1 Cases of the following petitioners are consolidated

herewith: Isaac M. Kalisvaart and Francien Kalisvaart-Valk,

docket No. 15958-98; William T. Criswell and Sharon L. Criswell,

docket No. 15959-98; Robert S. Bobosky and Judeen M. Bobosky,

docket No. 15960-98.

116 T.C. No. 14 

UNITED STATES TAX COURT

DAVID C. HUTCHINSON, ET AL.,1 Petitioners v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket Nos. 15912-98, 15958-98, Filed March 14, 2001.

15959-98, 15960-98.

Held: Under the alternative cost method of Rev.

Proc. 92-29, 1992-1 C.B. 748, a real estate developer

may allocate to its bases in lots sold $3,707,662 in

estimated construction costs relating to common

improvements.

Held, further, $5,861,595 in estimated, futureperiod interest expense relating to common improvements

does not qualify under the alternative cost method for

allocation to the developer’s bases in lots sold. 

Neil D. Kimmelfield, for petitioners.

Gerald W. Douglas and Nhi T. Luu-Sanders, for respondent.
- 2 -

OPINION

SWIFT, Judge: These cases were consolidated for trial,

briefing, and opinion. For 1994, respondent determined the

following deficiencies in petitioners’ Federal income tax:

 Petitioners Deficiency

David C. Hutchinson $442,746

Isaac M. Kalisvaart and Francien Kalisvaart-Valk 358,095

William T. and Sharon L. Criswell 188,862

Robert S. and Judeen M. Bobosky 128,054

The issues for decision involve whether, under the

alternative cost method of Rev. Proc. 92-29, 1992-1 C.B. 748

(Rev. Proc. 92-29), a real estate developer, in calculating gain

on the sale of residential lots sold in 1994, may allocate to the

developer’s bases in the lots sold estimated construction costs

relating to certain common improvements to the development and

whether the developer may include, in the calculation of

estimated construction costs, estimated, future-period interest

expense relating to the common improvements.

Unless otherwise indicated, all section references are to

the Internal Revenue Code in effect for 1994, and all Rule

references are to the Tax Court Rules of Practice and Procedure.
- 3 -

Background

These cases were submitted fully stipulated under Rule 122,

and the stipulated facts are so found. 

At the time the petitions were filed, petitioners resided in

the following locations:

 Petitioners Location 

David Hutchinson Ketchum, Idaho

Isaac Kalisvaart and Francien Kalisvaart-Valk Portland, Oregon

William and Sharon Criswell Wellington, Florida

Robert and Judeen Bobosky Portland, Oregon

On June 21, 1993, petitioners formed Valley Ranch, Inc.

(VRI) as an Idaho corporation, and petitioners elected to have

VRI taxed pursuant to subchapter S of the Internal Revenue Code. 

Petitioners constitute all of the shareholders of VRI. 

On December 1, 1993, VRI entered into an option to purchase

a 526-acre parcel of partially developed real estate near Sun

Valley, Idaho (the Property). Prior to December 1, 1993, the

sellers of the Property had begun development of the Property as

a golf course residential community.

Also on December 1, 1993, VRI entered into an agreement with

the sellers of the Property for VRI to continue to develop the

Property as follows:

 Acreage Use 

189 Acres 99 residential lots

162 Acres Hale Irwin designed golf course

175 Acres Roads and common areas
- 4 -

2 The total purchase price reflected $2,941,000 paid in cash

and a $2.5 million promissory note in favor of the sellers of the

Property. The $274,345 balance of the total purchase price

reflected fees and closing costs associated with purchase of the

Property.

On May 5, 1994, the final plat was recorded for development

of the Property as a golf course residential community, and VRI

exercised its option and entered into a binding agreement with

the sellers to purchase the Property for a total purchase price

of $5,715,345.2

Beginning in May of 1994 and thereafter through the time

these cases were submitted to the Court for decision in February

of 2000, VRI improved and sold residential building lots on the

Property and realized the sales proceeds therefrom. 

Also on May 5, 1994, VRI entered into a contract (the

Contract) with Valley Club, Inc. (VCI), a nonprofit Idaho

membership corporation whose members would purchase memberships

in the golf club. Under the Contract, VRI reaffirmed its

obligation to construct on the Property an 18-hole golf course, a

driving range, and two practice putting greens. Hereinafter, we

refer to these nondepreciable improvements that VRI was obligated

to construct on the Property as “the Golf Course”. 

