified generally that she did, she discredited that
testimony by also testifying that these happenings were not until
3 years after she bought her first horse.
She also did not
specify or otherwise elaborate on the referenced books or videos,
other than to say that they were breeding and training books and
veterinarian manuals, or the advice that she purportedly received
from the trainer, the breeder/judge, or her sister and daughter;
e.g., was it general advice regarding showing and promoting
- 35 horses, did it include specific business advice on how to start
and operate a horse breeding business profitably, did she follow
the advice?
Nor is there credible evidence in the record that
any of these purported experts were actually experts on anything
related to the conduct of the business of breeding and showing
horses (or even on the conduct of a business in general).
While
petitioner did testify generally that her daughter is a certified
public accountant, we know nothing else about her daughter’s
practice of public accounting (e.g., what is her specialty) or,
more specifically, whether she is an expert on the subject of
horse breeding and showing.
We also note as to this daughter
that each of petitioner’s 1988 through 2002 tax returns appears
to have been prepared by someone else.
Of course, petitioner has over the years acquired some sort
of hands-on experience on the subject of horse breeding from the
point of view of a horse breeder.
The record, however, does not
reflect that she has ever acquired any knowledge of the business
or economic aspects of horse breeding so as to be prepared for
the economic realities of a horse breeding and showing business.
We find nothing credible to suggest that she prepared for the
economic aspects of the activity by study or consultation with
experts, nor has she shown that, before starting the activity,
she had any idea of what her ultimate costs might be, how she
might achieve any degree of cost efficiency, the amount of
- 36 revenue she could expect, or what risks might impair the
production of these revenues.
She also has not established that
she undertook a basic investigation of the factors that affected
the profitability of a horse breeding and showing activity.
See
Vallette v. Commissioner, T.C. Memo. 1996-285; Underwood v.
Commissioner, T.C. Memo. 1989-625; see also McKeever v.
Commissioner, T.C. Memo. 2000-288 (taxpayer’s background as a
lifelong horsewoman did not provide sufficient expertise as to
the economic aspects of a horse pursuit to indicate a profit
objective).
As in Daley v. Commissioner, T.C. Memo. 1996-259,
petitioner apparently started her horse activity with little
concept of the expenses involved or of the steps required to
achieve cost efficiency and an eventual profit and has continued
to operate the activity in the same manner.
Commissioner, T.C. Memo. 1998-205.
See also Rinehart v.
While a taxpayer need not
prepare for an activity by making a formal market study, he or
she should at least undertake a basic investigation of the
factors that would affect profit.
Underwood v. Commissioner,
supra; Burger v. Commissioner, T.C. Memo. 1985-523.
This factor favors respondent.
3.
Time and Effort Spent Conducting the Activity
The fact that a taxpayer devotes much of his or her personal
time and effort to an activity may indicate a profit objective,
especially where the activity does not involve substantial
- 37 personal or recreational aspects.
McKeever v. Commissioner,
supra; Daley v. Commissioner, supra.
A taxpayer’s withdrawal
from another occupation to devote his or her time and effort to
an activity also may indicate a profit objective.
Burleson v.
Commissioner, T.C. Memo. 1983-570; sec. 1.183-2(b)(3), Income Tax
Regs.
Petitioner asserts that she performs almost all of the work
in the horse activity and that she spends 30 hours a week working
in this activity.20
Petitioner concludes that this factor
“clearly” weighs “heavily” in her favor.
We disagree.
First, petitioner presented no documentary evidence to
support her claim that she spent 30 hours per week working on the
horse activity, and we find that the referenced 30 hours includes
all of the time that petitioner spent with her horses, including
time that was personal or recreational to her.
We thus discount
her testimony that 100 percent of the time that she spent with
her horses was for business.
We also note that this testimony is
somewhat incredible on its face.
Petitioner was deeply involved
with horses before starting the horse activity in 1988, and she
bought her first horse because she missed the pleasure of being
with horses.
