T.C. Memo. 1996-533

UNITED STATES TAX COURT

BARRY D. AND SUZANNE B. WHALLEY, Petitioners v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 17230-94. Filed December 2, 1996.

Barry D. Whalley, pro se.

Marion Robus, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

PARR, Judge: Respondent determined deficiencies in, and

penalties on, petitioners' Federal income tax for taxable years

1991 and 1992 as follows:

 Penalty

 Year Deficiency Sec. 6662(a)

 1991 $12,437 $2,487

 1992 13,908 2,782
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1 For 1991, respondent concedes that petitioners are allowed a

Schedule A deduction of $1,536 for the cost of unreimbursed jobrelated education courses taken by Mrs. Whalley. Respondent

concedes that petitioners are allowed a Schedule C deduction of

$200 for advertising expenses, $118 for supplies, $125 paid to

the California Association of Licensed Investigators, and $100

for the renewal of petitioner's private investigator's license. 

Respondent concedes that petitioner is not required to include in

gross income $97 as a dividend. Petitioner concedes that he

erroneously claimed a $216 bad debt deduction and a deduction for

a $14 parking citation.

For 1992, respondent concedes that petitioners are allowed a

Schedule A deduction of $729 for the cost of unreimbursed jobrelated education courses taken by Mrs. Whalley and $240 for tax

preparation fees. Respondent concedes that petitioners are

allowed a Schedule C deduction of $218 for advertising expenses,

$125 paid to the California Association of Licensed

Investigators, and two separate $20 payments made to the Northern

California Fraud Investigators Association. Petitioner concedes

that he erroneously claimed a $150 bad debt deduction.

2 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, unless otherwise

indicated. All dollar amounts are rounded to the nearest dollar.

After concessions by the parties,1 the issues for decision

are: (1) Whether pursuant to section 162, petitioners may deduct

Schedule A job-related education expenses in excess of the

amounts allowed by respondent for the taxable years 1991 and

1992.2 We hold they may, to the extent set out below. (2)

Whether pursuant to section 162, petitioners may claim Schedule A

miscellaneous itemized deductions for the taxable years 1991 and

1992. We hold they may, to the extent set out below. (3) Whether

pursuant to section 162, petitioners may deduct Schedule C

business expenses in excess of the amounts allowed by respondent

for the taxable years 1991 and 1992. We hold they may, to the
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3 Respondent determined, and we agree, that for 1991 and 1992,

certain computational adjustments should be made, which would:

(1) Increase petitioners' self-employment tax liability and selfemployment tax deduction,(2) reduce petitioners' itemized

deductions, and (3) preclude petitioners from claiming the Earned

Income Credit. These are mathematical adjustments that the

parties can make in their Rule 155 computation.

4 The pretrial order required the parties to stipulate all

facts and documents to the extent possible. Nevertheless,

petitioners wasted the Court's time, effort, and resources

introducing more than 65 exhibits into evidence, many of which

could and should have been stipulated. 

extent set out below. (4) Whether the farm activity conducted by

petitioners was an activity engaged in for profit for the taxable

years 1991 and 1992 under section 183. We hold it was not. (5)

Whether petitioners are liable for penalties for negligence or

intentional disregard of rules or regulations for the taxable

years 1991 and 1992 under section 6662(a). We hold they are.3

FINDINGS OF FACT

A few of the facts have been stipulated and are so found.4

The stipulated facts and the accompanying exhibits are

incorporated into our findings by this reference. At the time

the petition in this case was filed, petitioners, husband and

wife, resided in Livermore, California. The term "petitioner"

refers to Barry D. Whalley.

Petitioners timely filed joint Federal income tax returns,

Forms 1040, for 1991 and 1992. Those returns reflected wages

paid by the City of Hayward Police Department to Lieutenant

Suzanne B. Whalley (Mrs. Whalley), in the amounts of $70,198 for
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1991 and $77,727 for 1992. For both years in issue, no Federal

income tax was withheld, as reflected on the Forms W-2 issued for

Mrs. Whalley by the Hayward Police Department.

For 1991 and 1992, petitioners claimed total itemized

deductions on Schedule A of $28,211 and $34,148, respectively.

They deducted $5,283 in 1991, and $7,242 in 1992 for continuing

education courses, professional meetings, and conferences. For

1992, they deducted $2,066 for union and professional dues and

$2,024 for the cost of purchasing and cleaning Mrs. Whalley's

uniforms. A list of the Schedule A miscellaneous deductions is

attached as appendix A. 

For 1991 and 1992, petitioners filed Schedules C for a

business called Twin Star Investigations (TSI). The Schedules C

reflect gross income of $4,524 and expenses of $25,546, for 1991,

and gross income of $4,892 and expenses of $32,616, for 1992. A

list of the Schedule C deductions is attached as appendix B. 

TSI was operated solely by petitioner for approximately 8

years, from 1984 to 1992. Petitioner billed clients for

approximately 181 hours in 1991 and 163 hours in 1992. His rate

for investigative work ranged from $25 to $35 per hour. His rate

for office work and travel time was $15 per hour. In 1991, he

billed clients for mileage at 35 cents per mile and also charged

them for lodging, meals, equipment, supplies, photographs, and

fees paid. Petitioner's cellular telephone, purportedly used in

connection with his business, was not listed under TSI. 
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Petitioner has never reported a profit from TSI on his tax

return.

For 1991 and 1992, petitioners filed Schedules F for an

activity called Twin Star Ranch (TSR). The Schedules F reflect

gross income of $475 and expenses of $28,327, for 1991, and gross

income of $1,050 and expenses of $37,747, for 1992. A list of

the Schedule F deductions is attached as appendix C. 

Petitioners started their 71⁄2-acre ranch in 1982, after

petitioner retired. Petitioners have never reported a profit

from TSR on their tax return. They did not take any farming or

animal husbandry courses in college. From 1988 through the time

of trial, however, petitioner attended seminars at the University

of California at Davis covering a variety of animal-related

topics, such as breeding, raising, feeding, and medically caring

for animals.

In 1991, petitioners' farm consisted of a flock of 20 to 25

sheep, some chickens and peacocks, one horse, and four cattle. 

In 1991, petitioners advertised a cockatiel and a ram for sale in

the local newspaper. In 1992, petitioners did not advertise

anything for sale from their farm. In 1992, petitioners

purchased two more horses. None of petitioners' horses were

stallions, and they did not breed horses in either 1991 or 1992.

In 1991 and 1992, petitioners sold only sheep and eggs; they

deducted $90 for butchering in 1992. Petitioners' farm had an

unlisted phone number. 
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Except for some minor items, all of the Schedule F expenses

claimed by petitioners were incurred in connection with their

horses. For example, in 1991, petitioners deducted over $1,800

for the cost of veterinarian's fees and medicine, tickets to the

rodeo association, horse magazine subscriptions, and other horserelated items. In 1992, petitioners deducted over $13,000 in

connection with their horses, a substantial portion of which

included the cost of constructing a horse training arena, which

petitioners' daughter used for riding practice. 

Petitioner completed the equivalent of 3 years of college. 

Before engaging in TSI and TSR, petitioner was a police officer

for 17 years in the City of Oakland, retiring as a sergeant in

1982. After retiring from the police force, petitioner worked as

a Chief Special Investigator for World Airlines, where he

remained for 2 years. 

For the years in issue, petitioner owned two vans, a pickup

truck, and a Porsche.

OPINION

Issue 1. Schedule A Education Expenses

Respondent determined that for 1991 and 1992, petitioners

are not entitled to deduct job-related education expenses,

including mileage, parking, meals, lodging, and other

miscellaneous expenditures claimed by Mrs. Whalley in excess of

the amounts conceded by respondent, because petitioners have

failed to meet the requirements of sections 162 and 274 and the
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5 For 1991, respondent concedes $1,536, representing

petitioners' checks made out to California State University at

Hayward, the copy center, and the bookstore. We note that the

check amounts listed by respondent for 1991 total only $1,490 and

not $1,536. Based on the record, we infer that respondent

inadvertently failed to include a check in the amount of $45.80

made out to CSUH, which would bring the total up to $1,536.

regulations thereunder. For 1991 and 1992, respondent concedes

$1,5365 and $729, respectively.

