UNITED STATES TAX COURT

T.C. Memo. 1997-401

UNITED STATES TAX COURT

ROBERT E. AND CAROLYN S. HOLMES, Petitioners v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket Nos. 4870-93, 27120-93.

Filed September 10, 1997.

Jeffrey A. DeVree and Elizabeth K. Bransdorfer, for

petitioners.

Terry L. Zabel, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

WHALEN, Judge:

Respondent determined the following

deficiencies in and additions to petitioners' Federal

income tax for the years in issue:

- 2 -

Year

Deficiency

1987

1988

1989

1990

1991

$10,571.00

15,270.51

12,412.00

6,107.00

15,681.00

Additions to Tax

Sec.

Sec.

6653(a)(1)(A)

6653(a)(1)(B)

$528.55

-----

1

-----

Sec.

6653(a)(1)

-$763.53

----

1

Fifty percent of the interest computed under sec.

6601 with respect to the portion of the underpayment which

is attributable to negligence.

Unless otherwise stated, all section references are to the

Internal Revenue Code as in effect during the years in

issue.

After concessions, the issues remaining for

decision are:

(1) Whether petitioners' farming activity

during the years in issue was an "activity not engaged in

for profit" within the meaning of section 183; and (2)

whether petitioners are liable for the additions to tax for

negligence prescribed by section 6653(a)(1)(A) and (B) with

respect to their 1987 return, and the addition to tax for

negligence prescribed by section 6653(a)(1) with respect to

their 1988 return.

FINDINGS OF FACT

Some of the facts have been stipulated and are so

found.

The stipulation of facts, first supplement to

stipulation of facts, and exhibits attached to each are

incorporated herein by this reference.

Petitioners are

- 3 husband and wife who filed a joint Federal income tax

return for each of the years in issue.

Respondent issued

two notices of deficiency to petitioners.

In the first

notice, respondent determined deficiencies and additions

with respect to petitioners' 1989, 1990, and 1991 returns.

In the second notice, respondent determined deficiencies

and additions with respect to petitioners' 1987 and 1988

returns.

Petitioners filed two petitions for redetermina-

tion, one petition to dispute each notice of deficiency.

The Court subsequently consolidated these cases for trial,

briefing, and opinion pursuant to Rule 141.

All Rule

references are to the Tax Court Rules of Practice and

Procedure.

At the time they filed their petitions in these

consolidated cases, petitioners resided in Calhoun County,

Michigan.

All references to petitioner in this opinion are

to Mr. Robert E. Holmes.

Petitioner holds a bachelor's degree in business

administration with minors in economics and small business

management.

In 1956, petitioner began working as a sales-

man for State Farm Mutual Insurance Co. (State Farm) in

Battle Creek, Michigan.

In 1961, he was promoted to

district sales manager.

Petitioner held that position from

the time of his promotion up to and including the time of

trial.

Forms W-2, Wage and Tax Statements, issued to

- 4 petitioner reported the following wages, tips, and other

compensation from his employment with State Farm during the

years in issue:

Year

Compensation

1987

1988

1989

1990

1991

$188,435.47

190,949.62

211,946.06

188,581.07

186,605.22

Real Property and Related Activities

Sometime during the late 1970's, petitioners purchased

approximately 5 acres of real estate located in Calhoun

County, Michigan (the 5-acre parcel).

Shortly after

purchasing the property, petitioners constructed a house

on the property which they used as their personal residence

during each of the years in issue.

Circa 1981, petitioners purchased approximately 40

acres of real estate (the 40-acre parcel) contiguous to

the 5-acre parcel.

Prior to petitioners' purchase of this

40-acre parcel, the previous owner had raised cattle on the

land.

According to the depreciation schedules attached to

their returns, petitioners claimed an aggregate basis of

$45,000 in the 40- and 5-acre parcels.

- 5 In 1986, petitioners began to consider the feasibility

of purchasing additional real estate near their home.

Mr. Edgar Puthuff owned a 300-acre plot which bordered

petitioners' 5- and 40-acre parcels.

Mr. Timothy

VandenHeede, a neighboring farmer and personal friend of

petitioner, had previously raised corn on portions of the

300-acre plot.

After discussions with Mr. VandenHeede

regarding the purchase and economic feasibility of farming

the land, petitioner and Mr. VandenHeede agreed to order a

survey of the entire 300-acre plot.

Petitioner also

discussed the possible purchase of this additional real

estate with Mr. Mike Robinson, a local farmer, and with

representatives of the local Agriculture Stabilization

Control (ASC) office.

Later in 1986, petitioner and Mr. VandenHeede each

purchased a portion of the 300-acre plot.

Petitioners

purchased 120 acres (the 120-acre parcel) contiguous to the

5- and 40-acre parcels, and Mr. VandenHeede purchased the

remaining 180 acres.

The 120-acre parcel which petitioners

purchased consisted of crop land, timberland, and some wetland.

At the time of the purchase, petitioners intended

to farm a portion of the 120-acre parcel.

According to

the depreciation schedules attached to their returns,

- 6 petitioners claimed a basis of $50,000 in the 120-acre

parcel.

Petitioners engaged in a variety of activities on the

5-, 40-, and 120-acre parcels during the years in issue,

including growing Christmas trees, raising fish, preparing

timber for harvest, and planting row crops.

Petitioners

also placed a portion of the property in various Government

subsidy programs, received disaster relief payments in

connection with a portion of the land, and made depreciable

improvements to the land.

Petitioners treated these

activities as "farm activities" and reported the following

income and expenses from these activities for the years in

issue:

- 7 -

Income:

Sale of livestock

and produce

Corn

Soybeans

Hay and straw

Miscellaneous

Insurance proceeds

ASCS Payments

Rental/crop income

Federal and state

gasoline fuel tax

credit or refund

Agricultural

program payments

Total gross income

Expenses:

Custom hire

(machine work)

Depreciation

Fertilizers and

lime

Freight & trucking

Gasoline, fuel, and

oil

Insurance

Interest mortgage

Net labor

Rent of farm,

pasture

Machine hire

Repairs &

maintenance

Seeds, plants

purchased

Supplies purchased

Taxes

Utilities

Other expenses

Vehicle

Misc.

