UNITED STATES TAX COURT

T.C. Memo. 2003-326

UNITED STATES TAX COURT

ROBERT W. TSCHETTER, Petitioner v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

WOLF CREEK FARM, INC., Petitioner v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket Nos. 5271-01, 5272-01.

Filed November 25, 2003.

Douglas Bleeker, for petitioners.

Douglas Polsky and Charles Berlau, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

JACOBS, Judge:

These cases have been consolidated for

trial, briefing, and opinion.

In separate notices of deficiency,

respondent determined deficiencies in petitioners’ Federal income

- 2 tax and accuracy-related penalties under section 66621 for 1995,

1996, and 1997 as follows:

Robert W. Tschetter, Docket No. 5271-01:

Year

Deficiency

1995

1996

1997

$1,185

1,136

1,095

Wolf Creek Farm, Docket No. 5272-01:

1

Year

Deficiency

Penalty

Sec. 6662(a)

1995

1996

1997

$1,190

1,234

992

$238

1

247

1

198

Amounts are rounded to the nearest dollar.

The issues for decision are:

(1) Whether amounts paid by Wolf Creek Farm, Inc. (Wolf

Creek Farm or the corporation), to provide medical care, food,

and lodging to Robert W. Tschetter (Mr. Tschetter), one of its

shareholders, are (a) constructive dividends, as respondent

maintains, or (b) employee medical care expenses and/or

reimbursed employee expenses that are excluded from Mr.

Tschetter’s gross income and deductible by Wolf Creek Farm as

ordinary and necessary business expenses, as petitioners

maintain; and

1

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.

- 3 (2) whether Wolf Creek Farm is liable for the accuracyrelated penalty under section 6662(a) for the taxable years ended

November 30, 1995, 1996, and 1997.

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.

When the petitions were filed in these cases, the residence

of Mr. Tschetter, as well as the principal place of business of

Wolf Creek Farm, was in Bridgewater, South Dakota.

A.

Mr. Tschetter

Mr. Tschetter has lived with his parents his entire life

(approximately 47 years).

The family residence (the farmhouse)

has been in the Tschetter family for over 70 years.

On or about

July 7, 1993, Mr. Tschetter’s parents gave him the farmhouse and

79 acres of farm land on which the farmhouse is located (the

homestead).

Since 1988, Mr. Tschetter has owned another 156 acres (the

Tschetter farm).

the homestead.

The Tschetter farm is approximately 1 mile from

- 4 B.

Wolf Creek Farm

On December 29, 1993, Wolf Creek Farm was incorporated under

the laws of the State of South Dakota.2

Wolf Creek Farm was

organized primarily (1) to buy, distribute, sell, lease, and deal

in all kinds of farmland and real estate, and (2) to carry on the

business of farming.

On January 27, 1994, Mr. Tschetter conveyed

the homestead, including the farmhouse, to Wolf Creek Farm.

Mr. Tschetter has owned 50 percent of the common stock, and

100 percent of the preferred stock, of Wolf Creek Farm since its

incorporation.

His mother, Anna Tschetter, owned the remaining

50 percent of the common stock.

During the taxable years at

issue, Mr. Tschetter was president, treasurer, and a director,

and his mother was vice president, secretary, and a director, of

Wolf Creek Farm.

The first meeting of the board of directors of Wolf Creek

Farm was held on December 30, 1993.

At that first meeting, the

directors adopted a medical reimbursement plan covering all

“employees and officers executing management responsibilities”

and their spouses and dependents.

The medical reimbursement plan

provides for the payment of all medical care costs that would be

“deductible on Form 1040” (before considering limitations).

2

Douglas Bleeker, counsel for petitioners, prepared the

articles of incorporation, bylaws, minutes of meetings, and other

corporate documents for Wolf Creek Farm.

- 5 Under the plan, each participant is entitled to a maximum

reimbursement of $12,500 per year.

At a meeting of the directors held on January 4, 1994, the

board of directors of Wolf Creek Farm adopted the following

resolution:

RESOLVED that all officers and employees shall be

required to repay to the corporation any monies for

whatever source which may at any time be disallowed as

a proper expense expenditure by the Internal Revenue

Service within two (2) years at an interest rate of 3%

below the New York Prime Rate, of the final

determination of such matter.

In addition, at that meeting the directors adopted the following

resolution:

RESOLVED that the Corporation’s officers and

employees shall be required to live at the worksite of

the Corporation to ensure security for the Corporation

property and operations. The officers and employees

shall be required to live on the worksite to supervise

the care and feeding of the livestock of the

corporation. The Corporation shall supply said

officers and employees all of their food and lodging

while living at said worksite. That all of the

officers and employees shall be considered “on duty”

when at the worksite and therefore entitled to such

benefits.