As a general rule, the Commissioner's determinations are

presumed correct, and the taxpayer bears the burden of proving

that those determinations are erroneous. Rule 142(a); Welch v.

Helvering, 290 U.S. 111, 115 (1933); Durando v. United States, 70

F.3d 548, 550 (9th Cir. 1995). Moreover, deductions are a matter

of legislative grace, and the taxpayer bears the burden of

proving that he or she is entitled to any deduction claimed. 

Rule 142(a); New Colonial Ice Co. v. Helvering, 292 U.S. 435, 440

(1934). This includes the burden of substantiation. Hradesky v.

Commissioner, 65 T.C. 87, 90 (1975), affd. per curiam 540 F.2d

821 (5th Cir. 1976).

Section 162(a) allows a deduction for ordinary and necessary

expenses of carrying on a trade or business. Education

expenditures, including transportation from work to class,

parking, and travel expenses while away from home in connection

with such education are deductible business expenses when the

education maintains or improves the skills required by a taxpayer

in his or her employment or if the education meets the express
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6 The standard mileage allowances for 1991 and 1992 were 27.5

and 28 cents per mile, respectively, for all miles of use for

business purposes. Rev. Proc. 90-59, 1990-2 C.B. 644; Rev. Proc.

91-67, 1991-2 C.B. 887. There is some indication, based on the

documents submitted at trial that petitioners used the 27.5 cents

per mile flat rate for both 1991 and 1992 in determining the

amount of their deduction for business mileage driven.

requirements of the taxpayer's employer. Sec. 1.162-5(a)(1),

Income Tax Regs. 

A taxpayer's general statement that his or her expenses were

incurred in pursuit of a trade or business normally is not

sufficient to establish that the expenses had a reasonably direct

relationship to that trade or business. Ferrer v. Commissioner,

50 T.C. 177, 185 (1968), affd. per curiam 409 F.2d 1359 (2d Cir.

1969). Rather, a taxpayer must maintain records sufficient to

permit verification of income and expenses. Sec. 6001; sec.

1.6001-1, Income Tax Regs. That a taxpayer cannot prove the

exact amount of an otherwise deductible item is not fatal,

because generally, unless precluded by section 274, we may

estimate the amount of such an expense and allow the deduction to

that extent. Cohan v. Commissioner, 39 F.2d 540 (2d Cir. 1930). 

The estimate, however, must have some reasonable evidentiary

basis. Vanicek v. Commissioner, 85 T.C. 731, 743 (1985).

A. Commuting Expenses

Respondent determined that petitioners are not entitled to

deduct expenses incurred for approximately 9,300 and 4,800 miles6

driven during 1991 and 1992, respectively, in connection with

Mrs. Whalley's job-related education.
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Under section 274(m)(2), no deduction is allowed "for travel

as a form of education." However, travel expenses to get to a

school, seminar, or conference where business-related education

is obtained can still be deductible. Sec. 1.162-5(d), Income Tax

Regs. Furthermore, commuting expenses from a taxpayer's home to

his or her place of study are nondeductible personal expenses. 

Zimmerman v. Commissioner, 71 T.C. 367, 370 (1978), affd. without

published opinion 614 F.2d 1294 (2d Cir. 1979); Shelton v.

Commissioner, T.C. Memo. 1996-444; secs. 1.162-2(e), 1.262-

1(b)(5), Income Tax Regs. 

Mrs. Whalley drove to class during the spring, summer,

winter, and fall. She kept a daily logbook to substantiate the

actual miles driven during each semester. However, at trial,

petitioner testified that Mrs. Whalley drove back and forth from

home to class, rather than from work to class. Mrs. Whalley did

not testify; consequently, we conclude that such expenses are

personal commuting expenses and therefore are not deductible

under section 262.

B. Travel Expenses While Away From Home 

For 1991 and 1992, petitioners deducted $146 and $664, 

respectively, for the cost of meals and lodging incurred by Mrs.

Whalley while away from home at business conferences. 

Petitioners also deducted expenses for approximately 4,700 and
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7 As we previously indicated, the standard mileage allowances

for 1991 and 1992 were 27.5 and 28 cents per mile, respectively. 

Rev. Proc. 90-59, 1990-2 C.B. 644; Rev. Proc. 91-67, 1991-2 C.B.

887. 

5,200 miles7 driven by Mrs. Whalley during 1991 and 1992,

respectively, from home to professional meetings and conferences. 

Taxpayers may deduct expenses incurred while traveling away

from home if the trip is primarily to obtain education that has

the requisite relation to the taxpayer's business. Sec. 1.162-

5(e)(1), Income Tax Regs. Thus, travel expenses incurred to

attend a seminar or continuing education course may be

deductible. Sec. 1.162-5(e)(2), Income Tax Regs. To deduct

expenses incurred for travel, meals, and lodging while away from

home on job-related education, a taxpayer must satisfy the

stringent substantiation requirements of section 274(d) and the

regulations thereunder. A taxpayer must substantiate each

element of an expenditure incurred for travel, meals, and lodging

while away from home either by adequate records or by sufficient

evidence corroborating his or her own statement. Sec. 1.274-

5T(c), Temporary Income Tax Regs., 50 Fed. Reg. 46017 (Nov. 6,

1985).

For travel expenses, including meals and lodging, a taxpayer

must substantiate: (1) The amount of such expense, (2) the time

and place such expense was incurred, and (3) the business purpose

for which such expense was incurred. Sec. 1.274-5T(b)(2),

Temporary Income Tax Regs., 50 Fed. Reg. 46014 (Nov. 6, 1985). 

Section 274(d) specifically bars a taxpayer from claiming a
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deduction on the basis of any approximation or the unsupported

testimony of the taxpayer. Sec. 1.274-5T(a), Temporary Income

Tax Regs., 50 Fed. Reg. 46014 (Nov. 6, 1985).

In 1991, Mrs. Whalley drove 590 miles in connection with

three different business conferences she attended in California. 

She took a management class in Monterey, a public service seminar

in San Mateo, and a supervisory skills program in San Jose.

Petitioner's testimony coupled with the documentary evidence

submitted at trial establishes the time and place of the business

conferences, that they were attended by Mrs. Whalley for

business, and that she drove 590 miles to attend them. 

Accordingly, petitioners have met the requirements of sections

162 and 274(d) and therefore may deduct the expenses incurred in

connection with such mileage. 

For 1991 and 1992, however, we sustain respondent's

determination as to the balance of the 4,110 and 5,278 miles

driven, respectively, by Mrs. Whalley for miscellaneous meetings

that she allegedly attended on behalf of the police department. 

The mileage claimed is not supported by a logbook or diary, but

rather consists of a handwritten index created by petitioner. 

Moreover, petitioner's testimony regarding the alleged business

purpose of such mileage traveled is uncorroborated by any

testimonial or documentary evidence from Mrs. Whalley or her

employer. We note that the absence of such evidence may lead the

finder of fact to infer that such evidence, if presented at
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trial, subject to respondent's cross-examination, would not have

been favorable to petitioners. Kay v. Comissioner, 89 T.C. 1063,

1069 (1987), affd. 886 F.2d 1237 (9th Cir. 1989); Wichita

Terminal Elevator Co. v. Commissioner, 6 T.C. 1158, 1165 (1946),

affd. 162 F.2d 513 (10th Cir. 1947). This is true where, as

here, the party failing to produce such evidence has the burden

of proof. Wichita Terminal Elevator Co. v. Commissioner, supra

at 1165.

In 1992, Mrs. Whalley deducted $549 for meals and lodging

allegedly incurred for two SWAT training classes at San Jose and

Fort Ord, and $115 for meals, which she contends were incurred

for miscellaneous business trips. Respondent disallowed these

deductions for lack of substantiation. Again, Mrs. Whalley's

failure to testify, coupled with the fact that petitioners did

not submit any receipts or canceled checks to substantiate such

expenses, weighs heavily against petitioners. Accordingly, we

sustain respondent's determination, except that we allow

petitioners to deduct $48.75, reflected in one receipt submitted

in connection with Mrs. Whalley's lodging at Fort Ord.