Telephone

Planting

State Farm

interest

Great Lakes

interest

Dues &

subscriptions

Other insurance

Professional

Casual labor

Postage

1987

1988

1989

1990

1991

-$459

------

$423

-------

--$2,000

-514

---

$2,927

--525

938

3,148

--

---$1,729

938

-5,900

18

19

89

--

--

3,004

3,481

2,537

2,979

2,929

5,532

-7,538

2,607

11,174

-(4,899)

-(7,700)

(4,475)

(7,010)

(968)

(6,109)

(1,381)

(5,451)

---

(5,488)

--

---

(1,800)

(79)

(1,029)

--

(1,483)

-(12,803)

(1,800)

(1,426)

(325)

(13,385)

(2,546)

(309)

(337)

(12,860)

(2,796)

(324)

(810)

-(2,487)

(193)

(456)

-(283)

-(2,090)

(94)

--

---

---

---

(2,793)

(7,482)

(3,679)

(2,164)

(3,685)

(2,673)

(2,103)

(5,563)

--

(3,850)

(9,785)

(5,698)

(120)

-(2,090)

(10,639)

(389)

(583)

(1,021)

(12,103)

--

-(1,789)

(1,404)

--

(1,620)

(2,142)

-(5,263)

(1,728)

(1,145)

-(2,224)

(1,632)

(536)

(393)

--

-(302)

---

-(873)

---

(7,914)

(4,226)

(455)

(1,222)

--

--

--

--

(12,209)

(6,256)

------

--(543)

---

--(527)

---

(20)

-(547)

---

(124)

(158)

(350)

(2,120)

(9)

- 8 -

Office

Advertising

Net income (loss)

1987

-(13)

(49,678)

1988

--(64,786)

1989

--(42,595)

1990

(162)

-(35,372)

1991

--(14,387)

In 1992 and 1993, petitioners incurred net losses from

these activities in the amounts of $12,847 and $14,140,

respectively.

For 1987, 1988, and 1989, petitioners reported the

above losses on Schedules F, Farm Income and Expenses, that

are attached to their individual income tax returns for

those years.

For 1990 and 1991, petitioners treated their

"farm activities" as having been conducted through a

partnership, R.C. Enterprises (RC), in which each of them

held a 50-percent interest.

The partnership reported the

income and expenses from petitioners' farm activities on

Schedules F attached to the partnership's returns for 1990

and 1991.

Petitioners then reported their distributive

shares of the partnership losses on Schedules E, Income or

Loss From Partnership and S Corporation, filed with their

individual returns for those years.

The following is a discussion of each of the

activities that petitioners undertook in connection with

their land.

- 9 Fish Raising

Sometime prior to 1987, after reading articles in a

local trade magazine and attending at least one seminar

at the Michigan State Biological Station, petitioner began

to raise fish in two ponds located on his property.

It is

unclear from the record whether these ponds were on the

property at the time of petitioners' acquisition or whether

petitioner constructed one or both of them himself.

Petitioner began his fish-raising activity by digging

small holes on the property to determine whether the ponds

would hold water.

Petitioner then tested the temperature

of the water in the ponds to determine whether fish could

survive in them.

After concluding that the water was

suitable for raising fish, petitioner enlarged both ponds

and covered the bottoms with lining material.

Petitioner

then purchased approximately 100 trout for approximately

$1.75 to $2.50 each, and an undisclosed number of catfish

for approximately 10 cents each, to stock the ponds.

Petitioner placed the trout in the smaller of the two

ponds and the catfish in the other pond.

At the time he

purchased these fish, petitioner expected that he could

sell the trout after they matured for somewhere between

- 10 $2.50 and $4.95 per pound, and the catfish for somewhere

between $1.50 and $2.50 each.

Sometime after petitioner stocked the ponds, all of

the fish died due to hot weather.

Petitioner then put

more fish in the ponds and attempted to keep them alive

by pumping cool well water into the ponds.

This was

marginally successful, and in 1990, petitioners were able

to harvest some fish which they sold for a total of $525.

At some point, however, the pumps failed and a portion of

the remaining fish died due to high water temperature.

Petitioner then inserted a pipe connecting the small trout

pond to the larger catfish pond to regulate the water

temperature in both ponds.

Petitioner also installed

electric aerators in the ponds to increase the amount of

oxygen in the water, and constructed a deck leading to the

middle of the larger pond to transport electricity to the

aerators.

Additionally, petitioner purchased and installed

a windmill to operate a plunger designed to draw cool water

from the ground into one of the ponds.

This plunger system

was not operational at the time of trial.

Petitioners' fish-raising activity was never profitable.

Petitioners paid a total of $7,190 for improvements

- 11 to the ponds, which they are depreciating over a period of

19 years.

Petitioners reported income of $525 from the

sale of fish in 1990, but they did not report any income

from the fish-raising activity in any of the other years in

issue.

Although there were no fish in either of the ponds

at the time of trial, petitioner planned to restock the

ponds once the windmills and plungers were operational.

Christmas Trees

Sometime prior to 1987, after consulting representatives of the local Soil Conservation Service (SCS) office,

petitioner decided to plant Christmas trees on his

property.

Petitioner had gained some experience harvesting

and selling Christmas trees while working on his father's

property as a young man.

Sometime after 1987, petitioner borrowed a treeplanting device from the SCS and planted 500 to 1,000

trees on his property.

Petitioner planted more trees in

subsequent years in an attempt to establish a continuous

rotating crop.

Petitioner planted these trees in rows

approximately 5 feet apart.

Some of the trees are planted

- 12 under overhead wires.

