# UNITED STATES TAX COURT > Briefs, arguments, decisions, and more. URL: https://www.frixlaw.com/law-library/documents/agency%3Atax-court%3A7f86e0faa42f04fc ## Record - **Collection:** Agency decision - **Document type:** Agency decision ## Text T.C. Memo. 2003-224 UNITED STATES TAX COURT WALTER L. MEDLIN, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent Docket No. 2615-98. Filed July 29, 2003. David D. Fussell and Mark L. Horwitz, for petitioner. James F. Kearney, Benjamin A. de Luna, and Robert W. Dillard, for respondent. MEMORANDUM FINDINGS OF FACT AND OPINION CONTENTS GENERAL FINDINGS OF FACT . . . . . . . . . . . . . . . . . 6 General Legal Principles . . . . . . . . . . . . . . . . . 20 . . . . . . . . . . . . . . . . . . . 21 Rents Received From Island Livings, Inc. in 1988 . 22 I. Items of Income A. - 2 - B. FINDINGS OF FACT . . . . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . . . . 22 22 Schedule C Gains From Property Sales 23 1. 2. 3. 4. 5. 6. 7. 8. 9. . . . . . . Florida Fruit Belt Subdivision (OS-06) . . . 23 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . . 23 24 Susan’s Lakefront Estate (OS-03) . . . . . . 28 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . . 28 29 High Plains Property (OS-35) . . . . . . . . 30 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . . 30 31 Silver Lake (OS-1.4) . . . . . . . . . . . . 36 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . . 36 37 East Lake Vista (OS-47) . . . . . . . . . . 38 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . . 38 42 Grissom Parcels (OS-1.3) . . . . . . . . . . 52 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . . 52 53 Arrowhead Lakes Subdivision (OR-2), Angel-Royse Property (OS-39) . . . . . . . 58 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . . 58 60 Prather Ranch Property (OR-01) . . . . . . . 65 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . . 65 68 Citrus County Property 75 . . . . . . . . . . . - 3 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . . C. D. E. Miscellaneous Items of Schedule C Income 75 77 . . . . 81 FINDINGS OF FACT . . . . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . . . . 81 82 Schedule E Income . . . . . . . . . . . . . . . . 82 FINDINGS OF FACT . . . . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . . . . 82 83 Unidentified Deposits 83 1. 2. 3. 4. 5. . . . . . . . . . . . . . . Deposit on March 12, 1985, of $59,000 . . . 84 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . 84 85 Deposit on September 16, 1986, of $84,521.63 88 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . 88 89 Deposit on April 9, 1987, of $67,740 . . . . 93 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . 93 95 Deposit on July 8, 1988, of $140,000 . . . . 96 FINDINGS OF FACT . . . . . . . . . . . . . OPINION . . . . . . . . . . . . . . . . . 96 98 Other Deposits . . . . . . . . . . . . . . . 103 FINDINGS OF FACT . . . . . . . . . . . . . 103 OPINION . . . . . . . . . . . . . . . . . 103 F. Deductions Claimed by Petitioner 1. . . . . . . . . 103 Schedule C Real Estate Business Deductions . 103 FINDINGS OF FACT . . . . . . . . . . . . . 103 OPINION . . . . . . . . . . . . . . . . . 104 2. Personal Residence Interest . . . . . . . . 105 - 4 FINDINGS OF FACT . . . . . . . . . . . . . 105 OPINION . . . . . . . . . . . . . . . . . . 105 3. Orange Grove, Cattle, and Ferrari Activities . . . . . . . . . . . . . . . . 106 FINDINGS OF FACT . . . . . . . . . . . . . 106 OPINION . . . . . . . . . . . . . . . . . . 108 G. Self-employment Tax . . . . . . . . . . . . . . . 116 FINDINGS OF FACT . . . . . . . . . . . . . 116 OPINION . . . . . . . . . . . . . . . . . . 116 II. Additions to Tax for Fraud A. B. C. III. . . . . . . . . . . . . . 118 Underpayment of Tax Required To Be Shown on a Return . . . . . . . . . . . . . . . . . . 121 1. Underpayment for 1985 . . . . . . . . . . . . 122 2. Underpayment for 1986 . . . . . . . . . . . . 128 3. Underpayment for 1987 . . . . . . . . . . . . 131 4. Underpayment for 1988 . . . . . . . . . . . . 132 5. Conclusion Fraudulent Intent . . . . . . . . . . . . . . . . . 135 . . . . . . . . . . . . . . . . 135 1. Clear and Convincing Evidence of Fraud 2. Portion of Underpayment Not Attributable to Fraud . . . . . . . . . . . . . . . . 145 Section 6653(b)(2) Addition to Tax for 1985 Statute of Limitations for Assessment . . . 135 . . . 153 . . . . . . . 155 Appendix A . . . . . . . . . . . . . . . . . . . . . . . . 157 Appendix B . . . . . . . . . . . . . . . . . . . . . . . . 162 Appendix C . . . . . . . . . . . . . . . . . . . . . . . . 164 Appendix D . . . . . . . . . . . . . . . . . . . . . . . . 171 - 5 RUWE, Judge: Respondent determined deficiencies in petitioner’s Federal income taxes and additions to tax as follows: Additions to Tax Sec. Sec. 6653(b)(2) 6653(b)(1)(A) Year Deficiency Sec. 6653(b)(1) 1985 $86,533 $43,736 1986 165,732 --- 1987 309,456 --- --- 232,092 1988 64,910 51,021 --- --- 50% of the Interest Due on $87,471 --- Sec. 6653(b)(1)(B) --- --- $124,340 50% of the Interest Due on $165,787 50% of the Interest Due on $309,456 --- After concessions,1 the issues for decision are: (1) Whether petitioner had unreported income from various real estate transactions, from commissions, interest, rents, and unidentified deposits for the years in issue; (2) whether petitioner is liable for additions to tax for fraud under section 6653(b);2 and (3) whether assessment of the alleged deficiencies is barred by the statute of limitations. For convenience and clarity, general findings of fact are discussed first followed by a statement of general legal principles applicable to this opinion; separate 1 The concessions of petitioner and respondent, as well as the amounts which remain in dispute, are detailed in app. C. Petitioner on brief adopts respondent’s statement of the issues settled by the parties and the accompanying schedules thereto. 2 Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure. - 6 findings of fact and opinion are then set forth for each item of unreported income. Finally, we discuss whether the additions to tax for fraud apply and whether assessment is barred by the statute of limitations. GENERAL FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and the attached exhibits are incorporated herein by this reference. At the time of filing the petition, petitioner resided in Kissimmee, Florida. Since the 1960s through the present, petitioner has been engaged in the business of buying and selling real estate, as well as real estate development. Petitioner used Donna Allen (Ms. Allen), Michael Johnson,3 and R. Stephen Miles, Jr. (Mr. Miles), as trustees for the buying and selling of real estate. Ms. Allen’s and Mr. Johnson’s only duties as trustees were to hold title to the various properties in trust. Petitioner met Ms. Allen in 1971, and since 1974, she has worked for petitioner as a bookkeeper, secretary, and housekeeper. 1982. Petitioner and Ms. Allen had a child together in The child lived with Ms. Allen from 1982 through 1990. Petitioner agreed to pay child support of $50,000 per year to Ms. Allen. 3 Since 1975, petitioner has given real property and two Michael Johnson was petitioner’s cousin. - 7 Ferrari automobiles to Ms. Allen. Petitioner owed Ms. Allen money for a number of different things, including child support. Mr. Miles is an attorney in the State of Florida, and he has known petitioner since 1959. He has been petitioner’s real estate attorney since 1975, and he started acting as a trustee for petitioner at that time. As trustee, Mr. Miles did whatever petitioner instructed him to do. Mr. Miles held the proceeds from petitioner’s sales of real estate in his law firm’s trust account. Alana Goodman was a bookkeeper for Mr. Miles’s law firm, and she maintained ledger cards which reflected the identity of properties held in trust, the date that funds were deposited or disbursed, and the amounts that were deposited and disbursed from the law firm’s trust account. On several occasions, petitioner instructed Mr. Miles or Ms. Goodman to disburse his funds from the law firm’s trust account for various payments: (1) On December 23, 1985, a house payment of $51,266.25 was paid to Walter E. and Maxine Melitshka from the trust account with respect to petitioner’s personal residence; (2) on May 15, 1987, a house payment of $71,266.25 was paid to Mr. and Mrs. Melitshka with respect to petitioner’s personal residence; (3) on May 21, 1987, petitioner’s accountant, John F. Kelly, was paid $12,187.50; (4) on June 15, 1987, $32,500 was - 8 paid for the purchase of a 1960 Ferrari;4 (5) on July 2, 1987, Ms. Allen was paid $31,800; (6) on July 9, 1987, income taxes of $8,472 were paid to the Internal Revenue Service (IRS); (7) on July 28, 1987, $12,000 was paid to Mid America Exotic Auto Sales; (8) on July 30, 1987, income taxes of $1,482 were paid to the IRS; (9) on September 17, 1987, child support of $10,000 was paid to Ms. Allen; (10) on October 9, 1987, a house payment of $30,000 was paid to Mr. and Mrs. Melitshka with respect to petitioner’s personal residence; (11) on November 2, 1988, political contributions of $2,800 were paid. None of those payments from the law firm’s trust account were reported as income by petitioner. Mr. Kelly prepared petitioner’s Forms 1040, U.S. Individual Income Tax Returns, for 1983 through 1988.5 Petitioner provided Mr. Kelly with spreadsheets which reflected deposits into, and expenditures from, petitioner’s bank accounts for the years 1983 through 1988.6 Those spreadsheets provided the basis for preparing petitioner’s tax returns for those years: The income 4 The bill of sale and the application for a temporary tag for the Ferrari were in the name of Mr. Miles’s law firm; however, petitioner was its actual owner. 5 Mr. Kelly is a certified public accountant who has known petitioner since 1975. Mr. Kelly and petitioner were members of the Ferrari Club of America. 6 The spreadsheets were prepared by Ms. Allen at petitioner’s request. Petitioner provided Ms. Allen guidance in preparing the spreadsheets. - 9 reported on the returns reflected deposits into petitioner’s bank accounts, less any deposits that were classified as loan proceeds. Any amounts not deposited into petitioner’s bank accounts were not reported as income. Petitioner did not provide Mr. Kelly with checks, real estate contracts, real estate closing statements or any other books or records to prepare his income tax returns. Petitioner did not inform Mr. Kelly that the proceeds from his real estate sales were deposited in Mr. Miles’s law firm’s trust account, and those proceeds were not reflected on the spreadsheets. additional income. Petitioner did not inform Mr. Kelly of any Throughout the 1980s and 1990s, petitioner asked Mr. Kelly questions about the requirements for like-kind exchanges. Petitioner requested extensions for the filing of his income tax returns for 1985, 1986, 1987, and 1988. Petitioner’s Form 2688, Application for Extension of Time to File U.S. Individual Income Tax Return, for the 1985 tax year states as his need for an extension: “Client derived substantially all his income from a bulk land transaction, which was extremely complex. time is needed to analyze the transaction.” Additional Petitioner did not provide any information to Mr. Kelly regarding any bulk land sale transaction. Petitioner requested an extension for tax years 1986, 1987, and 1988, because “Taxpayer has not received all needed K-1's for 1065 & 1120 tax returns that represent a - 10 substantial portion of his income. Without these items a complete and accurate return cannot be prepared.” Petitioner provided no Schedules K-1 to Mr. Kelly.7 On petitioner’s Form 1040, Schedule C, Profit or (Loss) From Business or Profession, for 1985, petitioner listed his principal business or profession as “Real Estate Development”. Petitioner reported no income from gross receipts or sales, but he did report $160,363 as “Other income Commissions, Fees & Interest” and claimed deductions of $152,481. See appendix A. Petitioner reported a net profit from his real estate development business of $7,882 on his Form 1040. This was the only amount petitioner reported as income for 1985. Petitioner reported taxable income of $5,802 and a tax of $426. On petitioner’s Form 1040, Schedule C, for 1986, petitioner listed his principal business or profession as “Real Estate Development”. He likewise reported no income from gross receipts or sales, reported $119,772 as “Other income Commissions, Fees & Interest”, and claimed deductions of $115,634. See appendix A. Petitioner reported a net profit from his real estate development business of $4,138 on his Form 1040. 7 This was the only amount Mr. Kelly discussed Schs. K-1 with Mr. Miles and Mr. Miles’s accountant. However, the accountant informed him that Schs. K-1 would not be provided and that any information that would have been on those schedules should be put on petitioner’s personal income tax returns. - 11 petitioner reported as income for 1986. Petitioner reported taxable income of $2,058 and a tax of $0. On petitioner’s Form 1040, Schedule C, for 1987, petitioner listed his principal business or profession as “Real Estate Development”. He reported no income from gross receipts or sales, reported $138,653 as “Other income * * * Fees, int, & Sales”, and claimed deductions of $94,434. See appendix A. Petitioner reported a net profit from his real estate development business of $44,219 on his Form 1040. petitioner reported as income for 1987. This was the only amount Petitioner reported taxable income of $37,879 and a tax of $7,515. On petitioner’s Form 1040, Schedule C, for 1988, petitioner listed his principal business or profession as “Developer/Real Estate”. Petitioner reported $61,921 as income from gross receipts or sales, reported no “Other income”, and claimed deductions of $43,713. See appendix A. Petitioner reported a net profit from his real estate development business of $18,208 on his Form 1040. This was the only amount petitioner reported as income for 1988.8 Petitioner reported taxable income of $5,206 and a tax of $784. In 1985, petitioner purchased a ring, earrings, and two necklaces for Ms. Allen as a gift. 8 Those items cost $14,540, Petitioner claimed an S corporation loss from Frank’s Corner, Inc., of $4,702 in 1988. - 12 which petitioner deducted as commissions paid on Schedule C of his 1985 tax return. Petitioner deducted the costs of his subscriptions to Playboy and Penthouse magazines on his 1986 tax return as Schedule C business expenses. The trusts that petitioner used did not file tax returns for any of the tax years at issue. During 1985-88, petitioner never informed Mr. Miles that petitioner believed that he had no obligations to report his earnings from the trust transactions, because they supposedly involved tax free exchanges. Petitioner used the fictitious names “John Waltin”9 and “William R. Wright” in some of his real estate transactions during the tax years at issue. Petitioner signed various real estate documents as “William R. Wright”. Petitioner signed that name as a notary public on real estate documents and on articles of incorporation filed with the State of Florida. Petitioner used and signed the name “D.W. Davis” to purchase and sell real estate. He opened a bank account in that name without the knowledge of Mr. Davis. At one time, petitioner was a notary public in the State of Florida; however, his license expired. Petitioner continued to notarize documents after his license expired. 