It is quite a stretch for her now to ask us to
believe that her only involvement with horses since 1988 has been
20
Although petitioner testified generally that she budgeted
“at least” 30 hours a week to spend with her horses, she argues
in her brief that she spent a flat 30 hours.
- 38 on a business basis.
Such is especially so given the fact that
she repeatedly referred to her horses throughout her testimony as
her “babies”, even in the case when she was referring to one of
her horses that was relatively old.21
Second, petitioner has never decreased the 36 hours per week
that she works in her dental practice to devote more time to the
horse activity, and she has never increased the 30 hours per week
that she spends with her horses.22
The dental practice is an
established business, and petitioner claims that the horse
activity is a business in its startup phase.
By her own
admission, however, she works fewer hours per week in her
self-described startup business than she does in her established
business.
Given her claim and our finding that she spends time
in the horse activity on each day of the week, it also appears
that she spends on each of the days that she is not working as a
dentist less time in the horse activity than the average 9 hours
per day that she works as a dentist.23
We recognize that 30
21
Feyras Raehele, Kart Blanche, and Borissa were 24, 24,
and 21 years old, respectively, in the year of petitioner’s
trial.
22
Although petitioner did take some time off from her
dental practice, we find no credible evidence in the record from
which to conclude that any of this time that she spent in the
horse activity was an increase to her regular 30 hours per week.
23
In other words, if petitioner had devoted 9 hours a day
to the horse activity on each of the 3 days every week that she
did not work as a dentist, she would have spent on those 3 days
(continued...)
- 39 hours a week is a considerable amount of time to spend on an
activity, especially for an individual such as petitioner who
works professionally 36 hours a week and who performs most of the
tasks of the horse activity which may be viewed as mundane and
not recreational; e.g., feeding, washing, and worming the horses.
Such time and apparently mundane tasks, however, are just as much
a part of a horse breeding and showing hobby as they are of a
horse breeding and showing business.
This factor favors respondent.
4.
Expectation That Assets Will Appreciate in Value
A taxpayer’s expectation that assets such as land and other
tangible property used in an activity may appreciate in value to
create an overall profit may indicate that the taxpayer has a
profit objective as to that activity.
Tax Regs.
Sec. 1.183-2(b)(4), Income
An overall profit is present if net earnings and
appreciation are enough to recoup losses sustained in prior
years.
Bessenyey v. Commissioner, 45 T.C. 261, 274 (1965), affd.
379 F.2d 252 (2d Cir. 1967).
Petitioner argues that this factor profoundly supports her
position.
According to petitioner, the appreciation in the value
of the horses, land, and other property used in the horse
23
(...continued)
27 of the 30 hours that she devoted to the horse activity. This
leaves only a total of 3 hours to be attributed to the other 4
days of the week.
- 40 activity exceeds the sum of the taxable losses incurred in the
activity.
We disagree.
With the possible exception of evidence
establishing that Bogaz was bred by petitioner and then sold by
her 10 years later for $20,000, petitioner has presented no
credible evidence that any of the assets used in the horse
activity (or for that matter any property that she owns) has
appreciated in value.24
Nor does the record contain any credible
evidence as to the specific fair market value of any of her
assets (but for Bogaz).
While petitioner asks the Court to find
that the fair market values of Borissa, Feyras Raehele, Kart
Blanche, and the Falling Water Way property are the amounts which
the parties stipulated that the fair market values of those
assets were “not more than”, we decline to do so.25
The fact
that the value of an asset is “not more than” a stipulated amount
does not mean that it is equal to that amount or, for that
matter, that it is even close to that amount.
Petitioner focuses especially on the Gavilan Hills property
and states that this property supports her claim of a profit
24
In fact, petitioner’s reporting that she received no
consideration on her sale of Silent Reign would indicate that
Silent Reign had lost all of its $3,500 value during the time
that she owned it.
