Estate of Atkinson v. Commissioner

W. Linton Atkinson and Rosalea Atkinson, Petitioners, v. Commissioner of Internal Revenue, Respondent. Warren M. Atkinson, Petitioner, v. Commissioner of Internal Revenue, Respondent

Estate of Atkinson v. Commissioner

Docket Nos. 63183, 63184

United States Tax Court

31 T.C. 1241; 1959 U.S. Tax Ct. LEXIS 212;

March 27, 1959, Filed

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">*212 Decisions will be entered under Rule 50.

1. Held, a tract of land sold by petitioners in January 1953 was not held primarily for sale to customers in the ordinary course of business, and the resulting gain was capital in nature.

2. Held, additions to tax determined by respondent pursuant to section 294(d)(2) of the Internal Revenue Code of 1939 are approved, subject to recomputation.

Lester M. Ponder, Esq., and Alan C. Boyd, Esq., for the petitioners.

George H. Becker, Esq., for the respondent.

Van Fossan, Judge.

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VAN FOSSAN

">*1241 Respondent determined deficiencies for the calendar year 1953 in income tax and additions to tax under section 294(d)(2) of the Internal Revenue Code of 1939, as follows:

Docket			Addition
No.	Petitioner	Deficiency	to tax
			sec. 294(d)(2)
63183	W. Linton Atkinson and Rosalea Atkinson	$ 6,722.96	$ 1,283.73
63184	Warren M. Atkinson	8,728.37	1,692.19

The question is whether the petitioners realized ordinary income or capital gain as a result of the sale of a certain tract of land in January 1953.

FINDINGS OF FACT.

Atkinson and Company, a partnership (hereinafter sometimes referred to as the partnership), ">*213 was organized in January 1936 by petitioners W. Linton Atkinson and Warren M. Atkinson. It filed a Federal income tax return for the calendar year 1953 with the director of internal revenue for the district of Indiana, at Indianapolis.

Petitioners W. Linton Atkinson and Rosalea Atkinson, husband and wife, reside in Indianapolis, Indiana, and filed their joint Federal ">*1242 income tax return for the calendar year 1953 with the director of internal revenue for the district of Indiana, at Indianapolis.

Petitioner Warren M. Atkinson resides in Indianapolis, Indiana, and filed an individual income tax return for the calendar year 1953 with the director of internal revenue for the district of Indiana, at Indianapolis. For convenience, W. Linton Atkinson and Warren M. Atkinson will sometimes hereinafter be referred to as petitioners.

The business activities of the partnership include farming, land brokerage, development and sale of residential building sites, and construction of residences. The partnership began its farm operations about 1950. In 1952 it owned and operated approximately 740 acres of farmland in one area of Marion County, Indiana (Devon Hills farm), and approximately">*214 900 acres of farmland in Emmett County, Michigan (Birchwood farm).

The Indiana farm operations consisted primarily of livestock raising. Petitioners owned approximately 70 head of cattle and 1,000 hogs. The partnership was attempting to establish a "pig hatchery." It had brood sows and was endeavoring to set up a production system by which it would sell feeder pigs to farmers. The Indiana farm also raised cattle, soybeans, corn, oats, and a considerable amount of hay. The principal products produced on the Michigan farm were hogs, poultry and eggs, hay, and potatoes.

The total assets of the Indiana and Michigan farms as of December 31, 1952, were $ 271,381.82, itemized as follows:

Indiana Farm
(Devon Hills)
Farm assets, as of December 31, 1952:
Inventory:
Hogs		$ 8,060.00
Cattle		1,150.00
Horses		125.00
Corn		775.00
Oats		160.00
Hay		80.00	$ 10,350.00
Land, buildings, equipment, and breeding stock:
Land			129,584.12
Buildings	$ 64,717.84
Less depreciation	7,825.34	$ 56,892.50
Machinery and equipment	5,531.11
Less depreciation	5,531.11	0
Horse equipment	5,430.00
Less depreciation	3,258.00	2,172.00
Livestock, breeding	1,708.90
Less depreciation	401.82	1,307.08
Show horses	4,150.00
Less depreciation	1,212.50	2,937.50	63,309.08
Total farm assets			203,243.20
Michigan Farm
(Birchwood)
Farm assets, as of December 31, 1952:
Cash in bank			$ 41.71
Accounts receivable			7.10
Inventory:
Hogs		$ 500.00
Poultry		850.00
Potatoes		2,475.00
Corn		2,325.00
Rye		350.00
Oats		560.00
Straw		200.00
Hay		1,000.00	8,260.00
Land, buildings, and equipment:
Land			22,100.00
Buildings	$ 34,200.00
Less depreciation	2,469.98	$ 31,730.02
Machinery and equipment	4,785.00
Less depreciation	1,449.25	3,335.75
Trucks	550.00
Less depreciation	174.18	375.82
Furniture		1,973.86	37,415.45
Prepaid insurance			314.36
Total farm assets			68,138.62