Under the May 5, 1994, Contract between VRI and VCI, VRI

also obligated itself to construct on the Property a golf

clubhouse with a restaurant and bar facilities, a golf pro shop,
- 5 -

golf course maintenance facilities, men’s and women’s locker

rooms, an outdoor swimming pool, and four tennis courts. 

Hereinafter, we refer to these depreciable improvements that VRI 

was obligated to construct on the Property as “the Clubhouse”.

Under the Contract between VRI and VCI, ownership of the

completed Golf Course and the Clubhouse was to be transferred to

VCI, and VCI was to establish and operate a golf membership club

(the Club) which would sell memberships in the Club to homeowners

within the Golf Course community and to members of the public. 

Under the Contract, in consideration for the transfer to VCI

of VRI’s ownership interest in the Golf Course and in the

Clubhouse that were to be constructed by VRI, VCI, among other

things, was obligated to pay to VRI the total fees that would be

received by VCI upon the sale by VCI of memberships in the Club. 

In order to secure the respective rights and obligations of

VRI and VCI under the Contract, during construction of the Golf

Course and the Clubhouse, the deed executed by VRI transferring

the Golf Course and the Clubhouse to VCI was to be transferred

into escrow, and the membership fees, upon receipt by VCI, were

to be transferred by VCI into an escrow account.

The deed to the Golf Course and the Clubhouse was to be

transferred out of escrow to VCI on the earlier of December 31,

2000, or when at least 25 charter memberships, 375 golf

memberships, and 100 golf social memberships in the Club were
- 6 -

sold. The membership fees held in escrow were to be transferred

out of escrow to VRI according to the following schedule:

Fees in escrow to be transferred Schedule 

1/3 Upon completion of 9 holes of the Golf Course

1/3 Upon completion of the Golf Course

 1/3 Upon completion of the Clubhouse 

After completion of construction of the Golf Course and the

Clubhouse, fees received by VCI upon sale of additional

memberships in the Club would be transferred directly to VRI as

further compensation to VRI for transfer to VCI of ownership of

the Golf Course and the Clubhouse.

In 1994, VRI began construction of the Golf Course and the

Clubhouse, and VRI proceeded to sell the residential lots on the

Property. New owners of the residential lots, or their

contractors, began building homes on the lots, and VCI proceeded

to sell memberships in the Club.

Prior to construction, VRI estimated its total costs to

construct the Golf Course and the Clubhouse (not including VRI’s

$5,715,345 initial purchase price for the Property) as follows:
- 7 -

Estimated Costs

The Golf Course $13,390,624

The Clubhouse 3,707,662

Employee Housing 375,0001

Finance Costs 5,861,5952

 Total Estimated Costs $23,334,881

___________________ 

1 The costs of employee housing are not in dispute.

2 Total estimated finance costs relating to both the Golf Course and

the Clubhouse equaled $7,022,000. The $5,861,595 set forth above

represents the difference between the $7,022,000 total estimated

finance costs and the $1,160,405 actual finance costs incurred by

VRI in 1994.

VRI undertook substantial interest-bearing debt obligations

in connection with the construction of the Golf Course and the

Clubhouse. 

On July 10, 1996, prior to completion of the Golf Course and

the Clubhouse, VRI executed in favor of VCI and transferred into

escrow, a deed with respect to ownership of the Golf Course and

the Clubhouse.

In the summer of 1996, construction of the Golf Course and

the Clubhouse was completed by VRI. 

On July 19, 1996, the Golf Course and the Clubhouse opened

and play began.

Also on July 19, 1996, upon completion of construction of

the Golf Course and the Clubhouse, apparently because VCI had not

sold the required number of Club memberships, the deed to the
- 8 -

Golf Course and the Clubhouse was not transferred out of escrow

to VCI. 

Also because VCI had not sold the required number of

memberships, pursuant to the Contract, during the balance of

1996, 1997, 1998, and until April 21, 1999, VRI managed and

operated the Golf Course and the Clubhouse on behalf of VCI. We

refer to this period of time (namely, the period of time after

completion of the Golf Course and the Clubhouse during which VRI

continued to manage and operate the Golf Course and the

Clubhouse) as the “transition period”.