Some of the trees are visible from

petitioners' house.

In addition to the cost of the trees, petitioner

incurred costs for herbicide and trimming services.

At

trial, petitioner estimated that Christmas trees were

growing on approximately 15 of his 165 acres, but he was

unable to estimate the total number of trees growing on

his property.

Petitioner did not harvest or sell any trees

during any of the years in issue but thought that he could

begin harvesting trees approximately 2 years after the time

of trial.

Timber

Sometime between 1986 and 1988, petitioner began

considering the prospect of selling timber located on the

120-acre parcel.

Petitioner had obtained some experience

harvesting and selling timber after his father died, when

he sold trees that were growing on his father's land.

Petitioner spent some time during the years in issue

removing dead, crooked, and otherwise unwanted trees and

brush from his property in an attempt to manage the

timberland.

However, petitioner did not harvest or sell

- 13 any of the trees on his property during any of the years

in issue.

Row Crops and Government Subsidy Programs

Shortly after purchasing the 40-acre parcel,

petitioner spoke with Mr. VandenHeede, who suggested

that petitioner contact the local ASC office about the

possibility of placing a portion of the land in the

Conservation Reserve Program (CRP).

The CRP is a program

controlled by the U.S. Department of Agriculture (USDA) on

behalf of the Commodity Credit Corp., the SCS, and the U.S.

Forest Service.

Under the CRP, the USDA pays an owner or

operator of eligible crop land an annual rental fee in

exchange for the owner's or operator's agreement to use his

or her land in conformance with the USDA's direction.

The

amount of annual rental payments under the CRP are based on

bids submitted by the owners or operators of the land.

CRP

contracts are generally effective for terms of 10 or 15

years.

When specific property is accepted into the CRP, the

SCS develops a comprehensive plan for managing the land.

Typically, the SCS requires the owner or operator to

- 14 establish a permanent cover of grass and/or other

vegetation on the land in lieu of cultivating row crops

such as corn.

soil.

This is intended to prevent erosion of the

The USDA pays one-half of the expenses incurred in

establishing this permanent cover and provides technical

assistance to the owner or operator through the SCS,

conservation districts, U.S. Forest Service, State forestry

agencies, and other agencies.

On May 5, 1986, petitioner signed a contract placing

14.3 acres of the 40-acre parcel in the CRP at an annual

rental rate of $57 per acre.

effective until 1996.

This agreement was to be

A representative of the Commodity

Credit Corp. approved the contract on or about August 5,

1986.

In 1987, after discussions with Mr. VandenHeede,

Mr. Robinson, and Mr. Douglas Jackson, petitioners'

accountant, regarding the economic feasibility of farming

the land, and after obtaining information from the local

Agriculture Stabilization and Conservation Service (ASCS),

petitioner hired Mr. Robinson as an independent contractor

to till, plant, and harvest row crops on a portion of the

120-acre parcel.

Mr. Robinson continued to work for

- 15 petitioners through 1990 pursuant to subsequent annual

agreements.

Effective for the 1987 crop year, the Calhoun

County ASCS Committee designated 36.3 of petitioners' total

165 acres as "cropland".

Petitioners planted crops on 23.6 acres during 1987,

including 13.6 acres of corn and 10 acres of soybeans.

Petitioners harvested 518 bushels of corn in 1987 but did

not report any gross income from the sale of corn in that

year.

Petitioners reported gross income of $459 from the

sale of soybeans in 1987.

The record of this case does not

set out the number of bushels of soybeans harvested or the

price per bushel petitioners received.

Petitioners also

reported gross income of $3,004 from Government subsidy

payments received in 1987.

In 1988, petitioners participated in the "0-92

program".

The ASCS pays a landowner who participates in

this program a specified amount of money per acre per year

in exchange for the landowner's agreement to refrain from

planting crops on anywhere from zero to 92 percent of his

or her total eligible acreage.

The record does not

disclose the amount of money petitioners received under the

0-92 program during 1988.

However, petitioners reported

- 16 gross income from agricultural program payments in 1988 of

$2,537.

In their "Report of Acreage" to the local ASCS office

for 1988, petitioners reported that they held a total of

57.1 acres of "cropland".

Petitioners did not plant or

harvest any corn on their property during 1988.

However,

petitioners reported gross income from the sale of corn in

1988 of $423.

Although petitioners planted oats on 15.3

acres of their property in 1988, they did not harvest or

sell any oats during that year.

A letter from the Calhoun County ASCS office to

petitioner dated July 23, 1989, states that 50.6 of

petitioners' 165 acres was considered "cropland".

On or

about July 24, 1989, petitioners signed a contract placing

22.4 acres into the CRP at an annual rental rate of $60 per

acre.

This is in addition to the 14.3 acres placed in the

CRP in 1986.

A representative of the Commodity Credit

Corporation approved this contract on or about December 13,

1989.

This agreement was to be effective from 1990 to

1999.

Petitioners planted corn on 19 acres of their

property during 1989 and harvested a total of 917 bushels.

- 17 Additionally, petitioners planted soybeans on 13.1 acres

and harvested 126 bushels.

Petitioners did not plant or

harvest any oats during 1989.

Although petitioners did not

report any gross income from the sale of corn in 1989, they

did report $2,000 as gross income from the sale of hay and

straw.

Petitioners planted 11.1 acres of corn in 1990,

producing a total harvest of 164 bushels.

Petitioners

did not plant or harvest any soybeans or oats in 1990.

Petitioners reported gross income from the sale of corn in

1990 of $2,927.

Petitioners did not plant any row crops

on their property during 1991 or 1992, but they reported

gross income of $1,729 from the sale of miscellaneous

livestock and produce in 1991.

The average corn yields for farms in Calhoun County,

Michigan, and petitioners' average corn yields during the

years in issue are as follows:

Year

Average

Bushels/Acre

Petitioners' Average

Bushels/Acre

1987

1988

1989

1990

1991

79.1

56.9

112.1

119.4

94.9

38.09

-48.26

14.78

--

- 18 -

The above averages for farms in Calhoun County include both

irrigated and nonirrigated farms, whereas petitioners' farm

was nonirrigated.