25
We also decline petitioner’s invitation to consider the
values reported on her depreciation schedules as the fair market
values of those depreciable assets at any time and decline to
presume that the fair market value of VT Kartel, had it not died,
would have as of the time of her trial been greater than her
proffered $35,000 fair market value of Kart Blanche.
- 41 objective.
We disagree.
Petitioner purchased the Gavilan Hills
property aspiring to sell the Falling Water Way property, build
and move her residence on and to the Gavilan Hills property, and
design the Gavilan Hills property so that she could continue her
horse activity and possibly expand that activity to include the
boarding of horses.
She conceded through her testimony, however,
that she abandoned this aspiration incident to her purchase of
the Gavilan Hills property.
As to the fact that she sometimes
rode her horses on the Gavilan Hills property, we do not believe
that this action, which we view to be more pleasure than
business, serves to characterize that property as a business
asset.
Nor do we believe that the Gavilan Hills property is
properly construed as an asset of the horse activity merely
because petitioner envisioned that she could someday sell it and
invest the proceeds in the development of a new location for the
horse activity or the start of a new horse boarding activity.
This factor favors respondent.
5.
Taxpayer’s Success in Similar or Dissimilar Activities
Although an activity is unprofitable, the fact that a
taxpayer has previously converted comparable activities from
unprofitable to profitable enterprises may show a profit
objective.
Sec. 1.183-2(b)(5), Income Tax Regs.
Petitioner notes that she successfully established her
dental practice and argues that this factor weighs in her favor.
- 42 We disagree.
Although petitioner has been a successful
entrepreneur in the dental profession, the record does not reveal
that her work in that profession had any bearing on her ability
to conduct the horse activity profitably.
See Haladay v.
Commissioner, T.C. Memo. 1990-45 (“wholesale sporting goods
business is sufficiently dissimilar from farming that even if * *
* [the taxpayer’s] business had been a consistently profitable
one, a conclusion that the farming activity should have been
equally profitable would not be warranted.”); see also Dodge v.
Commissioner, T.C. Memo. 1998-89 (taxpayers, who had business
expertise, failed to show that such expertise was used in their
horse activity), affd. without published opinion 188 F.3d 507
(6th Cir. 1999).
Moreover, the record does not establish that
she conducted her horse activity in a businesslike manner similar
to that of her dental practice.
This factor favors respondent.
6.
Activity’s History of Income and/or Losses
The fact that a taxpayer incurs a series of losses beyond an
activity’s startup stage may indicate the absence of a profit
objective as to that activity unless the losses can be blamed on
unforeseen or fortuitous circumstances beyond the taxpayer’s
control.
Sec. 1.183-2(b)(6), Income Tax Regs.; cf. Golanty v.
Commissioner, 72 T.C. at 427 (horse breeding activity may be
engaged in for profit despite consistent losses during the
- 43 startup phase).
We previously have found that the startup phase
for an Arabian horse breeding business may be between 5 and 10
years.
See Engdahl v. Commissioner, 72 T.C. at 669; see also
Phillips v. Commissioner, T.C. Memo. 1997-128 (“a period of 5 to
10 years for the startup phase of an Arabian breeding operation
is not unreasonable”).
Petitioner argues that this factor weighs in her favor.
According to petitioner, she has suffered numerous setbacks in
her horse activity including a depressed market in the Arabian
horse industry from 1992 to 1996, lack of space, a drop in the
value of her home, which she planned to sell to raise capital to
develop the Gavilan Hills property, stillborn foals, and mares
not conceiving.
Taking into account these setbacks, petitioner
states, she was still in the startup phase of the horse activity
during the subject years.
Petitioner also states that her losses
from the horse activity have diminished over the years.
We disagree with petitioner that this factor weighs in her
favor.
First, as noted above, we find no credible evidence in
the record to support petitioner’s claim of a depressed market
from 1992 to 1996, a drop in the value of her home, or the
failure of bred mares to conceive.