">*215 ">*1243 On its Federal income tax return for the calendar year 1952 the partnership reported a net loss from farming of $ 43,610.94, computed as follows:

Indiana Farm
(Devon Hills)
Income:
Sale of cattle	$ 180.00
Sale of hogs	13,270.31
Sale of horses	140.00
Sale of poultry and eggs	0
Sale of potatoes	0
Sale of grain	3,166.91
Sale of hay	44.00
Rent	450.00
Agricultural program payments	280.89
Sundry	30.00	$ 17,562.11
Expenses:
Labor	11,207.29
Feed	17,389.76
Seed	480.95
Machine hire	334.98
Supplies and sundry	770.16
Repairs and maintenance	2,158.22
Fertilizer	30.00
Breeding fees	184.00
Veterinary	503.94
Property taxes	4,709.68
Payroll taxes	158.11
State gross and sales taxes	88.23
Insurance and bonds	556.71
Heat, light, and power	526.22
Telephone and telegraph	139.56
Freight and express	113.02
Advertising	0
Travel	0
Loss on animals dying	113.33
Poultry purchased	0
Miscellaneous	0
Inventory variation	(847.50)
Provision for depreciation	7,186.51	$ 45,803.17
Net loss		28,241.06
Michigan Farm
(Birchwood)
Income:
Sale of cattle	0
Sale of hogs	$ 1,424.47
Sale of horses	142.50
Sale of poultry and eggs	12,094.20
Sale of potatoes	10,390.34
Sale of grain	0
Sale of hay	2,564.67
Rent	0
Agricultural program payments	198.00
Sundry	119.26	26,933.44
Expenses:
Labor	9,180.36
Feed	8,454.33
Seed	645.07
Machine hire	184.00
Supplies and sundry	2,676.26
Repairs and maintenance	2,126.96
Fertilizer	746.06
Breeding fees	0
Veterinary	68.00
Property taxes	655.32
Payroll taxes	122.75
State gross and sales taxes	0
Insurance and bonds	398.44
Heat, light, and power	1,499.67
Telephone and telegraph	492.41
Freight and express	81.17
Advertising	6.10
Travel	325.00
Loss on animals dying	0
Poultry purchased	1,127.60
Miscellaneous	23.10
Inventory variation	10,887.72
Provision for depreciation	2,603.00	42,303.32
Net loss		15,369.88
Summary of net loss from farm operations:
Indiana Farm (Devon Hills)		28,241.06
Michigan Farm (Birchwood)		15,369.88
Total		43,610.94

">*216 ">*1244 In 1952 the partnership was looking for a farm that could be used to produce grain and hay. Their farm did not have adequate production land to produce the feed for its livestock, and the cost of ">*1245 purchasing feed was so high that a reasonable profit could not be realized.

Petitioners learned that an 80-acre tract of land (hereinafter sometimes referred to as the Lawrence 80 acres), located north of East 46th Street and just east of Kitley Avenue, in Indianapolis, was for sale. They made a physical inspection of the property and discussed its possible purchase. Petitioners decided that since the land was fairly level and mostly tillable, and since it was located sufficiently near their other land to permit convenient management with the same organization and farm tools, it would be a logical piece of land to add to their farming operation. Before making the purchase, petitioners investigated the possibility of buying additional tracts lying between their farm and the Lawrence 80 acres. The acquisition of these parcels would have made a continuous tract of land from west to east.

The partnership purchased the Lawrence 80 acres in June 1952. It contained a ">*217 residence, a barn, and several outbuildings. There were few trees. The soil, which was clay loam, was tight and unsuitable for septic tanks. The land was in soybeans, hay, and pasture.