A letter dated November 5, 1990, from

the Michigan Department of Natural Resources (MDNR) to

petitioner states that the township of Marshall, where

petitioners' land was located, had experienced significant

crop damage caused by deer for several years.

Accordingly,

in 1990, the MDNR issued a permit to petitioner authorizing

him to kill antlerless deer on his property.

Petitioner received disaster assistance payments

during the years in issue.

The ASCS sent a letter dated

January 3, 1992, to petitioner concerning the Disaster

Assistance Program for 1990 and 1991.

It is apparent from

this letter that petitioners had applied for disaster

assistance of some sort.

A letter dated March 26, 1992,

from the local ASCS office to petitioners states that

petitioners' application for disaster relief with respect

to their crop loss was approved.

However, the record does

not disclose the nature or extent of petitioners' crop loss

or the amounts of disaster assistance payments they

received.

- 19 -

Depreciable Improvements and Equipment

Petitioners made various improvements to their land

during the years in issue.

These included constructing a

pole barn, purchasing and installing grain bins to store

crops after they are harvested, improving a driveway,

installing gates and fences, and lining the beds of the

ponds.

Petitioners also purchased items of equipment

related to their various activities, including a chain

saw, a tractor, and other farm equipment.

The depreciation

deductions claimed on the Schedules F, Farm Income and

Expenses, filed with petitioners' returns for 1987, 1988,

and 1989, and on the Schedules F filed with the returns

for R.C. Enterprises for 1990 and 1991, are based upon the

following improvements, additions, and items of equipment:

- 20 -

Depreciation Deductions

Gates and fencing

Pole barn

Pond liner

Equipment (tractor)

Water tank

Equipment

Plow disc 280 winch

Chain saw

Mill

Grain bins

Lights

Driveway addition

Total

Cost Basis

1987

1988

1989

1990

1991

$2,971

12,756

7,190

12,948

806

1,496

1,013

491

1,500

2,483

2,188

23,004

$594

676

381

1,850

-----248

-1,150

$594

676

381

3,171

86

160

---447

-2,185

$594

676

381

2,265

206

382

72

--358

109

1,967

$594

676

381

1,617

147

273

145

--286

219

1,771

$119

676

381

1,156

101

187

145

35

107

358

219

1,967

68,846

4,899

7,700

7,010

6,109

5,451

Hunting Lodge

Prior to 1990, petitioners constructed a building

directly across the driveway from their house at a cost of

approximately $97,000.

This building is approximately 40

feet by 20 to 30 feet and consists of a ground floor and

a basement.

The ground floor is decorated like a hunting

lodge, with mounted heads of game on the walls and a

bearskin rug on the floor of the main room.

Petitioner

used this building on one occasion during the years in

issue as a meeting place for State Farm agents.

Other Business Activities

Petitioners were involved in various business

activities other than those mentioned above both before

and during the years in issue.

Sometime prior to 1987,

- 21 petitioners invested in a shopping mall called the Holt

Shopping Center.

Petitioners did not create a formal

business plan or cost analysis prior to investing in this

venture.

Petitioners reported the following income from

their investment in the shopping center during the years

in issue:

Year

Total Income

Miscellaneous Income

1987

1988

1989

1990

1991

$17,359

21,835

16,440

17,205

18,156

$2,400

2,200

2,600

2,400

2,400

Petitioners also invested in residential property in

Florida, including a "tennis villa" and a "resort villa".

The record does not disclose the precise nature of these

investments or the income or loss realized from them.

Sometime in 1990, Mrs. Holmes opened a retail

clothing business.

Petitioners reported a loss from this

business in the amount of $584 in 1990 and a profit of $179

in 1991.

Petitioners' Bookkeeping Practices

Virtually all of petitioners' business and investment

activities, including the tennis villa and the resort

villa, were conducted through RC.

In 1990, pursuant to

- 22 Mr. Jackson's advice, petitioners also began reporting the

losses from their farming activities on RC's partnership

tax returns.

Petitioners maintained a checking account with the

Chemical Bank-South (Chemical) for their tennis villa,

resort villa, and farming activities.

This bank account

was separate from petitioners' personal bank accounts.

Petitioners typically paid expenses incurred in their

farming activity with checks drawn on the Chemical account,

but it is not clear from the record when this practice

began.

These checks were imprinted with the name "R/C

ENTERPRISES" and the address of petitioners' personal

residence.

Petitioners also periodically paid expenses

related to their farming activity with checks drawn on

their personal checking account.

Mrs. Holmes was primarily responsible for keeping

the books and writing checks to pay expenses relating

to petitioners' business and farming activities.

When

petitioners received a bill, petitioner would typically

inspect the bill and write "labor", "machinery", or some

other designation on the portion to be retained for

petitioners' records.

He would then give the bill to

Mrs. Holmes to pay and record.

Mrs. Holmes would then

allocate the expense to one of petitioners' business

- 23 activities, record the bill on a ledger, and write a check

to pay the amount due.

Petitioners introduced one page of

their 1987 ledger and all pages of their 1988 ledger into

evidence.

There is no documentary evidence in the record

of petitioners' bookkeeping practices for the remainder of

1987 or any portion of 1989 through 1991.

Petitioners conceded at trial that check No. 1004

drawn on RC's Chemical account and made payable to Chapman

Nursery & Landscaping in the amount of $2,250, which was

entered into their 1987 cash disbursements journal as a

"farm expense", was actually a personal expense incurred

for landscaping around their house.

Petitioners also

conceded that check Nos. 1134 and 1215 drawn on RC's

Chemical account and made payable to Brian Minto in the

amounts of $455.68 and $309.62, respectively, which were

entered in petitioners' ledger as farm expenses for 1988,

were actually used to pay personal expenses.