C.

Wolf Creek Farm’s Business

During the years at issue, Wolf Creek Farm leased the

homestead to Mr. Tschetter under a written agreement titled “Farm

Lease”, dated December 1, 1994 (the 1995 lease).

The initial

term of the lease was for 1 year (to November 30, 1995);

thereafter, the lease continued year to year until otherwise

canceled.

Under the lease agreement, Wolf Creek Farm was to

- 6 receive 30 percent of the “calf crop” and 40 percent of the “crop

produced” on the homestead.

Mr. Tschetter was entitled to the

remaining crops and all amounts received under Federal

conservation programs (or any other Federal, State, or local

governmental programs).

Mr. Tschetter agreed (1) to farm the land; (2) to provide

all labor and other items required in producing, harvesting, and

marketing the crops; (3) to furnish all tools, farm implements,

machinery, hired help, fertilizer, chemicals, and seed necessary

to cultivate and manage the farm; (4) to protect the crops from

injury and waste; (5) to till the land after harvesting the

crops; and (6) to rotate the crops from year to year.

Wolf Creek

Farm agreed to furnish all necessary materials, and Mr. Tschetter

agreed to supply all necessary labor, to maintain all fences and

other improvements on the farm.

During the years at issue, Wolf Creek Farm conducted farming

activities on property it rented from others, such as Mr.

Tschetter’s parents.

Mr. Tschetter, as an employee of Wolf Creek

Farm, did the actual farming of those other properties.

D.

Mr. Tschetter’s Separate Business

During the years at issue, Mr. Tschetter(as a self-employed

farmer) farmed the Tschetter farm.

On August 29, 1997, Mr.

Tschetter acquired an additional 79 acres; this property was

approximately 1 mile from the homestead.

- 7 Mr. Tschetter owned cows, bulls, and heifers.

He took care

of the livestock and was in charge of the grain produced on the

homestead and the Tschetter farm.

Mr. Tschetter’s

responsibilities with respect to the livestock included feeding

(most times once a day but on occasion, twice a day), routine

care, and treatment of any sick animals.

Once a year (usually in

the winter), Mr. Tschetter took care of the livestock at calving

time which ran 2-3 months and required that the calves be checked

several times day and night.

Mr. Tschetter’s responsibilities with respect to the

production of grain included harvesting the grain, storing the

grain in bins, and making the sure the grain did not spoil.

Most

of the grain produced was used for feeding the livestock.

E.

Compensation and Payment of Food, Lodging, and Medical

Expenses

Mr. Tschetter was the only employee of Wolf Creek Farm.

kept the corporate books and paid its bills.

He

For his services,

Mr. Tschetter received $400 in 1995, $1,000 in 1996, and $2,000

in 1997.

Following the transfer of the homestead to Wolf Creek Farm,

Mr. Tschetter and his parents continued to use the farmhouse as

their residence.

Wolf Creek Farm paid for (1) the food consumed

by Mr. Tschetter (Mr. Tschetter’s parents paid for their own

- 8 food) and (2) the utilities, property tax, and insurance for the

farmhouse.

In addition, Wolf Creek Farm paid Mr. Tschetter’s

medical care expenses.

Wolf Creek Farm did not pay dividends for its fiscal years

ended November 30, 1995, 1996, and 1997.

F.

Income Tax Returns

Mr. Bleeker (petitioners’ counsel) prepared Mr. Tschetter’s

Forms 1040, U.S. Individual Income Tax Return, and Wolf Creek

Farm’s Forms 1120, U.S. Corporation Income Tax Return, for the

years at issue.

1.

Wolf Creek Farm

Wolf Creek Farm filed timely its Forms 1120 for its fiscal

years ended November 30, 1995, 1996, and 1997.

On these returns,

Wolf Creek Farm reported total income and total deductions as

follows:

Total income

Total deductions

Taxable income

11/30/95

11/30/96

11/30/97

$38,269

38,114

155

$53,676

52,963

713

$46,793

43,405

3,388

Included in the total expenses deducted by Wolf Creek Farm

were the following items for food, lodging, and medical expenses

provided to Mr. Tschetter (amounts are rounded to the nearest

dollar):

- 9 -

Food & lodging

Property tax--house

Property insurance--house

Food for officers

Utilities--house

Depreciation--house

Food & lodging expenses

Medical

Health insurance

Doctor & prescriptions

Hospital

Glasses

Medical costs

2.

11/30/95

11/30/96

11/30/97

$257

667

2,692

1,991

569

6,176

$208

631

2,722

2,016

587

6,164

$190

-2,441

2,081

575

5,287

72

339

1,345

–1,756

465

1,426

170

2,061

908

417

-–

-1,325

Mr. Tschetter’s Returns

Mr. Tschetter timely filed his income tax returns for 1995,

1996, and 1997.

