T.C. Memo. 2004-252

UNITED STATES TAX COURT

BRAD AND TERI MONTAGNE, Petitioners v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 11648-02. Filed November 8, 2004.

Brad Montagne, pro se.

James Brian Urie, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

VASQUEZ, Judge: Respondent determined the following

deficiencies in, addition to, and accuracy-related penalties on

petitioners’ Federal income taxes:

 Addition to Tax Penalty

 Year Deficiency Sec. 6651(a)(1) Sec. 6662(a)

 1997 $17,091 $3,956 $3,418

 1998 17,867 -- 3,573
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1 Petitioners conceded every issue raised in the statutory

notice of deficiency, except the addition to tax and penalty and

whether petitioners are subject to self-employment tax. 

Accordingly, petitioners conceded that they had additional

interest income of $2,056 and $1,861 in 1997 and 1998,

respectively. Petitioners also conceded that they had additional

“net schedule C income” of $61,960 and $65,719 in 1997 and 1998,

respectively.

2 Unless otherwise stated, all section references are to

the Internal Revenue Code, and all Rule references are to the Tax

Court Rules of Practice and Procedure.

After concessions,1 the issues for decision are: (1)

Whether petitioners’ horse training and breeding activity was an

activity not engaged in for profit; (2) whether petitioners are

liable for self-employment tax; (3) whether petitioners are

liable for an accuracy-related penalty pursuant to section

6662(a);2 and (4) whether petitioners are liable for an addition

to tax for failure to file a timely return.

FINDINGS OF FACT

Some of the facts have been stipulated and are so found. 

The stipulation of facts and the attached exhibits are

incorporated herein by this reference. Petitioners resided in

Sturgeon Lake, Minnesota, at the time they filed their petition.

Chiropractic Practice

Brad Montagne (petitioner) has been a chiropractor for 14

years. He operated his chiropractic practice as a sole

proprietorship in 1997 and 1998. Petitioner typically works as a

chiropractor 5 days a week for 40 hours. 
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Horse Training and Breeding Activity

Petitioners purchased a 115-acre farm in 1994. Starting in

1994, petitioner decided to breed, train, and sell horses. 

Before this, petitioner was not involved in horse training or

breeding. Petitioner’s previous experience with horses consisted

of riding them as a child. Petitioner derived personal pleasure

and enjoyment from riding horses.

In 1997 and 1998, petitioners owned 14 horses. Petitioner

and his children rode the horses. Petitioners’ children fed,

groomed, and cared for the horses and performed “groundwork” on

the farm. The children also rode the horses in 4-H Club

competitions in 1998. 

Petitioner sold three horses in 1997 and two horses in 1998.

Petitioner purchased two of the horses sold in 1997 for $2,500,

and the third was foaled on the farm. Petitioner received $4,000

for the three horses sold in 1997. Petitioner purchased the two

horses sold in 1998 for $1,650. Petitioner received $1,850 for

the two horses sold in 1998. 

Petitioner maintained inadequate records of the horse

activity. Petitioner did not prepare, nor did he have a

qualified professional prepare, financial projections or a

business plan for the horse training and breeding activity. 

Petitioner did not keep business invoices for the sales of 
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horses. Petitioner did not maintain a separate bank account for

the horse activity.

Petitioners’ Returns and Respondent’s Determinations

Respondent determined from petitioners’ original tax returns 

deficiencies of $17,091 and $17,867 for 1997 and 1998,

respectively. Petitioners claimed losses from the horse activity

of $21,823 and $16,891 on amended returns for 1997 and 1998,

respectively. Respondent did not process the amended returns for

1997 and 1998. 

OPINION

I. Petitioners’ Horse Activity

Section 183(a) provides generally that, if an activity is

not engaged in for profit, no deduction attributable to such

activity shall be allowed except as provided in section 183(b). 

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.”

For a deduction to be allowed under section 162 or 212(1) or

(2), a taxpayer must establish that he or she engaged in the

activity with an actual and honest objective of making an

economic profit independent of tax savings. Evans v.

Commissioner, 908 F.2d 369 (8th Cir. 1990), revg. T.C. Memo.

1988-468; Antonides v. Commissioner, 91 T.C. 686, 693-694 (1988),
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affd. 893 F.2d 656 (4th Cir. 1990); Dreicer v. Commissioner, 78

T.C. 642, 644-645 (1982), affd. without opinion 702 F.2d 1205

(D.C. Cir. 1983). The expectation of profit need not have been

reasonable; however, the taxpayer must have entered into the

activity, or continued it, with the objective of making a profit. 

Hulter v. Commissioner, 91 T.C. 371, 393 (1988); sec. 1.183-2(a),

Income Tax Regs.

Whether the requisite profit objective exists is determined

by examining all of the surrounding facts and circumstances. 

Keanini v. Commissioner, 94 T.C. 41, 46 (1990); sec. 1.183-2(b),

Income Tax Regs. Greater weight is given to objective facts than

to a taxpayer’s mere statement of intent. Thomas v.