Respondent's Examination

In May 1990, Revenue Agent Paul Przytulski visited

petitioners' property in conjunction with his audit of

their 1987 and 1988 returns.

During this visit,

Mr. Przytulski noticed many deer tracks on the property,

several wooden boxes near the ponds which contained some

- 24 sort of feed, and several salt licks in or around the

wooded areas.

After he toured the property, Mr. Przytulski

asked Mr. Jackson, petitioners' accountant, for invoices

and receipts to support petitioners' canceled checks.

In

response, Mr. Jackson offered Mr. Przytulski a disorganized

assortment of documents.

Although Mr. Przytulski asked

Mr. Jackson to organize the documents, he never received

the documentation he requested in an organized format.

In April 1992, Revenue Agent Robert Cole visited

petitioners' property in conjunction with his audit of

their 1989 through 1991 returns.

After touring the

property, Mr. Cole asked Mr. Jackson to produce documents

to support petitioners' deductions during those years.

Once again, Mr. Jackson offered Mr. Cole a box of

disorganized records which included documents relating to

all of petitioners' checking accounts, including their

personal accounts.

Petitioners never provided Mr. Cole

with a summary reconciling their tax return entries with

the documents they produced.

OPINION

Section 183

The primary factual issue in this case is whether

petitioners' farming activity was an "activity not engaged

- 25 in for profit" within the meaning of section 183.

Section

183(a) provides that no deduction attributable to an

activity which is not engaged in for profit is allowable

except as provided in section 183(b).

Section 183(b)(1)

allows all deductions which would be allowable without

regard to whether the activity is engaged in for profit.

Section 183(b)(2) allows a deduction equal to the amount of

the deductions that would be allowable for the taxable year

if such activity was engaged in for profit, but only to the

extent the gross income derived from the activity exceeds

the deductions allowable under section 183(b)(1).

Section 183(c) defines "activity not engaged in for

profit" as "any activity other than one with respect to

which deductions are allowable for the taxable year under

section 162 or paragraph (1) or (2) of section 212."

The

key requirement for deductibility under sections 162 and

212(1) and (2) is that the taxpayer be engaged in the

activity with an actual and honest objective of making a

profit.

See Dreicer v. Commissioner, 78 T.C. 642, 644

(1982), affd. without published opinion 702 F.2d 1205

(D.C. Cir. 1983); Brannen v. Commissioner, 78 T.C. 471,

502 (1982), affd. 722 F.2d 695 (11th Cir. 1984); Allen v.

Commissioner, 72 T.C. 28, 33 (1979).

Although a taxpayer

need not have a reasonable expectation of earning a profit,

- 26 a bona fide profit objective must exist.

See Keanini v.

Commissioner, 94 T.C. 41, 46 (1990); Hulter v. Commissioner, 91 T.C. 371, 393 (1988); Beck v. Commissioner, 85

T.C. 557, 569 (1985); Dreicer v. Commissioner, supra;

Golanty v. Commissioner, 72 T.C. 411, 425-426 (1979), affd.

without published opinion 647 F.2d 170 (9th Cir. 1981);

sec. 1.183-2(a), Income Tax Regs.

"Profit" in this context

means economic profit, independent of tax savings.

See

Antonides v. Commissioner, 91 T.C. 686, 694 (1988), affd.

893 F.2d 656 (4th Cir. 1990); Landry v. Commissioner, 86

T.C. 1284, 1303 (1986).

Whether a taxpayer engages in an activity with the

requisite profit motive is a question of fact to be

resolved on a consideration of all the facts and circumstances in the record.

See Lemmen v. Commissioner, 77

T.C. 1326, 1340 (1981); Allen v. Commissioner, supra at

34; sec. 1.183-2(b), Income Tax Regs.

Petitioners bear

the burden of proving that they engaged in their farming

activity with the requisite profit motive, and greater

weight is given to objective facts than to the taxpayer's

mere statement of intent.

See Rule 142(a); Siegel v.

Commissioner, 78 T.C. 659, 699 (1982); Churchman v.

Commissioner, 68 T.C. 696, 701 (1977); sec. 1.183-2(a),

Income Tax Regs.

- 27 -

Single Activity

In order to apply section 183 and the regulations

promulgated thereunder, the activity or activities of the

taxpayer must be ascertained.

Tax Regs.

Sec. 1.183-1(d)(1), Income

According to the regulations under section 183,

in ascertaining the activity or activities of the taxpayer,

the general rule is that all the facts and circumstances

of the case must be taken into account.

Id.

The regula-

tions provide as follows:

Generally, the most significant facts and

circumstances in making this determination

are the degree of organizational and economic

interrelationship of various undertakings, the

business purpose which is (or might be) served by

carrying on the various undertakings separately

or together in a trade or business or in an

investment setting, and the similarity of various

undertakings. Generally, the Commissioner will

accept the characterization by the taxpayer of

several undertakings either as a single activity

or as separate activities. The taxpayer's

characterization will not be accepted, however,

when it appears that his characterization is

artificial and cannot be reasonably supported

under the facts and circumstances of the case.

* * * [Id.]

Petitioners treat their fish, Christmas tree, timber,

and row crop undertakings as a single activity for section

183 purposes.

Respondent does not suggest otherwise.

Given the economic and organizational interrelationship of

- 28 these activities, we accept petitioners' characterization.

Neither party addressed, either at trial or on brief,

whether the holding of the land for its appreciation in

value should be treated as a separate activity for section

183 purposes.

On this point, the regulations provide in

pertinent part as follows:

Where land is purchased or held primarily with

the intent to profit from increase in its value,

and the taxpayer also engages in farming on such

land, the farming and the holding of the land

will ordinarily be considered a single activity

only if the farming activity reduces the net

cost of carrying the land for its appreciation

in value. Thus, the farming and holding of the

land will be considered a single activity only

if the income derived from farming exceeds the

deductions attributable to the farming activity

which are not directly attributable to the

holding of the land (that is, deductions other

than those directly attributable to the holding

of the land such as interest on a mortgage

secured by the land, annual property taxes

attributable to the land and improvements,

and depreciation of improvements to the land).