9 At trial, petitioner claimed that the name John Waltin was not a fictitious name because “there’s probably a John Waltin somewhere.” - 13 Mr. Miles held properties in land trusts, which we refer to as the Mefford Property (OS-22) and Susan’s Lakefront Estate (OS03). Mr. Miles, as trustee, applied for and received an employer identification number for those land trusts. Respondent requested tax returns from Mr. Miles for the land trust holding the Mefford Property for 1985, 1986, and 1987. Respondent also requested tax returns from Mr. Miles for the land trust holding Susan’s Lakefront Estate for 1984, 1985, and 1986. discussed with petitioner this latter request. Mr. Miles Mr. Miles informed respondent that the trusts were not required to file returns because each of the beneficiaries had filed a return and reported his or her share of the income.10 In 1985-88, petitioner was a shareholder and officer in Frank’s Corner, Inc., which operated a bar and lounge (Island Living, Inc.), a furniture import business, and Waltin Investments, Inc. Petitioner was also a shareholder in Medlin Investment Co., Michigan Avenue Car Wash, Majestic Oaks, and Cheyenne Social Club. During the tax years at issue, petitioner owned approximately 25 Ferrari automobiles. Petitioner did not sell any of those Ferraris during 1985-88. On December 17, 1985, petitioner sold a piece of property to Fred Brunson for $5,000. 10 The quitclaim deed that petitioner or Mr. Miles testified that he supposed that he got this information from petitioner. - 14 his agent filed with the Osceola County Recorders Office paid documentary stamp taxes of only $.50, reflecting a reported sales price of less than $100. Petitioner maintained the following bank accounts during the tax years at issue: Account Number Bank Name Freedom Savings and Loan (formerly Com Bank) Tucker State Bank Tucker State Bank 32-480-9 1089234 18066 Account Name Walter L. Medlin Trust Account 1 Walter L. Medlin Walter L. Medlin Trust Account 1 The accounts titled “Trust Account 1” were actually petitioner’s personal bank accounts. Petitioner was also the beneficiary of a Cayman Islands trust account at Washington International Bank and Trust, Ltd., which he had funded. On a financial statement dated November 15, 1985, petitioner represented that he had a net worth of $10,822,260, and he valued his automobile collection at $2,717,000. On a financial statement dated June 1, 1988, petitioner represented that he had a net worth of $7,121,800. On a financial statement dated September 20, 1989, petitioner represented that he had a net worth of $8,837,000.11 Thomas Brooks, a certified public accountant, prepared petitioner’s tax returns for the 1977-1982 tax years. Petitioner provided spreadsheets of his income and expenses to Mr. Brooks 11 The financial statements dated June 1, 1988, and Sept. 20, 1989, do not include a listing for petitioner’s automobile collection. - 15 for the preparation of his tax returns. Mr. Kelly prepared those spreadsheets using as their basis the deposits and disbursements into, and from, petitioner’s bank accounts. Petitioner did not inform Mr. Brooks that the proceeds from his real estate transactions were deposited into Mr. Miles’s law firm’s trust account, that those proceeds were not accounted for on the spreadsheets, that petitioner used trustees in his transactions, or that petitioner had a Cayman Islands trust account. Petitioner did not give to Mr. Brooks any books, records, or closing statements from his real estate transactions. Petitioner did not file timely his Federal income tax returns for 1977, 1978, 1979, 1980, and 1981. Petitioner did not file his Forms 1040 for those years until June 15, 1983. Respondent audited petitioner for the 1977-1982 tax years, and respondent issued a notice of deficiency for those years on June 13, 1986.12 On September 12, 1986, petitioner filed a petition with the Tax Court (docket No. 36958-86). In January 1988, petitioner and his representative met with respondent’s revenue agent for purposes of resolving that case. took an active role in those meetings. Petitioner Most of the real estate transactions which were at issue for the 1977-1982 tax years 12 Petitioner’s representative would not allow petitioner to meet with respondent’s revenue agent assigned to examine his returns or to extend the period of limitations, unless respondent gave petitioner immunity from criminal prosecution. - 16 involved the use of trustees, and petitioner agreed that those particular transactions were taxable. Petitioner did not inform the revenue agent that proceeds from his real estate transactions were deposited into Mr. Miles’s law firm’s trust account, nor did he inform him of his belief that those proceeds were not subject to taxation if not disbursed. On April 27, 1988, this Court entered a decision pursuant to a stipulation of the parties and found the following deficiencies and additions to tax: Additions to Tax Sec. Sec. 6653(a) 6653(a)(1) Tax Year Deficiency Sec. 6651(a)(1) 1977 1978 1979 1981 $1,082 22,213 63,533 7,110 $2,240 10,661 15,883 1,778 $54 1,161 3,177 n/a n/a n/a n/a $356 1982 37,921 3,792 n/a 1,896 Sec. 6653(a)(2) Sec. 6661 n/a n/a n/a 50% interest on $7,110 50% interest on $37,921 n/a n/a n/a n/a $9,480 Petitioner did not file timely his Forms 1040 for 1983 and 1984. Those tax returns were filed on January 30, 1986, and March 7, 1986, respectively. returns. Respondent examined those tax Petitioner told the revenue agent assigned to that examination that he was not involved in any corporations, partnerships, or trusts. Petitioner’s income for 1983 and 1984 was determined on the basis of deposits and disbursements from his bank accounts. The revenue agent explained to petitioner that simply analyzing deposits into his bank account was not the proper way to report income and did not reflect the true financial picture of his real estate transactions. Petitioner - 17 did not disclose all his installment sale activities to the revenue agent during this examination. Petitioner also informed the revenue agent that his Cayman Islands trust account had been closed in 1983. However, petitioner received five checks totaling $135,000 from the Cayman Islands trust in 1985. On October 21, 1988, petitioner agreed to income tax deficiencies of $10,550 and penalties of $3,584 for those tax years. Respondent received Forms 1040 for petitioner’s 1985 and 1986 tax years on November 29, 1988. Those forms were not timely filed.13 Petitioner’s Form 1040 for 1987 was received on October 17, 1988. Petitioner was given an extension until October 16, 1989, to file his 1988 Federal income tax return. Petitioner did not file his Form 1040 for 1988 until April 26, 1990. For each of his Forms 1040 for 1985, 1986, 1987, and 1988, petitioner listed his address as “P.O. Box 383, Lake Lure, NC 28746”. However, petitioner actually resided in Kissimmee, Florida, at the time he filed his returns. Respondent examined petitioner’s 1985, 1986, 1987, and 1988, tax returns. As part of that examination, respondent’s revenue agent spent several weeks researching courthouse records in seven counties in order to identify petitioner’s real estate 13 Petitioner claims to have previously filed timely returns for 1985 and 1986; however, respondent could not find those purported returns. Petitioner did not produce copies of any such returns, and he did not present any evidence or testimony on the subject of those purported returns. - 18 transactions for 1985-88. Petitioner never informed the revenue agent of his belief that funds from his real estate transactions, which were held in trust, were not subject to taxation. Respondent reconstructed petitioner’s income and expenses for 1985, 1986, 1987, and 1988. On September 5, 1990, respondent served a third-party recordkeeper summons on Mr. Miles, which requested information pertaining to petitioner’s income tax liabilities for the 1985-88 tax years. At the request of petitioner’s representative, Mr. Miles did not provide the requested documents to the IRS. On March 7, 1991, the Government filed a petition in the U.S. District Court for the Middle District of Florida, Orlando Division, to enforce the summons issued to Mr. Miles. On March 26, 1991, petitioner filed a motion to intervene in the enforcement proceeding. On September 17, 1992, the Government filed a notice to dismiss, and, on September 18, 1992, the court canceled a show cause hearing and dismissed the summons enforcement proceeding. On April 18, 1991, respondent served a summons on petitioner. Petitioner failed to comply with the summons, and the Government filed a petition to enforce the summons in the U.S. District Court for the Middle District of Florida, Orlando Division. On June 12, 1997, an information was filed in the U.S. District Court for the Middle District of Florida alleging that - 19 petitioner violated section 7206(4) in regard to his unpaid income tax liabilities for 1977-82. On November 13, 1997, pursuant to petitioner’s plea of guilty, the District Court entered a judgment convicting petitioner of a violation of section 7206(4) and sentenced petitioner to imprisonment. The offense to which petitioner pleaded guilty occurred on August 9, 1990. In the plea agreement, petitioner admitted: WALTER L. MEDLIN, in an attempt to avoid the collection of a previously assessed income tax liability for which levy was authorized under 26 U.S.C. § 6331, placed three of his automobiles in a storage facility, located on Michigan Avenue in Kissimmee, Florida, in the Middle District of Florida, which facility leased to an entity called Central Florida Transportation Museum, Inc. Specifically, the defendant MEDLIN, after consenting to a United States Tax Court judgment against him in the approximate amount of $400,000.00 for liabilities stemming from tax years 1977-1982, misrepresented the nature and extent of his assets to an IRS Revenue Officer. Further, after issuance of the levy, defendant MEDLIN stored the automobiles in the above-referenced storage facility and, when asked about the case by and [sic] IRS Revenue Officer, stated that he no longer owned the vehicles. MEDLIN knew this statement to be false. On November 14, 1997, respondent issued a notice of deficiency to petitioner for 1985, 1986, 1987, and 1988. On February 11, 1998, petitioner filed his petition. Petitioner testified on his own behalf at trial. We find that, generally, his testimony was self-serving, was not credible, was at times inconsistent, and was at other times confusing. Petitioner did not satisfactorily answer many of the - 20 questions that he was asked, and the questions that he did answer he did not answer with any degree of specificity. With respect to the real estate transactions, he was evasive and did not recall specific transactions. Petitioner could not testify whether his financial statements were accurate. General Legal Principles Respondent’s determinations of unreported income for the tax years at issue are presumed correct, and petitioner bears the burden of proving those determinations incorrect, arbitrary, or erroneous. Rule 142(a); Welch v. Helvering, 290 U.S. 111 (1933); Parks v. Commissioner, 94 T.C. 654, 658-659 (1990). On the other hand, respondent has the burden of proving by clear and convincing evidence that some portion of an underpayment of taxes by petitioner is due to fraud. Sec. 7454(a); Rule 142(b). Section 6001 requires taxpayers to keep adequate records. The regulations promulgated under that section provide: Records. (a) In general. * * * any person subject to tax under subtitle A of the Code * * * or any person required to file a return of information with respect to income, shall keep such permanent books of account or records, including inventories, as are sufficient to establish the amount of gross income, deductions, credits, or other matters required to be shown by such person in any return of such tax or information. [Sec. 1.6001-1(a), Income Tax Regs.] In Wichita Terminal Elevator Co. v. Commissioner, 6 T.C. 1158, 1165 (1946), affd. 162 F.2d 513 (10th Cir. 1947), we stated: The rule is well established that the failure of a party to introduce evidence within his possession and - 21 which, if true, would be favorable to him, gives rise to the presumption that if produced it would be unfavorable. This is especially true where * * * the party failing to produce the evidence has the burden of proof or the other party to the proceeding has established a prima facie case. * * * Also, the failure to present the testimony of available witnesses, who purportedly possess knowledge about certain relevant facts, provides sufficient basis to infer that the testimony of those witnesses would not have been favorable. Petzoldt v. Commissioner, 92 T.C. 661, 691 (1989); Pollack v. Commissioner, 47 T.C. 92, 108 (1966), affd. 392 F.2d 409 (5th Cir. 1968). We are not required to accept incredible, implausible, or biased testimony. Fleischer v. Commissioner, 403 F.2d 403, 406 (2d Cir. 1968), affg. T.C. Memo. 1967-85; Parks v. Commissioner, supra at 659; Tokarski v. Commissioner, 87 T.C. 74, 77 (1986). I. Items of Income Determined by Respondent Respondent prepared on brief a reconciliation of items which are “in dispute” and concessions as to the adjustments in the statutory notice of deficiency. Appendix C of this opinion reflects the reconciliation schedules that respondent prepared and which petitioner stipulated in his answering brief. We discuss below those items of income that the parties represented were still in dispute. However, we point out that petitioner does not contest on brief many of those items. Instead, he - 22 states “In addition, any issues not raised in Petitioner’s Brief are also conceded by Petitioner.” A. Rents Received From Island Living, Inc. in 1988 FINDINGS OF FACT In 1985, petitioner through Mr. Miles, as