On these returns, Mr. Tschetter reported his

wages from Wolf Creek Farm.

He reported farming income

(including his share of all crops grown on the homestead) as

self-employment income.

He did not report any income

attributable to his food, lodging-related, and medical expenses

paid by Wolf Creek Farm.

On Schedule F, Profit or Loss from

Farming, Mr. Tschetter reported gross income, total expenses, and

net loss from his separate farming activities for 1995, 1996, and

1997 as follows:

Gross income

Total expenses

Net loss

1995

1996

1997

$94,029

94,429

(400)

$115,921

117,479

(1,558)

$106,775

107,745

(970)

- 10 G.

Notices of Deficiency

On January 31, 2001, respondent timely mailed to Mr.

Tschetter a statutory notice of deficiency for 1995, 1996, and

1997 (the Tschetter notice of deficiency).

Also on January 31,

2001, respondent timely mailed to Wolf Creek Farm a statutory

notice of deficiency for its fiscal years ended November 30,

1995, 1996, and 1997 (the Wolf Creek Farm notice of deficiency).

In the Wolf Creek Farm notice of deficiency, respondent

disallowed the food, lodging, and medical expenses deducted by

Wolf Creek Farm, totaling $7,932 for 1995, $8,225 for 1996, and

$6,612 for 1997.

Respondent determined that (1) Wolf Creek Farm

failed to establish that the food and lodging expenses were

ordinary and necessary business expenses under section 162 and

(2) those items constitute Mr. Tschetter’s personal expenses.

Respondent further determined that Wolf Creek Farm was liable for

the accuracy-related penalty under section 6662(a).

In the Tschetter notice of deficiency, respondent determined

that payments by Wolf Creek Farm of Mr. Tschetter’s food,

lodging, and medical expenses resulted in constructive dividends

as follows:

- 11 -

Food & lodging1

Medical

Total dividends

11/30/95

11/30/96

11/30/97

$6,163

1,756

7,919

$6,218

2,061

8,279

$6,001

1,325

7,326

1

The record does not explain why the amounts of

dividends for food and lodging expenses included in Mr.

Tschetter’s income exceed the amounts disallowed as

deductions to Wolf Creek Farm.

OPINION

Issue 1.

A.

Expenses Incurred by Wolf Creek Farm To Provide Medical

Benefits, Food, and Housing to Mr. Tschetter in 1995,

1996, and 1997

Positions of the Parties3

Respondent disallowed deductions taken by Wolf Creek Farms

for medical costs (health insurance premiums and other medical

care expenses), food, lodging (including property insurance,

property taxes, and utilities for the farmhouse), and

depreciation of the farmhouse.

Respondent asserts that the

medical costs, food, and lodging expenses are Mr. Tschetter’s

3

Under certain circumstances, sec. 7491 places the burden of

proof or production on the Commissioner. Sec. 7491 applies to

court proceedings arising in connection with tax examinations

beginning after July 22, 1998. Internal Revenue Service

Restructuring and Reform Act of 1998, Pub. L. 105-206, sec.

3001(a), 112 Stat. 726. Petitioners timely filed their returns

for the years at issue. Hence, all of the returns were filed on

or before Apr. 15, 1998. The record does not disclose when the

examination of petitioners’ tax returns began, and it is possible

that the examination began before July 23, 1998. Petitioners do

not contend that sec. 7491 applies in these cases, and they have

not otherwise asserted that respondent has the burden of proof or

production with respect to any issue presented in these cases.

We therefore conclude that sec. 7491 does not apply, and

petitioners have the burden of proof and production.

- 12 personal, family, and living expenses and that payments of these

expenses by Wolf Creek Farm constitute constructive dividends to

Mr. Tschetter.

On the other hand, petitioners assert that all

the expenditures are reasonable and necessary business expenses,

deductible by Wolf Creek Farm and excluded from Mr. Tschetter’s

income.

Petitioners contend that the medical costs are employee

benefits, deductible by the employer and excludable from the

employee’s income under sections 105 and/or 106.

Petitioners

further maintain that Wolf Creek Farm provided food and lodging

to Mr. Tschetter in his capacity as an employee and that such was

done for the convenience of Wolf Creek Farm.

Consequently,

petitioners assert that the food and lodging expenses are

employer-provided “meals and lodging”, the costs for which are

excluded from Mr. Tschetter’s income under section 119 and

deductible by Wolf Creek Farm.