[Sec. 1.183-1(d)(1), Income Tax Regs.]

The above-quoted provision of section 1.183-1(d)(1), Income

Tax Regs., applies only where "land is purchased or held

primarily with the intent to profit from increase in its

value".

See Engdahl v. Commissioner, 72 T.C. 659, 668 n.4

(1979); Hoyle v. Commissioner, T.C. Memo. 1994-592; sec.

1.183-1(d)(1), Income Tax Regs.

Because it does not appear

that petitioners' primary intent was to profit from

- 29 appreciation in the value of the land, the general rule of

the regulations is applicable in this case.

Commissioner, supra.

See Hoyle v.

Under that rule all facts and

circumstances must be taken into account in determining

whether there is a single activity.

Income Tax Regs.

Sec. 1.183-1(d)(1),

On the basis of all the facts and circum-

stances of this case, we find that all of petitioners'

activities, including holding the land, should be treated

as a single activity for section 183 purposes.

Factors Relating to Petitioners' Farm Activity

Section 1.183-2(b), Income Tax Regs., lists the

following factors relevant to determining whether an

activity is engaged in for profit:

(1) The manner in which

the taxpayer carries on the activity; (2) the expertise

of the taxpayer or his advisers; (3) the time and effort

expended by the taxpayer in carrying on the activity;

(4) expectation that the assets used in the activity may

appreciate in value; (5) the success of the taxpayer in

carrying on similar or dissimilar activities; (6) the

taxpayer's history of income or losses with respect to the

activity; (7) the amount of occasional profits, if any,

which are earned; (8) the financial status of the taxpayer;

and (9) elements of personal pleasure or recreation

- 30 involved.

These factors are not exclusive, and no single

factor or combination of factors is conclusive in

determining whether an activity is engaged in for profit.

See Dreicer v. Commissioner, 78 T.C. at 645; Vandeyacht v.

Commissioner, T.C. Memo. 1994-148; sec. 1.183-2(b), Income

Tax Regs.

After considering the facts and circumstances of

this case, we conclude that petitioners did not engage in

their "farming" activity for profit.

We discuss each of

these factors separately.

(1)

Manner of Carrying on the Activity

Section 1.183-2(b)(1), Income Tax Regs., provides as

follows:

The fact that the taxpayer carries on the

activity in a businesslike manner and maintains

complete and accurate books and records may

indicate that the activity is engaged in for

profit. Similarly, where an activity is carried

on in a manner substantially similar to other

activities of the same nature which are

profitable, a profit motive may be indicated.

A change of operating methods, adoption of new

techniques or abandonment of unprofitable methods

in a manner consistent with an intent to improve

profitability may also indicate a profit motive.

Petitioners contend that they maintained reasonably

complete and accurate books and records of their farming

activity compared to other farmers in the locality and to

their other business activities.

Petitioners' accountant,

- 31 Mr. Jackson, testified that petitioners' books and records

were at least as complete and accurate as his other farmer

clients'.

However, petitioners never turned their books

and records over to the revenue agents in an organized

fashion as requested and introduced only one page of

their 1987 ledger and all pages of their 1988 ledger into

evidence.

Petitioners did not introduce any documentary

evidence of their record-keeping practices for the

remainder of 1987 or 1989 through 1991.

Petitioner also

testified that petitioners sometimes paid farming expenses

with checks from their personal bank accounts.

Moreover,

petitioners conceded that one check entered on their 1987

ledger as a farm expense and two entered on their 1988

ledger as farm expenses were actually used to pay personal

expenses.

Respondent's agent testified that petitioners'

books and records were generally poor compared to those

maintained by the other farmers he had audited, and we find

his testimony credible.

On the basis of the record of this

case, we cannot find that petitioners maintained complete

and accurate books and records.

We note that petitioners planted different row crops

in 1988 from those cultivated in 1987, purchased bins to

store grain, erected fences and gates to keep neighbors'

cattle off their land, installed aerators and other devices

- 32 in the ponds to help fish survive, and placed property in

Government subsidy programs.

Petitioners also abandoned

their efforts to raise a crop on their land altogether

after they realized it would be unprofitable to do so.

(2)

Expertise of the Taxpayer or His Advisers

Section 1.183-2(b)(2), Income Tax Regs., provides in

pertinent part as follows:

Preparation for the activity by extensive study

of its accepted business, economic, and scientific practices, or consultation with those who

are experienced therein, may indicate that the

taxpayer has a profit motive where the taxpayer

carries on the activity in accordance with such

practices. * * *

Although Mrs. Holmes lived on a farm as a child and

petitioner occasionally worked on his father's farm,

neither of them had any professional experience in farming.

However, petitioner did consult with neighboring farmers,

the local ASC office, and his accountant prior to

commencing his farming activities.

Petitioner also had

some limited experience in growing, harvesting and selling

Christmas trees and timber.

Finally, petitioner testified

that he attended at least one seminar at the Michigan State

Biological Station on raising fish and regularly read local

trade magazines.

- 33 (3)

Time and Effort Expended by the Taxpayer

Section 1.183-2(b)(3), Income Tax Regs., provides in

pertinent part as follows:

The fact that the taxpayer devotes much of his

personal time and effort to carrying on an

activity, particularly if the activity does

not have substantial personal or recreational

aspects, may indicate an intention to derive a

profit. A taxpayer's withdrawal from another

occupation to devote most of his energies to the

activity may also be evidence that the activity

is engaged in for profit. The fact that the

taxpayer devotes a limited amount of time to an

activity does not necessarily indicate a lack

of profit motive where the taxpayer employs

competent and qualified persons to carry on

such activity.

