DocketNumber: Docket No. 27159-91
Citation Numbers: 1996 T.C. Memo. 67, 71 T.C.M. 2116, 1996 Tax Ct. Memo LEXIS 145
Judges: LARO
Filed Date: 2/20/1996
Status: Non-Precedential
Modified Date: 11/21/2020
*145 Decision will be entered in accordance with respondent's computation under Rule 155.
SUPPLEMENTAL MEMORANDUM OPINION
LARO,
We have reconsidered the facts of this case, heeding
Section references, unless otherwise stated, are to the Internal Revenue Code in effect for the taxable years in issue. Rule references are to the Tax Court Rules of Practice and Procedure. We use the term "petitioner" to refer solely to Anthony Ranciato; Lucille Ranciato is a party mainly because she filed joint Federal income tax returns with Anthony Ranciato during the subject years.
We incorporate herein the facts in Ranciato I and repeat only the facts that are necessary for our discussion.
Section 183 limits the deductions for an activity not entered into for profit. Sec. 183(b). Whether an individual engages in an activity for profit depends on whether he or she "[entertains] an actual*147 and honest, even though unreasonable or unrealistic, profit objective in engaging in the activity."
In deciding whether an activity is engaged in for profit, we are aided by the following nonexclusive factors: (1) The manner in which the taxpayer carries on the activity; (2) the expertise of the taxpayer or his or her advisor; (3) the time and effort expended by the taxpayer in carrying on the activity; (4) the expectation that assets used in the activity*148 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 in the activity; (7) the amount of occasional profits, if any, that are earned; (8) the financial status of the taxpayer; and (9) the elements of personal pleasure or recreation.
We turn to the nine factors, discussing them one at a time. We also discuss other considerations that we find to be relevant in reaching our holding herein.
We consider the manner in which petitioner conducted his store.
In several respects petitioner did not conduct his store in a businesslike fashion. He was responsible for keeping the store's records, but they were haphazard and incomplete. He kept no record of the store's inventory, even though it was a retail establishment. He did not know such basic business information as the store's gross profit percentage or in what years the store had earned a profit. He did not advertise to a significant extent. He did move the situs of his store several times, the last change of location occurring in the early 1980's; however, we do not find that any of these moves establishes a profit intent during the subject years. There is no evidence that petitioner considered moving his store during any of the years of consecutive losses following his last move in the early 1980's, nor that he otherwise altered his operation of the store during such years in an effort to make it profitable.
This factor supports respondent's determination.
We consider the expertise of petitioner with respect to his store.
Petitioner did not undertake a basic investigation of the factors that would affect his store's profitability. Petitioner did not establish that he was an expert in the store's business, or that he prepared to enter its business through study of its practices or by consultation with experts. Petitioner did not establish that his mother, who did most of the store's work, was motivated by business objectives.
This factor supports respondent's determination.
We consider the time and effort spent by petitioner in operating his store.
In Ranciato I, we found that the record did not show that petitioner spent significant time at the store. On appeal, the Court of Appeals for the Second Circuit stated that "We think it relevant in determining * * * [petitioner's] intent * * * that his mother devoted substantial time to * * * [the store]."
We agree with the Court of Appeals that the time spent by a third party in a taxpayer's activity may be relevant in determining the taxpayer's intent with respect thereto. We do not believe, however, that the instant case is such a case. We think that petitioner "employed" his mother at the store to provide her with a pleasurable pastime*152 in a family project that was operated without regard for profitability. Given the fact that petitioner's mother operated the store on a full-time basis for at least 26 years without pay (i.e., from 1962 through 1987), we can only assume that she reaped personal pleasure from her full-time efforts. See
This factor supports respondent's determination.
We consider the expectation that assets used in petitioner's store would appreciate in value.
Petitioner has not established that he expected his store's assets to increase in value. Indeed, the value of the store's inventory decreased over time.
This factor supports respondent's determination.
We consider*153 petitioner's success on similar or dissimilar activities.
Petitioner was an electrician and a real estate agent. He has not established that he experienced any success in a similar or dissimilar activity.
This factor supports respondent's determination.
We consider petitioner's history of income and/or losses with respect to his store.
Petitioner claimed net losses of $ 27,377, $ 27,795, and $ 20,976 from the store on his 1985, 1986, and 1987 Federal income tax returns, respectively. These losses offset gross income of $ 66,942, $ 33,488, and $ 44,221. Petitioner has not established that any of these losses was due to unforeseen or fortuitous circumstances beyond his control.