Petitioners further assert that,

as owner and lessor of the farmhouse, Wolf Creek Farm is entitled

to deduct (1) the expenditures for insurance on the farmhouse as

reasonable and necessary business expenses under section 162, (2)

the property taxes under either section 162 or 164, and (3) the

depreciation of the farmhouse under section 167.

Petitioners

posit that these latter expenses are not Mr. Tschetter’s personal

expenses because he is not the owner of the property.

- 13 B.

Medical Expenses

We first shall decide whether the payments by Wolf Creek

Farm of the medical expenses are excludable from Mr. Tschetter’s

gross income under sections 105 and 106 and deductible by the

corporation as ordinary and necessary business expenses under

section 162(a).

Under section 106, “an employee’s gross income does not

include employer-provided coverage (e.g., accident and health

insurance premiums) under an accident and health plan.”

Rugby

Prods. Ltd. v. Commissioner, 100 T.C. 531, 535 (1993).

The

employer may provide coverage under an accident or health plan by

paying the premium (or a portion of the premium) on an accident

or health insurance policy covering one or more employees or by

contributing to a separate trust or fund.

Sec. 1.106-1, Income

Tax Regs.

Under the general rule of section 105(a), amounts received

by an employee through accident and health insurance for personal

injury or sickness, to the extent attributable to nontaxed

employer contributions, are includable in the employee’s gross

income.

Amounts received under an accident or health plan for

employees are treated as amounts received through accident or

health insurance.

Sec. 105(e).

An exception to the general rule

allows an employee to exclude from gross income amounts received

to reimburse the employee for expenses incurred by the employee

- 14 for the medical care (as defined in section 213(d)) of the

employee and the employee’s spouse and dependents.

Sec. 105(b).

For the reasons set forth below, we agree with petitioners

that pursuant to sections 105 and/or 106 payments by Wolf Creek

Farm for reimbursement of medical care costs (including

reimbursement for the health insurance premiums) need not be

included in Mr. Tschetter’s income for 1995, 1996, and 1997.

Section 105(e) requires first, that the benefits be received

under a “plan”, and second, that the plan be “for employees”,

rather than for some other class of persons such as shareholders

and their relatives.

Larkin v. Commissioner, 48 T.C. 629, 635

(1967), affd. 394 F.2d 494 (1st Cir. 1968).

After giving due

consideration to the record before us, we conclude that Wolf

Creek Farm’s medical reimbursement plan satisfies both the “plan”

and “for employees” requirements of section 105(e).

Section 1.105-5(a), Income Tax Regs., provides guidelines as

to what constitutes an accident or health plan.

A plan may cover

one or more employees, and different plans may be established for

different employees or classes of employees.

Income Tax Regs.

Sec. 1.105-5(a),

The regulations do not require that there be a

written plan or that there be enforceable employee rights under

the plan, so long as the participant has notice or knowledge of

the plan.

Wigutow v. Commissioner, T.C. Memo. 1983-620.

- 15 In the instant cases, a plan (as defined in section

1.105-5(a), Income Tax Regs.) existed.

Wolf Creek Farm adopted a

written medical reimbursement plan identifying who was eligible

to participate, what expenses would be reimbursed, and how

participants were to make claims for reimbursement.

The plan was

adopted at the first meeting of the board of directors.

Mr. Tschetter had knowledge of the medical reimbursement

plan.

Moreover, the medical reimbursements provided under the

written plan included reimbursement for all “medical care” costs

deductible on Form 1040, which include health insurance costs.

Sec. 213(d)(1)(D).

And finally, we are satisfied that the

corporation’s medical plan was for Mr. Tschetter’s benefit as an

employee of Wolf Creek Farm, and not for his benefit as one of

the corporation’s shareholders.

Plans limited to employees who are also shareholders are not

per se disqualified under section 105(b).

Commissioner, supra at 635 n.5.

Larkin v.

In this regard, we have

sustained plans for corporate officers who were also shareholders

because those officers had central management roles in conducting

the business of the corporation.

Wigutow v. Commissioner, supra;

Epstein v. Commissioner, T.C. Memo. 1972-53; Seidel v.

Commissioner, T.C. Memo. 1971-238; Smith v. Commissioner, T.C.

Memo. 1970-243; Bogene, Inc. v. Commissioner, T.C. Memo.

1968-147.

- 16 Respondent has stipulated that during the years at issue Mr.

Tschetter was an employee of Wolf Creek Farm.

Indeed, Mr.

Tschetter was the corporation’s only employee.

And without Mr.

Tschetter’s involvement, Wolf Creek Farm could not have conducted

its farming operations.

Mr. Tschetter’s compensation for services rendered to Wolf

Creek Farm was his salary and employee benefits.

Respondent does

not contend that Mr. Tschetter received excessive compensation.

Indeed, respondent contends that Mr. Tschetter was

undercompensated for his services.