 C. Registration Fees

Petitioners deducted registration fees of $134 and $582 in

1991 and 1992, respectively, for business conferences attended by

Mrs. Whalley. 

For 1991, petitioners submitted invoices which establish

that Mrs. Whalley did indeed pay $134 in registration fees for
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the San Mateo and San Jose conferences. Accordingly, we allow

petitioners to deduct this amount.

For 1992, petitioners deducted $582 for a SWAT course

allegedly attended by Mrs. Whalley. To substantiate this

expense, petitioners submitted a receipt signed by a "Kadie" for

that amount. Petitioner, however, submitted the same receipt to

substantiate the cost of chairs he purportedly purchased from

Classic Oak for use in his home office. Therefore, the receipt

is not reliable evidence of either expense. Accordingly,

petitioners have failed to meet their burden of proof with

respect to this item. 

D. Parking Expenses

In 1991 and 1992, Mrs. Whalley deducted $225 and $305,

respectively, for alleged parking costs at California State

University at Hayward. Petitioner asserts that Mrs. Whalley was

"required to pay cash to park at the [school] meters." Thus, she

did not have any parking receipts. Rather, to substantiate these

expenses petitioners submitted daily parking permits. However,

the language on the face of the parking permit directly conflicts

with petitioner's testimony, because it specifically indicates

that day permits are "not valid at parking meters." Thus, the

evidence fails to establish that Mrs. Whalley paid for metered

parking at school. Rather, it indicates that she was provided

with daily parking permits enabling her to park without charge.
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Issue 2. Schedule A Miscellaneous Itemized Deductions

A. Union and Professional Dues and Uniform Purchases and

Cleaning

For 1992, Mrs. Whalley deducted on Schedule A, $2,066 for

union and professional dues, and $2,024 for the cost of

purchasing and cleaning her police uniforms. Respondent

disallowed the expenses in their entirety, because petitioners

failed to submit any evidence to substantiate these items.

Mrs. Whalley is a police lieutenant. As such, expenses that

she incurs during the taxable year for union and professional

dues, as well as the cost of purchasing and cleaning her police

uniforms, are treated as ordinary and necessary expenses incurred

in carrying on her business. Sec. 162. Moreover, that Mrs.

Whalley cannot prove the exact amount spent on such items is not

fatal, because under Cohan we may approximate the amount of such

expenses. Cohan v. Commissioner, 39 F.2d 540 (2d Cir. 1930). To

do so, however, we must have a reasonable evidentiary basis for

making such an estimate. Vanicek v. Commissioner, 85 T.C. 731,

743 (1985). Petitioner asserts that at a pretrial meeting, he

gave respondent records to substantiate these expenses. However,

the records petitioner submitted to respondent were for 1991, and

not for 1992, the taxable year in issue.

Under Cohan, as discussed above, we may estimate

petitioners' expenses if we are convinced that they were actually

incurred during the taxable year. However, in making such an
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estimate, the Court will closely scrutinize a taxpayer whose

inexactitude is of his own making. Cohan v. Commissioner, supra;

DeMauro v. Commissioner, T.C. Memo. 1994-460, affd. without

published opinion 82 F.3d 404 (3d Cir. 1996). Given that Mrs.

Whalley is a police lieutenant, we can reasonably infer that she 

incurred cleaning expenses for her uniforms and was required to

pay union dues. However, with respect to the purported purchase

of Mrs. Whalley's police uniforms, no evidence was presented to

establish that the Hayward Police Department required police

officers to purchase their own uniforms. Petitioners' failure to

submit any records to substantiate such expenses weighs heavily

against them. Accordingly, under Cohan, we allow petitioners to 

deduct $300 for 1992 for the cost of dues and cleaning uniforms. 

However, we sustain respondent's determination as to the $3,790

balance. 

B. Books and Motivational Tapes

For 1991 and 1992, Mrs. Whalley deducted $36 and $467,

respectively, for motivational tapes, cassettes, and books, such

as The Confident Woman; as well as magazines and newspapers, such

as Self, Working Woman, and the Valley Times.

 Petitioners have failed to establish how such expenses are

connected to Mrs. Whalley's job as a police officer, and not

merely expenses for her own personal growth and entertainment.

Thus, we find that such amounts constitute personal expenditures
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and therefore are not deductible. Sec. 1.262-1(a), Income Tax

Regs. 

Issue 3. Schedule C Deductions

Respondent determined that all of petitioner's Schedule C

deductions for 1991 and 1992 are disallowed, because he failed to

meet the requirements of sections 162 and 274. Petitioner

asserts that each of the Schedule C deductions claimed for his

business was an ordinary and necessary expense paid or incurred

during the taxable years in issue within the meaning of section

162 and section 1.162-1(a), Income Tax Regs., and that each of

these deductions has been sufficiently substantiated pursuant to

sections 162 and 274, both through his oral testimony and the

documentary evidence presented at trial.

A taxpayer can deduct all the ordinary and necessary

expenses paid or incurred during the taxable year in carrying on

a trade or business. See supra p. 7. An expense is ordinary if

it is "normal, usual, or customary" in the taxpayer's trade or

business. Deputy v. du Pont, 308 U.S. 488, 495 (1940) (citing

Welch v. Helvering, 290 U.S. at 114). An expense is "necessary"

if it is "appropriate and helpful" to the development and

operation of the taxpayer's business. Welch v. Helvering, supra

at 113. In determining whether an expense is ordinary and

necessary pursuant to section 162, we generally have focused on

the existence of a reasonably proximate relationship between the
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expense and the taxpayer's business and the primary motive or

purpose for incurring the expense. Henry v. Commissioner, 36

T.C. 879, 884 (1961).

We now address each category of disallowed deductions

independently. 

A. Advertising

Petitioner deducted advertising expenses of $510 in 1991 and

$317 in 1992. Respondent determined that petitioner was not

entitled to any deduction for advertising, but later conceded

that petitioner is entitled to deduct $200 for 1991 and $218 for

1992, which represent the costs of yellow page advertising in

connection with TSI. 

The balance of the 1991 advertising represents amounts made

out on TSR checks, not TSI checks, for admission fees to golf

tournaments that petitioner claims to have attended for

networking purposes. Petitioner testified that he went around,

talked, and gave out his business cards to people. However, to

meet his burden of proof, petitioner must offer more than a

general statement that such expenses were incurred in pursuit of

his business in order to sufficiently establish that the

expenditures had a reasonably direct relationship to his

business. Ferrer v. Commissioner, 50 T.C. at 185. In this case,

the evidence presented at trial fails to establish that

petitioner's activities at the golf tournament actually had any
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direct relationship to the production of business income as

required by section 162.

The balance of the 1992 advertising deductions represents

amounts paid for raffle tickets and newspaper advertisements. 

The raffle tickets were a personal expense. Sec. 262. With

respect to the newspaper advertisements, petitioner asserts that

such expenses were incurred to sell his 1989 Chevrolet van,

purportedly used in his business. Petitioner, however, failed to

provide invoices at trial to support the purpose of the checks. 

Thus, we find that the balance of petitioner's 1991 and 1992

claimed advertising expenses is not deductible. 

B. Depreciation, Insurance and Other Automobile-Related

Expenses

Petitioner claimed depreciation of $4,100 for 1991 based on

a $23,300 purchase contract dated June 1989, for a 1989 Chevrolet

van. For 1992, petitioner claimed depreciation of $4,800 based

on a sales invoice from an unknown source for a 1993 Ford van

purchased for $22,476 in December 1992. The purchase price was

paid in full, and nothing was financed.

For 1991 and 1992, petitioner claimed insurance expenses of

$587 and $545, respectively. Petitioner claimed 100 percent of

the insurance costs for 1991 and 1992 on his Chevrolet van.

Petitioner asserts that the insurance claimed for 1992, which was

paid by a check made out to Safeco Insurance Co. is for the Ford

van. However, the automobile policy premium indicates that the

insurance coverage is for a 1989 Chevrolet.
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Petitioner also claimed other automobile-related expenses in

connection with his business of $756 for 1991 and $8,786 for

1992. 