Under the Contract, during the transition period, VRI

realized the profits and losses relating to operation of the Golf

Course and the Clubhouse. The bylaws of VCI, however, limited

the amount of annual dues (as distinguished from membership fees)

that could be collected from Club members to pay for operation of

the Golf Course and the Clubhouse, and cumulative losses of

approximately $994,393 were realized by VRI during the transition

period in connection with VRI’s operation of the Golf Course and

the Clubhouse. The operational losses apparently were caused by

the fact that the member base in the Club was not yet large

enough to generate sufficient dues and other revenue to cover the

operating expenses.
- 9 -

During the transition period, VCI, not VRI, was responsible

for decisions and costs of any further improvements made to the

Golf Course and to the Clubhouse. 

Up until July 19, 1996, the day the Golf Course and the

Clubhouse opened, all property-related insurance relating to the

Golf Course and the Clubhouse was paid by VRI. After July 19,

1996, VCI paid all property-related insurance relating to the

Golf Course and the Clubhouse.

Under the Contract, any increase or decrease in the

underlying fair market value of the Golf Course and the Clubhouse

that occurred during the transition period, would accrue, not to

VRI, but to VCI. 

In 1997, because of potential conflicts of interest between

VRI and the board of directors of VRI, some members of the Club,

individually and on behalf of VCI, filed a lawsuit against VRI

and the individual owners of VRI (namely, petitioners). One of

the issues in the lawsuit involved the validity of the Contract.

On April 21, 1999, VRI, petitioners, VCI, and members of VCI

arrived at a comprehensive settlement of the above lawsuit. 

Pursuant to the settlement, on April 21, 1999, VRI turned over to

VCI operation and management of the Golf Course and the

Clubhouse, and the deed and legal title to the Golf Course and

the Clubhouse were transferred out of escrow to VCI.
- 10 -

VRI’s 1994 U.S. Income Tax Return for an S Corp. (Form

1120S) was prepared using the alternative cost method under Rev.

Proc. 92-29, to allocate a ratable portion of the following total

actual and estimated costs to VRI’s cost bases in all of the

residential lots on the Property:

Total Actual and Estimated Costs and Expenses to be Allocated Amount 

VRI’s total actual acquisition costs for the Property $ 5,715,345

VRI’s total estimated construction costs for the Golf Course 13,390,624

VRI’s total estimated construction costs for the Clubhouse 3,707,662

VRI’s total actual 1994 interest expense relating to both the

 the Golf Course and the Clubhouse 1,160,405

VRI’s total estimated post-1994 interest expense relating to

 the Golf Course and the Clubhouse 5,861,595

 Total $29,835,631

On VRI’s 1994 Federal income tax return, in computing its

gain on the residential lots sold in 1994, VRI computed its cost

bases in the lots based on an allocation of the above total

actual and estimated costs for the Golf Course and the Clubhouse,

thereby reducing VRI’s reported gain for 1994 with respect to the

lots sold. 

During the transition period, on VRI’s 1996, 1997, 1998, and

1999 Federal income tax returns for an S Corp., VRI apparently

did not claim any depreciation deductions with respect to its

costs of constructing the Golf Course and the Clubhouse. 

In the statutory notice of deficiency, respondent treated

VRI’s development and sale of the residential lots on the

Property as a project separate from VRI’s construction of both

the Golf Course and the Clubhouse, and therefore respondent
- 11 -

disallowed VRI’s allocation, under the alternative cost method,

of the total estimated costs of constructing the Golf Course and

the Clubhouse to VRI’s cost bases in the residential lots sold in

1994.

Shortly before trial herein was scheduled to take place,

however, respondent abandoned his contention that the Golf Course

and the Clubhouse constituted projects separate from VRI’s

development and sale of the residential lots. Respondent

acknowledged that the Golf Course and the Clubhouse constituted a

single project integrated with VRI’s development and sale of

improved residential lots. Respondent acknowledged that VRI

could allocate under the alternative cost method the estimated

costs of constructing the Golf Course to the lots sold. 

Respondent, however, for the first time in a pretrial brief

contended that VRI had retained an ownership interest in the

Clubhouse in 1994 and through the transition period, and

therefore that the estimated construction costs of the Clubhouse

would have been recoverable to VRI through depreciation and did

not qualify under the alternative cost method for allocation by

VRI to the lots sold in 1994 and in subsequent years.

More specifically, with respect to VRI’s $13,390,624 in

total estimated construction costs of the Golf Course (all of

which related to nondepreciable improvements to the Property),

respondent acknowledged that those estimated costs qualified
- 12 -

under the alternative cost method and were properly allocated by

VRI to the lots sold in 1994 and in subsequent years.