Nor do we believe that the
financial results of the horse activity are attributable to
petitioner’s claim of lack of space or the stillborn foal.
The
horse activity has lost money in every year of its operation,
- 44 except for 2001 when it reported a small profit of $209 on
account of the sale of Bogaz.
As to its entire existence though
2002, the horse activity reported gross income totaling $42,291,
expenses totaling $459,950, and net losses totaling $417,659.26
The magnitude of the horse activity’s losses in comparison to its
gross income is an indication that petitioner lacked a profit
objective as to that activity.
See Burger v. Commissioner,
809 F.2d at 359; Dodge v. Commissioner, T.C. Memo. 1998-89.
Such an indication is especially glaring given that none of
petitioner’s explanations for her history of losses adequately
explains the magnitude and duration of those losses and that the
record does not include any credible evidence to suggest that
petitioner ever expected to recoup any of those losses.
The fact
that the horse activity suffered losses year after year and that
petitioner took no meaningful action to reverse the tide supports
a finding that she was indifferent as to whether the losing trend
could be reversed.
Ranciato v. Commissioner, 52 F.3d 23, 25-26
(2d Cir. 1995), vacating T.C. Memo. 1993-536.
This factor favors respondent.
7.
Amounts of Occasional Profits
The amount of profits earned in relation to the amount of
losses incurred, the amount of the investment, and the value of
26
Petitioner also admitted at trial that she was most
likely going to report a net loss for 2003.
- 45 the assets in use may indicate a profit objective.
1.183-2(b)(7), Income Tax Regs.
See sec.
Absent actual profits, the
opportunity to earn substantial profits in a highly speculative
venture may be sufficient to indicate that the activity is
engaged in for profit.
See id.; see also Dawson v. Commissioner,
T.C. Memo. 1996-417 (taxpayer’s belief that a champion horse
could generate a substantial amount of revenue and
correspondingly large profits may be probative of a profit
objective).
Petitioner speculates that an Arabian stallion could earn
substantial income through stud/breeding fees or syndication.
Thus, petitioner concludes, the possibility of earning a large
ultimate profit in the horse activity justifies her pursuit.
Petitioner notes that she recognized a profit in 2001 by selling
a “home-bred gelding” and states that the asset value of her
activity also has appreciated over the course of its operation.
Petitioner argues that this factor favors her.
We disagree.
First, petitioner acknowledges in her brief that the record lacks
evidence concerning the number of mares that a stallion can breed
each year and the syndicated values of purebred Arabian
stallions.
While she asks the Court to draw a “logical inference
that Arabian stallions could earn substantial income, and/or be
syndicated (have ownership divided) for profit potential of a
- 46 quite substantial nature”, we decline to draw such an inference
on the basis of the record at hand.
Second, the horse activity has incurred 15 years of large
losses and only had a profit, minimal at that, in a single year.
Petitioner has not persuaded us that the horse activity has a
chance either to make a profit in the future or to recoup the
losses which it has incurred to date.
She acknowledged during
her testimony that showing horses is not a viable way to earn
income, and her advertising expenses for the horse activity have
been minimal.
She also has shown Kart Blanche since 1990, but
has never offered it for sale, and sold Bogaz 9 years after first
showing it.
While she claims that the horse activity may someday
earn a speculative profit from stud/breeding fees or syndication
of an Arabian stallion, this claim is not supported by the record
before us.
Nor is this claim sufficient in this case to outweigh
the absence of any meaningful profit in any year of the horse
activity’s operation (or for that matter any profit at all except
for the year of the sale of Bogaz).
Although petitioner
testified that the nonoccurrence of certain events would have
resulted in her reporting a profit for some of the years of the
horse activity’s operation, we are unpersuaded that such would
have been the case.
This factor favors respondent.
- 47 8.
Taxpayer’s Financial Status
The fact that a taxpayer does not have substantial income or
capital from sources other than an activity may indicate that the
activity is engaged in for profit.