Respondent disallowed the entire amounts for depreciation,

insurance, and other automobile-related costs for lack of

substantiation under section 274(d).

No deduction shall be allowed with respect to listed

property, within the meaning of section 280F(d)(4), unless such

deductions satisfy the strict substantiation requirements of

section 274(d) and the regulations thereunder. Included in the

definition of listed property under section 280F(d)(4) is any

passenger automobile. Sec. 280F(d)(4)(A)(i). To substantiate a

deduction attributable to listed property, a taxpayer must

maintain adequate records or present corroborative evidence to

show: (1) The amount of the expense, (2) the time and place of

use of the listed property, and (3) the business purpose for the

use. Sec. 1.274-5T(b)(6), Temporary Income Tax Regs., 50 Fed.

Reg. 46016 (Nov. 6, 1985). To substantiate a deduction by means

of adequate records, a taxpayer must maintain an account book,

diary, log, statement of expense, trip sheets, or a similar

record, and documentary evidence which, in combination, are

sufficient to establish each element of each expenditure or use. 

Sec. 1.274-5T(c)(2)(i), Temporary Income Tax Regs., 50 Fed. Reg.

46017 (Nov. 6, 1985). To be adequate, a record generally must be

written. Each element of an expenditure or use that must be
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substantiated should be recorded at or near the time of that

expenditure or use. Sec. 1.274-5T(c)(2)(ii)(A), Temporary Income

Tax Regs., 50 Fed. Reg. 46017 (Nov. 6, 1985). Thus, under

section 274(d), no deduction shall be allowed for expenses

incurred for the use of a passenger automobile on the basis of

any approximation or the unsupported testimony of the taxpayer. 

See, e.g., Ellison v. Commissioner, T.C. Memo. 1994-437.

For 1991 and 1992, petitioner claimed 100-percent business

use of his 1989 Chevrolet van. Petitioner, however, has not met

his burden of proof with respect to this issue. At trial,

petitioner submitted two invoices for mechanical work done on the

van. The first invoice, dated December 19, 1991, shows the

odometer at 55,248 miles; the second invoice, dated March 25,

1992, shows the odometer at 59,978 miles. Accordingly, the van

was driven 4,730 miles during approximately a 3-month period. 

Petitioner concedes that he drove the van approximately 20,000

miles per year, which he alleges was for business. For 1991 and

1992, however, petitioner reported gross income on his Schedules

C of only $4,524 and $4,892, respectively, which represent less

than 200 billable hours in connection with his investigation

business, yet he asks us to find as fact that all 20,000 miles

driven on his van were for business purposes. Given this

scenario, such a conclusion is inconceivable. Furthermore,

petitioner failed to establish his actual percentage of business

use for the van.
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8 We note that credit card membership fees should not have

been characterized as legal and professional fees. This

classification, however, does not foreclose the deductions. 

In December of 1992, petitioner purchased a $22,476 Ford van

for which he claimed depreciation under MACRS of $4,800. At

trial, however, petitioner did not offer any evidence regarding

the percentage of business use for this vehicle. 

Under Cohan, we generally may estimate a taxpayer's

deductions. Cohan v. Commissioner, 39 F.2d 540 (2d Cir. 1930). 

However, section 274(d) overrides the Cohan rule with respect to

listed property and thus specifically precludes the Court from

allowing a deduction for automobile expenses on the basis of any

approximation or petitioner's unsupported testimony. Sec. 1.274-

5T(a)(4), Temporary Income Tax Regs., 50 Fed. Reg. 46014 (Nov. 6,

1985). 

Accordingly, we sustain respondent's determination, since

petitioner failed to establish the percentage of business use for

the two vans, which is a threshold requirement that must be met

in order to deduct depreciation, insurance, and other automobilerelated expenses incurred in connection with these vehicles.

C. Legal and Professional Fees

For 1991 and 1992, petitioner deducted $123 and $43,

respectively, for annual credit card membership fees as a legal

and professional expense.8 Respondent disallowed the expenses in

full on the ground that petitioner failed to establish the

percentage of business use for any of the cards in issue.
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At trial, petitioner conceded that although he used the

credit cards for both personal and business purposes, he used

them for personal purposes only in emergencies when he was

"caught without money." Petitioner also testified that he had

four other personal credit cards. Petitioner estimated that he

used the credit cards in issue approximately 75 percent for

business and 25 percent for personal purposes. He made this

estimate based on the business and personal charges that appeared

on the monthly credit card statements.

We find petitioner's estimate of 25-percent personal use to

be reasonable. Accordingly, we allow petitioner to deduct 75

percent of the annual membership fees incurred for 1991 and 1992. 

Cohan v. Commissioner, supra.

D. Home Office Expenses

For 1991, petitioner deducted home office expenses of

$1,444, for a facsimile machine, a facsimile stand, a telephone,

and chairs. For 1992, petitioner deducted home office expenses

of $3,385, for chairs, a desk lamp, a computer desk, a computer

stand, and a computer and peripheral equipment. Petitioner

testified that he used the business equipment in his home office. 

For 1991 and 1992, petitioner also deducted utilities of $912 and

$957, respectively, representing one-third of the utilities

incurred on his personal residence, which he allocated to his

home office. Respondent denied these expenses on the ground that
- 23 -

9 Under sec. 280A(b), deductions which are otherwise allowable

without regard to any connection with a trade or business include

the deduction for: (1) Interest under sec. 163, subject to the

sec. 163(h)(1) personal interest restriction, (2) real estate

taxes under sec. 164, and (3) casualty losses under sec. 165.

the home office did not meet the requirements of section 280A,

and that petitioners failed to establish the percentage of

business use for the assets.

Section 280A(a) provides, as a general rule, that an

individual taxpayer is precluded from deducting expenses incurred

in connection with the business use of a dwelling unit that is

used by the taxpayer during the year as a residence. The general

disallowance rule does not prevent a taxpayer from taking any

deduction that would otherwise be allowable without regard to the

use of the home for business.9 Sec. 280A(b). 

 Subject to the income limitation on deductions under

section 280A(c)(5), a business-use exception from the general

disallowance rule is carved out where a taxpayer can meet certain

statutory tests prescribed by section 280A(c)(1). Section

280A(c)(1) permits a taxpayer to deduct expenses allocable to a

home office which is exclusively used on a regular basis for one

or more of the following three purposes: (1) As the taxpayer's

principal place of business, (2) as the place where the taxpayer

meets with customers, clients, or patients in the normal course

of business, and (3) in the case of an unattached separate

structure, in connection with the taxpayer's business. Sec.

280A(c)(1); Commissioner v. Soliman, 506 U.S. 168 (1993); Cao v.
- 24 -

10 If business use of listed property falls to 50 percent or

less, then it is subject to the expensing and depreciation

recapture rules of secs. 179(d)(10) and 280F(b)(2), respectively. 

Commissioner, T.C. Memo. 1994-60, affd. without published opinion

78 F.3d 594 (9th Cir. 1996). 

As a general rule, section 280F(d)(4) treats any computer or

peripheral equipment as listed property. Sec. 280F(d)(4)(A)(iv). 

To claim expensing or depreciation for such property pursuant to

sections 179 and 280F, respectively, a taxpayer must establish

that business use exceeds 50 percent. Sec. 280F(b)(3); sec.

1.179-1(d), Income Tax Regs.10 Furthermore, section 274(d)(4)

precludes a taxpayer from claiming a deduction for listed

property as defined in section 280F(d)(4)(A), unless the taxpayer

meets the strict substantiation requirements of section 274(d)

and the regulations thereunder. See supra p. 19. 

Section 280F(d)(4)(B) provides an exception to the listed

property rules for any computer or peripheral equipment used

exclusively at a regular business establishment. A home office

is treated as a regular business establishment provided the

office meets the requirements of section 280A(c)(1). Sec.

280F(d)(4)(B).