With respect, however, to VRI’s $3,707,662 in total

estimated construction costs of the Clubhouse (all of which

related to depreciable improvements to the Property), respondent

concluded that VRI’s alleged retained ownership of the Clubhouse

before and during the transition period (during which time VRI

allegedly would have been able to recover its costs thereof

through depreciation) disqualified VRI from using the alternative

cost method to allocate to the lots sold the estimated Clubhouse

construction costs. 

Further, respondent concluded that VRI’s $5,861,595 in

estimated future-period interest expense with respect to its debt

obligations relating both to the Golf Course and to the Clubhouse

did not qualify as estimated construction costs under the

alternative cost method and could not be allocated to the cost of

the lots sold. 

Procedurally, petitioners do not object to respondent’s

change in position and to respondent’s new contentions regarding

VRI’s use of the alternative cost method for its estimated

Clubhouse construction costs and estimated interest expense

relating to the Golf Course and to the Clubhouse. Petitioners,

however, argue that respondent should have the burden of proof

regarding any underlying factual disputes relating to
- 13 -

3 Mim. 4027, XII-1 C.B. 60 (1933).

respondent’s new contentions. Respondent counters that under our

Rules the new contentions should be treated only as new theories,

not as new issues, and that the burden of proof should remain

with petitioners on all factual matters.

Discussion

Generally, under Rev. Proc. 75-25, 1975-1 C.B. 720 (Rev.

Proc. 75-25), a real estate developer was allowed, in the first

year of construction of a development, to allocate to the

developer’s cost bases in separate lots to be sold certain

estimated construction costs of improvements common to the entire

development. The purpose of Rev. Proc. 75-25 was to allow a real

estate developer to spread more evenly and fairly the amount of

the developer’s gain or loss relating to a real estate

development over the years of construction. By allocating, at

the beginning of a development, estimated construction costs

relating to common improvements to the developer’s cost bases in

lots to be sold, a developer was able to recognize less income in

the early years of a development as lots were being sold (as a

result of the increased cost bases in the lots on which the

developer’s taxable gain was computed). 

In Herzog Bldg. Corp. v. Commissioner, 44 T.C. 694, 702-703

(1965), involving a predecessor ruling to Rev. Proc. 75-25,3 we
- 14 -

explained the purpose and application of the alternative cost

method as follows:

Where a developer is bound by contract to

make certain improvements for the benefit of

the property sold, the fact that the

expenditure required to install the

improvement is not made during the taxable

period within which part of the property is

sold should not prevent an aliquot portion of

the cost from being offset against the profit

from the sale of the property. [Citation

omitted.]

To qualify under Rev. Proc. 75-25, among other requirements,

a developer had to have a contractual obligation to provide the

common improvement costs which were to be estimated and

allocated, and the common improvements could not be recoverable

by the developer through depreciation. 

In 1984, Congress enacted sec. 461(h) to postpone the

deductibility to taxpayers of many costs until “economic

performance” occurs. Deficit Reduction Act of 1984, Pub. L. 98-

369, 98 Stat. 598. Generally, under section 461(h), if property

or services are to be provided by taxpayers, economic performance

is not regarded as having occurred until the taxpayers actually

incur the costs of providing the property or services.

Proposed regulations under section 461(h) were issued on

June 7, 1990, and adopted on April 9, 1992. See 55 Fed. Reg.

23235 (June 7, 1990), 57 Fed. Reg. 12411 (April 10, 1992). The

preamble to the section 461(h) regulations, as proposed,
- 15 -

explained that, because under section 461(h) economic performance

was required in order for costs to be deducted, a real estate

developer would no longer be allowed to allocate estimated future

construction costs to the developer’s bases in lots sold. See

Notice 91-4, 1991-1 C.B. 315. Thus, it appeared that the

economic performance rules of 461(h) would effectively override

the alternative cost method available to developers under Rev.

Proc. 75-25. 

On January 11, 1991, however, respondent issued Notice 91-4,

1991-1 C.B. 315, in which respondent provided that, in spite of

the economic performance rule of section 461(h), the alternative

cost method under Rev. Proc. 75-25 would continue generally to be

available to developers of real estate until additional guidance

from respondent was provided.

On April 9, 1992, the above regulations under section 461(h)

were finalized, but the referenced language in the preamble to

the proposed regulations was eliminated. See regulations under

sec. 461.