trustee, purchased property located in Osceola County, Florida, the “Osceola County Property” (OS-19). On July 22, 1985, petitioner leased that property to petitioner’s corporation, Island Living, Inc., for $3,000 per month. Petitioner concedes that he received rents of $6,000 in 1985, $24,000 in 1986, $24,000 in 1987, and $12,000 in 1988 from Island Living, Inc. OPINION Petitioner did not address on brief whether he received the additional amount of $12,000 that respondent determined as rent in 1988. We find that petitioner has conceded this matter. We find that he received $24,000 of rental income in 1988 and that he is taxable on that amount. B. See sec. 61(a)(5). Schedule C Gains From Property Sales 1. Florida Fruit Belt Subdivision (OS-06) FINDINGS OF FACT On April 11, 1985, petitioner through Mr. Miles, as trustee, sold three lots from the “Florida Fruit Belt Subdivision” located in Osceola County, Florida, to Burl and Louise Mynhier for $69,000. Mr. and Mrs. Mynhier paid cash of $33,000 and issued to - 23 petitioner, through Ms. Allen, a promissory note and mortgage for $36,000. Petitioner’s basis in the three lots was $9,316, and he incurred selling costs of $412. On May 20, 1985, petitioner through Ms. Allen, as trustee, assigned the mortgage that the Mynhiers issued to his father, Charles Medlin, for $36,000. Petitioner instructed the mortgagor to send the mortgage payments directly to Charles Medlin. An assignment of mortgage dated May 20, 1985, and signed by Ms. Allen, was filed with the County of Osceola, Florida; it provides: That I, Donna L. Allen part[y] of the first part, in consideration of the sum of Thirty-Six Thousand and no/100 dollars, and other valuable considerations, received from or on behalf of Charles B. Medlin party of the second part, at or before the ensealing and delivery of those presents, the receipt whereof is hereby acknowledged, do hereby grant, bargain, sell, assign, transfer and set over unto the said part[y] of the second part a certain mortgage bearing date the 12th day of April A.D. 1985 made by Burl R. Mynhier and Louise Mynhier, his wife in favor of Donna L. Allen and recorded in Official Records Book 772; page 782, public records of Osceola County, Florida, upon the following described piece or parcel of land, situate and being in said County and State, to wit: [Description of OS-06] * * * * * * * Together with the note or obligation described in said mortgage, and the moneys due and to become due thereon, with interest from the 20th day of May 1985. To Have and to Hold the same unto the said party of the second part his heirs, legal representatives, successors and assigns forever. - 24 Petitioner did not report any income from the sale to the Mynhiers on his Form 1040 for 1985. OPINION An installment sale is a disposition of property where at least one payment is to be received after the close of the taxable year in which the disposition occurs. Sec. 453(b). Income from an installment sale shall be taken into account under the installment method. Sec. 453(a). Under the installment method, the income recognized for any taxable year from a disposition is that proportion of the payments received in that year which the gross profit bears to the total contract price. Sec. 453(c). Respondent determined that petitioner recognized $28,347 as income from the installment sale to the Mynhiers in 1985.14 Petitioner did not address this issue on brief, and he conceded any arguments he might have made, but did not. We hold that petitioner recognized $28,347 as income from the installment sale in 1985. Under section 453B(a), gain or loss shall be recognized on the sale or exchange of an installment obligation to the extent of the difference between the basis of the obligation and the amount realized. 14 The basis of an installment obligation shall be Respondent computed the installment gain in 1985 as follows: Gross profit ($59,272) = sales price ($69,000) minus selling expenses ($412) minus basis ($9,316); gross profit percentage (0.859014) = gross profit ($59,272)/contract price ($69,000); income from installment sale ($28,347) = payments in 1985 ($33,000) x gross profit percentage (0.859014). - 25 the excess of the face value of the obligation over an amount equal to the income which would be returnable were the obligation satisfied in full. Sec. 453B(b). Any gain or loss recognized shall be considered as resulting from the sale or exchange of the property in respect of which the installment obligation was received. Sec. 453B(a) (flush language). Respondent determined that the assignment by petitioner to Charles Medlin was a sale of an installment obligation under section 453B(a) and that petitioner recognized a gain of $30,925 in 1985.15 Petitioner argues that the assignment of the mortgage to his father was not a sale but that it was pledged as collateral for a loan. At trial, petitioner testified as follows: Q All right. Would you explain what transpired in relation to this mortgage and how you dealt with the mortgage in relation to your father? A From the sale of the property, there was down payment for cash. And then the mortgage, we took out the mortgage. And the guy would make payments; I believe they were annual payments, or maybe monthly; I’m not sure. Anyway, he was going to make payments, but I needed some money. And my father, again, he was mainly a go-put-hismoney-in-the-bank; he wasn’t interested in real estate deals or anything, and I was probably sitting around moaning to him about the interest I was paying to other people like Mr. Margolis and things like that; he expressed an interest in--why didn’t I give him some of 15 Respondent computed the gain from the purported sale of the installment obligation as follows: Gain from sale of installment obligation ($30,925) = face value of the obligation sold ($36,000) x gross profit percentage (0.859014). - 26 that? And I was reluctant. He lived in Jacksonville and didn’t know anything about my business or anything else, so--but, anyway, this was something he could relate to. It was a mortgage on a piece of property and there were payments coming in and I went to him and borrowed--I’d borrowed from him before, just smaller amounts of money--some money from him against the mortgage, and signed a note to him as collateral, and proceeded to continue to collect the payments. Again, trying to make him feel warm and fuzzy, instructed the mortgagor to send the mortgage payments directly to my dad. We stayed on top of it and if they were a day late, he called, and we had to go round up the guy and get it to him. Basically, it was a loan from my dad and as I got in my payments from the other guy, they were forwarded either directly to him or I got the payments in and forwarded them directly to my dad. Unlike where you sell a mortgage without recourse and it’s gone, it’s the other person’s mortgage and you get the money and go home, I had to live with this. And, if he had quit paying, my father didn’t want a piece of property in Osceola County, at his age, his health, you know, I was going to have to pay the mortgage. Q You were going-- A Right. I was going to have to pay the loan in lieu of the mortgage payments? Q So your position in relation to the handling of that mortgage is that you did not sell the mortgage to your father? A Correct. As collateral, though, it was assigned to him. And that’s customary practice. I’ve borrowed against mortgages, mortgage payments, from like Finance America, Chrysler Financial Corporation, and stuff and generally what you do is assign them a mortgage, usually you assign them the mortgage and a portion of the note. Say you only borrowed the next five payments, say, you would assign them a portion of the note. Petitioner’s testimony is self-serving, is less than credible, and it is not supported by the testimony of other witnesses or - 27 evidence of record. Indeed, on brief, petitioner states that “Mr. Medlin’s testimony clouded by the passage of so many years was not precise.” We cannot accept petitioner’s unsubstantiated testimony.16 If we were to accept petitioner’s unsubstantiated testimony at face value that an installment obligation was pledged as collateral for loan proceeds, section 453B would be largely ineffective. Where as here, no documentary proof has been introduced to show that petitioner remained personally liable for any failure of the mortgagor’s payment, we cannot accept that the assignment was a pledge of collateral. Certainly, the form of the assignment was a sale. The assignment of mortgage filed with Osceola County states that Ms. Allen assigned the mortgage to Charles Medlin “in consideration of the sum of” $36,000. Moreover, petitioner’s instructions to the mortgagor were that direct payments were to be made to his father following the assignment. Further, although petitioner testified to his continued involvement in the collection of the mortgage, he could not testify definitively as to whether he or Charles Medlin received the mortgage payments. Nevertheless, petitioner claims that the assignment of the mortgage occurred 16 Petitioner testified that he signed a promissory note to his father as collateral; however, he did not produce any such note for the record. Petitioner relies solely on his testimony and cites the fact that records and witnesses have been lost or are unavailable. - 28 without an assignment of the promissory note and that this indicates the mortgage was assigned to Charles Medlin as collateral for a loan.17 However, the assignment of the mortgage states that the mortgage “Together with the note or obligation described in said mortgage, and the moneys due and to become due thereon” were transferred. We hold that petitioner recognized gain of $30,925 from the sale of an installment obligation in 1985. 2. Susan’s Lakefront Estate (OS-03) FINDINGS OF FACT In 1970, Medlin Investment Co. purchased certain real property in Osceola County, Florida, for $59,005. This property was subdivided as “Susan’s Lakefront Estate” and consisted of 30 lots (Lot 1, Lot 2, * * *, Lot 30) and one tract (Tract A). On July 2, 1985, petitioner through Ms. Allen, as trustee, sold Lot 1 for $22,000. Petitioner did not report any income from this sale on his 1985 Form 1040. On June 12, 1986, petitioner through Ms. Allen, as trustee, sold Tract A, for $23,000. Petitioner did not report any income from this sale on his 1986 Form 1040. 17 On May 25, 1988, petitioner through Mr. We note that a mortgage generally secures payment of the underlying installment obligation and that an assignment of the mortgage without an assignment of the note creates no right in the assignee with respect to the note. See Vance v. Fields, 172 So. 2d 613, 614 (Fla. Dist. Ct. App. 1965). - 29 Miles, as trustee, sold Lots 6 through 30, for $540,000.18 The purchasers paid $89,077 in 1988 and issued a purchase money mortgage for the remainder. We are unable to locate this payment on petitioner’s spreadsheets for 1988, and it does not appear that he reported any amount of this payment as income on his return for 1988. OPINION In computing petitioner’s gains from the sales in 1985, 1986, and 1988, respondent apportioned the cost basis of the entire property equally among Lots 1 through 30 and Tract A, and assigned a basis of $1,903 to each lot and tract.19 Respondent determined that petitioner realized a gain of $20,097 from the sale in 1985,20 a gain of $21,097 from the sale to Mr. Dugger in 1986,21 and installment gains of $77,298 from the sales in 1988.22 On brief, petitioner does not address the disputed gains 18 Petitioner incurred selling expenses of $23,831 for this sale. 19 Cost basis for each lot and tract ($1,903) = cost of the entire property ($59,005)/the number of lots and the tract (31). 20 Gain realized ($20,097) = amount realized ($22,000) adjusted basis ($1,903). 21 Gain realized ($21,097) = amount realized ($23,000) adjusted basis ($1,903). 22 Gross Profit ($468,594) = sales price ($540,000) - selling expenses ($23,831) - total of the adjusted bases in lots 6-30 ($47,575); gross profit percentage (0.867767) = gross profit ($468,594)/ contract price ($540,000); installment gain from sale in 1988 ($77,298) = payments received in 1988 ($89,077) x gross profit percentage (0.867767). - 30 from the sales of the lots and the tract. We find that petitioner received the amounts determined by respondent as income for the years in issue and they are taxable as gains derived from dealings in property. 3. See sec. 61(a)(3). High Plains Property (OS-35) FINDINGS OF FACT On June 29, 1977, petitioner, as trustee, through Mr. Miles, as trustee, purchased real property in Osceola County, Florida, which we refer to as the “High Plains Property” (OS-35), from William F. Mitchell, for $448,000. The High Plains Property was a large piece of property (a couple hundred acres) which was divided into 5-acre tracts. On May 30, 1985, petitioner through Ms. Allen, as trustee, sold a lot (Lot 23) in the High Plains Property to Clarence L. Bass for $27,000. A gain of $19,699 was realized from the sale of this lot in 1985. Petitioner did not report any income from the sale on his Form 1040 for any tax year. Wayne Schoolfield and petitioner each originally owned a 50percent interest in the High Plains Property. Indeed, a declaration of trust dated April 11, 1977, provides: MADE this 11th day of April 1977 by and between D. L. Allen, hereinafter referred to as Allen and C. Wayne Schoolfield and W. L. Medlin, Trustee as Beneficiaries. NOW, THEREFORE, Allen, in consideration of $1.00 and other valuable considerations, hereby declares that she as Trustee holds in trust (for the beneficiaries herein named) that certain Offer to Purchase Contract - 31 on property in Osceola County, Florida, presently owned by William F. Mitchell, Trustee. WHEREAS, the beneficiaries of this Trust and their interest are as follows: C. Wayne Schoolfield - 50% and W. L. Medlin, Trustee - 50%. WHEREAS, Allen further declares she as Trustee will own, possess and administer the same only in keeping with the interest of the beneficiaries thereto and they shall have sole discretion and authority to sell, assign, transfer, and convey or otherwise dispose of the aforesaid Offer to Purchase Contract and that she will execute any and all necessary forms to consummate a sale upon receiving notice from the beneficiares [sic]. Allen shall account to and pay over to the beneficiarie [sic] herein the proceeds derived from their stated interest in that Receipt for Deposit and Offer to Purchase contract dated April 7, 1977 and attached hereto. AND WHEREAS: Allen shall not sell, convey or exchange the property conveyed to her as Trustee with herself as an individual without written