In addition, we are mindful

that Wolf Creek Farm did not pay medical expenses or health

insurance premiums of its other shareholder, Mr. Tschetter’s

mother.

On the basis of the record before us, we conclude that

medical payments made for the benefit of Mr. Tschetter were made

under a plan for employees and not for shareholders.

Accordingly, during the years at issue, the medical payments made

by Wolf Creek Farm pursuant to its medical plan are excludable

from Mr. Tschetter’s gross income under section 105(b).

Section 162(a) permits a taxpayer to deduct all ordinary and

necessary expenses incurred during the taxable year in carrying

on the taxpayer’s trade or business.

An expense is ordinary if

it is customary or usual within a particular trade, business, or

industry or relates to a transaction “of common or frequent

- 17 occurrence in the type of business involved.”

308 U.S. 488, 495 (1940).

Deputy v. du Pont,

An expense is necessary if it is

appropriate and helpful for the development of the business.

See

Commissioner v. Heininger, 320 U.S. 467, 471 (1943).

When payments for medical care are properly excludable from

an employee’s income because they are made under a “plan for

employees,” they are deductible by the employer as ordinary and

necessary business expenses under section 162(a).

1.162-10(a), Income Tax Regs.

Sec.

Consequently, Wolf Creek Farm is

entitled to deduct the insurance premiums and other medical

reimbursement payments under section 162(a).

C.

Food, Utilities, Property Insurance, Property Taxes, and

Depreciation

1.

Section 119:

Employer-Provided Meals and Lodging

We next decide whether the food and lodging-related expenses

are employer-provided meals and lodging expenses, excludable from

Mr. Tschetter’s income under section 119 and deductible by Wolf

Creek Farm under section 162.

Meals and lodging furnished to an employee by his employer

are excluded from the employee’s gross income under section 119

if the meals and lodging are provided for the convenience of the

employer on the premises of the employer.

In the case of

lodging, the employee must be required to accept the lodging on

the business premises of his employer as a condition of

employment.

- 18 Meals and lodging are furnished for the “convenience of the

employer” if there is a direct nexus between the meals and

lodging furnished and the asserted business interests of the

employer served thereby.

McDonald v. Commissioner, 66 T.C. 223,

230 (1976).

Petitioners assert that Mr. Tschetter, as the corporation’s

sole employee, was required to be available for duty 24 hours a

day.

Wolf Creek Farm leased the homestead to Mr. Tschetter.

Wolf

Creek Farm contracted with Mr. Tschetter as a tenant, not as its

employee, to perform all necessary work.

It is well settled that “Ordinarily, taxpayers are bound by

the form of the transaction they have chosen; taxpayers may not

in hindsight recast the transaction as one that they might have

made in order to obtain tax advantages.”

Framatome Connectors

USA Inc. v. Commissioner, 118 T.C. 32, 70 (2002) (citing Estate

of Leavitt v. Commissioner, 875 F.2d 420, 423 (4th Cir. 1989),

affg. 90 T.C. 206 (1988), and Grojean v. Commissioner, 248 F.3d

572, 576 (7th Cir. 2001), affg. T.C. Memo. 1999-425). Here,

inasmuch as Mr. Tschetter farmed the homestead as a tenant, and

not as an employee of Wolf Creek Farm, the food and lodging in

question were not furnished to Mr. Tschetter as a corporate

- 19 employee for the convenience of his employer.

Thus, the food and

lodging expenses at issue are not section 119(a) meals and

lodging expenses.

2.

Deductibility of Expenses Related to the Leasing of the

Homestead

During the years at issue, Wolf Creek Farm business

activities included leasing the homestead.

It leased the

homestead, including the farmhouse, to Mr. Tschetter and received

rent in the form of a percentage of the crops grown on the farm.

Therefore, we look to the terms of the farm lease to determine

whether expenses for utilities, depreciation, and taxes are the

expenses of Wolf Creek Farm or Mr. Tschetter.

a.

Property Insurance

Wolf Creek Farm deducted $667 in 1995 and $631 in 1996 for

property insurance.

“Certain business-related insurance expenses

unquestionably are deductible under section 162(a).”

Metrocorp,

Inc. v. Commissioner, 116 T.C. 211, 245 (2001) (citing section

1.162-1(a), Income Tax Regs.).

The farm lease does not require

Mr. Tschetter to provide property insurance covering the

farmhouse or other improvements on the property.

The property

insurance is an ordinary and necessary business expense of Wolf

Creek Farm (the owner of the property) and not a personal,

family, or living expense of Mr. Tschetter.

We hold, therefore,

Wolf Creek Farm is entitled to deduct the insurance expenses as

claimed in each of the years at issue.

- 20 b.