Also, on April 9, 1992, respondent issued Rev. Proc. 92-29,

1992-1 C.B. 748, in which a limited version of the alternative

cost method was provided. Under the alternative cost method

provided in Rev. Proc. 92-29, a real estate developer was

permitted to continue to allocate to lots sold the estimated

future construction costs relating to common improvements without
- 16 -

regard to whether the costs would qualify as incurred under the

economic performance rule of section 461(h), but the amount of

such costs that would qualify for this allocation was limited in

any 1 year to the total cumulative amount of actual construction

costs for common improvements that, as of the end of each year,

the developer had incurred in the entire development. 

Under Rev. Proc. 92-29, as under Rev. Proc. 75-25, use of

the alternative cost method was limited to estimated costs of the

common improvements that the developer was contractually

obligated to construct in the development and that would not be

recoverable by the developer through depreciation. The limited

alternative cost method as set forth in Rev. Proc. 92-29 applies

to the year before us in these cases.

$3,707,662 in Estimated Clubhouse Construction Costs

The disagreement between the parties regarding allocation of

VRI’s estimated Clubhouse construction costs under the

alternative cost method centers on whether VRI, at any time,

would have been able to recover its actual construction costs in

the Clubhouse through depreciation. See Rev. Proc. 92-29,

sec. 2.01, 1992-1 C.B. 748, 749.

 Petitioners contend that at no time during construction of

the Clubhouse beginning in 1994 and after construction through

the transition period would VRI have had the right to recover its

Clubhouse construction costs through depreciation. 
- 17 -

Petitioners also contend that the issue of whether VRI’s

Clubhouse construction costs would have been recoverable by VRI

through depreciation represents a new factual issue under Rule

142(a) and that respondent should bear the burden of proof with

regard thereto. 

Respondent contends that ownership of the Clubhouse was held

by VRI during construction from 1994 through the transition

period and until April 21, 1999, when the deed to the Golf Course

and to the Clubhouse was transferred out of escrow to VCI, and

therefore that VRI had a depreciable interest in the Clubhouse.

Generally, for the years in issue, the burden of proof is on

the taxpayer with regard to factual issues. Rule 142(a),

however, states that in the case of any “new matter” the burden

of proof shall be upon respondent. In Wayne Bolt & Nut Co. v.

Commissioner, 93 T.C. 500, 507 (1989), we summarized the

distinction between new theories that are treated as new issues

and new theories that simply supplement previously raised issues

as follows:

A new theory that is presented to sustain a

deficiency is treated as a new matter when it either

alters the original deficiency or requires the

presentation of different evidence. A new theory which

merely clarifies or develops the original determination

is not a new matter in respect of which respondent

bears the burden of proof. [Citations omitted.]
- 18 -

In respondent’s notices of deficiency to petitioners,

respondent determined that the development and sale of VRI’s

residential lots, on the one hand, and the Golf Course and

Clubhouse, on the other hand, constituted two separate

development projects (i.e., that the Golf Course and Clubhouse

were not improvements common to the development of the

residential lots) and that VRI therefore could not, under the

alternative cost method, allocate to the residential lots the

costs of constructing the Golf Course and the Clubhouse.

As explained, in respondent’s pretrial memorandum,

respondent abandoned the contention that the residential lots,

the Golf Course, and the Clubhouse constituted separate projects,

and for the first time respondent contended that VRI, not VCI,

owned the completed Clubhouse, had a depreciable interest in the

Clubhouse, and would have been able to recover its actual

construction costs through depreciation, and therefore that VRI

could not use the alternative cost method to allocate its

estimated Clubhouse construction costs to its bases in the

residential lots.

The evidence relevant to whether development of the

residential lots, the Golf Course, and the Clubhouse constituted

a single project is quite different from the evidence required of

petitioners to prove, as between VRI and VCI, ownership of, and

the existence of a depreciable interest in, the Clubhouse. 
- 19 -

Respondent’s new theory constitutes a new, different matter, not

just another version of an issue or an adjustment previously

raised in a notice of deficiency, and respondent bears the burden

of proof regarding this fact issue. See Barton v. Commissioner,

993 F.2d 233 (11th Cir. 1993), affg. without published opinion

T.C. Memo. 1992-118; Abatti v. Commissioner, 644 F.2d 1385, 1390

(9th Cir. 1981), revg. T.C. Memo. 1978-392; see also sec. 7522; 

Shea v. Commissioner, 112 T.C. 183 (1999).