After acquiring the Lawrence tract, petitioners took action to improve it. The roof, gutters, windows, and front porch of the house were repaired, weatherboarding was replaced, and the house was repainted. The frame of the barn was straightened, the roof was repaired, the doors were made operable and repainted, and the boards were renailed. The farm was cleaned up and some of the outbuildings were taken down. The soybean crop was harvested. The ground was subsoiled and disked, a swampy area was drained, some large rocks in the fence rows were removed, and the driveway was graded. No streets were laid out.

The Lawrence 80 acres was not the type of land the partnership normally acquired for subdividing. Petitioners usually placed their subdivisions in areas with trees or rolling ground, suitable for homes in the $ 25,000 price range.

Petitioners had no training in bookkeeping. They took no part in the keeping of the partnership books and never told the bookkeepers how or in what account to make">*218 an entry.

The partnership general ledger originally carried the Lawrence 80 acres in account No. 136. Account Nos. 131 through 135 and account No. 137 contained land held for subdividing. On October 31, 1952, the following entry in the partnership books removed the Lawrence tract from account No. 136 and placed it in the Devon Hills farmland account:

Devon Hills Farm Land -- D-161	$ 43,592.26
Lawrence 80 Acres -- 136		$ 43,592.26
To transfer out a/c 136 on Lawrence 80
erroneously chg'd as land intended for
subdividing

">*1246 The Lawrence 80 acres was never advertised for sale by the partnership, and no signs or markers were placed on the land stating that it was for sale or that it was owned by the partnership.

Prior to October 20, 1952, John E. Bauer, president of the ABC Construction Corporation (hereinafter sometimes referred to as ABC), requested an Indianapolis realty company to locate a parcel of land, 80 to 100 acres in area, which his firm could develop into a subdivision. The realty company learned that the partnership had such a tract (the Lawrence 80 acres), and inquired of petitioner Warren Atkinson if the land was for sale. Warren">*219 Atkinson advised them that the land was not for sale but that if a high enough offer was made, he and his brother would look at a proposition.

On October 20, 1952, ABC Construction Corporation submitted a proposition to purchase the Lawrence tract for $ 1,000 per acre. This proposition was subject to the contingency that the land be annexed by the town of Lawrence, Indiana. At that time it was anticipated that a sewer was to be built by the town of Lawrence, accessible to the land.

ABC Construction Corporation made a deposit of $ 4,000 earnest money on October 20, 1952, and the sale was completed in January 1953.

It was agreed by the parties that the property had a basis for reporting gain of $ 44,578.76. Selling price was reported as $ 82,000. Petitioners reported a long-term capital gain on the transaction of $ 37,421.24. Respondent held the gain to be taxable as ordinary income.

After purchasing the Lawrence 80 acres the ABC Construction Corporation subdivided the land and built 422 low-cost homes on lots approximately 60 by 100 or 110 feet.

Both before and after it held the Lawrence tract the partnership subdivided land nearby.

The Lawrence 80 acres was not held by petitioners">*220 primarily for sale to customers in the ordinary course of business, and the transaction was taxable as long-term capital gain.

OPINION.

Petitioners, as a partnership, engaged in both farming and the real estate business. In January 1953 the partnership sold a tract of land known as the Lawrence 80 acres. Respondent determined that the gain from the sale of this land was ordinary income. Petitioners contend that the gain was capital in nature. The question turns on whether or not the partnership held ">*1247 the Lawrence 80 acres primarily for sale to customers in the ordinary course of business. ^{1959 U.S. Tax Ct. LEXIS 212">*221 Since this question is always one of fact, the decided cases, though of help, are not controlling. The cases have, however, established several criteria to assist in making a determination.}

Among the factors to be considered are the reasons for, purpose or nature of, the acquisition of the property; the activities of the seller to attract purchasers, such as improvements or advertisements; and the frequency and continuity of sales or sales-related activity. Boomhower v. United States, 74 F. Supp. 997">74 F. Supp. 997 (1947).

After careful consideration of all the evidence, we have made the ultimate finding that the Lawrence 80 acres was not held primarily for sale to customers in the ordinary course of business.

Respondent admits in his answer that the business activities of the partnership include farming, land brokerage, development and sale of residential building sites, and construction of residences.