Based on the record and the evidence, petitioner has failed

to establish that his use of the home office satisfies one of the

three business-use exceptions under section 280A(c)(1). Indeed,

petitioner claimed deductions for the furniture and similar

office items, the computer and peripheral equipment, the
- 25 -

facsimile machine and stand, and electricity without specifically

claiming a "home office".

Since petitioner's home office does not meet the

requirements of section 280A(c)(1), it follows that the computer

and the peripheral equipment are not excepted from the section

280F(d)(4)(B) definition of listed property. Therefore, to

depreciate such items petitioner must satisfy the strict section

274(d) substantiation requirements. Moreover, he must establish

that business use for such equipment exceeds 50 percent. Sec.

280F(b)(3).

Based on his testimony and the evidence introduced at trial, 

petitioner failed to establish the percentage of business use for

the computer and peripheral equipment. Rather, at trial

petitioner merely asserted "these are office expenses" and then

proceeded to name each item purchased and the amount purportedly

incurred for it. Furthermore, even if petitioner had established

the business-use percentage for such items, he failed to satisfy

all of the stringent section 274(d) substantiation requirements.

The facsimile machine and the stand are not subject to the

listed property rules. Thus, to claim depreciation under section

167, petitioner must establish that he actually purchased and

used such assets in his business during the taxable years in

issue. Secs. 162, 167(a); secs. 1.162-1, 1.167(a)-1, Income Tax

Regs. At trial, petitioner testified that he purchased a

facsimile machine for use in his business. However, we are not
- 26 -

convinced by petitioner's general statements and the evidence

submitted at trial that he actually incurred such an expense. To

substantiate the purchase of the facsimile machine, petitioner

submitted a generic American Express receipt for $640 from Radio

Shack. However, that receipt does not specify the item charged,

and petitioner simply wrote in "fax machine". Thus, petitioner

has failed to establish that he actually purchased a facsimile

machine. Accordingly, we sustain respondent's determination with

respect to this item. However, with respect to the cost of the

facsimile stand, we allow petitioner to deduct $130, since he

submitted a bill for this amount which shows a description of the

item purchased. Furthermore, we can reasonably infer that

petitioner used the facsimile stand in his business. Vanicek v.

Commissioner, 85 T.C. 731, 743 (1985). 

With respect to the telephone, chairs, desk lamp, computer

desk, and computer stand, we note that Congress, in enacting

section 280A, intended to preclude expenses "otherwise considered

nondeductible personal, living, and family expenses * * * [from

being] converted into deductible business expenses" merely

because they have some connection to a business activity. 

S. Rept. 94-938 at 147 (1976), 1976-3 C.B. (Vol. 3) 49, 185. 

Prior to the enactment of section 280A, there was congressional

concern that some taxpayers were deducting personal expenditures

under the guise of business use of the home. Hamacher v.

Commissioner, 94 T.C. 348, 357 (1990) (citing Green v.
- 27 -

Commissioner, 707 F.2d 404, 407 (9th Cir. 1983)). Accordingly,

under present law, use of a home office that fails to qualify

under section 280A is to be treated as personal in nature for

purposes of deducting any related expenses. Id. at 357. Thus,

since petitioner failed to prove that any portion of his

residence was used exclusively for business, and failed to prove

what portion, if any, of the costs of the telephone, chairs, desk

lamp, and computer stand was connected to his business, he is

precluded from deducting such costs. Sec. 262. 

 Finally, under section 280A(a), utilities are considered an

expense incurred with respect to the use of a dwelling unit. 

Accordingly, petitioner is barred from deducting one-third of the

cost of utilities allocable to his home office, because he failed

to establish that the office was exclusively used on a regular

basis for one of the three purposes under section 280A(c)(1), or

that one-third would be the appropriate allocation.

E. Office Expenses and Supplies

For 1991 and 1992, petitioner deducted $1,535 and $1,734 in

supplies and office expenses for the cost of business checking

fees, film and developing, photocopies, blank videos, and

miscellaneous supplies. Respondent disallowed all of the

expenses except for $118 claimed in 1991, representing the cost

of typewriter services, stationery, legal pads, fax paper, and

typing pads.
- 28 -

Petitioner's testimony regarding these expenses was vague,

general, and dubious. Petitioner alleges that he did not bill

clients of his investigation business for such charges because he

was trying to build his business. The invoices submitted at

trial, however, establish that petitioner did indeed bill his

clients for equipment, supplies, and photographs. The fact that

some receipts have job numbers further supports our finding that

petitioner was keeping track of expenses to bill clients.

Moreover, in 1991 petitioner claimed over $200 in photo expenses. 

However, in many instances petitioner deducted these expenses

twice by submitting both a photo receipt and a photo envelope for

the same item and then claiming them as two separate expenses.

For 1992, petitioner deducted $120 ($10 per month times 12

months) for business checking fees. Petitioner did not submit

bank statements to substantiate this expense. Accordingly, we

sustain respondent's disallowance of deductions claimed for

supplies and office expenses.

F. Travel, Meals, and Entertainment

For 1991 and 1992, petitioner deducted $1,589 and $2,448,

respectively for travel, and $2,867 and $2,156, respectively, for

meals and entertainment. Respondent disallowed these amounts for

lack of substantiation. We find for respondent on this matter. 

A taxpayer is required under section 274(d) to substantiate

entertainment expenses by adequate records to corroborate his or

her own testimony as to: (1) The amount of the expense, (2) the
- 29 -

time and place the expense was incurred, (3) the business purpose

of the expense, and (4) the business relationship to the taxpayer

of each expense incurred. Sec. 1.274-5T(b)(4), Temporary Income

Tax Regs., 50 Fed. Reg. 46015 (Nov. 6, 1985). See supra pp. 9-

10. 

At trial, petitioner's testimony regarding his travel, meal,

and entertainment expenses was evasive, and in many instances

implausible. For example, in response to a question asked by

this Court as to whether petitioner was reimbursed for a hotel

bill at the Victoria Inn in Monterey, which allegedly was

incurred for surveillance purposes, he evaded the question by

responding: "I just include my hourly rate on them." Petitioner

was then asked whether this response implied that he incurred

such hotel and meal expenses for business purposes without

reimbursement from his clients. Petitioner replied: "If I

didn't eat the business, pretty soon [the clients] were going to

somebody else and I was getting absolutely nothing." 

Petitioner's statement is not credible. Moreover, the evidence

submitted at trial establishes that in many instances, petitioner

did bill his clients for meals, lodging, and mileage. Whether

such expenses were reimbursed by petitioner's clients or were

personal expenses, they are not deductible.

Furthermore, petitioner's evidence is inconsistent. For

example, he submitted two checks in connection with the same trip

to Sun Valley, which he allegedly made for surveillance purposes. 
- 30 -

One check is a payment to a "Nita Mott" on January 12, 1991,

which he testified was paid "to get a special room" in the hotel

at Sun Valley to facilitate his surveillance efforts. The other

check is for $591 and drawn on Mrs. Whalley's personal account. 

This check, which is dated November 15, 1991, was supposedly

payment for the Sun Valley trip. Petitioner, however, allegedly

made that trip nearly 10 months earlier in January of 1991. When

petitioner was then asked whether he was testifying that he "went

to Sun Valley in January of 1991 and * * * [his] wife paid for

that in November of 1991", he responded: "No, the actual trip was

in 1992." Petitioner's testimony is dubious regarding this

matter. The record likewise fails to substantiate the expenses

claimed by petitioner for 1992.

Finally, with respect to petitioner's alleged investigatory

interviews, they seem to always be connected with expensive meals

for which he generally provided few names and vague explanations

of business purpose. Furthermore, nothing in the record

indicates contemporaneous record keeping.

Accordingly, petitioner has failed to meet the requirements

of section 274(d), and we, therefore, sustain respondent's

determination for the taxable years in issue. 

G. Business Promotion Expenses

For 1991 and 1992, petitioner deducted $2,039 and $165,

respectively, for alleged business promotions paid to various

individuals and associations for items such as the Rotary Club
- 31 -

barbecue. Respondent disallowed these amounts in their entirety. 