Commissioner, 84 T.C. 1244, 1269 (1985), affd. 792 F.2d 1256 (4th

Cir. 1986); sec. 1.183-2(a), Income Tax Regs.

Although section 7491(a) places the burden of proof on the

Commissioner with regard to certain factual issues involving

examinations commenced after July 22, 1998, petitioners do not

assert that section 7491(a) shifts the burden to respondent, nor

have petitioners complied with the substantiation and recordkeeping requirements of section 7491(a)(2). Therefore, the

burden of proof remains on petitioners.

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

factors to be considered in determining whether a taxpayer had a 

profit objective: (1) The manner in which the taxpayer carried
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on the activity; (2) the expertise of the taxpayer or his

advisers; (3) the time and effort expended by the taxpayer in

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

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

taxpayer 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, from

the activity; (8) the financial status of the taxpayer; and (9)

elements of personal pleasure or recreation. This list is

nonexclusive, and the number of factors for or against the

taxpayer is not necessarily determinative, but rather all facts

and circumstances must be taken into account, and more weight may

be given to some factors than to others. See id.; cf. Dunn v.

Commissioner, 70 T.C. 715, 720 (1978), affd. 615 F.2d 578 (2d

Cir. 1980).

Petitioners contend that the losses from the horse training

and breeding activity are properly deductible because the

activity was motivated by an actual and honest objective of

making a profit. Conversely, respondent asserts that the

activity was not engaged in for profit. For the reasons

discussed below, we agree with respondent.

A. Manner in Which the Activity Is Conducted

The fact that a taxpayer carries on the activity in a

businesslike manner and maintains complete and accurate books and
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records may indicate a profit objective. Sec. 1.183-2(b)(1),

Income Tax Regs.

Petitioner commingled the financial affairs of the horse

training and breeding activity with his personal finances. He

paid all the expenses of the horse activity from his personal

account, and the horse activity maintained no financial accounts

of its own. This commingling of funds is an indication that the

activity is a hobby rather than a business for profit. See

Ballich v. Commissioner, T.C. Memo. 1978-497. Petitioner also

did not generate or maintain business documents or records. We

conclude that petitioners did not conduct the horse training and

breeding activity in a businesslike manner, and this fact

indicates that the activity was not engaged in for profit.

B. Expertise of Petitioner

A taxpayer’s expertise, research, and study of an activity,

as well as his consultation with experts, may be indicative of a

profit objective. Sec. 1.183-2(b)(2), Income Tax Regs. 

Petitioner testified that he consulted with experts, read books,

and attended seminars and conferences about the subjects of horse

training and breeding. Although petitioner testified that he

became knowledgeable about techniques of training and breeding

horses, he was not knowledgeable about the economics of the

activity. Significantly, petitioner did not seek professional

advice on the economic aspects of horse training and breeding. 
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These facts do not persuade us that petitioners had a profit

motive.

C. Elements of Personal Pleasure

The absence of personal pleasure or recreation relating to

the activity in question may indicate the presence of a profit

objective. Sec. 1.183-2(b)(9), Income Tax Regs. Petitioner

conceded that he enjoyed riding horses and watching his children

compete by riding his horses in 4-H Club competitions. We find

that this factor weighs against petitioners.

D. Time and Effort Petitioner Expended

Where an activity has substantial personal or recreational

aspects, the time and effort spent may be due to a taxpayer’s

enjoyment of the activity rather than an intent to derive a

profit. White v. Commissioner, 23 T.C. 90, 94 (1954), affd. per

curiam 227 F.2d 779 (6th Cir. 1955). Although enjoying an

activity does not preclude a profit objective, the facts of this

case suggest that petitioner spent time on the activity because

of his children’s and his own fondness for horses rather than an

expectation of profit. Cf. Harrison v. Commissioner, T.C. Memo.

1996-509.

E. The Activity’s History of Income or Losses

A record of substantial losses over several years may be

indicative of the absence of a profit motive. Golanty v.

Commissioner, 72 T.C. 411, 426 (1979), affd. without published
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opinion 647 F.2d 170 (9th Cir. 1981). This Court has recognized

that the startup phase of a horse breeding activity is 5 to 10

years. Engdahl v. Commissioner, 72 T.C. 659, 669 (1979). The

1997 and 1998 losses were incurred within the recognized period

of the startup of a horse breeding activity. This factor

therefore does not weigh against petitioners’ having a profit

motive.

F. The Amount of Occasional Profits

The amount of occasional profits, if substantial in relation

to losses incurred or the taxpayer’s investment, may indicate a

profit objective. See sec. 1.183-2(b)(7), Income Tax Regs.

Petitioner testified that he earned a small profit from the horse

activity in 2000; however, he produced no evidence to support

this assertion. Petitioners incurred losses in 1997 and 1998 far

in excess of the small profit that petitioner claimed to have

realized in 2000. Therefore, the relatively small amount of

profit petitioners purportedly realized does not indicate a

profit motive.