consent of the beneficiaries of this Trust Agreement and she shall keep an accurate set of records regarding the above property and render periodic accounting therefore to the beneficiaries. Mr. Schoolfield and petitioner’s joint ownership of the High Plains Property terminated at some point in time. OPINION Respondent determined that petitioner was the sole owner of Lot 23 and that he realized the entire $19,699 gain from the sale of Lot 23 in 1985. Petitioner contends that he was a half-owner of the lot with Mr. Schoolfield when the property was sold and that he received only half of the gain that respondent determined. - 32 At trial, petitioner testified that he was in a partnership with Mr. Schoolfield with respect to the High Plains Property; however, he could not testify definitively that he and Mr. Schoolfield were still 50-50 owners at the time of the sale: Q What was your ownership interest in * * * [the High Plains Lot]? A I was in a partnership. This is one of the pieces I mentioned earlier that Wayne Schoolfield and I had purchased from Mr. Green and Mr. Mitchell and developed it, broke it up into these 5-acre tracts, and sold them. Q What percentage interest did you have when OS-35 was sold? A I’m sorry. I don’t--Wayne and I, when we did this development, were 50-50 and, I believe, that at this time, we were still 50-50 owners in the property. * * * * * * * Q Did that partnership ultimately end? A Yes, sir. Q Do you recall whether it ended before or after the sale of the lots in OS-35? A I think we ultimately sold all the property out, and, then, basically, took our money and went home. Mr. Schoolfield testified that he was involved in a joint venture with petitioner with respect to the High Plains Property. However, when Mr. Schoolfield was shown a copy of the warranty deed from Ms. Allen to Mr. Bass, he could not recall having ever owned any interest in Lot 23, and he did not recall having ever - 33 received any sale proceeds from Ms. Allen for this property.23 Mr. Schoolfield further testified that the joint ownership of the High Plains Property may have terminated sometime prior to the sale of Lot 23 to Mr. Bass, perhaps as early as the 1970s: Q Did you ever have any ownership interest in property known as High Plains? A I had some--I ended up with some 5-acre tracts out of that. Started off to joint venture, but ended up with some 5-acre tracts out of it, yes. Q You say it was a joint venture with who? A Mr. Medlin. Q With Mr. Medlin? And when did that joint venture break up? A I’m not sure I can give you a date there, it’s so long. It’s in--back in the 70’s. Q It broke up sometime in the 70’s? A I think it occurred probably then, but you got to remember, this stuff is going back so far. My hair was black and I didn’t have a bald spot in the back of my head. 23 And with respect to the declaration of trust, Mr. Schoolfield testified: Q What property did this Declaration of Trust pertain to? A There’s nothing attached to it. I--it could have been this property or another piece, but-Q Okay. Did this Declaration of Trust pertain specifically to this Lot 23? A I--I don’t know. That’s--I don’t think so, but I don’t know. It’s been too long for me. I don’t recall ever owning this piece. - 34 You know, it’s a long time. But I think it was in the early stages, but I can’t, you know, I--my memory is not that good. Q Did it occur before the date of this warranty deed, which is May of 1985? A I certainly thought it would have. Ms. Allen testified that petitioner and Mr. Schoolfield were partners with respect to the High Plains Property and that they had split up at some point in time. She could not testify as to when specifically they split up. The evidence of record shows that at one point, Mr. Schoolfield and petitioner held joint interests in the High Plains Property, which may or may not have included Lot 23. Neither petitioner’s, Mr. Schoolfield’s, nor Ms. Allen’s testimony establishes that Mr. Schoolfield still possessed his joint interest at the time of the sale of Lot 23 in 1985, or, for that matter, whether he ever possessed any interest in Lot 23. The testimony suggests that it was just as likely, if not more probable, that Mr. Schoolfield and petitioner split up the various tracts amongst themselves before 1985, that petitioner was left as the sole owner of Lot 23, and that petitioner proceeded to sell that lot in 1985 and collect the sales proceeds therefrom.24 24 On recross-examination by petitioner’s counsel, Mr. Schoolfield testified: Q Ultimately at some point in time, these various 5(continued...) - 35 Petitioner relies on Mr. Schoolfield’s testimony that he could not say for certain that he did not have a 50-percent interest in Lot 23 at the time of its sale to Mr. Bass and that he could not say for certain when the “ultimate division” of the respective interests in the High Plains Property had occurred. 24 (...continued) acre tracts, of which you and Walter were 50 percent beneficial owner interest in, were sold and then also you and he ultimately divided up what was left; is that right? A I don’t know that that’s correct. What was left, we--somewhere in there I said, “Here, look, let me have X tracts and this is--and you take the rest of it. You take it all.” Q And as you sit here today, you’re not sure when that happened, what the date of that was. A That’s correct. I don’t know that I can give you a date. I don’t think I could. Q So, am I correct in your testimony that if that date happened, if you split up, and the document, the deed on page 1 is one of the 5-acre tracts that Walter got, then you would not have had any interest in it if it went to Walter after you and he split up. A Yeah. Q And if it happened before the split-up, then you would have had an interest in it. A I think that probably is correct. Q And as you sit here today, because of the number of years that have gone by, in fact you don’t have your tax returns anymore, you can’t specifically tell us for sure when that happened in relation to this sale; is that right? A Not sitting here today, I can’t. - 36 We reemphasize that respondent’s determination of a deficiency is presumed correct, and it is petitioner who bears the burden of proving that determination incorrect. Since petitioner bears the burden of proof, he must also bear the onus of failed recollection and the lack of documentary evidence. Further, petitioner has created the situation in which he now finds himself by failing to document properly his various real estate transactions, in failing to maintain and keep adequate records, and by unnecessarily complicating those transactions. We hold that petitioner is responsible for 100 percent of the gain realized on the sale of Lot 23 in 1985. 4. Silver Lake (OS-01.4) FINDINGS OF FACT On September 30, 1975, petitioner, as trustee, purchased property in Osceola County, Florida, which we refer to as “Silver Lake” (OS-01.4). In November 1978, petitioner, as trustee, sold Silver Lake to L.R. Donnell, Jr., as trustee, for $70,000. On February 5, 1979, Mr. Donnell, as trustee, conveyed Silver Lake to Mr. Miles, as trustee, for no consideration. On October 31, 1980, Mr. Miles, as trustee, sold Silver Lake to Don Prewitt, as trustee, for $220,600. Mr. Prewitt issued a purchase money mortgage for $180,000 to Mr. Miles and paid the balance. Mr. Miles, as trustee, received the following principal and interest payments in 1985, 1986, and 1987: - 37 Year Principal Interest 1985 1986 1987 $18,000 36,000 72,000 $13,545 11,610 10,976 Petitioner owned a 50-percent interest in Silver Lake at the time of its sale in 1980, and his basis was $70,000. OPINION Respondent argues that petitioner realized installment gains of $6,144, $12,288, and $24,577 in 1985, 1986, and 1987, respectively, for the principal amounts paid to Mr. Miles.25 Petitioner, on brief, does not address the matter. We find that petitioner realized installment gains of $6,144, $12,288, and $24,577 in 1985, 1986, and 1987, respectively. Sec. 453(a). Respondent originally determined that petitioner realized interest income for the full amount of the interest payments made to Mr. Miles. Respondent now concedes that petitioner realized only 50 percent of the original amounts determined. Petitioner does not address on brief his liability for half of the interest income. We hold that petitioner realized interest income of $6,773, $5,805, and $5,488 in 1985, 1986, and 1987, respectively. 25 Respondent computed petitioner’s gross profit percentage as follows: Gross profit ($150,600) = sales price ($220,600) minus basis ($70,000); gross profit percentage (0.682684) = gross profit ($150,600)/contract price ($220,600). Respondent then applied the gross profit percentage to each of the principal payments in 1985, 1986, and 1987, respectively, and divided the result in half to account for petitioner’s 50-percent interest. - 38 - 5. East Lake Vista (OS-47) FINDINGS OF FACT On May 1, 1984, Mr. Miles, as trustee, purchased real property consisting of approximately 156.65 acres in Osceola County, Florida, which we refer to as “East Lake Vista” (OS-47), from Reba Smith, for $500,000. Part of the purchase price, $125,000, was paid in cash, and Mr. Miles issued a purchase money mortgage of $375,000 for the remainder.26 In May 1986, Mr. Miles sold approximately 31 acres of East Lake Vista to Nicholas Pope, for $205,000. On December 16, 1986, Mr. Miles sold an additional 31.50 acres of East Lake Vista to Mr. Pope for $215,181. Petitioner did not report any income from those transactions on a Form 1040 for any tax year. On December 16, 1986, at the same time as the second sale, petitioner and Dr. George Gant entered into a “Continuing and Unconditional Guaranty of Performance and Payment” in favor of Mr. Pope. That document shows petitioner and Dr. Gant as “Guarantors”, Mr. Miles, trustee, as “Seller”, and Mr. Pope as “Buyer”: WHEREAS, R. Stephen Miles, Jr., Trustee, as Seller, and Nicholas A. Pope, as Trustee under that certain unrecorded Trust Agreement dated December 16, 26 The mortgage provides for interest of 10 percent, per annum, and requires “Three equal annual payments of $150,793.05 including principal and interest commencing one year from the date hereof and continuing each year thereafter until the entire balance plus interest is paid in full.” A satisfaction of mortgage was issued by Reba Smith and was filed on Dec. 18, 1986. - 39 1986, and/or Assigns, as Buyer, entered into that certain Contract and Sale and Purchase dated May 2, 1986 (the “Contract”) with respect to the purchase of approximately 31.50 acres, more or less, located in Osceola County, Florida (the “Property”); and WHEREAS, the terms of the Contract provide for Seller’s obligation to complete construction of a road to be known as “Dan Smith Road” adjacent to the Property at Seller’s expense within one (1) year after the date of closing, and further provide for Buyer’s right to complete said construction and be reimbursed by Seller in the event of Seller’s failure to complete said construction in accordance with the Contract; and WHEREAS, the Contract further calls for the personal guaranty of Seller’s performance of said road construction and payment for said road construction by the undersigned; NOW THEREFORE, as an inducement to the Buyer to purchase the Property, and for good and valuable consideration not herein recited but the receipt and sufficiency of which is hereby acknowledged, the undersigned, jointly and severally, give to Buyer, and its successors and assigns, their continuing and unconditional guaranty of performance and payment by the Seller of the following described obligation, to the same extent as if Guarantors were the named parties identified as the Seller under the Contract: * * * * * * * The Guarantors hereunder also agree to pay all costs (including attorneys’ fees whether incurred in connection with collection, trail [sic], appeal or otherwise) of collection against the Guarantors under this Guaranty. The liability of Guarantors hereunder is binding upon Guarantors and Guarantors’ successors and assigns. Petitioner and Dr. Gant signed the guaranty. In August 1988, Mr. Miles, as trustee, sold approximately 10 acres of East Lake Vista for $80,000. Petitioner, for Mr. Miles, - 40 signed the sales contract. Petitioner did not report any income from this sale on his Form 1040 for 1988. The record contains two personal financial statements for petitioner. The first is dated November 15, 1985, and lists as an asset, East Lake Vista;27 a “160 acre parcel located on East Lake North of Narcoossee being subdivied [sic] into 5 ac. tracts and is encumbered by 2 mortgages totaling $386,000.00”. listing states: The “I own 1/2 interest”, and values that interest at $560,000, subject to liabilities of $193,000. The second financial statement is dated June 1, 1988, and lists as an asset, East Lake Vista; a “100 acre parcel located on East Lake North of Narcoossee being subdivided into 5 ac. tracts”. That property is listed under “Miscellaneous Lots & Acreage (Unencumbered)” and is valued at $400,000. Mr. Miles’s law firm maintained certain ledger cards, numbers 70006 through 70008, which are entitled “Walter Medlin/Reba Smith”, “Medlin Re: Smith, Reba”, and “Medlin, Walter from Reba L. Smith”, respectively. Those ledger cards contain the following relevant entries: 27 Petitioner testified that East Lake Vista is also known as the “Narcoossee property” and the “Dan Smith Road property”. The parties also agree that the property was sometimes called the “Reba Smith property”. - 41 - Ledger Card Number/Line Date 70008/1 70008/2 70008/3 5-1-84 5-1-84 5-1-84 70008/4 5-1-84 70008/5 5-2-84 70008/6 5-2-84 70008/9 5-14-85 70008/10 ---- 70008/11 70008/12 ---5-14-85 70008/13 70008/16 70008/21 5-14-85 5-2-86 5-2-86 70007/4 5-2-86 70007/9 5-14-86 70007/11 70007/12 5-14-86 5-19-86 70007/13 5-19-86 70007/15 70007/16 70006/5 12-16-86 12-16-86 12-24-86 70006/6 8-8-88 70006/7 70006/8 8-8-88 8-8-88 70006/14 8-8-88 70006/15 8-8-88 70006/16 8-8-88 70006/22 ?