The period for depreciation of property begins when property

is placed in service. See sec. 1.167(a)-10(b), Income Tax Regs.

Accordingly, VRI’s construction costs relating to the

Clubhouse are properly regarded as recoverable through

depreciation only if, and for the period that, VRI possessed an

ownership interest in the Clubhouse after the Clubhouse was

placed in service. 

Generally, property is placed in service when it reaches a

condition of readiness and availability for a specifically

assigned function. See sec. 1.167(a)-11(e)(1), Income Tax Regs. 

On July 19, 1996, the Golf Course and the Clubhouse opened and

play began. Absent evidence in these cases to the contrary, and

in light of respondent’s burden of proof on this issue, we treat

July 19, 1996, as the date the Clubhouse was placed into service.

Because the Clubhouse was not placed in service until

July 19, 1996, from the time construction of the Clubhouse began
- 20 -

in 1994 through July 18, 1996, VRI did not have an interest in

the Clubhouse properly recoverable through depreciation, and we

reject respondent’s contention that because VRI allegedly had an

ownership interest in the Clubhouse during construction, VRI is

not qualified to allocate estimated Clubhouse construction costs

under the alternative cost method.

The question of whether VRI would have been able to recover

its Clubhouse construction costs through depreciation because it

allegedly had a depreciable interest in the Clubhouse during the

transition period (namely, on or after the Clubhouse was placed

in service on July 19, 1996, and until April 21, 1999, the date

the deed to the Clubhouse was transferred out of escrow to VCI),

turns on an analysis of the benefits and burdens relating to

ownership of the Clubhouse during the transition period. See

Grodt & McKay Realty, Inc. v. Commissioner, 77 T.C. 1221, 1235-

1238 (1981). Who possesses the benefits and burdens of ownership

of property constitutes a question of fact which is generally

ascertained from the intentions of the parties as evidenced by

the written agreements read in light of all the relevant facts

and circumstances. See Durkin v. Commissioner, 87 T.C. 1329,

1367 (1986), affd. 872 F.2d 1271 (7th Cir. 1989).

Some of the factors used by courts in analyzing whether

taxpayers possess the benefits and burdens of ownership of

property are: (1) Who has legal title to the property; (2) whom
- 21 -

the parties treat as possessing the benefits and burdens of

ownership; (3) who has equity in the property; (4) whether the

taxpayer has a present obligation to execute and deliver a deed

and whether the purchaser has a present obligation to make

payments; (5) who has the rights of possession to the property;

(6) who pays the property taxes; (7) who bears the risk of loss

or damage to the property; and (8) who receives the profits from

the operation and sale of the property. See Grodt & McKay

Realty, Inc. v. Commissioner, supra at 1237-1238.

Ownership of real property may be transferred even though

title thereto is retained by the seller or is in escrow for

security purposes. See Clodfelter v. Commissioner, 48 T.C. 694,

700 (1967), affd. 426 F.2d 1391 (9th Cir. 1970).

On July 10, 1996, prior to the time the Clubhouse was placed

in service, VRI transferred into escrow title to the Clubhouse. 

Thereafter, during the transition period, title to the Clubhouse

was held in escrow in VCI’s name. VCI stood to benefit from an

increase in the fair market value of the Clubhouse, and VCI would

suffer economically for any decrease in the fair market value of

the Clubhouse. 

Also during the transition period, VCI was obligated and did

pay for the insurance relating to the Clubhouse.

Transfer to VCI of legal title to the Clubhouse was

scheduled to occur no later than December 31, 2000, regardless of
- 22 -

how much VRI had received in membership fees and regardless of

the amount of VRI’s losses in connection with operation of the

Clubhouse during the transition period. 

Under the Contract, until transfer of title from the escrow

to VCI, VRI was required to fund any deficit and to retain any

net income from operating the Clubhouse. VCI, however, during

the transition period had control over the amount of dues charged

to members, and VCI thereby largely controlled the income or loss

to be realized from operation of the Clubhouse.

With regard specifically to a depreciable ownership interest

in property, in Commissioner v. Moore, 207 F.2d 265, 268 (9th

Cir. 1953), revg. and remanding 15 T.C. 906 (1950), the Court of

Appeals for the Ninth Circuit stated:

It is not the physical property itself, nor the

title thereto, which alone entitles the owner to claim

depreciation. The statutory allowance is available to

him whose interest in the wasting asset is such that he

would suffer an economic loss resulting from the

deterioration and physical exhaustion as it takes

place. * * *

See also Weiss v. Weiner, 279 U.S. 333 (1929); Geneva Drive-In

Theatre, Inc. v. Commissioner, 622 F.2d 995 (9th Cir. 1980).