Income Tax Regs.
See sec. 1.183-2(b)(8),
The fact that a taxpayer does have substantial
income from sources other than an activity, on the other hand,
may indicate that the activity is not engaged in for profit.
The
latter is especially true where losses from the activity generate
substantial tax benefits or where there are personal or
recreational elements involved.
Sec. 1.183-2(b)(9), Income Tax
Regs.
Petitioner asserts that she is an upper middle class
individual who has invested a substantial portion of her income
in the horse activity for the purpose of securing a source of
retirement income and that the amount of this investment is
inconsistent with the pursuit of a hobby.
that this factor weighs in her favor.
Petitioner concludes
We disagree.
Petitioner
had a steady and substantial stream of cash/income from
activities other than the horse activity; e.g., her work as a
dentist and her leasing of property to Giles Inc.
Her financial
status allowed her to participate in the horse activity, an
otherwise expensive recreational activity that allowed her to
enjoy her lifelong pleasure of interacting with horses, while at
the same time receiving a subsidy for this activity from the
- 48 fisc; i.e., petitioner used her reported losses from the horse
activity to reduce significantly her taxable income in every year
but one, which in turn reduced her income tax liability for those
years.
Contrary to petitioner’s assertion, we do not believe
that she engaged in the horse activity to obtain a source of
retirement income.
In addition to the fact that she has an IRA,
she owns valuable assets in the form of the Gavilan Hills
property, her established dental practice, and the land and
building on and in which her dental practice is located.
This factor favors respondent.
9.
Elements of Personal Pleasure
The presence of personal pleasure or recreation from an
activity may indicate the absence of a profit objective.
See id.
The mere fact that a taxpayer derives personal pleasure from an
activity, however, does not necessarily mean that he or she lacks
a profit objective with respect thereto.
A profit objective may
be present in the latter case if the activity is truly engaged in
for profit as evidenced by other factors.
Jackson v.
Commissioner, 59 T.C. 312, 317 (1972).
Petitioner asserts that the horse activity is neither
recreational nor pleasurable to her because (1) she devotes 30
hours per week to the mundane jobs of feeding, maintaining,
grooming, and training her horses and (2) she never rides her
horses recreationally.
Petitioner concludes that this factor
- 49 overwhelmingly weighs in her favor.
We disagree.27
First, as
noted above, we find from a factual point of view that petitioner
rides her horses recreationally and that the 30 hours per week
that she spends with her horses includes this recreational time.
Thus, even if we were to agree with petitioner that her
referenced jobs were all “mundane”, we would not agree that all
of her time was spent performing these jobs.
See also Dodge v.
Commissioner, T.C. Memo. 1998-89 (substantial time that the
taxpayers spent in their horse breeding activity did not indicate
a profit objective because the taxpayers, who were skilled
riders, derived recreational benefit from the time they spent
with their horses); Ballich v. Commissioner, T.C. Memo. 1978-497
(substantial time that the taxpayers spent on breeding and
showing their dogs indicated that the activity was a “labor of
love” rather than an undertaking to derive profit).
Second, contrary to petitioner’s claim, the record shows
that during the subject years she did not perform all of the work
in the horse activity.
Petitioner deducted for those respective
years expenses of (1) $1,330 and $714 for outside services,
(2) $1,518 and $1,645 for training, (3) $1,382 and $1,453 for
27
We note at the start that we disagree with petitioner’s
statements in brief that a finding of personal pleasure requires
that we find evidence of parties at the Falling Water Way
property or social activities involving her horses.
- 50 veterinary services, and 4) $2,135 and $2,450 for farrier
(blacksmith) services.
We also believe that it is evident that petitioner gains
personal pleasure from the horse activity.
She testified that
she was compelled to buy her first horse because she had been
away from horses for awhile.
She also admittedly rode her horses
during the relevant years in the wilds of the undeveloped (and
most likely scenic) 11.53 acres of the Gavilan Hills property.