 Many of the alleged promotion expenses claimed by

petitioner are actually entertainment expenses, subject to the

strict substantiation requirements of section 274(d). See supra

pp. 9-10. For 1991 and 1992, petitioner's alleged business

promotions include a $500 check made out to a "Dick Howard" for a

statue petitioner purchased at a Rotary auction which he

attended. Petitioner alleges that this purchase was related to

his business because he donated the statute back to the Rotary

Club in TSI's name for re-auctioning, which petitioner asserts

created both name recognition and goodwill for TSI. The other

items deducted by petitioner include sponsorship fees to various

rodeos, tickets to a benefit, golf tournament fees, and similar

expenses.

Petitioners have failed to show how any of the expenses

incurred for such activities actually afforded petitioner

contacts with possible clients or had any direct relationship to

the production of income. Ferrer v. Commissioner, 50 T.C. at

185. Thus, we affirm respondent's determination on this issue.

H. Computer Charges

For 1991 and 1992, petitioner deducted computer charges of

$1,051 and $1,598, respectively. Respondent disallowed these

expenses in full. On this issue, we find for petitioner. 

At trial, petitioner testified that these expenses, which

were incurred in connection with his investigation and
- 32 -

surveillance business, represented computer fees paid to on-line

service providers for individual background check information,

including addresses, Social Security numbers, credit information,

and so on. The checks submitted by petitioner at trial

substantiate that such expenses were incurred, and they are

consistent with his trial testimony. Based on the record, we

find that these amounts were ordinary and necessary expenses

incurred by petitioner in carrying on his business under section

162. 

I. Postage

For 1991 and 1992, petitioner deducted postage in the

amounts of $394 and $402, respectively. Respondent completely

disallowed these expenses. 

In many instances, petitioner failed to show the business

purpose for the postage expense claimed. For example, in 1991

petitioner purchased 600 stamps at 29 cents apiece; however, the

record is silent as to the use of the stamps in petitioner's

business. In 1992, petitioner conceded that he posted the

newsletter for the Rotary group. However, petitioner has not

established that this newsletter postage is a business expense. 

These examples are indicative of the entire record regarding this

matter. 

Nevertheless, it is still reasonable to infer that

petitioner incurred postage costs for TSI. At trial, petitioner

submitted bills which we know he mailed out to clients. 
- 33 -

Accordingly, we allow petitioner to deduct $50 annually for

postage. Cohan v. Commissioner, 39 F.2d 540 (2d Cir. 1930).

J. Dues and Subscriptions

For 1991 and 1992, petitioner claimed dues and subscriptions

of $1,211 and $712, respectively. Respondent disallowed these

amounts, except for $100 incurred by petitioner in 1991 to renew

his private investigator's license, $125 paid both in 1991 and

1992 to the California Association of Licensed Investigators, and

two payments of $20 each made in 1992 to the Northern California

Fraud Investigators Association.

For 1991, petitioner deducted membership fees to the Rotary

Club, as well as to the Office Club, Costco, and Price Club,

which are all retail stores, and the Alameda Golf Club. For

1992, petitioner deducted membership fees to the Rotary Club, the

Alameda County Leaders Council, and the Retired Peace Officers

Association. Petitioner did not explain the facts and

circumstances of such expenses, nor is the business purpose of

these expenses self-explanatory from any business relationship of

petitioner with the expenses incurred. Lattin v. Commissioner,

T.C. Memo. 1995-233. Moreover, petitioner is unable to trace any

of his clients directly to these contacts. 

Thus, we find that these items are nondeductible personal

expenses under section 262. 

The balance of the 1991 and 1992 deductions are for various

newspapers, magazines, and legal books, such as Investigative
- 34 -

News and the Asset Protection Guide. Petitioner provided

canceled checks for these items. Petitioner's testimony

establishes that he used these materials either as resources or

to stay abreast of trends in the investigation and surveillance

industry. Therefore, petitioner may deduct $665 in 1991 and $181

in 1992 for the cost of these items.

K. Laundry and Linen

For 1991 and 1992, petitioner deducted $225 and $233,

respectively, representing the cost of cleaning petitioner's

suits and shirts. This is clearly a personal nondeductible

living expense under section 262.

L. Outside Services

For 1991 and 1992, petitioner deducted $4,100 and $2,920,

respectively, for outside services, which respondent disallowed

in full. Petitioner testified that these were amounts paid to 15

different informants, or "snitches", to obtain information.

Petitioner paid these amounts in cash; he did not issue Forms

1099 to the recipients, nor did he provide any receipts or other

documentation to support the deduction for the taxable years in

issue. We find for respondent on this matter. 

M. Telephone

For 1991 and 1992, petitioner deducted $1,787 and $1,433,

respectively, for cellular phone expenses allegedly incurred in
- 35 -

11 A cellular phone is listed property under sec.

280F(d)(4)(A)(v).

connection with his business. The cellular phone,11 which is

installed in petitioner's van, is not listed under TSI. 

Petitioner did not provide any telephone bills for the amounts in

issue to establish what portion, if any, is business related. We

also note that the telephone bills submitted in connection with

deductions claimed for petitioner's farm activity, TSR, are

surprisingly low, less than $20 per month. This leads to the

conclusion that petitioners were making personal calls from the

so-called business phone. Accordingly, we find for respondent

since petitioner failed to meet his burden of proof. Sec. 162. 

Issue 4. Schedule F Farm Activity

Respondent determined that petitioners did not engage in

their farm activity with the intent to earn a profit. In accord

with section 183, respondent disallowed the losses claimed on

petitioners' Schedule F, resulting from farm expenses of $28,327

and $37,747 for 1991 and 1992, respectively. Petitioners assert

that they entered into and carried on their farm activity in good

faith and with the intent to earn a profit, and therefore the

losses arising from the farm activity are allowable.

Section 183(a) provides that if an activity is not engaged

in for profit, "no deduction attributable to such activity shall
- 36 -

12 Sec. 183(b)(1) provides that deductions which would be

allowable without regard to whether such activity is engaged in

for profit shall be allowed. Sec. 183(b)(2) provides that

deductions which would be allowable only if such activity is

engaged in for profit shall be allowed "but only to the extent

that the gross income derived from such activity for the taxable

year exceeds the deductions allowable by reason of paragraph

(1)."

be allowed", except as otherwise provided in section 183(b).12

Section 183(c) defines an activity not engaged in for profit as

"any activity other than one with respect to which deductions are

allowable for the taxable year under section 162 or under

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

The test for determining whether an individual is carrying

on a trade or business under section 183 is whether the

taxpayer's actual and honest objective in engaging in the

activity is to make a profit. Dreicer v. Commissioner, 78 T.C.

642, 645 (1982), affd. without opinion 702 F.2d 1205 (D.C. Cir.

1983); sec. 1.183-2(a), Income Tax Regs. While a taxpayer's 

expectation of profit need not be reasonable, there must be a

good faith objective of making a profit. Allen v. Commissioner,

72 T.C. 28, 33 (1979); sec. 1.183-2(a), Income Tax Regs. 

 To determine whether the requisite profit objective exists,

we examine a variety of facts. Engdahl v. Commissioner, 72 T.C.

659, 666 (1979); sec. 1.183-2(a), Income Tax Regs. Thus, the

determination of whether the requisite profit objective exists

depends upon all the surrounding facts and circumstances of the
- 37 -

case. Keanini v. Commissioner, 94 T.C. 41, 46 (1990); sec.

1.183-2(b), Income Tax Regs.

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

nonexclusive list of factors to be considered in determining

whether an activity is engaged in for profit. These factors

include: (1) The manner in which the taxpayers carried on the 

activity; (2) the expertise of the taxpayers or their advisers;

(3) the time and effort expended by the taxpayers in carrying on

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

activity may appreciate in value; (5) the success of the

taxpayers in carrying on other similar or dissimilar activities;

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

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

are earned; (8) the financial status of the taxpayers; and (9)

any elements indicating personal pleasure or recreation. 

Although these factors are helpful in ascertaining a taxpayer's

objective in engaging in the activity, no single factor, nor the 

existence of even a majority of the factors, is controlling;

rather, the facts and circumstances of the case remain the

primary test. Keanini v. Commissioner, supra at 47. To aid in

our determination, we will consider the factors in the regulation

seriatim. 