-27-89 70006/22 10-4-89 Name Reba Louise Smith H.R. Thornton Allen’s Osceola Realty, Inc. Clerk of Circuit Court Transferred from Medlin/Gant George Gant Memo Trust Funds Received Disbursed Medlin Medlin ------- $95,551.82 1,250.00 Medlin ---- 25,000.00 Medlin ---- 3,588.95 $62,873.61 ---- 62,867.16 ---- 61,646.52 ---- 1,950.00 ---- ---1,950.00 61,646.52 ---189,922.60 ---123,293.04 ---- 20,000.00 ---- Medlin/ Smith R. Moved from Medlin/Tai ---Moved from Medlin/Tai ---Johnston’s Eng. Medlin/Smith Moved from Medlin/Tai ---Reba Smith Medlin/Smith Webb Medlin/Smith Lowndes, Drosdick et al Medlin/Smith H.R. Thornton, Jr., Trustee Medlin Transfer to Medlin/Gant card ---Walter L. Medlin Medlin/Smith Freedom Financial Center Medlin Walter L. Medlin Trustee ---Wire-Transfer Medlin/Smith Reba Louise Smith Medlin/Smith Transfered to Medlin/Gant ---Walter T. Rose, Jr Medlin/Smith Beverly L. Rose ‘’ ERA-Horacio Toledo, Inc. ‘’ Moved to Medlin Mefford ---Moved to Medlin/ Gant 1/2 proceeds ---Moved to Medlin/ Gant 1/2 proceeds ---Moved to Medlin/ General ---Moved to Medlin/ General ---- ---- 150,793.05 ------- 14,740.92 3,768.93 ---- 6,602.74 ---218,268.00 ---- 1,897.26 ---145,722.80 ---- 55,094.55 40,000.00 39,000.00 ------- 1,000.00 ---- ---- 528.52 ---- 35,083.53 ---- 35,083.52 ---- 100.00 ---- 128.64 For each of the various sales transactions in 1986 and 1988, the parties executed a closing statement. The amounts listed in - 42 those statements as deposits in escrow and as amounts due from the buyer to the seller match amounts listed as deposits in the ledger cards above, ledger card No. 70008 (lines 16 and 21), No. 70007 (line 15), and No. 70006 (lines 6-8). Dr. Gant and petitioner each owned a 50-percent interest in the “Mefford Property” (OS-22), which was sold on October 7, 1988, for $250,000. sale. A gain of $110,328 was realized from this Respondent originally determined that petitioner was responsible for the entire gain realized from this sale, but he now concedes that petitioner is responsible for only half of that amount ($55,164). Dr. Gant and petitioner also each owned a 50-percent interest in a piece of property which we refer to as the “Tai Property”. The Tai Property was sold in 1984 for $457,900, and petitioner concedes that he is liable for 50 percent of the installment gain ($50,863) from payments received in 1985. See appendix C. OPINION It is well established that income must be taxed to him who earns it, United States v. Basye, 410 U.S. 441, 449 (1973), and that income includes gains derived from dealings in property. Sec. 61(a)(3). Respondent determined that petitioner owned a 50- percent interest in the portions of East Lake Vista sold in 1986 and 1988 and that he was responsible for 50 percent of the gain - 43 realized from those transactions.28 Petitioner contends that Dr. Gant owned 100 percent of East Lake Vista at the time of the sales in 1986 and 1988. Petitioner argues that he and Dr. Gant originally agreed to be 50-50 partners with respect to East Lake Vista, but that Dr. Gant contributed the entire purchase price and thus acquired a 100-percent ownership interest in the property. At trial, petitioner testified that, initially, he was to receive a 50-percent interest in East Lake Vista, but because Dr. Gant “put up all the money and wanted all the interest in the property”, Dr. Gant “essentially owned all of it”. However, petitioner’s testimony was not definitive and was indeed speculative. It was also self-serving, and we do not agree that he owned no interest in East Lake Vista at the time of the 1986 and 1988 sales. 28 The documentary evidence of record shows that Respondent allocated basis of $3,191.83 to each acre in East Lake Vista: Basis per acre ($3,191.83) = purchase price ($500,000)/acres purchased (156.65). Respondent determined $41,775 as petitioner’s gain from the May 1986 sale: Gain realized ($83,550) = sales price ($205,000) - selling costs ($22,503) - basis ($98,947 = 31 acres x $3,191.83); petitioner’s gain ($41,775) = gain realized ($83,550) x petitioner’s ownership interest (50 percent). Respondent determined $50,726 as petitioner’s gain on the Dec. 16, 1986, sale: Gain realized ($101,452) = sales price ($215,181) - selling costs ($13,187) basis ($100,542 = 31.5 acres x $3,191.83); petitioner’s gain ($50,726) = gain realized ($101,452) x petitioner’s ownership interest (50 percent). Respondent determined $19,522 as petitioner’s gain on the 1988 sale: Gain realized ($39,045) = sales price ($80,000) - selling costs ($9,005) - basis ($31,950 = 10.01 acres x $3,191.83); petitioner’s gain ($19,522) = gain realized ($39,045) x petitioner’s ownership interest (50 percent). - 44 petitioner held an ownership interest in East Lake Vista at the time of the sales in 1986 and 1988. First, petitioner’s financial statements dated November 15, 1985, and June 1, 1988, show that he owned at least a 50-percent interest in East Lake Vista at some point before the sales that occurred in 1986 and 1988. Petitioner contends that the November 15, 1985, financial statement is not inconsistent with his testimony and Dr. Gant’s testimony that he was to originally own a 50-percent interest in East Lake Vista, which subsequently changed to no interest. Petitioner has not presented any evidence to establish when his and Dr. Gant’s original understanding supposedly changed; however, if it did change, we assume the change would have occurred either before or shortly after May 1, 1984, when Dr. Gant purportedly “put up all the money”, the $125,000 cash portion of the purchase price.29 The financial statement is dated November 15, 1985, a full year and a half after the purchase of East Lake Vista. Petitioner offers no explanation why he continued to represent himself as owning a 50percent interest in November 1985, if, in fact, he owned no interest after Dr. Gant put up all the cash in May 1984. Petitioner also contends that the June 1, 1988, financial statement cannot be relied upon since it incorrectly shows that 29 Dr. Gant testified that he could not recall when the parties original understanding changed, but he suggested that it might have been in 1984. - 45 he owned 100 percent of East Lake Vista and that the property consisted of 100 acres when, in fact, it consisted of 84 acres. We do not agree that these purported inaccuracies cause the June 1, 1988, financial statement to lose its persuasive value. The financial statement was prepared by or for petitioner, and petitioner does not explain why those inaccuracies were reflected on his financial statement, and why they invariably suggest that he held no interest in East Lake Vista in 1988. At the very least, the June 1, 1988, financial statement shows that petitioner perceived himself to own at least some interest in East Lake Vista in 1988 and that he intended other persons who might rely on the financial statement to recognize that ownership. The road construction guaranty also indicates that petitioner had an ownership interest in East Lake Vista. Petitioner, Mr. Miles, and Dr. Gant executed the guaranty on December 16, 1986, the same date as the sale of the 31.50 acres of East Lake Vista to Mr. Pope. And, it specifically refers to a contract for the sale of 31.50 acres that Mr. Miles and Mr. Pope entered into on May 2, 1986. Petitioner argues that this guaranty originated in petitioner’s “working relationship” with Dr. Gant and did not arise from any ownership interest in the property. However, petitioner did not present any evidence or testimony to suggest that he was compensated for his real estate - 46 services. Also, we cannot accept that he was performing those services for free. Petitioner does not suggest that amounts he received following the sales in 1986 and 1988 were, in fact, compensation, and, indeed, petitioner claims those amounts were loans. It is more plausible that petitioner’s performance of services and his guarantee for the road construction arose from his ownership interest in East Lake Vista. Under petitioner’s argument, we must assume that any services that petitioner performed were for the benefit of Dr. Gant, the purported 100-percent owner of East Lake Vista. But, Dr. Gant did not testify that petitioner performed services for his benefit and that he compensated petitioner. Dr. Gant’s testimony, as a whole, indicates that petitioner performed the real estate services for a 50-percent interest in East Lake Vista. Dr. Gant testified that he and petitioner started out 50- 50, with Dr. Gant putting up all the money30 and petitioner doing all the work. However, according to an “agreement” with Mr. Miles, ownership of the property was “posted as 100 percent on my part since I put up the money”. Dr. Gant also testified: Q Did you pay anything for the additional 50 percent interest from Mr. Medlin? 30 Dr. Gant testified that he gave petitioner $125,000 in 1984 for the purchase of East Lake Vista. This amount represents the initial cash portion of the purchase price for the property. Dr. Gant testified: “I didn’t pay any more. We paid it out of operations at the time.” - 47 A As I tried to explain to you earlier, the 50 percent was a 50/50 ownership in property and a 50 percent in participation. I tried to explain that to you, and I thought you understood it. Q I must not have, sir. I apologize. A He did not put any money up. He didn’t put a dime up to the best of my knowledge. I put the money up. Q But now, he purchased the property. A No. Correct? Q In terms of the expertise--he selected the property? Excuse me. A He selected the property. Q He selected the property? A I paid for the property. Q Okay. And so he just gifted his interest to you? I mean, I understood the deal was 50/50 initially. A He didn’t have any interest. the developing part of it. * * * * * His interest was in * * Q * * * On the Narcoossee property, if Mr. Medlin had a financial statement that showed that he was a 50 percent interest or owned half of the Narcoossee property, would you say that that was correct. A Sure. That was our understanding--I tried to explain that--when we first started. But to protect my interest it was necessary for me to assume the 100 percent, as I had put the money in, 100 percent of the property. Q I understand, sir. A And all of the money he has taken out of it, the original investment has never been paid back. I know - 48 you haven’t asked this question, but it’s important for you to know. Dr. Gant’s testimony, as a whole, shows considerable confusion regarding petitioner’s interest in East Lake Vista. However, his testimony indicates that he assumed 100-percent legal ownership of East Lake Vista to protect his initial $125,000 contribution; however, petitioner continued to possess an interest in the property because of his contribution of services. Dr. Gant did not testify that the supposed agreement with Mr. Miles deprived petitioner of a participation in any profits realized from the property. Petitioner’s execution of the sales contract for the August 1988 sale also indicates that he had more than just a working relationship with Dr. Gant with respect to East Lake Vista. It shows that he had the legal capacity to sell the property. This denotes ownership. In addition, the ledger cards maintained by Mr. Miles’s law firm are essentially a record of the transactions associated with East Lake Vista. Those ledger cards show the initial disbursement of approximately $125,000 to Reba Smith, the annual payments on the mortgage issued to Ms. Smith, and the amounts received from the sales in 1986 and 1988. The ledger cards each list petitioner’s name with respect to transactions which occurred from 1984 to 1989. The ledger cards contradict a significant portion of Dr. Gant’s testimony and are certainly inconsistent with petitioner’s contention that he owned no - 49 interest in East Lake Vista. Although Dr. Gant testified that he did not put up any additional cash after his initial $125,000, the ledger cards show that $62,867.16 was received from “George Gant” on May 2, 1984. Further, Dr. Gant testified that he was the only cash person in the deal; however, the ledger cards show that $62,873.61 was received on May 2, 1984, from the Medlin/Gant ledger card.31 Also, the ledger cards show that matching deposits of $61,646.52 were received on May 14, 1985, from the Medlin/Tai card. Since petitioner and Dr. Gant each owned a 50- percent interest in the Tai Property, we assume that petitioner contributed at least $61,646.52 with respect to East Lake Vista. The ledger cards also show disbursements to petitioner’s general ledger card. Moreover, the pattern of duplicate disbursements shortly after the 1986 and 1988 sales to ledger cards in which petitioner and Dr. Gant presumably held equal interests certainly supports respondent’s position that petitioner and Dr. Gant each owned a 50-percent interest in East Lake Vista. Petitioner, on the other hand, argues that his and Dr. Gant’s testimony shows that any amounts he received from the 1986 and 1988 sales were received as loans from Dr. Gant. We disagree. 31 According to petitioner, the Medlin/Gant ledger card represents “an account in which both Medlin and Gant have an interest.” - 50 Dr. Gant testified that he did not have any records showing loans to petitioner, that he did not receive a note from petitioner, and that all records were maintained by Mr. Miles. Petitioner did not submit any records to substantiate his and Dr. Gant’s testimony that loans were made, and none of the records from Mr. Miles’s law firm, including the ledger cards, show any loans or their amounts. At trial, petitioner and Dr. Gant testified that proceeds from the sales of East Lake Vista were deposited into Mr. Miles’s law firm’s trust account and that petitioner would then “borrow” those proceeds for his own purposes. However, it is not at all clear from Dr. Gant’s testimony what he considers to be a “loan”.32 It appears to us that Dr. Gant understood that upon the receipt of any sale proceeds from East Lake Vista, and after debt service on the note to Reba Smith, that he was to be repaid his initial $125,000, but that petitioner instead borrowed those proceeds, and that Dr. Gant has never been paid back his $125,000. However, those facts do not establish a loan, and, in any event, they are not inconsistent with petitioner owning a 50percent interest in East Lake Vista. There is no evidence in this case that petitioner had an obligation to repay the amounts 32 The “hallmarks” of a loan are: (1) Consensual recognition between the borrower and the lender of the existence of the loan, i.e., the obligation to repay; and (2) bona fide intent on the part of the borrower to repay the funds advanced. Inv. Research Associates, Ltd. v. Commissioner, T.C. Memo. 1999-407. - 51 “borrowed”, and there is no evidence that those amounts were treated as a bona fide obligation or that Dr. Gant attempted to collect the amounts supposedly borrowed. At best, Dr. Gant’s testimony indicates that petitioner made draws from Mr. Miles’s trust account on the sale proceeds received from East Lake Vista and that those draws caused Dr. Gant to fail to realize the full extent of what he initially invested. However, those facts do not establish a loan or otherwise permit petitioner to escape taxation on his share of the gains from East Lake Vista. Petitioner also points to respondent’s concession that petitioner owned only a 50-percent interest in the Mefford Property, and he argues that this concession supports the credibility of petitioner’s and Dr. Gant’s testimony with respect to East Lake Vista. We disagree. The record contains numerous concessions by both petitioner and respondent, and we are not inclined to speculate as to the basis for those concessions. In any event, respondent notes that he conceded one-half of the deficiency with respect to the Mefford Property, because there was contemporaneous documentary evidence to support Dr. Gant’s testimony. Respondent contends, and we agree, that Dr. Gant’s testimony lacks such support with respect to East Lake Vista. Further, respondent’s position after concession with respect to the Mefford Property would now appear consistent with the position he has taken with respect to East Lake Vista, that - 52 petitioner and Dr. Gant each owned a 50-percent interest. It is also consistent with their respective interests in another piece of property, the Tai Property. We hold that petitioner owned a 50-percent interest in East Lake Vista, and we sustain respondent’s determination that petitioner realized 50 percent of the gains from the sales in 1986 and 1988. 