To our minds, such riding on that property was more conducive to
pleasure than to pure training, the latter of which most likely
could have been done in the arena that petitioner had purchased
(or built) approximately 1 year before purchasing the Gavilan
Hills property.
We also note that petitioner throughout her
testimony repeatedly referred to her horses as her “babies” and
opted not to dispose of her “babies” even when they were aged,
unable to breed, expensive to maintain, and/or unprofitable.28
This factor favors respondent.
10.
Additional Factor
Petitioner did not on any of her 1988 through 2002 Schedules
C deduct interest or taxes paid as to the Falling Water Way
property and the Gavilan Hills property.
28
We consider this fact
For example, she has kept Feyras Raehele at the Falling
Water Way property but has not bred it since 1988, and she has
kept Silent Reign at that property even though she sold it to her
daughter in 1997.
- 51 to indicate that petitioner did not intend that either of those
properties be considered part of the horse activity.
11.
Conclusion
We conclude that petitioner did not engage in the horse
activity during the subject years with a predominant, primary, or
principal profit objective.
We reach this conclusion having
considered the aforementioned 10 factors, all contentions
presented by the parties, and the unique facts and circumstances
of this case.
All arguments made by petitioner but not discussed
herein are without merit.
Decision will be entered
for respondent.
- 52 APPENDIX
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
Total
95
3,508
224
0
3,000
3,200
4,080
2,500
3,024
260
500
900
1,000
20,000
0
42,291
Advertising
742
Car & truck
1,715
Parking
0
Trailering
0
Trailer space
0
Dues/subscriptions
50
Freight
50
Costumes
0
Nonhealth insurance
170
Mort. interest
0
Nonmort. interest
2,113
Repairs & maint.
0
Blkt., laun. & rep.
0
Vehicles/M&E rent
0
Other prop. rent
0
Taxes & licenses
0
Legal/prof. serv.
0
Supplies
896
Travel
332
Ded. meals/enter.
0
Board & care
200
Boarding/training
0
Training
5,054
Care provider
0
Breeding fees
5,000
Feed
1,240
Feed & bedding
0
Shavings
0
Registration fees
0
Entry fees
0
Cleaning & maint.
0
Tailoring & Mater.
0
Mare lease fee
0
Shoeing
0
Farrier
0
Fly control
0
Futurity/sweepstakes
0
Horse lodging
0
Shipping
0
Awards program
0
Show fees
1,623
Photography
0
Tack supplies
0
Vet. services
222
Vet. supplies
0
Licenses
154
Promotion
0
Outside services
0
Misc.
1,026
0
0
0
0
0
150
0
0
336
655
3,838
0
0
0
0
0
150
0
0
0
0
2,862
0
0
0
3,144
0
0
78
0
60
0
1,000
605
0
0
0
0
0
0
723
0
1,803
1,304
0
0
34
0
1,515
0
154
0
0
0
135
125
770
0
832
2,983
0