In petitioners’ post-trial brief, petitioners accurately

summarize the transaction before us as follows: 

VRI acquired the Project for a single purpose -- to

create (1) valuable homesites abutting a first-class golf

course and (2) valuable golf club memberships and to
- 23 -

liquidate its entire investment in the Project at a

profit by selling the homesites and memberships. In

furtherance of that purpose, on the very day that VRI

acquired the Project, VRI also entered into a Purchase

and Sale Agreement with the Club, a non-profit membership

corporation, under which VRI irrevocably committed itself

to construct golf-related improvements and to convey

those improvements (the Club Facilities) to the Club,

retaining only the right to proceeds from the sale of a

specified number of Club memberships, and placing the

title to the Club Facilities in escrow to protect its

interest in those sale proceeds. * * *

We conclude that respondent has failed to meet his burden of

proving that, during the transition period, VRI, not VCI,

possessed the benefits and burdens of ownership of the Clubhouse. 

Also, apart from the burden of proof on this fact issue, we

conclude that the evidence establishes that, during the

transition period, VCI possessed the benefits and burdens of

ownership of the Clubhouse. The estimated construction costs

associated with the Clubhouse, therefore, are not to be regarded

as recoverable by VRI through depreciation during the transition

period. 

Because VRI would not be able to recover its construction

costs through depreciation during either the construction period

or the transition period, VRI’s estimated construction costs

relating to the Clubhouse may be allocated to the bases of the

residential lots sold in 1994 under the alternative cost method

of Rev. Proc. 92-29, subject to the limitations thereof.
- 24 -

Respondent argues that the failure of VRI and VCI to adhere

strictly to the terms of the Contract indicates that VRI and VCI

did not regard the Contract as binding and that we should

disregard the terms of the Contract. We disagree. The deed to

the Clubhouse was transferred into escrow before the placed-inservice date of July 19, 1996, the relevant date for purposes of

establishing in these cases ownership of and a depreciable

interest in the Clubhouse. The fact that the deed to the

Clubhouse was not transferred into escrow until shortly before

completion of construction is not particularly significant. 

Also, in light of the indicia of ownership set forth above, the

fact that a formal written lease of the Clubhouse between VRI and

VCI was not executed during the transition period is not

particularly significant. We believe that the terms under which

the Clubhouse would be operated during the transition period as

between VRI and VCI were adequately set forth in the Contract,

and respondent has pointed us to nothing that represents a

failure to adhere to that agreement in any substantial way.

Respondent relies on language in the 1999 settlement

agreement between VRI, petitioners, VCI, and members of VCI as

follows: 

Turnover Date is defined as of the date when all

documents necessary to carry out this agreement are

removed from escrow * * * and ownership, possession,

and control of the property * * * is actually

transferred from VRI to VCI. 
- 25 -

We regard use in the above settlement agreement of the term

“ownership” as simply protective and as not indicative of true

ownership of the Clubhouse. We do not find this language from

the 1999 settlement agreement arising out of a legal dispute as

controlling with respect to ownership of the Clubhouse during the

transition period. 

Estimated Future-Period Interest Expense

In Rev. Proc. 92-29, sec. 4.01, 1992-1 C.B. 748, 750, in a

general explanation of the alternative cost method, reference is

made to the general capitalization rules and the interest

capitalization rules of section 263A(f) as follows:

The alternative cost method does not affect the

application of general capitalization rules to

developers of real estate. Thus, common improvement

costs incurred under section 461(h) of the Code are

allocated among the benefitted properties and may

provide the basis for additional computations (e.g.,

interest capitalization under section 263A(f)).

Petitioners contend generally that (regardless of the above

specific reference in Rev. Proc. 92-29 to the continued

application to developers of the general capitalization rules and

of the interest capitalization rule of section 263A(f)), the

history and purpose of Rev. Proc. 75-25 support their argument

that estimated interest expense should be included in the
- 26 -

calculation of a developer’s estimated construction costs for

common improvements under the alternative cost method. 