6. Grissom Parcels (OS 1.3) FINDINGS OF FACT On April 15, 1985, petitioner purchased three parcels (parcels 1, 2, 3) of real property in Osceola County, Florida, which we refer to as the “Grissom Parcels”, for $47,000. Parcel 1 is fronted by U.S. Highway 192, and it borders another road, Rivers Road, on one side. Parcels 2 and 3 do not border U.S. Highway 192, are separated from parcel 1 by Rivers Road and several smaller tracts of property, and border a road referred to as “County Road”. The relative sizes of the parcels are similar, although the dimensions differ. On November 5, 1985, petitioner transferred the parcels to Ms. Allen, as trustee, for no consideration. Petitioner was the sole beneficiary of the parcels conveyed to Ms. Allen. On October 22, 1986, petitioner, through Ms. Allen, sold parcel 1 for $40,000. - 53 For 1987, Osceola County assessed the values of the Grissom Parcels as follows: Parcel Number Assessed Value Parcel 1 Parcel 2 Parcel 3 Total Assessed Value $12,500 14,955 11,228 38,683 OPINION The parties agree that $40,000 was realized on the sale of parcel 1 in 1986, and that petitioner is responsible for any gain from that sale. The issue that remains for decision is petitioner’s basis in parcel 1. The adjusted basis for determining gain from the sale of property, whenever acquired, shall be the basis determined under section 1012 and adjusted as provided in section 1016. Sec. 1011(a). Under section 1012, the basis of property shall be the cost of such property. Under section 1016(a)(1), the basis of property shall be adjusted for expenditures, receipts, losses, or other items, properly chargeable to capital account. When a part of a larger property is sold, the cost or other basis of the entire property shall be equitably apportioned among the several parts, and the gain realized or loss sustained on the part of the entire property sold is the difference between the selling price and the cost or other basis allocated to that part. Fasken v. Commissioner, 71 T.C. 650, 655 (1979); sec. 1.61-6(a), Income Tax Regs. An equitable apportionment of cost basis may - 54 reflect the relative fair market values of the portions of the larger property at the time of their purchase. Example (2), Income Tax Regs. Sec. 1.61-6(a), Our determination of the allocation of basis is a question of fact. Sleiman v. Commissioner, 187 F.3d 1352, 1360 (11th Cir. 1999), affg. T.C. Memo. 1997-530. Respondent relies upon the assessed values of the Grissom Parcels in 1987 to determine the relative values of those parcels when they were purchased in 1985. Respondent allocated the purchase price of $47,000 in 1985 to the parcels as follows: Parcel Number Assessed Value Percentage of Total Assessed Value Basis Allocated1 Parcel 1 Parcel 2 Parcel 3 Totals $12,500 14,955 11,228 38,683 32% 39 29 100 $15,040 18,330 13,630 47,000 1 The basis allocated equals the purchase price multiplied by the percentage of the total assessed value of the parcels. After accounting for selling expenses of $4,458, respondent determined that petitioner realized a gain of $20,502.33 Petitioner contends that the methodology used by respondent to allocate cost basis to the Grissom Parcels is arbitrary. Petitioner argues that the cost basis should have been allocated according to the relative fair market values of the parcels in 33 Gain ($20,502) = sales price ($40,000) - selling expenses ($4,458) - basis ($15,040). - 55 1985 and that several factors show that parcel 1 was the most valuable of the three parcels when they were purchased. Generally, “We do not consider that the amount for which the property was assessed for purposes of local taxation is necessarily a reliable criterion to be used in estimating its fair market value.”34 (1992). Frazee v. Commissioner, 98 T.C. 554, 563 However, in appropriate circumstances tax-assessed values can be useful as a guideline or as corroboration of other evidence of fair market value. Memo. 1999-210. Kellahan v. Commissioner, T.C. And, in the case that we are concerned with the relative values of several parts of a larger piece of property, local tax assessments may be relied upon to provide the correct value of a particular parcel of real estate. 2554-58 Creston Corp. v. Commissioner, 40 T.C. 932, 940 n.5 (1963).35 We are not willing to conclude as a matter of law that because respondent’s determination is based on local tax assessments, it is arbitrary. And, indeed, respondent’s determination appears reasonable and consistent with the relative sizes of the three parcels. See 34 This is especially true when there is nothing in the record indicating that the tax-assessed value was intended to represent fair market value. Kellahan v. Commissioner, T.C. Memo. 1999-210; Estate of Dowlin v. Commissioner, T.C. Memo. 1994-183; see also sec. 20.2031-1(b), Estate Tax Regs. 35 In 2554-58 Creston Corp. v. Commissioner, 40 T.C. 932, 940 n.5 (1963), we stated: “Although valuations for real estate taxes may often be too low to be relied upon as furnishing the correct value of a particular parcel of real estate as a whole, we have no reason to reject the use of such valuations in determining the relative value of land and buildings.” - 56 Clayton v. Commissioner, T.C. Memo. 1956-21, affd. 245 F.2d 138 (6th Cir. 1957). “When, as in this case, the Commissioner has determined an allocation of basis, a taxpayer bringing a deficiency proceeding bears the burden of proving by a preponderance of the evidence that the Commissioner’s determination is erroneous.” Sleiman v. Commissioner, supra at 1359; see also Byram v. Commissioner, 555 F.2d 1234, 1236 (5th Cir. 1977), affg. T.C. Memo. 1975-135. Petitioner argues that parcel 1 is fronted by U.S. Highway 192, the main road through Osceola County to Walt Disney World, whereas parcels 2 and 3 are on a dirt road, and that parcel 1 was zoned commercial, whereas parcels 2 and 3 were zoned residential. He also testified that parcels 2 and 3, at the time of their purchase, were “in a real undesirable neighborhood. down here, a lot of drug users and stuff. shack here.” As you get There’s sort of a Petitioner claims, on the sole basis of his testimony, that one-half of the original $47,000 purchase price, - 57 $23,500,36 should be allocated to the parcel sold in 1986 and that he is responsible for $12,042 of gain.37 Petitioner is not a disinterested witness. Further, his opinion regarding the value of the Grissom Parcels is based on his own subjective viewpoint about the desirability of those individual parcels. Petitioner presents no objective analysis to support his valuation of parcel 1 to be “at least half of the entire purchase”. Petitioner presented no records that were prepared at the time of the purchase or sale that reflected the allocation in his testimony, and he completely failed to report the sale on his income tax return. We cannot accept petitioner’s testimony to establish the relative values of the Grissom Parcels, and he has failed to overcome the presumption of correctness that attaches to respondent’s determination. We hold that petitioner’s basis in parcel 1 was $15,040 and that his gain from its sale in 1986 was $20,502. 36 Petitioner testified: Q And what value do you place as to the basis when you bought it--of the total purchase price, what value do you attribute to the value of parcel 1? A I had figured that it was worth at least half of the entire purchase, which would mean that it was equivalent to the other two parcels put together. 37 Gain realized ($12,042) = amount realized ($40,000) selling expenses ($4,458) - basis ($23,500). - 58 7. Arrowhead Lakes Subdivision (OR-2), Angel-Royse Property (OS-39) FINDINGS OF FACT In 1974, Roger McLaughlin, as trustee, purchased Lots 26, 27, and 28 in the Arrowhead Lakes Subdivision (OR-2), which was located in Orange County, Florida. In 1977, Mr. McLaughlin conveyed those lots to Ms. Allen, as trustee, for no consideration. In 1979, Ms. Allen conveyed those same lots to Mr. Miles, as trustee, for no consideration. Petitioner owned Lots 26, 27, and 28 in the Arrowhead Lakes Subdivision; petitioner was the 100-percent beneficiary of the lots held in trust by Mr. Miles. In 1983, Mr. Miles, as trustee, purchased 40 acres of a certain real property in Osceola County, Florida. On January 31, 1983, Mr. Miles, as trustee, issued a mortgage deed (purchase money note and first mortgage) of $70,200 with respect to this purchase. On February 24, 1983, Mr. Miles, as trustee, issued to Mr. McLaughlin a mortgage deed (purchase money note and second mortgage) of $30,500, which related to the 40-acre purchase. On March 25, 1983, petitioner entered into a contract to purchase an additional 34 acres for $102,000. Mr. Miles, as trustee, issued a mortgage deed of $73,000 for part of the purchase price. The 34 acres were conveyed to Mr. Miles, as trustee, on October 26, 1983. Petitioner and Mr. McLaughlin were equal beneficiaries in - 59 the 74 acres held in trust; we refer to the property held in trust as the “Angel-Royse Property” (OS-39). Petitioner’s financial statement dated November 15, 1985, lists as an asset, “Angel-Royce Development”;38 a “74 Acre parcel located on North side of Boggy Creek Road west of the Turnpike and valued at $8,000 per acre. There are several mortgages covering the various parcels totaling $212,000 payable over 15 years I own 50%”. The statement values petitioner’s interest in the property at $300,000, subject to liabilities of $106,000. In 1986, petitioner exchanged his ownership interest in Lots 26, 27, and 28 of the Arrowhead Lakes Subdivision for Mr. McLaughlin’s ownership interest in the Angel-Royse Property. In exchange for the subdivision lots, Mr. McLaughlin forgave the $30,500 of outstanding principal that petitioner owed to him from the February 24, 1983, mortgage deed. Mr. McLaughlin also assumed the liability for real estate taxes on Lots 26, 27, and 28, which totaled $1,251 at the time of the exchange. Petitioner assumed Mr. McLaughlin’s share of the liabilities associated with the Angel-Royse Property. Those liabilities totaled $66,202 and $71,042, respectively, at the time of the exchange. basis in Lots 26, 27, and 28 was $40,300. Petitioner’s On November 23, 1986, Mr. McLaughlin transferred his interest in the 74 acres of the 38 Petitioner referred to the Angel-Royse Property as the “Angel-Royce [sic] Development”, the “Angel and Royce [sic] Property” and the “pit piece”. Mr. McLaughlin also referred to the Angel-Royse Property as the “Boggy Creek Road” property. - 60 Angel-Royse Property to Michael D. Johnson, as trustee. Petitioner was the 100-percent beneficiary of the Angel-Royse Property held in trust. Petitioner did not report any income from the exchange on a Form 1040 for the tax years at issue. On June 9, 1987, a final judgment was entered by the Circuit Court of the Ninth Judicial Circuit of Osceola County, Florida, in the case of South Fla. Water Mgmt. Dist. v. Walter Medlin, Steven Miles, Tr., and Robert Adkins, Case No. 85-943. The judgment was entered into pursuant to a stipulation for consent decree, which requires petitioner and Mr. Adkins to restore the Angel-Royse Property and to plant cypress trees. The consent decree enjoins petitioner and Mr. Adkins from further excavation or dumping activities on the property. The record contains no partnership tax returns or Schedules K-1, Partner’s Share of Income, Credits, Deductions, etc., and there is no evidence that any such returns or schedules were filed or distributed. OPINION Respondent determined that the value of the 74 acres of the Angel-Royse Property was $312,600, the value which was assessed by Osceola County for the two parcels of acreage.39 Respondent determined that Mr. McLaughlin’s interest had a fair market value 39 Osceola County assessed a value of $180,000 for the 40 acres acquired in early 1983 and assessed a value of $132,600 for the 34 acres acquired on Oct. 26, 1983. - 61 of $156,30040 and that petitioner realized a gain of $60,709 from the exchange in 1986.41 Petitioner contends that he and Mr. McLaughlin were partners in a partnership with respect to the properties, that the AngelRoyse Property was distributed to him from the partnership, and that this distribution did not result in the recognition of any gain under section 731(a)(1).42 Respondent argues that section 731(a)(1) does not apply because: (1) There was no distribution from a partnership to a partner; petitioner simply exchanged his 100-percent interest in the Arrowhead Lakes Subdivision lots for Mr. McLaughlin’s 50-percent interest in the Angel-Royse Property; and (2) no partnership existed. In order for petitioner’s partnership argument to work, that supposed partnership would have had to own both the Angel-Royse 40 Value of Mr. McLaughlin’s interest in the Angel-Royse Property ($156,300) = fair market value of the Angel-Royse Property ($312,600) x Mr. McLaughlin’s interest (50 percent). 41 Amount realized ($101,009) = value of Mr. McLaughlin’s interest in the Angel-Royse Property ($156,300) + discharge by Mr. McLaughlin of petitioner’s debt ($15,250) + assumption by Mr. McLaughlin of real estate taxes ($1,251) - petitioner’s assumption of Mr. McLaughlin’s share of the liabilities associated with the Angel-Royse Property ($68,622) - property taxes ($3,170). Gain on exchange ($60,709) = amount realized ($101,009) - basis ($40,300). 