0
0
0
0
0
0
1,937
0
0
6,099
0
0
0
4,063
0
0
176
0
462
0
0
615
0
0
0
0
0
0
2,185
0
2,482
3,410
0
0
135
0
29
0
102
0
0
0
245
0
47
0
0
1,844
0
0
0
0
0
0
0
140
0
0
3,170
0
0
0
4,541
0
0
1,959
0
490
0
0
510
0
0
0
0
0
0
822
0
2,542
1,803
0
0
0
0
60
0
0
0
0
0
65
0
63
45
0
1,013
0
0
0
0
0
0
0
303
0
0
10,236
0
0
0
2,341
0
0
2,478
0
460
0
0
1,314
0
0
0
0
0
0
653
0
1,623
2,434
0
0
0
0
524
0
271
0
0
0
190
0
2,233
40
0
62
0
0
0
0
0
0
0
2,898
271
0
16,996
0
0
0
3,308
0
0
5,147
0
1,473
0
0
1,650
0
0
0
0
0
0
349
0
3,790
899
0
0
0
0
0
0
0
75
0
0
876
0
1,033
0
0
0
2,666
0
0
0
376
895
0
538
75
0
11,581
0
505
0
0
3,454
0
0
160
0
0
0
965
0
0
0
0
0
0
2,909
360
1,920
5,322
0
0
0
125
285
0
35
0
0
0
60
0
553
0
0
0
1,379
0
520
0
0
0
4,357
444
96
0
8,195
0
0
0
0
3,348
0
0
5,669
0
0
0
1,909
0
0
0
0
0
0
5,719
169
1,038
2,377
0
0
0
2,103
343
1,837
0
0
1,386
0
155
0
1,018
0
0
0
75
0
335
0
0
350
1,649
2,396
0
0
7,380
0
0
0
0
2,524
0
0
6,269
0
0
0
2,715
0
0
0
0
0
0
5,377
0
3,379
1,272
0
0
0
1,160
0
25
0
0
0
0
303
0
384
0
0
0
992
40
870
1,025
0
0
4,011
0
0
0
0
1,518
0
3,250
0
3,606
0
0
1,221
0
0
0
0
2,135
288
1,576
295
0
0
115
0
0
1,382
0
0
0
1,330
0
0
0
0
497
390
502
0
0
0
0
0
0
66
0
624
0
0
6,287
0
0
0
0
1,645
0
0
1,764
0
0
0
0
0
0
0
0
2,450
0
0
0
0
0
5,144
0
0
1,453
0
0
0
714
0
0
0
0
0
105
230
0
0
0
0
0
353
0
0
0
0
0
6,014
0
0
0
0
3,388
0
0
3,319
0
0
0
0
0
528
0
0
2,317
0
0
0
250
0
2,364
0
0
2,614
0
0
0
2,195
0
0
0
0
0
204
207
0
0
0
0
0
685
0
0
0
0
0
3,264
0
0
0
0
4,135
0
0
2,129
0
0
0
0
0
91
0
0
2,576
0
0
0
0
0
3,127
0
0
1,731
0
0
0
0
0
0
0
0
0
225
185
0
0
0
0
0
0
0
0
0
0
0
3,157
0
0
0
0
4,315
0
0
3,302
0
808
150
2,182
0
0
0
0
2,446
160
115
0
0
0
346
0
0
947
0
0
0
170
0
0
0
0
0
0
609
0
0
27
0
0
435
0
0
418
623
0
3,853
469
0
0
0
2,275
0
0
3,482
0
993
0
1,646
0
0
0
0
2,655
0
0
0
0
95
2,174
0
0
3,101
2,518
0
0
370
0
2,604
2,277
75
1,883
924
3,962
175
6,101
618
1,487
11,853
6,585
106
1,725
2,067
999
1,395
33,488
9,457
442
200
66,519
22,330
505
8,250
32,633
12,932
1,801
9,988
17,147
2,945
619
1,000
10,283
14,579
448
1,691
295
250
95
33,630
529
18,577
30,271
2,518
154
169
8,167
3,782
18,257
13,987
32,244
26,592
11,605
38,197
18,275
9,861
28,136
23,552
8,993
32,545
39,577
7,045
46,622
34,120
4,032
38,152
38,314
2,389
40,703
39,277
1,060
40,337
24,366
109
24,475
21,536
32
21,568
23,677
0
23,677
18,149
500
18,649
18,508
1,283
19,791
25,743
1,329
27,072
390,530
69,420
459,950
(37,313) (24,215) (21,068) (22,777) (17,649)
209
Gross income
Operating exp.
Deprec.
Total exp.
20,587
7,195
27,782
Net inc. (loss) (27,687) (28,736) (37,973) (28,136) (29,545) (43,422) (34,072) (38,203)
(27,072) (417,659)
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