G. Petitioners’ Financial Status

Substantial income from sources other than the activity in

question, particularly if the activity’s losses generated

substantial tax benefits, may indicate that the activity is not

engaged in for profit. Sec. 1.183-2(b)(8), Income Tax Regs.

Petitioner operated his chiropractic practice as a sole
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proprietorship and had net profits of $86,960 and $90,719 in 1997

and 1998, respectively. Therefore, petitioners could afford to

operate the horse training and breeding activity as a hobby, and

we conclude that they sought to reduce or eliminate their tax

liability by using the losses from the horse activity to offset

income from other sources.

H. Conclusion

After reviewing the entire record, we conclude that

petitioners did not engage in the horse breeding activity with an

actual and honest objective of making a profit within the meaning

of section 183.

II. Self-Employment Tax

Section 1401(a) imposes a tax upon the self-employment

income of every individual. Self-employment income consists of

gross income an individual derives from carrying on any trade or

business. Sec. 1402(a) and (b); Spiegelman v. Commissioner, 102

T.C. 394, 396 (1994). Petitioner operated his chiropractic

practice as a sole proprietorship and had net profits of $86,960

and $90,719 in 1997 and 1998, respectively. Petitioners deny

that they are liable for self-employment tax. On brief regarding

this issue, petitioners advanced arguments characteristic of tax

protester rhetoric that has been universally rejected by this and

other courts. See Wilcox v. Commissioner, 848 F.2d 1007 (9th

Cir. 1988), affg. T.C. Memo. 1987-225; Carter v. Commissioner,
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784 F.2d 1006, 1009 (9th Cir. 1986). We shall not painstakingly

address petitioners’ assertions “with somber reasoning and

copious citation of precedent; to do so might suggest that these

arguments have some colorable merit.” Crain v. Commissioner, 737

F.2d 1417, 1417 (5th Cir. 1984).

III. Penalty and Addition to Tax

Respondent has the burden of production under section

7491(c) for the addition to tax and the penalty and must come 

forward with sufficient evidence showing that they are

appropriate. See Higbee v. Commissioner, 116 T.C. 438, 446-447

(2001). Once respondent has done so, the burden of proof is upon

petitioners to establish reasonable cause and good faith. Id. at

449.

A. Section 6662(a) Accuracy-Related Penalty

Pursuant to section 6662(a), a taxpayer may be liable for a

penalty of 20 percent on the portion of an underpayment of tax

(1) attributable to a substantial understatement of tax or (2)

due to negligence or disregard of rules or regulations. Sec.

6662(b). The term “understatement” means the excess of the

amount of tax required to be shown on a return over the amount of

tax imposed which is shown on the return, reduced by any rebate

(within the meaning of section 6211(b)(2)). Sec. 6662(d)(2)(A). 

An understatement is a “substantial understatement” when the 
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understatement exceeds the greater of $5,000 or 10 percent of the

amount of tax required to be shown on a return. Sec.

6662(d)(1)(A).

Whether applied because of a substantial understatement of

tax or negligence or disregard of rules or regulations, the

accuracy-related penalty is not imposed with respect to any

portion of the underpayment as to which the taxpayer acted with

reasonable cause and in good faith. Sec. 6664(c)(1). The

decision as to whether the taxpayer acted with reasonable cause

and in good faith depends upon all the pertinent facts and

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

Respondent determined tax deficiencies of $17,091 and

$17,867 for 1997 and 1998, respectively. Petitioners conceded at

trial that respondent’s adjustments to petitioners’ tax liability

in the notice of deficiency were correct, with the exception of

self-employment tax. We have found for respondent on the issues

of petitioners’ self-employment tax liability and the

deductibility of losses from their horse activity. Respondent

has met his burden of production. Petitioners did not present

any evidence indicating reasonable cause or substantial

authority. See secs. 6662, 6664. Accordingly, we sustain

respondent’s penalty determination.

B. Addition to Tax

Respondent determined that petitioners are liable for an
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addition to tax pursuant to section 6651(a)(1). Section

6651(a)(1) imposes an addition to tax for failure to file a

return on the date prescribed (determined with regard to any

extension of time for filing), unless such failure is due to

reasonable cause and not due to willful neglect.

Petitioners signed the 1997 return on April 14, 1999. We

conclude that respondent satisfied his burden of production

regarding this issue. Thus, petitioners must come forward with

evidence sufficient to persuade the Court that respondent’s

determination is incorrect or that an exception applies. See

Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933); see

Higbee v. Commissioner, supra at 447.

Petitioners presented no evidence that they timely filed a

return for 1997 or that their failure to file was due to

reasonable cause and not due to willful neglect. We hold that

petitioners are liable for the addition to tax pursuant to

section 6651(a)(1).

In reaching all of our holdings herein, we have considered

all arguments made by the parties, and, to the extent not

mentioned above, we find them to be irrelevant or without merit.

To reflect the foregoing,

Decision will be

entered for respondent.