Petitioner held a full-time job as district sales

manager for State Farm throughout the years in issue.

Given petitioner's high salary, it is reasonable to

conclude that this required a large expenditure of

petitioner's time and energy.

We note that petitioner

testified that he spent a great deal of time in the

evenings and on weekends working on his "farming" activity.

He testified that he constructed gates and fences on the

property, cleared the fields of rocks and other debris,

constructed a pole barn for storing farm equipment, and

helped in constructing a driveway, planting Christmas

trees, and improving the ponds.

However, we note that the

- 34 land on which this work was done is contiguous to the land

on which petitioners maintain their personal residence.

We believe that some of this work contributed directly or

indirectly to the enjoyment of petitioners' residence.

Furthermore, while petitioner hired Mr. Robinson, an

experienced farmer, to cultivate row crops on a portion of

his land, petitioner did not cultivate row crops on the

property during all of the years in issue.

(4)

Expectation That Assets Used in the Activity

May Appreciate in Value

Section 1.183-2(b)(4), Income Tax Regs., provides as

follows:

The term "profit" encompasses appreciation in

the value of assets, such as land, used in the

activity. Thus, the taxpayer may intend to

derive a profit from the operation of the

activity, and may also intend that, even if no

profit from current operations is derived, an

overall profit will result when appreciation

in the value of land used in the activity

is realized since income from the activity

together with the appreciation of the land

will exceed the expenses of operation. * * *

According to the depreciation schedules attached to

petitioners' returns, it appears that petitioners paid

$95,000 for their land and more than $68,000 for the

improvements and equipment used in connection with their

farm activity.

Petitioners make a general argument that

- 35 the assets used in connection with their farm activity,

including their land and farm equipment, had appreciated

in value.

The only evidence in the record of appreciation

is Mr. Jackson's uncorroborated testimony that farmland

located near petitioners' land was sold in 1990 for

"$94,000 for I think it was 10 acres", and that farm

equipment sometimes appreciates in value.

We find

Mr. Jackson's testimony to be vague and too general to

be helpful.

Moreover, the record contains no objective

evidence of the value of petitioners' land or farm

equipment at the end of the years in issue or at any other

point, and there is nothing in the record to show that

appreciation of petitioners' land and farm equipment would

bring about an "overall profit" from petitioners' activity.

See sec. 1.183-2(b)(4), Income Tax Regs.

(5)

Success in Other Similar or Dissimilar Activities

Section 1.183-2(b)(5), Income Tax Regs., provides

as follows:

The fact that the taxpayer has engaged in similar

activities in the past and converted them from

unprofitable to profitable enterprises may

indicate that he is engaged in the present

activity for profit, even though the activity

is presently unprofitable.

- 36 Petitioners have never engaged in any undertakings

similar to their "farming" activity.

However, petitioners

have been successful in several dissimilar business

activities.

Sometime prior to the years in issue,

petitioners purchased an interest in a shopping center

which consistently generates a profit.

Petitioners also

invested in a tennis villa, a resort villa, and other

residential property in Florida, but there is no

documentary evidence in the record to substantiate

petitioners' vague testimony that they realized profits

from these activities.

Additionally, Mrs. Holmes owns a

retail clothing business which incurred a loss of $584 in

1990 and realized a profit of $179 in 1991.

Although we recognize that petitioners may have been

successful with respect to dissimilar activities in the

past, this does not indicate that they are engaged in their

farming activity for profit.

Petitioners have realized

significant losses from that activity during the years in

issue and thereafter.

Moreover, petitioners' residence is

located on a portion of their property and it is reasonable

to conclude that some part of the expenditures at issue

benefited petitioners' residence or petitioners' enjoyment

of their residence.

- 37 (6)

History of Income or Loss With Respect to the Activity

Section 1.183-2(b)(6), Income Tax Regs., provides in

pertinent part as follows:

A series of losses during the initial or start-up

stage of an activity may not necessarily be an

indication that the activity is not engaged in

for profit. However, where losses continue to be

sustained beyond the period which customarily is

necessary to bring the operation to profitable

status such continued losses, if not explainable,

as due to customary business risks or reverses,

may be indicative that the activity is not being

engaged in for profit. If losses are sustained

because of unforeseen or fortuitous circumstances

which are beyond the control of the taxpayer,

such as drought, disease, fire, theft, weather

damages, other involuntary conversions, or

depressed market conditions, such losses would

not be an indication that the activity, is not

engaged in for profit. * * *

Petitioners reported significant losses during each

of the years in issue.

Petitioners make the general

contention that these losses were caused by "unanticipated

start-up expenses, drought, deer damage, and other unusual

and unexpected circumstances."

However, petitioners make

no attempt to quantify the losses that they claim are

attributable to each of these causes.

For example,

petitioners do not enumerate specifically what startup

expenses were unanticipated.

Similarly, the record does

not state whether the drought to which petitioners make

reference took place during the years in which they planted

- 38 crops or the years in which they did not plant crops.

Moreover, it appears that petitioners received "disaster

relief payments" during the years at issue which may have

ameliorated petitioners' losses from any such drought.

Finally, while petitioners introduced evidence that

farmers in the area suffered from "deer depredation",

they introduced no evidence that damage caused by deer

contributed to their losses.

To the contrary, the record

suggests that there were salt licks on the property to

attract deer and other animals.

(7)

Amount of Occasional Profits

Section 1.183-2(b)(7), Income Tax Regs., provides

that occasional profits may evidence a profit motive.

Petitioners' farming activity never generated a profit

during any of the years in issue.

(8)

Financial Status of the Taxpayer

Section 1.183-2(b)(8), Income Tax Regs., provides as

follows:

The fact that the taxpayer does not have

substantial income or capital from sources

other than the activity may indicate that an

activity is engaged in for profit. Substantial

income from sources other than the activity

(particularly if the losses from the activity

generate substantial tax benefits) may indicate

that the activity is not engaged in for profit

- 39 especially if there are personal or recreational

elements involved.