Utilities

Wolf Creek Farm deducted utilities expenses of $1,991 in

1995, $2,016 in 1996, and $2,081 in 1997.

Utilities expenses may

be deductible under section 162(a) if the expenses incurred are

ordinary and necessary in carrying on a trade or business.

Vanicek v. Commissioner, 85 T.C. 731, 742 (1985); Sengpiehl v.

Commissioner, T.C. Memo. 1998-23; Green v. Commissioner, T.C.

Memo. 1989-599.

Here, the farm lease did not contain any provisions

regarding the utilities for the farmhouse.

Petitioners did not

produce any utility bills, canceled checks, or testimony to

identify that, if any, portion of the utility expenses related to

the corporation’s business.

We have no basis for making any

allocation of the expenses.

Thus, petitioners have failed to

establish that Wolf Creek Farm is entitled to any deduction for

utilities expenses.

c.

Depreciation

Wolf Creek Farm deducted $569 in 1995, $587 in 1996, and

$575 in 1997 for depreciation of the farmhouse.

Section 167(a)

allows a depreciation deduction from gross income for property

used in the taxpayer’s trade or business or held for the

production of income.

Ordinarily, depreciation or amortization

is available to an owner of an asset with respect to the owner’s

basis in the asset.

Wolf Creek Farm owned the homestead,

- 21 including the farmhouse.

One of the business activities of Wolf

Creek Farm was the leasing of the homestead, including the

farmhouse.

Thus, the farmhouse is property used in the

corporation’s trade or business.

We hold that Wolf Creek Farm is entitled to a deduction for

depreciation of the farmhouse for each of the years at issue as

claimed.

d.

Taxes

Wolf Creek Farm deducted property taxes of $257 in 1995,

$208 in 1996, and $190 in 1997 attributable to the farmhouse.

Wolf Creek Farm owned the homestead.

Section 164(a)(1) allows

the owner of property a deduction for real property taxes

regardless of whether they are paid or incurred in a trade or

business.

We hold, therefore, that Wolf Creek Farm may deduct

property taxes as claimed in the years at issue.

e.

Summary of Food and Lodging Expenses

To summarize, Wolf Creek Farm may deduct the following

expenses for the years at issue:

Property tax--house

Property insurance--house

Depreciation--house

Total

11/30/95

11/30/96

11/30/97

$257

667

569

1,493

$208

631

587

1,426

$190

-–

575

765

Wolf Creek Farm may not deduct the following food and

lodging expenses:

- 22 -

Food for employees

Utilities--house

Total

3.

11/30/95

11/30/96

11/30/97

$2,692

1,991

4,683

$2,722

2,016

4,738

$2,441

2,081

4,522

Inclusion of Payments in Mr. Tschetter’s Gross Income

When a corporation makes an expenditure that primarily

benefits the corporation’s shareholders, the amount of the

expenditure may be taxed to the shareholders as a constructive

dividend.

Hood v. Commissioner, 115 T.C. 172 (2000); Magnon v.

Commissioner, 73 T.C. 980, 993-994 (1980); Am. Insulation Corp.

v. Commissioner, T.C. Memo. 1985-436.

We have found that

expenses for food and utilities paid by Wolf Creek Farm are Mr.

Tschetter’s expenses.

Petitioners contend that the payments are

not constructive dividends because Mr. Tschetter was required to

repay any amounts that Wolf Creek Farm could not deduct for

Federal income tax purposes.

Petitioners cite Cepeda v.

Commissioner, T.C. Memo. 1993-477, to support their position.

Cepeda, however, is inapposite.

In that case, the taxpayers

claimed that advances made by the corporation were loans rather

than employee compensation or constructive dividends.

Petitioners do not contend that the corporate payments of Mr.

Tschetter’s expenses were loans.

For Federal income tax purposes, a transaction will be

characterized as a loan if there was “an unconditional obligation

on the part of the transferee to repay the money, and an

- 23 unconditional intention on the part of the transferor to secure

repayment.”

Haag v. Commissioner, 88 T.C. 604, 616 (1987), affd.

without published opinion 855 F.2d 855 (8th Cir. 1988).

In the

instant cases, when the payments were made there was no

unconditional obligation on the part of Mr. Tschetter to repay a

specific dollar amount to the corporation.

His obligation to

repay any of the payments was in general terms.

The amount of

repayment could not be determined when the payments were made.

Any obligation to repay any amount could not arise before

respondent disallowed the deduction for the expenses; i.e, when

the Wolf Creek Farm notice of deficiency was issued in January

2001.

Thus, the payments were not loans.

Since the payments

when made by Wolf Creek Farm did not constitute business expenses

of the corporation or loans to Mr. Tschetter, the conclusion is

inescapable that the payments constituted distributions by Wolf

Creek Farm to Mr. Tschetter.