42 Sec. 731(a)(1) provides that in the case of a distribution by a partnership to a partner “gain shall not be recognized to such partner, except to the extent that any money distributed exceeds the adjusted basis of such partner’s interest in the partnership immediately before the distribution”. - 62 Property and the Arrowhead Lakes Subdivision lots.43 However, the form of ownership of the Arrowhead Lakes Subdivision lots was clearly a trust and not a partnership. Moreover, petitioner stipulated that he was the 100-percent beneficiary of the Arrowhead lots held in trust by Mr. Miles, and he does not dispute, and in fact incorporates, respondent’s requested finding of fact that “Petitioner owned Lots 26, 27 and 28 in OR-2 (a.k.a. Arrowhead Lakes Subdivision), which were held in trust by R. Stephen Miles, Jr., Trustee.” Petitioner is bound by the form of ownership expressed in the stipulation and demonstrated by the record, and he cannot now argue that the Arrowhead lots were in fact held by a partnership. We agree with respondent’s characterization that petitioner exchanged his 100-percent interest in the Arrowhead Lakes Subdivision lots for Mr. McLaughlin’s 50-percent interest in the Angel-Royse Property and that there was no distribution of those properties from any partnership.44 We also agree that petitioner and Mr. McLaughlin 43 Mr. McLaughlin and petitioner testified that their supposed partnership owned the Arrowhead Lakes Subdivision lots. They testified that they were equal partners with respect to both the Arrowhead Lakes Subdivision lots and the Angel-Royse Property. Petitioner contends that the partnership was terminated with the properties’ being distributed equally. He claims that the properties exchanged were of equal value after accounting for the environmental liabilities associated with the Angel-Royse Property. 44 This finding is supported by a letter from Mr. Miles to Mr. McLaughlin’s attorney; he states: (continued...) - 63 were not engaged in a partnership with respect to the Angel-Royse Property. A partnership is an organization for the production of income to which each partner contributes one or both of the ingredients of income, capital, or services. Culbertson, 337 U.S. 733, 740 (1949). Commissioner v. In determining whether there is a partnership, we consider the following factors: The agreement of the parties and their conduct in executing its terms; the contributions, if any, which each party has made to the venture; the parties' control over income and capital and the right of each to make withdrawals; whether each party was a principal and coproprietor, sharing a mutual proprietary interest in the net profits and having an obligation to share losses, or whether one party was the agent or employee of the other, receiving for his services contingent compensation in the form of a percentage of income; whether business was conducted in the joint names of the parties; whether the parties filed Federal partnership returns or otherwise represented to respondent or to persons with whom they dealt that they were joint venturers; whether separate books of account were maintained for the venture; and whether the parties exercised mutual control over and assumed mutual responsibilities for the enterprise. [Luna v. Commissioner, 42 T.C. 1067, 1077-1078 (1964).] In order for there to exist a partnership, the parties must conduct some business activity. 44 Madison Gas & Elec. Co. v. (...continued) I trust you will recall that Walter and Roger discussed with you and I a settlement of the existing dispute over the Royse-Angell property by an even exchange of Walter’s interest in the Arrowhead Lakes property for Roger’s interest in the Royse-Angell property. Walter apparently feels that he can salvage the Angell-Royse property and has directed me to proceed with the proposed settlement. * * * - 64 Commissioner, 633 F.2d 512, 514-517 (7th Cir. 1980), affg. 72 T.C. 521 (1979); Frazell v. Commissioner, 88 T.C. 1405, 1412 (1987); Cusick v. Commissioner, T.C. Memo. 1998-286. And, mere coownership of property as tenants in common or otherwise does not result in a partnership. See Bergford v. Commissioner, 12 F.3d 166, 169 (9th Cir. 1993), affg. Alhouse v. Commissioner, T.C. Memo. 1991-652; Cusick v. Commissioner, supra. Petitioner testified that when he initially invested in the acreage in the Angel-Royse Property, it was “landlocked” and “it wasn’t developable property.” He also testified that Mr. McLaughlin held an adjoining tract of land that could provide access to the property and that Mr. McLaughlin’s ownership of this tract prompted their entering into a “partnership”. However, neither petitioner nor Mr. McLaughlin testified as to any development activity or plans for development on the Angel-Royse Property. Neither testified regarding whether they had any expectation of a profit from their activities and as to what kind of business activity their partnership was to engage in; i.e., subdivision, development, real estate sales, etc. There is substantial evidence of record that the property was not the subject of any business activity, and, indeed, the record indicates that petitioner and Mr. McLaughlin were allowing the property to waste.45 45 There is no evidence of any partnership returns’ having Petitioner testified that Mr. McLaughlin “let a guy come (continued...) - 65 been filed or any Schedules’ K-1 having been issued to petitioner or Mr. McLaughlin. Petitioner has submitted no evidence of any partnership records, any partnership agreement, and he has not provided any discussion regarding the operations of this supposed partnership. The record shows that petitioner’s and Mr. McLaughlin’s relationship with respect to the Angel-Royse Property never rose above mere coownership. Petitioner has not established that he and Mr. McLaughlin formed a partnership with respect to the Angel-Royse Property, and we sustain respondent’s determination that petitioner realized gain on the exchange of properties. 8. Prather Ranch Property (OR-01) FINDINGS OF FACT In 1978, petitioner and Wayne Schoolfield sought to acquire certain property owned by the Bank of Palm Beach and Trust Co., located in Orange County, Florida, which we refer to as the “Prather Ranch Property”. Petitioner secured a contract with the bank for the purchase of the property, and he then located other 45 (...continued) in and cut all the trees on the property and start digging out the dirt”, and that these operations resulted in considerable environmental problems. The record also contains a letter from Mr. Miles, in which he complains to petitioner and Mr. McLaughlin that they had not paid their installments on the 1986 mortgages associated with the property and that the mortgagees were threatening foreclosure. - 66 purchasers to facilitate its acquisition.46 On October 17, 1978, the bank sold the Prather Ranch Property to Investors Realty of Osceola, Inc., Agri-Land Corp., William L. Gibson, as trustee,47 Mr. Prewitt, as trustee, William R. Wright (i.e., petitioner), as trustee,48 and Marlborough Investors, Inc. At the time of its purchase, the Prather Ranch Property consisted of 1500-1600 acres and was generally flat pasture with a creek running through the property; the property was zoned agricultural. In 1981, Mr. Gibson sold a portion of the property that he held in trust to third parties. On June 7, 1985, Mr. Gibson transferred the remaining property, which we refer to as “parcel 1”, to Mr. Miles, as trustee, for no consideration. Petitioner was the beneficiary of a 100-percent interest in parcel 1. In March 1983, Mr. Schoolfield, Max Hagen, and petitioner entered into an agreement to trade and to purchase certain parcels of the Prather Ranch Property.49 Pursuant to this 46 Mr. Schoolfield was interested in the front piece of the property, and petitioner was interested in the back piece. 47 Petitioner was the beneficiary of the property interest held in trust by Mr. Gibson. 48 Petitioner and Agri-Land Corp. were originally the beneficiaries of 50-percent interests, respectively, in the property held in trust by “Mr. Wright” (parcel 3). Agri-Land’s interest in this parcel subsequently terminated. 49 According to petitioner, he ended up with a piece of the Prather Ranch Property in its southeast corner; Mr. Schoolfield owned a piece in front of petitioner’s, which had “good access”; and Mr. Hagen owned a 400-acre piece south of Mr. Schoolfield’s. (continued...) - 67 agreement, on April 22, 1982, Agri-Land conveyed its portion (parcel 2) of the Prather Ranch Property to its shareholder, Mr. Schoolfield, as trustee. On May 10, 1983, Mr. Schoolfield sold parcel 2 to Mr. Hagen, as trustee, and Mr. Hagen, in turn, sold it to Mr. Miles, as trustee, for $356,400. sole beneficiary of parcel 2. Petitioner was the On May 10, 1983, Mr. Wright, as trustee, conveyed parcel 3 to Mr. Miles, as trustee. On September 5, 1986, Mr. Miles, as trustee, entered into a contract with Maury L. Carter to sell parcels 1, 2, and 3 for $1,731,000. Mr. Carter never saw an advertisement concerning the sale of this property, and Mr. Carter initiated the sale discussions with Mr. Miles. Pursuant to this contract, Mr. 49 (...continued) Petitioner testified that Mr. Schoolfield was interested in purchasing Mr. Hagen’s piece, and according to petitioner: And as part of an accommodation for him to buy the Hagen piece, I was going to buy his piece that was next to my portion of this 1,500 acres. So that would leave me with Wayne’s piece and my piece, but to accomplish that--I didn’t have the cash to give Wayne for it--so we went, both jointly, went and sat down and worked out a deal with Mr. Hagen. And the end result of the deal was that Mr. Hagen would, out of his 400 acres, would trade 240 acres, I believe it was, with Wayne. So he and Wayne did a trade of 240 acres. That meant that Hagen owned the 240 acres next to my piece and, at the same time, then Wayne purchased the remaining portion of the 400 acres from Mr. Hagen that was down in Osceola County. The 240 acres that Mr. Hagen now owns, up in Orange County, next to my piece, I purchased from him. I added to my holding by purchasing the property from Mr. Hagen, that he’d acquired from Wayne. - 68 Miles, as trustee, sold parcel 1 for $120,000 on October 13, 1986. On May 13, 1987, Mr. Miles, as trustee, sold parcels 2 and 3 for $1,611,000.50 Petitioner realized a gain of $72,039 from the sale of parcel 1 in 1986, and a gain of $823,079 from the sale of parcels 2 and 3 in 1987. Petitioner did not report those gains on his Forms 1040 for 1986 and 1987. At the time of the sales of petitioner’s interests in the Prather Ranch Property, the property was raw land with no improvements or site development. OPINION The only issue with respect to the Prather Ranch Property is whether petitioner realized capital gains on the sales of the parcels in 1986 and 1987, or ordinary income. Respondent determined that petitioner realized ordinary income. In order for taxpayers to obtain preferential long-term capital gains tax rates, the gain must arise from “the sale or exchange of a capital asset”. Sec. 1222(3). The term “capital asset” means “property held by the taxpayer (whether or not connected with his trade or business)”, but does not include “property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business”. 50 Sec. 1221(1). At the time of the sale, petitioner was the beneficiary of a 90.689-percent interest in parcels 2 and 3, which interest was held in trust by Mr. Miles. - 69 In determining whether the gains that petitioner realized from the sales of the three parcels of the Prather Ranch Property were capital gains, we must ask three questions: (1) Was petitioner engaged in a trade or business, and, if so, what business?; (2) was petitioner holding the property primarily for sale in that business?; (3) were the sales contemplated by petitioner “ordinary” in the course of that business? Sanders v. United States, 740 F.2d 886, 888-889 (11th Cir. 1984); Suburban Realty Co. v. United States, 615 F.2d 171, 178 (5th Cir. 1980).51 The question whether property is held primarily for sale to customers in the ordinary course of one’s business is “purely factual”, Pritchett v. Commissioner, 63 T.C. 149, 162 (1974), and 51 The following factors are considered in answering those questions: (1) the nature and purpose of the acquisition of the property and the duration of the ownership; (2) the extent and nature of the taxpayer’s efforts to sell the property; (3) the number, extent, continuity and substantiality of the sales; (4) the extent of subdividing, developing, and advertising to increase sales; (5) the use of a business office for the sale of the property; (6) the character and degree of supervision or control exercised by the taxpayer over any representative selling the property; and (7) the time and effort the taxpayer habitually devoted to the sales. [Sanders v. United States, 740 F.2d 886, 889 (11th Cir. 1984); United States v. Winthrop, 417 F.2d 905, 910 (5th Cir. 1969).] The frequency and substantiality of sales is the most important factor of those listed. Suburban Realty Co. v. United States, 615 F.2d 171, 176 (5th Cir. 1980); Biedenharn Realty Co. v. United States, 526 F.2d 409, 416 (5th Cir. 1976); Hancock v. Commissioner, T.C. Memo. 1999-336. - 70 petitioner bears the burden of showing that the property was held as a capital asset, Guardian Indus. Corp. & Subs. v. Commissioner, 97 T.C. 308, 316 (1991), affd. without published opinion 21 F.3d 427 (6th Cir. 1994). See also Pritchett v. Commissioner, supra at 164 (“Petitioner has the burden of proving that when he dealt with the parcels of land here involved he was wearing the hat of an investor rather than that of a dealer.”). Respondent argues that petitioner was in the business of buying and selling real estate at the time of the sales, that “petitioner agrees that he is not entitled to capital gain treatment for any of the numerous properties which he sold [in that business] during the years at issue”, and that he has failed to meet his burden of demonstrating that he held the parcels as an investor, rather than a dealer. Petitioner, on the other hand, contends that he acquired the parcels with the intention of holding them as long-term investments, that he did not develop the parcels, did not advertise them for sale, did not attempt to change the zoning of the property, and that it was Mr. Carter, not petitioner, who initiated the discussions regarding the sales of the parcels. Petitioner stipulated that “Since the mid 1970s through the present, the petitioner has been in the business of buying and selling real estate and real estate development.” Nevertheless, petitioner contends that his ordinary course of business is “the - 71 purchase, platting, subdividing, rezoning, and improvement of property”, and since petitioner merely