Petitioner realized substantial income from sources

other than the farming activity during the years in issue.

Petitioner worked as a district sales manager for State

Farm during the years in issue, earning an average of

approximately $193,000 per year in wages.

Petitioners also

received income from their investment in the Holt Shopping

Center of approximately $20,000 per year.

This, combined

with the fact that their farming activity generated

aggregate losses of $206,000 over the years in issue,

strongly indicates that petitioners did not engage in their

farming activity with an actual and honest objective of

earning a profit.

See Sutton v. Commissioner, 84 T.C. 210,

222-226 (1985), affd. 788 F.2d 695 (11th Cir. 1986), affd.

sub nom. Knowlton v. Commissioner, 791 F.2d 1506 (11th Cir.

1986); Golanty v. Commissioner, 72 T.C. 411, 426-429

(1979), affd. without published opinion 647 F.2d 170 (9th

Cir. 1981); Jasionowski v. Commissioner, 66 T.C. 312, 322

(1976); Vallette v. Commissioner, T.C. Memo. 1996-285;

Hoyle v. Commissioner, T.C. Memo. 1994-592.

- 40 -

(9)

Elements of Personal Pleasure or Recreation

Section 1.183-2(b)(9), Income Tax Regs., provides in

pertinent part as follows:

The presence of personal motives in [the] carrying on of an activity may indicate that the

activity is not engaged in for profit, especially

where there are recreational or personal elements

involved. On the other hand, a profit motivation

may be indicated where an activity lacks any

appeal other than profit. It is not, however,

necessary that an activity be engaged in with the

exclusive intention of deriving a profit or with

the intention of maximizing profits. * * * An

activity will not be treated as not engaged in

for profit merely because the taxpayer has

purposes or motivations other than solely to make

a profit. Also, the fact that the taxpayer

derives personal pleasure from engaging in the

activity is not sufficient to cause the activity

to be classified as not engaged in for profit if

the activity is in fact engaged in for profit as

evidenced by other factors whether or not listed

in this paragraph.

Petitioners argue that they "did not derive any

significant personal pleasure or recreational benefits

from the farming activity [and that] they did not use the

farmland for recreational purposes."

However, petitioners'

home was located on the same land, and there are numerous

opportunities for petitioners, members of their family, and

guests to obtain recreational or personal pleasure from the

- 41 expenditures that form the basis of the subject losses.

For example, respondent's agent testified that he saw salt

licks and deer tracks near wooded areas on the property and

wooden boxes containing some sort of feed near the ponds.

Although petitioner testified that he did not hunt on his

land, it is evident that he made some effort to attract

wildlife to the property.

We also note that the building petitioners claim to

have constructed for State Farm meetings resembles a

hunting lodge more than a business office.

Further,

petitioner testified that only one State Farm meeting was

held in the building.

Moreover, although petitioner

testified that he did not eat fish, he admitted that his

family had eaten fish taken from the ponds.

In light of

all these circumstances, we find that petitioners derived

an element of recreational and personal benefit from their

farming activity.

In light of all of the facts and circumstances of

this case, we sustain respondent's determination that

petitioners' farming activity was an "activity not engaged

in for profit" within the meaning of section 183.

We

- 42 therefore sustain respondent's adjustments to petitioners'

tax for the years in issue.

Additions to Tax for Negligence

Respondent determined that petitioners are liable for

the additions to tax for negligence prescribed by section

6653(a)(1)(A) and (B) with respect to their 1987 return and

section 6653(a) with respect to their 1988 return.

Section

6653(a)(1)(A), in effect for 1987, and section 6653(a), in

effect for 1988, each imposed an addition to tax equal to

5 percent of an underpayment in tax if any part of such

underpayment is due to negligence or disregard of rules or

regulations.

Section 6653(a)(1)(B), as in effect for 1987,

imposed an addition to tax equal to 50 percent of the

interest payable on the portion of an underpayment which

is attributable to negligence.

Generally, negligence is defined as "lack of due care

or failure to do what a reasonable and ordinarily prudent

person would do under the circumstances."

Neely v.

Commissioner, 85 T.C. 934, 947 (1985) (quoting Marcello

v. Commissioner, 380 F.2d 499, 506 (5th Cir. 1967), affg.

in part and revg. in part 43 T.C. 168 (1964)).

Petitioners

- 43 bear the burden of proving that respondent's determination

of negligence is incorrect.

See Neely v. Commissioner,

supra at 947-948; Bixby v. Commissioner, 58 T.C. 757, 791

(1972).

Petitioners maintain that they provided all relevant

information to their accountant and acted reasonably and

in good faith in relying on his tax advice and tax return

preparation.

Although petitioners acknowledge that they

erroneously deducted two personal expenses as farming

expenses in 1987 and one in 1988, petitioners characterize

these errors as a "mistakes".

Petitioners have not satisfied their burden of proving

that respondent's imposition of the additions to tax for

negligence is erroneous.

Petitioners commingled funds for

all of their business activities in a single bank account

and did not maintain complete or accurate records of the

activities relating to that account.

Petitioners also

failed to retain receipts or invoices to support their

ledger entries.

See sec. 6001.

Petitioners also recorded

several personal expenses on the books maintained for

farming expenditures, and periodically paid farm expenses

from their personal checking accounts.

Petitioners' record

- 44 keeping was generally unbusinesslike, careless, and sloppy.

Petitioners also failed to present any substantive

evidence to support their contention that they provided

their accountant with complete and accurate books and

records and acted reasonably and in good faith reliance on

his advice.

In fact, Mr. Jackson testified that he relied

on petitioners to correctly categorize their expenditures

for tax purposes.

Accordingly, we sustain respondent's

imposition of the additions to tax for negligence with

respect to petitioners' 1987 and 1988 returns.

In light of the foregoing,

Decisions will be entered

under Rule 155.