In N. Am. Oil Consol. v. Burnett, 286 U.S. 417, 424 (1932),

the Supreme Court stated:

If a taxpayer receives earnings under a claim of right

and without restriction as to its disposition, he has

received income which he is required to return, even

though it may still be claimed that he is not entitled

to retain the money, and even though he may still be

adjudged liable to restore its equivalent. * * *

It is clear, therefore, under the claim of right doctrine, the

amounts paid by Wolf Creek Farm in 1995, 1996, and 1997 were

- 24 taxable to Mr. Tschetter in those years.

See Pahl v.

Commissioner, 67 T.C. 286, 289 (1976).

If a taxpayer is required to repay income recognized under

the claim of right doctrine in an earlier tax year, section 1341

permits the taxpayer, in effect, to elect to compute his taxes

for the year of repayment in a manner that gives the taxpayer the

equivalent of a refund (without interest) of tax for the earlier

year.

Specifically, section 1341(a)(5) permits the tax for the

year of repayment to be reduced by the amount of the tax paid for

the year of receipt that was attributable to the inclusion of the

repaid amount in that year’s gross income.

United States v.

Skelly Oil Co., 394 U.S. 678, 682 (1969).

Section 1341, however,

requires actual repayment, restoration, or restitution.

Chernin

v. United States, 149 F.3d 805, 816 (8th Cir. 1998); Kappel v.

United States, 437 F.2d 1222, 1226 (3d Cir. 1971); Estate of

Smith v. Commissioner, 110 T.C. 12 (1998).

Although the directors of Wolf Creek Farm adopted a

resolution that required Mr. Tschetter to repay amounts for which

the corporation is disallowed a deduction, Mr. Tschetter does not

claim that he has repaid the disallowed amounts.

Indeed, there

is no evidence in the record to show that he did.

Therefore,

section 1341 does not apply.

We hold that Wolf Creek Farm’s

payment of Mr. Tschetter’s food and utilities expenses

constitutes income to Mr. Tschetter.

- 25 Petitioners argue that the expenses are meals and lodging

expenses excludable under section 119.

contrary.

We have found to the

Thus, the costs of food and utilities are Mr.

Tschetter’s personal living expenses.

Personal, family, or living expenses are not deductible

except as otherwise expressly permitted.

Sec. 262.

A taxpayer’s

expenses for his or her own meals and lodging are personal

because they would have been incurred whether or not the taxpayer

had engaged in any business activity.

Christey v. United States,

841 F.2d 809, 814 (8th Cir. 1988); Moss v. Commissioner, 80 T.C.

1073, 1078 (1983), affd. 758 F.2d 211 (7th Cir. 1985).

In order

for personal living expenses to qualify as a deductible business

expense under section 162(a), the taxpayer must demonstrate that

the expenses were different from, or in excess of, what he would

have spent for personal purposes.

T.C. 170, 173 (1953).

Sutter v. Commissioner, 21

Petitioners did not produce any bills,

canceled checks, or testimony to substantiate any portion of the

utilities expenses that relates to Mr. Tschetter’s separate

farming business.

Thus, petitioners have failed to establish

that Mr. Tschetter is entitled to a deduction for any portion of

the expenses under section 162.4

4

Except as otherwise provided, an individual is not allowed

a deduction with respect to the use of a dwelling unit that is

used by the individual as a residence. Sec. 280A(a). The

individual, however, may deduct expenses allocable to portions of

(continued...)

- 26 4.

Rental Value of Residence

Mr. Tschetter leased the homestead, including the farmhouse,

from Wolf Creek Farm.

Wolf Creek Farm received rent in the form

of 30 percent of the calf crop and 40 percent of the other crops

produced on the farm.

Mr. Tschetter included only his 70/60

percent of the crop revenues in his income.

He excluded the

entire 30/40 percent paid to Wolf Creek Farm as rent, including

the portion attributable to the farmhouse.

In effect, he

deducted the portion of the rent paid for the farmhouse.

The

rent of the farmhouse is his personal expense and is not

deductible.

See sec. 262.

The farm lease does not specify that portion of the rent to

be paid for use of the farmhouse.

Nor has Mr. Tschetter provided

any evidence to show that portion of the rent properly

attributable to the farmhouse.

The amount of the constructive dividends respondent

determined in the Tschetter notice of deficiency exceeds the

amount of the deductions disallowed in the Wolf Creek Farm notice

of deficiency.

4

The record does not explain that excess.

(...continued)

the dwelling that are exclusively used for business purposes.