The Court of Appeals for the Second Circuit observed that our Memorandum Opinion in Ranciato I did not discuss the profitable chapter of the history of petitioner's store. In Ranciato I, we found that the store "showed a profit in its*155 early years". We did not regard this finding, however, as a decisive factor in petitioner's favor. First, we know that petitioner's store reaped a profit in its "early years", but we do not know the specific years in which the store had a profit, or the amounts of these profits. We find petitioner's testimony with respect thereto, which was the only evidence that petitioner presented as to the amounts and years of the early years' profits, to be inconsistent and vague. For example, petitioner testified that his store earned approximately $ 225,000 to $ 275,000 in the early 1960's. He also testified, however, that: (1) These earnings were gross receipts, rather than net profits, (2) he did not know the store's net profit for any of its years, and (3) with the exception of 1962 through 1965, he did not know the specific years in which the store earned a profit. Accordingly, we are unable to conclude that petitioner's store profited in
In our view, *156 the profits made by the store from 1962 through 1965 have only limited weight in determining whether petitioner had a profit motive during the subject years, over 20 years later. It is clear that the store sustained consistent losses beginning at least as early as 1980. Petitioner offered no evidence at trial, other than his self-serving testimony, to support his assertion that he anticipated his pattern of losses would change. He offered no analysis of when he anticipated the losses would stop, nor of how the store would alter its methods of operation in order someday to reap a profit.
Thus, even if we were to assume that petitioner had a profit objective before the subject years, we would still not be persuaded that he retained this objective during the subject years. In order to escape the grasp of section 183, it is not enough to have a profit intent before the years in dispute. The taxpayer must possess the required intent during the year in issue.
This factor supports respondent's*157 determination.
We consider the occasional amount of profits, if any, from the subject activity.
We consider petitioners' financial status.
We agree with the Court of Appeals for the Second Circuit that the wealth of an individual is a fact to consider in determining the applicability of section 183. We also agree with the Court of Appeals that another fact to consider is whether an activity is entered into primarily to create paper losses to shelter unrelated income. We do not believe, however, as implied by petitioner in his brief, that section 183 applies only to wealthy individuals who engage in financially unprofitable activities to create "paper" losses that may be offset against unrelated income.
Turning to the facts at hand, we find that petitioner reported significant taxable income during the subject years from sources other than the store. His ability to earn this income let him finance his store, and it allowed him to use the store's losses to reduce significantly his income tax liability for each year. Although petitioner was a "middle-class taxpayer" whose losses were "actual", we are not persuaded that his motive for operating the store during the years involved here was to make a profit. He derived a personal benefit from*159 the store in part because his mother was able to spend her leisure time there. If petitioner were truly profit motivated, we expect that the store's recurring losses would have persuaded him to change his business practices. Instead, petitioner continued to spend more money and incur additional losses. Regardless of his income level, we doubt that he would willingly engage year after year in this unprofitable activity unless he had a motive other than profit. We infer that he kept the store open because he and his mother received benefits from operating it independent of its ability to earn a profit.
We consider the personal pleasure derived by petitioner in conducting his activity.
Our review of the record, in conjunction with our observation of petitioner during his testimony, *160 leads us to believe that petitioner had personal reasons for operating the store. We believe that, in part, he operated his store out of his love and affection for his mother. She enjoyed working there, and she worked there without compensation. As this Court has observed with respect to this factor: "The gratification derived from an occupation worth doing, possibly beneficial to others, and probably requiring long hours of arduous labor must still not be confused with an intention to return a profit."
This factor supports respondent's determination.
The Court of Appeals for the Second Circuit questioned whether a retail business can be an activity not engaged in for profit under section 183.
The Court of Appeals for the Second Circuit questioned petitioner's motive for operating his store. Respondent claims that petitioner operated his store as a valued family project. As indicated above, we agree. Petitioner and his parents started the store when he was approximately 18 years old. The store's only employees during the relevant years were petitioner, his wife, his mother, and his two children. Except for his son, Dustin, who was paid $ 1,470 during 1985, none of the other family members were paid for working at the store. These facts, combined with the pleasure that many derive from raising pets, suggest strongly that the store personally benefited petitioner's family, thereby motivating him to keep it open despite its losses.
Based on our discussion above, we conclude that petitioner operated his store without an "actual and honest" objective of making a profit. *162 *163 To reflect the foregoing,
*. This opinion supplements Ranciato v. Commissioner, T.C. Memo. 1993-536.↩
**. This standard was changed to 3 out of 5 years for taxable years beginning after Dec. 31, 1986.↩
***. We have also reconsidered whether petitioner is liable for the additions to tax determined by respondent under secs. 6651(a)(1), 6653(a)(1) and (2), 6653(a)(1)(A) and (B), and 6661, and whether he is liable for the increased rate of interest under sec. 6621. In light of the Court of Appeals for the Second Circuit's opinion, we conclude that petitioner's reporting position with respect to his store was not unreasonable. Accordingly, we hold that he is not liable for the additions to tax for negligence under sec. 6653(a)(1) and (2) (for 1985) and sec. 6653(a)(1)(A) and (B) (for 1986 and 1987). With respect to the other two additions to tax, and the increased rate of interest, we adhere to our holdings at
Henry P. White and Estate of Nancy A. White, Deceased, T. ... , 227 F.2d 779 ( 1955 )
Thomas C. Burger and Marian E. Burger v. Commissioner of ... , 809 F.2d 355 ( 1987 )
McCoy Enterprises, Inc., & Subsidiaries v. Commissioner of ... , 58 F.3d 557 ( 1995 )
Anthony Ranciato and Lucille Ranciato v. Commissioner of ... , 52 F.3d 23 ( 1995 )