A. Manner of Carrying On the Activity 

Conducting an activity in a businesslike manner may indicate

that a taxpayer has the necessary profit objective. Engdahl v.
- 38 -

Commissioner, supra at 666-667. For example, keeping books and

records related to an activity may be indicative of a profit

objective. Id.; sec. 1.183-2(b)(1), Income Tax Regs. In 

addition to maintaining records, advertising an activity may

indicate a profit objective. Engdahl v. Commissioner, supra.

Also, adapting new techniques and abandoning inefficient methods

may support the conclusion that the taxpayer possessed the

requisite profit objective. Allen v. Commissioner, supra at 35;

sec. 1.183-2(b)(1), Income Tax Regs.

Here, petitioners failed to conduct their farm activity in a

businesslike manner. They did not maintain complete and accurate

books, nor did they keep contemporaneous records of receipts and

expenditures arising from their farm activity. In many instances

they failed to provide respondent with the evidence of payment in

the form of canceled checks, invoices, or receipts for expenses

claimed, or evidence of business purpose. Petitioners' notations

on checks as to the business purpose of such checks were written

after the fact; i.e., at the end of the year in which the

expenses were allegedly incurred. In fact, in many instances,

petitioner was not quite sure what went into some of the expenses

claimed.

Advertising an activity may be indicative of a profit

motive. In 1991, however, the only advertising expense incurred

by petitioners was for a local newspaper ad listing a cockatiel

and a ram for sale. In 1992, petitioners did not advertise
- 39 -

anything for sale from their farm. Furthermore, petitioners'

ranch had an unlisted phone number.

Petitioners also failed to show that they intended to change

their operating methods in an effort to increase profitability. 

At trial, petitioner made a vague statement about his desire to

expand, reduce his expenses, and leave a profitable business to

his heirs. However, he was unable to articulate any specific

details regarding new techniques that he intended to adapt or

inefficient methods he intended to abandon with respect to his

farm activity. Accordingly, this factor favors respondent. 

B. Expertise of Taxpayer or Advisers

The fact that a taxpayer studies the accepted business,

economic, and scientific practices associated with the activity,

or consults with experts, may help demonstrate a profit

objective. Engdahl v. Commissioner, supra at 668; sec.

1.183-2(b)(2), Income Tax Regs.

Petitioner completed the equivalent of 3 years of college. 

He did not take any farming or animal husbandry courses in

college; however, from 1988 through the time of trial, he

attended seminars at the University of California at Davis

covering a variety of animal-related issues, such as breeding,

raising, feeding, and medically caring for animals. In addition,

petitioner stayed abreast of developments in the farming and

breeding industry by reading industry books and publications,

such as Track and Trail and National Press Publication. Although
- 40 -

petitioners did not seek advice regarding their farm activity,

this fact is not necessarily determinative of a lack of profit

motive. The evidence shows that petitioners made an effort to

acquire the knowledge necessary to make their farm activity

profitable, and we find in their favor with respect to this

factor. 

C. Time and Effort Expended in the Activity 

A taxpayer's devotion of substantial time and effort to an

activity, particularly if there are no substantial personal or

recreational elements associated with the activity, may indicate

the requisite profit objective. The fact that only a limited

amount of time is so devoted does not necessarily give rise to a

contrary inference. Haladay v. Commissioner, T.C. Memo. 1990-45;

Archer v. Commissioner, T.C. Memo. 1987-70; sec. 1.183-2(b)(3),

Income Tax Regs. 

In this case, petitioners did not establish that they

devoted a substantial amount of time to their farm activity. 

Mrs. Whalley is a full-time police officer and student, and

petitioner testified that back problems prevented him from doing

a substantial amount of work. There is evidence that the farm

activity was engaged in primarily for personal purposes. The

evidence shows that petitioners deducted substantial costs to

train their daughter to ride and participate in equestrian

activities. For example, petitioners built and deducted the cost

of an arena for their daughter's riding practice. They also
- 41 -

claimed substantial deductions for the cost of horse show

equipment, costumes, and material. However, there is no

persuasive evidence establishing how all of these expenses either

produced or would produce income. In short, petitioners' failure

to devote a considerable amount of time to the farm activity

combined with the fact that they derived substantial personal

pleasure from it suggests that the activity was not engaged in

for profit. 

D. Expectation That Assets May Appreciate 

An expectation that the appreciation of assets used in an

activity will produce an overall profit when netted against the

losses from that activity may indicate the requisite profit

objective. Sec. 1.183-2(b)(4), Income Tax Regs. There must be a

bona fide expectation that appreciation will produce a profit at

some time in the future. Allen v. Commissioner, 72 T.C. at 36;

Engdahl v. Commissioner, 72 T.C. at 668 n.4; sec. 1.183-2(b)(4),

Income Tax Regs.

On petitioners' Schedules F for 1991 and 1992, they showed

farm income of $475 and $1,050, respectively. Petitioner

testified that he became interested in horses after realizing

that such animals were a valuable asset having appreciation

potential if properly exhibited at horse shows or used for

breeding purposes. In 1992, petitioner owned three horses, one of

which was allegedly a stallion that he bought for breeding

purposes. At one point during the trial petitioner noted
- 42 -

hypothetically that "you can buy a horse for $10,000 * * * start

breeding it, selling its babies for an equal amount and after you

sold the first one you could recapture your loss for the initial

investment." This statement, taken on its face, seems to support

petitioner's assertion that he expected his stallion to

appreciate in value because it could be used for breeding

purposes. Petitioner, however, never owned a stallion that could

potentially appreciate. In fact, according to a veterinarian's

soundness examination given to the animal prior to petitioner's

purchase, it was determined that the horse was not actually a

stallion as petitioner asserts, but rather a gelding. Petitioner

also testified that he could generate capital gain from the sale

of his horses, since they would appreciate from being displayed

at horse shows. However, petitioners had no income from either

selling or breeding horses. Accordingly, we find that

petitioners' horses could not be expected to significantly

appreciate in value. 

E. Taxpayer's Success in Other Activities 

We have recognized that a taxpayer's success in other

business activities may indicate a profit motive, despite a

currently unprofitable activity. Hoyle v. Commissioner, T.C.

Memo. 1994-592; sec. 1.183-2(b)(5), Income Tax Regs. During the

years in issue, petitioner, a retired police officer, is also

reporting substantial losses on his Schedules C from another

business activity known as TSI. The losses from that activity
- 43 -

were $21,022 for 1991 and $27,724 for 1992. We find that this

factor does not support petitioner's position.

F. History of Income or Losses From the Activity

A history of losses over an extended period may indicate the

absence of a profit objective. Allen v. Commissioner, supra at

34. However, although a long history of losses is an important

criterion, it is clear that this factor is not necessarily

determinative of a lack of a profit objective. E.g., Engdahl v.

Commissioner, supra at 669 (deductions allowed in spite of 12

straight years of losses in a horse-breeding operation). A 

series of initial or startup losses does not necessarily indicate

that the activity was not engaged in for profit. Id.; sec.

1.183-2(b)(6), Income Tax Regs. Moreover, losses sustained

because of unforeseen or fortuitous circumstances beyond a

taxpayer's control do not indicate that the activity was not

engaged in for profit. Engdahl v. Commissioner, 72 T.C. at 669.

In this case, petitioners have engaged in their farm

activity for approximately 8 years. During those years

petitioners' farm activity never made a profit. Petitioners'

losses were not due to unfortunate events beyond their control

but resulted from their deduction of expenses which in many

instances were personal in nature. For example, petitioner

testified that in 1991 he deducted $244 worth of wine that he
- 44 -

purchased for customers who bought lamb from his ranch, even

though he reported Schedule F income of only $475 for 1991. The

losses arising from such deductions were used to offset Mrs.

Whalley's significant salary from her employment as a police

lieutenant. Based on the record and the testimony presented at

trial, petitioners' claim that the Schedule F losses were

incurred in an activity having a bona fide profit motive exceeds

the bounds of credibility. 