As of December 31, 1952, petitioners owned and operated approximately 1,640 acres of farmland and had total farm assets in the amount of $ 271,381.82. They had approximately 70 head of cattle and 1,000 hogs. Clearly, they were both dealers and investors in real">*222 estate. D. L. Phillips, 24 T.C. 435">24 T.C. 435 (1955); Walter R. Crabtree, 20 T.C. 841">20 T.C. 841 (1953); Nelson A. Farry, 13 T.C. 8">13 T.C. 8 (1949). We, therefore, do not consider as controlling the fact that petitioners subdivided other land in the vicinity of the Lawrence tract.

Both of the petitioners testified unequivocally that they purchased the Lawrence 80 acres for farm purposes. They further testified that they needed additional land to grow feed for their livestock and that the Lawrence tract was mostly tillable and was sufficiently near the farmland they already owned to permit convenient management ">*1248 with the same organization and farm tools. The record strongly supports petitioners' testimony.

The Lawrence 80 acres was not the type of land the partnership usually subdivided. It was fairly level and had few trees. Petitioners tried to place their subdivisions in areas with trees or rolling ground, suitable for $ 25,000 homes.

After acquiring the Lawrence tract, petitioners proceeded to make improvements which increased its suitability for farming. The farm was generally cleaned up, and the buildings">*223 were repaired. The land was subsoiled and disked, a swampy area was drained, some large rocks were removed from the fence rows, and the driveway was graded. No streets were laid out.

The land was never advertised for sale by the partnership, and no signs or markers were placed on the property stating that it was for sale or that it was owned by the partnership. Negotiations between the ABC Construction Corporation and petitioners culminating in the sale of the Lawrence tract to ABC in January 1953 resulted not from promotional efforts on the part of petitioners, but from an inquiry pressed by a realty company engaged by ABC.

At the time the Lawrence 80 acres was sold to ABC it was anticipated that the town of Lawrence would build a sewer, accessible to the land. However, there is no evidence that such a sewer was contemplated at the time petitioners purchased the tract.

Nor do we consider it significant that the Lawrence 80 acres was originally carried in the partnership general ledger among accounts containing land held for subdivision. Both petitioners testified that they took no part in the partnership bookkeeping. Furthermore, on October 31, 1952, the tract was transferred">*224 to the farmland account with the explanatory notation that it had been erroneously charged as land held for subdivision. This action was apparently taken in good faith.

We are of the opinion and have held as a fact that the Lawrence 80 acres was acquired and held primarily for farming purposes and not for sale to customers in the ordinary course of business. They are, therefore, entitled to capital gains treatment on the proceeds of its sale.

Respondent determined additions to petitioners' income tax for the calendar year 1953 under section 294(d)(2) of the Internal Revenue Code of 1939. Petitioners alleged error as to this determination. However, no evidence was submitted in support of petitioners' allegation. In the absence of evidence to the contrary, respondent's determination must be sustained, subject to recomputation reflecting the decision of this Court upon the principal issue.

Decisions will be entered under Rule 50.

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Footnotes

• 1. SEC. 117. CAPITAL GAINS AND LOSSES.

  (j) Gains and Losses From Involuntary Conversion and From the Sale or Exchange of Certain Property Used in the Trade or Business. --

  (1) Definition of property used in the trade or business. -- For the purposes of this subsection, the term "property used in the trade or business" means property used in the trade or business, of a character which is subject to the allowance for depreciation provided in section 23(l), held for more than 6 months, and real property used in the trade or business, held for more than 6 months, which is not (A) property of a kind which would properly be includible in the inventory of the taxpayer if on hand at the close of the taxable year, or (B) property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business, * * *

  (2) General rule. -- If, during the taxable year, the recognized gains upon sales or exchanges of property used in the trade or business, plus the recognized gains from the compulsory or involuntary conversion (as a result of destruction in whole or in part, theft or seizure, or an exercise of the power of requisition or condemnation or the threat or imminence thereof) of property used in the trade or business and capital assets held for more than 6 months into other property or money, exceed the recognized losses from such sales, exchanges, and conversions, such gains and losses shall be considered as gains and losses from sales or exchanges of capital assets held for more than 6 months. If such gains do not exceed such losses, such gains and losses shall not be considered as gains and losses from sales or exchanges of capital assets. * * *↩