purchased and sold the parcels of the Prather Ranch Property, he cannot be said to have sold the property in the ordinary course of his trade or business. After examining the record, the stipulation provides the proper characterization of petitioner’s business activity. Petitioner was involved in real estate sales without development, as well as real estate sales that involved varying degrees of development. Indeed, there are several examples of record wherein petitioner did not engage in development prior to sale and did not make an immediate sale following purchase, and those properties were sold as part of his real estate business. We cannot find that the purchase and the sale of the Prather Ranch Property were outside petitioner’s ordinary course of business. However, we must decide whether the Prather Ranch Property was held primarily for sale in that business. The U.S. Supreme Court has defined “primarily” as used in section 1221(1) to mean “principally” or “of first importance”. Malat v. Riddell, 383 U.S. 569, 572 (1966). “It is, of course, well established that even though petitioner is a dealer in land, he still has the right to acquire land and hold it for investment purposes.” Pritchett v. Commissioner, supra at 163; see also Maddux Constr. Co. v. Commissioner, 54 T.C. 1278, 1286 (1970). The taxpayer’s primary holding purpose must be determined by - 72 reference to his purpose “at some point before he decided to make the sale in dispute.” Suburban Realty Co. v. United States, supra at 182; cf. Guardian Indus. Corp. & Subs., supra at 316. At trial, petitioner testified that he viewed the Prather Ranch Property as a “long-term situation from a retirement standpoint”. Keeping in mind that it is petitioner’s burden to show his entitlement to capital gains treatment, we are not convinced that petitioner acquired the Prather Ranch Property as a long-term investment.52 His purchase of this property was similar in many respects to his acquisition of other properties in his real estate business. Petitioner did not offer any evidence showing that this property, when acquired, was exceptional. The record reflects that like petitioner’s acquisitions of other properties in the ordinary course of his 52 Petitioner also testified: Q When you say--was that something--did you intend to deal with that property as you deal with most of your other properties? A You’re meaning develop it and immediately sell it and stuff like that? Q Right. A No. We cannot accept petitioner’s testimony in and of itself that he did not intend to resell the property on its acquisition. Further, for reasons previously stated, we must reject petitioner’s suggestion that his business was confined to the development and immediate sale of properties. The record suggests several properties were acquired, held for a considerable length of time, and then sold without development. - 73 real estate business, he intended to resell the acquired property as soon as the circumstances permitted.53 We find, on the record, and in the absence of proof to the contrary, that petitioner acquired the property as part of his real estate business. However, we must decide whether petitioner’s motivation in holding the property for some time after its acquisition changed to an investment purpose. At trial, petitioner testified that he became interested in putting cows on the Prather Ranch Property, that his “ultimate plan” was to move cattle to that property for grazing, and that he had a cattle guard54 installed. Petitioner’s testimony was subjective and self-serving, and we cannot accept as true his testimony that he “got in the cow business, because of this piece of property”. Further, petitioner never moved any cattle to the Prather Ranch Property,55 and, indeed, he testified that he had 53 We also note that the 1982-1983 series of trades and purchases orchestrated by petitioner and Mr. Schoolfield are highly indicative of a business acquisition. Through that series of maneuvers, petitioner was able to acquire a parcel of property with “good access” and we suspect a property with a higher probability of resale under favorable circumstances. 54 A cattle guard is “a device consisting of a shallow ditch across which ties or rails are laid far enough apart to prevent livestock from crossing that is often used instead of a gate at a fence opening”. Webster’s Third New International Dictionary 354 (1986). Petitioner testified that the cattle guard he installed was a “huge concrete thing”, which cost $1,600 and weighed about 5,000 pounds. 55 Petitioner testified that as he was preparing to move cattle to the Prather Ranch Property, Mr. Carter “came along and (continued...) - 74 moved the cattle to another piece of property, which according to his testimony, was only 2 miles from his house.56 Other than the cattle guard, petitioner presented no evidence of any preparation of the property for cattle grazing or that the property was even suitable for grazing. We cannot agree that petitioner’s testimony alone establishes a change in his holding purpose to investment. We hold that petitioner has not established his entitlement to capital gains treatment. 55 (...continued) made me an offer I couldn’t refuse.” 56 Petitioner testified in relevant part: Well, what I had done was I had, in the course of doing this, I had investigated with him -- I'd known Mike [Partin] for years -- getting into the cow business, with just the piece I had. And then I get tied up with acquiring this other Hagen piece. Meanwhile, I had already started buying cows from Mike and we had a piece of property nearby that I moved the cows to and put them on. Well, they, you know, same thing, you start buying too many cows and they start having babies and you're trying to keep them all as best you can and so I ended up kind of with too many. But just about the time I was getting ready to -I felt like I had enough cows -- to move up to this piece of property, which was probably ten miles from my house, where the other piece was probably two miles from my house, that to get enough cows to put up there on this piece of property, Mr. Maury Carter came along and made me an offer I couldn't refuse. And by then I was probably up to my eyeballs in something else and was over my head in the cow business -- had more cows that I could handle. - 75 9. Citrus County Property FINDINGS OF FACT On September 7, 1977, petitioner through Ms. Allen, as trustee, purchased real property in Citrus County, Florida, which we refer to as the “Citrus County Property”, for $1,837.54. On August 10, 1981, petitioner through Ms. Allen, as trustee, transferred the Citrus County Property to Mr. Miles, as trustee. Petitioner was the sole beneficiary of this property. On July 2, 1982, Combank, the predecessors in interest of Freedom Savings & Loan Association of Tampa, Inc. (Freedom), lent $120,000 to Cramer, Hoffman & Haber, P.A. On July 2, 1982, petitioner guaranteed the $120,000 promissory note and pledged the Citrus County Property (sometimes referred to as property) as collateral. In 1983, Freedom filed a mortgage foreclosure action in the Circuit Court of Citrus County, Florida, Case No. 83-917CA (the foreclosure case) to foreclose its mortgage interest in the property. On March 26, 1984, the parties in the foreclosure case, including petitioner as guarantor, filed a Joint Motion and Stipulation for Rendition of Final Judgment wherein they asked the court to render a final judgment of foreclosure regarding the property pursuant to certain conditions. Those conditions included Freedom’s forbearance of its right to foreclose in consideration for petitioner’s unconditional promise to perform the terms of his guaranty and to make payments on the amounts due - 76 Freedom. Petitioner also agreed that if those payments were not made as scheduled, then Freedom could proceed with the foreclosure. On October 11, 1985, Freedom filed a motion for final judgment of foreclosure against the property averring that the required payments had not been made in accordance with the parties’ March 26, 1984, stipulation.57 On October 25, 1985, pursuant to the stipulation, the court entered a Final Judgment of Foreclosure. Pursuant to the judgment, the property was sold and title was conveyed to the purchaser, Freedom, on November 25, 1985. In 1983, Freedom filed a separate action in the Circuit Court for Orange County, Florida, Case No. 83-12119 (the judgment case), for judgment against petitioner and two other guarantors of the loan to Cramer, Hoffman & Haber, P.A. On September 16, 1986, Freedom filed a Motion for Final Judgment against petitioner seeking money judgment for the unpaid balance of the note that he guaranteed. In a pleading that petitioner filed on October 8, 1986, petitioner represented that the only issue in the judgment case that remained was the value of the property that had been sold pursuant to the prior foreclosure action in Citrus County. On December 22, 1986, the Circuit Court for Orange County rendered final judgment finding that petitioner 57 The Court’s final judgment recited that the outstanding debt to Freedom consisted of $96,872.18 principal, together with interest of $3,553.20 and attorney’s fees of $4,000. - 77 should be given credit for the fair market value of the Citrus County Property and found that the fair market value was $87,000. The Circuit Court’s final judgment then determined that petitioner owed a remaining $20,834 on his guaranty obligation. On December 31, 1986, petitioner asked for rehearing claiming that at the time of the foreclosure sale in 1985, the Citrus County Property had a fair market value far in excess of $87,000. Petitioner alleged that the Citrus County appraiser’s records indicated a fair market value of $133,000 and that petitioner’s testimony was that the property value was, at an “absolute minimum”, at least $114,000. Based on petitioner’s averments, the Circuit Court for Orange County granted a rehearing as to the fair market value of the Citrus County Property. evidence that a rehearing ever occurred. There is no The parties eventually reached a settlement, and on October 28, 1987, Freedom filed a Satisfaction of Judgment stating that the $20,834 had been fully satisfied. Thus, petitioner’s remaining personal liability on his guaranty was resolved approximately 2 years after the foreclosure sale had become final. Petitioner’s basis in the property at the time of the foreclosure sale was $1,844. OPINION Respondent has raised as a new matter in his amendment to answer an allegation that petitioner realized a gain of $112,156 - 78 from the foreclosure sale in 1985.58 Respondent agrees that he bears the burden of proof on this issue under Rule 142(a). The transfer of property in a foreclosure sale represents a sale or exchange for tax purposes. Helvering v. Hammel, 311 U.S. 504 (1941); 2925 Briarpark, Ltd. v. Commissioner, 163 F.3d 313, 318 (5th Cir. 1999), affg. T.C. Memo. 1997-298; Cox v. Commissioner, 68 F.3d 128, 133 (5th Cir. 1995), affg. T.C. Memo. 1994-189; Yarbro v. Commissioner, 737 F.2d 479, 485 (5th Cir. 1984), affg. T.C. Memo. 1982-675; Aizawa v. Commissioner, 99 T.C. 197, 198 (1992), affd. without published opinion 29 F.3d 630 (9th Cir. 1994). Under section 1001(a), the amount of gain realized from a sale or exchange is the excess of the amount realized over the taxpayer’s adjusted basis in the property. In the case of recourse debt, the amount realized from the transfer of property in a foreclosure sale is the fair market value of the property on the date of the sale. Frazier v. Commissioner, 111 T.C. 243, 245 (1998); Marcaccio v. Commissioner, T.C. Memo. 1995-174. The amount realized from a sale or other disposition of property includes the amount of liabilities from which the transferor is discharged as a result of the sale or other disposition. 2925 Briarpark, Ltd. v. Commissioner, supra at 317; sec. 1.10012(a)(1), Income Tax Regs. 58 Any unpaid portion of the recourse Respondent originally determined that petitioner realized cancellation of indebtedness income. Respondent now concedes this determination. - 79 debt in excess of the fair market value of the property is not used to calculate the amount realized from a sale under section 1001(b). See 2925 Briarpark, Ltd. v. Commissioner, supra at 318 n.2; Marcaccio v. Commissioner, supra. Respondent contends that petitioner realized at least $114,000 in the 1985 foreclosure sale of the Citrus County Property. He relies upon petitioner’s position in the deficiency judgment proceedings that the fair market value of that property was at least $114,000 at the time of the foreclosure sale. We cannot agree that respondent has established that the fair market value of the Citrus County Property was at least $114,000 on the date of the foreclosure sale. The Orange County Circuit Court found that the Citrus County Property had a fair market value of $87,000 at the time of the foreclosure sale. The court gave petitioner credit for $87,000 and then entered a deficiency judgment of $20,834 against petitioner, which represented petitioner’s remaining personal liability as guarantor. Although final judgment was stayed for the introduction of additional evidence as to fair market value, no such evidence appears to have been submitted, and, in any event, the parties settled the matter and Freedom filed a Satisfaction of Judgment stating that the $20,834 deficiency judgment had been satisfied. We find that the fair market value on the date of the foreclosure sale was $87,000, the amount determined by the Circuit Court. - 80 We must also reject petitioner’s argument that he is not required to recognize gain from the foreclosure sale, because he was not the borrower of the original loan proceeds and received no benefit therefrom. Petitioner argues: The law is clear that to realize gain based upon market value of property transferred, the transfer must be in consideration of the discharge or reduction of indebtedness. This gain is not realized when the indebtedness is based upon a guaranty and the taxpayer received none of the loan proceeds. Petitioner cites Landreth v. Commissioner, 50 T.C. 803 (1968); Payne v. Commissioner, T.C. Memo. 1998-227, revd. on other grounds 224 F.2d 415 (5th Cir. 2000); and Whitmer v. Commissioner, T.C. Memo. 1996-83, in support of his position. We find those cases distinguishable in that they dealt with discharge of indebtedness income of a guarantor, not gain realized from the sale of the guarantor’s property at a foreclosure sale. In Frazier v. Commissioner, supra at 248, we achieved parity [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/documents/agency%3Atax-court%3A7f86e0faa42f04fc. Public record. Not legal advice.