We disagree. We believe that the above specific reference

in Rev. Proc. 92-29 to section 263A(f) makes it clear that under

the alternative cost method the interest capitalization rule of

section 263A(f) applies and prevents the allocation (to a

developer’s cost bases in lots sold in a particular year) of

estimated future-period interest expense. Under section 263A(f),

only those interest expenses that are paid or incurred during the

production period are to be capitalized in the year paid or

incurred. Section 263A(f) provides in part as follows:

SEC. 263A(f) Special Rules For Allocation of Interest

to Property Produced by the Taxpayer.--

(1) Interest capitalized only in certain

cases.-–Subsection (a) shall only apply to

interest costs which are–-

(A) paid or incurred during the production

period, * * *

The “paid” or “incurred” requirement of section 263A(f)

precludes petitioners’ claim that estimated future-period

interest expense may be estimated and allocated to the basis of

lots sold in a particular year under the alternative cost method. 

Our interpretation is consistent with the general economic

performance rule of section 461(g) and (h), under which interest

expense is not added to the bases of property until the expense
- 27 -

4 Rev. Proc. 92-29, sec. 2, 1992-1 C.B. 748, 749, defines

common improvements as follows:

.01 Common Improvement. For purposes of this revenue

procedure, the term “common improvement” means any real

property or improvements to real property that benefit

two or more properties that are separately held for

sale by a developer. The developer must be

contractually obligated or required by law to provide

the common improvement and the cost of the common

improvement must not be properly recoverable through

depreciation by the developer. * * * Examples of common

improvements include streets, sidewalks, sewer lines,

playgrounds, clubhouses, tennis courts, and swimming

pools that the developer is contractually obligated or

required by law to provide and the costs of which are

not properly recoverable through depreciation by the

developer.

is incurred. Our interpretation is also consistent with the

requirement under Rev. Proc. 92-29, 1992-1 C.B. 748, 749, that to

qualify for allocation under the alternative cost method the

“developer must be contractually obligated or required by law to

provide” the improvements relating to the estimated cost. VRI

was contractually obligated under the Contract to construct the

Golf Course and the Clubhouse. VRI, however, was not obligated

under the Contract to obtain interest-bearing debt for such

endeavor and merely chose to finance construction of the Golf

Course and the Clubhouse based on its current financial condition

and presumably could have paid off such debt at any time.4 

Petitioners rely on Haynsworth v. Commissioner, 68 T.C. 703

(1977), affd. without published opinion 609 F.2d 1007 (5th Cir.

1979), in support of their position that estimated future-period
- 28 -

interest expense should be treated as estimated construction

costs and available for allocation under the alternative cost

method. In Haynsworth, the taxpayer included interest expense in

their estimate of anticipated development costs for purposes of

computing cost-of- goods-sold, but, as a result of payment of the

mortgage on the property, the taxpayer eliminated the interest

from its adjusted estimates. Petitioners claim that Haynsworth

indicates a long accepted practice of including interest expense

in the estimated costs of common improvements.

Treatment of the interest expense was not at issue in

Haynsworth. The interest expense mentioned in Haynsworth was

removed from the total estimated costs in a year before the years

in dispute. We reject petitioners’ argument that interest

expense should be included in estimated construction costs based

on Haynsworth or some accepted practice regarding estimated

interest expense.

Rev. Proc. 92-29, 1992-1 C.B. 748, provides an alternative

to the economic performance rules under section 461(h) for

determining when estimated construction costs may be included in

the bases of lots sold. In enacting the economic performance

rule, Congress was concerned that allowing taxpayers to take

current deductions for future obligations overstated the true

costs because the time value of money was not taken into account. 
- 29 -

See Staff of Joint Comm. on Taxation, General Explanation of the

Deficit Reduction Act of 1984, at 260 (J. Comm. Print 1984). 

Rev. Proc. 92-29 provides a limited exception to section

461(h), and anything not specifically within the provisions of

Rev. Proc. 92-29 would generally be governed by the economic

performance rule of section 461(h). Rules of statutory

construction suggest that if a statute (or other authority)

specifies exceptions to a statute’s general application, other

exceptions not explicitly mentioned should not be implied. See

United States v. Lande, 968 F.2d 907, 910 (9th Cir. 1992).

We conclude that under Rev. Proc. 92-29, VRI may not include

estimated interest expense in the calculation of estimated

construction costs to be allocated to the bases in the lots VRI

sold in 1994.

To reflect the foregoing,

Decisions will be entered

under Rule 155.