Sec. 280A(c). Mr. Tschetter did not argue that the utilities

expenses are deductible under sec. 280A. Therefore, we do not

address the question of whether the utilities expenses may be

deductible under that section. We note, however, that Mr.

Tschetter made no showing that the farmhouse, or any portion

thereof, was used exclusively for business purposes.

- 27 Moreover, since the depreciation respondent disallowed as a

deduction to Wolf Creek Farm was not an expenditure, we assume

that adjustments in the Tschetter notice of deficiency did not

include the depreciation.

We have computed the fair rental value of the farmhouse that

was included in respondent’s adjustment to Mr. Tschetter’ income

as follows:

11/30/95

11/30/96

11/30/97

Wolf Creek Farm notice of deficiency

Disallowed food & lodging deductions

Less depreciation on residence

Food & lodging expenditures

$6,176

569

5,607

$6,164

587

5,577

$5,287

575

4,712

Tschetter notice of deficiency adjustment

for food & lodging provided by corporation

Food & lodging expenditures

Adjustment for rental value of residence

$6,163

5,607

556

$6,218

5,577

641

$6,001

4,712

1,289

Mr. Tschetter has not shown that the portion of the rent

attributable to the farmhouse is less than the amounts for the

years at issue, as computed above.

We therefore hold that those

amounts are properly included in Mr. Tschetter’s income for the

years at issue.

5.

Summary of Adjustments to Mr. Tschetter’s Income

Mr. Tschetter’s income from farming is increased by $556 in

1995, $641 in 1996, and $1,289 in 1997 to reflect the

disallowance of deductions for the rental value of the farmhouse.

In addition, payments by Wolf Creek Farm for food and utilities

are included in Mr. Tschetter’s income as constructive dividends

- 28 in the amounts of $4,683 in 1995, $4,738 in 1996, and $4,522 in

1997.

Issue 2.

Accuracy-Related Penalty Under Section 6662(a)

Respondent determined that Wolf Creek Farm is liable for the

accuracy-related penalty under section 6662(a).

As pertinent

here, section 6662(a) imposes a 20-percent penalty on the portion

of an underpayment attributable to negligence or disregard of

rules or regulations.

Sec. 6662(b)(1).

Negligence includes any

failure to make a reasonable attempt to comply with the

provisions of the Internal Revenue Code.

Sec. 6662(c); sec.

1.6662-3(b)(1), Income Tax Regs.

The penalty under section 6662(a) does not apply to any

portion of an understatement of tax if it is shown that there was

reasonable cause for the taxpayer’s position and that the

taxpayer acted in good faith with respect to that portion.

6664(c)(1).

Sec.

The determination of whether a taxpayer acted with

reasonable cause and in good faith is made on a case-by-case

basis, taking into account all the pertinent facts and

circumstances.

Sec. 1.6664-4(b)(1), Income Tax Regs.

The most

important factor is the extent of the taxpayer’s effort to assess

his/her proper tax liability for the year.

Id.

The good faith

reliance on the advice of an independent, competent professional

as to the tax treatment of an item may meet this requirement.

Sec. 1.6664-4(b), Income Tax Regs.

- 29 Despite the fact that petitioners have the burden of proof,

see supra note 3, petitioners have made no showing that they made

an attempt to comply with the tax rules and regulations with

regard to those deductions taken by Wolf Creek Farm for the years

at issue which have been disallowed.

Hence, with respect to

those deductions, petitioners have failed to show that Wolf Creek

Farm was not negligent.

Nor have petitioners showed that they

acted in good faith with respect to, or that there was reasonable

cause for, the position they took.

Further, petitioners do not claim that they relied on Mr.

Bleeker or any other professional as to the tax treatment of the

expenses for food and lodging.5

Petitioners simply assert that

the accuracy-related penalty does not apply because Wolf Creek

Farm properly claimed the deductions under section 162(a) and Mr.

Tschetter properly excluded the payments under section 119.

We

have found to the contrary.

5

Before the trial in these cases, respondent filed a motion

to disqualify Mr. Bleeker from his representation of petitioners.

Respondent’s motion was based, in part, on the premise that, if

petitioners contend that they reasonably relied on Mr. Bleeker’s

advice with respect to the proper tax treatment of the payments

at issue, then Mr. Bleeker would be required to testify as a

witness in the trial of these cases. The Court held a telephone

conference call with Mr. Bleeker and counsel for respondent to

discuss respondent’s motion. During that call, Mr. Bleeker

informed the Court that petitioners did not intend to raise

reasonable reliance on a tax professional as a defense to the

accuracy-related penalties.

- 30 Under these circumstances, we are compelled to hold that

Wolf Creek Farm is liable for the accuracy-related penalty for

the years at issue.

To reflect the foregoing,

Decisions will be

entered under Rule 155.