 G. Amount of Occasional Profits Earned, If Any 

If an activity generates only small, infrequent profits and

typically generates large losses, the taxpayer conducting the

activity may be less likely to have a profit objective. Golanty

v. Commissioner, 72 T.C. 411, 427 (1979), affd. without published

opinion 647 F.2d 170 (9th Cir. 1981); sec. 1.183-2(b)(7), Income

Tax Regs. 

Petitioners' farm activity has never shown a profit. In

fact, petitioners' expenses have greatly exceeded their revenue. 

For example, for the taxable years in issue, their revenues from

the activity were between $475 and $1,050, respectively, while

their expenses were between $28,327 and $37,747, respectively. 

In short, this factor weighs against petitioners' assertion that

they operated the farm activity with the intent to turn a profit.

H. Taxpayer's Financial Status 

Substantial income from sources other than the activity may

indicate that the activity is not engaged in for profit. 
- 45 -

Engdahl v. Commissioner, supra at 669; sec. 1.183-2(b)(8), Income

Tax Regs. The rationale for this rule, in part, is that a

taxpayer with substantial income from sources unrelated to the

activity can more easily afford to operate the activity as a

hobby and may seek to use the losses from the activity to offset

the income from other sources. 

During the taxable years at issue, Mrs. Whalley earned wages 

of $71,425 for 1991 and $78,649 for 1992. Petitioner reported a

nontaxable pension of $38,872 for 1991 and $32,963 for 1992. 

Moreover, for both years, no Federal income tax was withheld

according to the Forms W-2 issued for Mrs. Whalley by the Hayward

Police Department. Given the facts presented, the obvious

conclusion is that petitioners intended that they would reduce or

eliminate their tax liability because of their claim of alleged

losses. We find that petitioners' substantial income from other

sources coupled with the fact that they failed to claim any

withholding for the years in issue indicates a lack of profit

objective.

I. Elements of Personal Pleasure

That a taxpayer receives personal or recreational benefits

from an activity may indicate that the taxpayer is not engaging

in the activity for profit. Sec. 1.183-2(b)(9), Income Tax Regs.

Petitioner's testimony throughout the trial consistently

points to his daughter's equestrian accomplishments. He

indicated that his daughter rides a variety of their horses and
- 46 -

rides in Western pleasure events, English riding events, and

trail riding events for which she has won awards. The majority

of the Schedule F expenses for the years at issue were

attributable to his daughter's training, attire, and

participation in shows. This fact, coupled with the other

factors enumerated above, indicates that petitioners did not

engage in the farm activity for profit, but for personal

gratification.

Based on the foregoing and considering all the facts and

circumstances, we conclude that petitioners did not have an

actual and honest profit objective for the years in issue. 

Issue 5. Accuracy-Related Penalty

Respondent determined in the notice of deficiency that

petitioners are liable for the accuracy-related penalty imposed

by section 6662(a) for 1991 and 1992, and that the entire

underpayment of tax for each such year was due to negligence. 

Section 6662(a) imposes a 20-percent penalty on the portion

of the underpayment attributable to any one of various factors,

one of which is negligence. The term "negligence" includes any

failure to make a reasonable attempt to comply with the

provisions of the internal revenue laws or to exercise ordinary

and reasonable care in the preparation of a tax return. Sec.

6662(c); sec. 1.6662-3(b)(1), Income Tax Regs. Negligence also

includes any failure by the taxpayer to keep adequate books and

records or to substantiate items properly. Sec. 1.6662-3(b)(1),
- 47 -

Income Tax Regs. The term "disregard" includes any careless,

reckless, or intentional disregard of rules or regulations. Sec.

6662(c); sec. 1.6662-3(b)(2), Income Tax Regs. 

Section 6664(c)(1), however, provides that the penalty under

section 6662(a) shall not apply to any portion of an underpayment

if it is shown that there was reasonable cause for the taxpayer's

position with respect to that portion and that the taxpayer acted

in good faith with respect to that portion. The determination of

whether a taxpayer acted with reasonable cause and in good faith

within the meaning of section 6664(c)(1) is made on a case-bycase basis, taking into account all the pertinent facts and

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

Respondent's determination of negligence is presumed to be

correct, and petitioners bear the burden of proving that the

accuracy-related penalty does not apply. Rule 142(a); Welch v.

Helvering, 290 U.S. at 115.

 Petitioners have not presented evidence to establish that

there was reasonable cause for their position with respect to the

underpayments of tax, nor that they acted in good faith with

respect to such underpayments. At first glance, petitioners

appear to have put their records together very well. However,

careful scrutiny of the documentary evidence presented and

petitioner's trial testimony proves this assumption wrong. We

found numerous instances where petitioners took multiple

deductions for the same item, claimed deductions for items that 
- 48 -

they were not entitled to claim, and failed to establish that the

expenses incurred during 1991 and 1992 were ordinary and

necessary costs of carrying on a trade or business pursuant to

section 162. Thus, we find that petitioners have failed to meet

their burden of proof with respect to the accuracy-related

penalty. Accordingly, we sustain respondent's determination that

petitioners are liable for the accuracy-related penalty pursuant

to section 6662(a). Rule 142(a).

To reflect the foregoing,

 

 Decision will be entered 

 under Rule 155.
- 49 -

Appendix A

1991 Schedule A expenses 

Total misc. itemized deductions $8,306

 (After applying 2% AGI floor)

Tax prep. fee $230 

Union/prof dues 1,863 

Uniforms/equip. 1,499 

Continuing educ. 5,283 

1992 Schedule A expenses

Total misc. itemized deductions 11,261

 (After applying 2% AGI floor)

Tax prep. fee $240

Union/prof dues 2,066 

Uniforms/equip. 2,024 

Continuing educ. 7,242
- 50 -

Appendix B

1991 Schedule C expenses

Total expenses $25,546

Advertising 510

Bad debt 216

Car expenses 756

Depreciation 4,100

Insurance 587 

Legal and professional fees 123 

Office expenses 1,444 

Supplies 1,535 

Travel expenses 1,589 

Meals and entertainment 2,867 

Utilities 912 

Business promotion expenses 2,039 

Computer charges 1,051 

Delivery and freight 394 

Dues and subscriptions 1,211 

Laundry and linen 225 

Licenses 100 

Outside services 4,100 

Telephone expenses 1,787 

1992 Schedule C expenses

Total expenses $32,616

Advertising 317

Bad debt 150

Car expenses 8,786

Depreciation 4,800

Insurance 545 

Legal and professional fees 43 

Office expenses 3,385 

Supplies 1,554 

Travel expenses 2,448 

Meals and entertainment 2,156 

Utilities 957 

Business promotion expenses 165 

Computer charges 1,598 

Delivery and freight 402 

Dues and subscriptions 712 

Laundry and linen 233 

Outside services 2,920

Small tools 12 

Telephone expenses 1,433 
- 51 -

Appendix C

1991 Schedule F expenses

Total expenses $28,327

Chemicals 214 

Machine work 1,142

Depreciation 1,214

Feed 4,183

Fertilizer 135

Freight and trucking 1,636

Gasoline, fuel, and oil 401

Interest 380

Labor 495

Equipment rentals 442

Repairs and maintenance 959

Seeds and plants 393

Supplies purchased 11,434

Utilities 912

Vet. fees, breeding and medicine 1,621

Telephone expenses 71

Advertising 459

Replenishment 2,000

Dues and subscriptions 236

1992 Schedule F expenses

Total expenses $37,747

Chemicals 79

Conservation expenses 121

Machine work 2,502

Depreciation 2,427

Feed 4,346

Fertilizer 355

Freight and trucking 3,512

Gasoline, fuel, and oil 413

Interest 130

Labor 741

Equipment rentals 32

Repairs and maintenance 1,631

Storage and warehousing 574

Supplies 13,837

Taxes 41

Utilities 1,001

Vet. fees, breeding, and medicine 1,011

Telephone expenses 68

Advertising 184
- 52 -

Business promo. expenses 1,775

Butchering/kill 90

Replenishment 2,500

Dues and subscriptions 377