TAX COURT OPINION

Case: Marianne Wegner
Docket Number: 16532-13
Judge: Gustafson
Opinion Type: bench
Filed: 10/09/2014
Pages: 17

CMS UNITED STATES TAX COURT WASHINGTON, DC 20217 MARIANNE WEGNER, Petitioner, v. ) ) ) ) Docket No. 16532-13. COMMISSIONER OF INTERNAL REVENUE, Respondent ) ) ) ORDER Pursuant to the opinion of the Court as set forth in the pages of the transcript of the proceedings before Judge David Gustafson at Winston-Salem, North Carolina, on September 23, 2014, containing his oral findings of fact and opinion, it is ORDERED that the Clerk of the Court shall transmit herewith to petitioner and to respondent a copy of the pages of the transcript of the trial in the above case before Judge Gustafson at Winston-Salem, North Carolina, containing his oral fimdings of fact and opinion rendered at the trial session at which the case was heard. In accordance with the oral findings of fact and opinion, decision will be entered for petitioner. (Signed) David Gustafson Judge Dated: Washington, D.C. October 9, 2014 SERVED Oct 09 2014 Capital Reporting Company 3 1 2 Bench Opinion by Judge David Gustafson September 23, 2014 3 Wegner v. Commissioner 4 5 6 7 8 9 10 11 12 13 14 Docket No. 16532-13 THE COURT: The Court has decided to render the following as its oral Findings of Fact and Opinion in this case. This Bench Opinion is made pursuant to the authority granted by section 7459(b) of the Internal Revenue dode, and Tax Court Rule 152; and it shall not be relied on as precedent in any other case. By a notice of deficiency dated April 24, 2013 (Ex. 3-J), the Internal Revenue Service (IRS) determined deficiencies in petitioner Marianne 15 Wegner's Federal income tax for 2009 and 2010, plus 16 17 accuracy-related penalties under section 6662(a). The principal issue for decision is whether Ms. 18 Wegner's horse activity was engaged in for profit. 19 20 We hold that it was. The case was tried in Winston-Salem, North 21 Carolina, on September 2014. Ms. Wegner was 22 23 24 25 represented by Chaples Leighton Steel IV, and respondent was represented by Olivia Hyatt Rembach. FINDINGS OF FACT At the time she filed her petition, Ms. Wegner 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 4 1 2 3 4 5 6 7 8 9 10 11 12 13 14 resided in North Carolina. .(Stip. 1. ) Ms. Wegner's back!ground Ms. Wegner was born in 1946 and has been interested in horses since early childhood. She bought her first horse at age 11 for $200, but "lost it to worms." Her grandmother bought her a horse when she was a high school freshman, but she lost it to tetanus. These experiences were hard lessons that taught her the importance of equine health and of adequate training. In college and graduate school, Ms. Wegner studied English literature, and though she did teach for two years in the early 1990s, she did not pursue a teaching career. Ms. Wegner's husband decided to go to 15 medical school in his 30s, and the couple moved to 16 Florida. While there Ms. Wegner had short-term jobs 17 with three different stables at which she learned 18 much about the care and tending of horses and about 19 20 21 the horse business. She learned what gives a horse value, what it takes to develop such value in a horse, and how to keep horses healthy. 22 Acquisition of Tunnels End Farm 23 24 25 The couple moved to North Carolina in about 1984 for Ms. Wegner's husband to do his medical residency, and they purchased a house on a 6.8-acre property 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 5 1 2 3 4 5 6 (which was not yet a horse farm). In about 1987 they acquired 2 additional adjoining acres, and in about 1989 they acquired 8 additional adjoining acres, so that the farm totaled about 17 acres. The improvements on the property before 1991 were the house, a barn, a shed, and a graded area. 7 Divorce 8 9 10 11 12 13 14 15 16 In about 1991 Ms. Wegner's husband finished his residency and left her. They were divorced thereafter, and it appears that Ms. Wegner got the farm in the property settlement. She was entitled to receive alimony until 2011 and did receive it in substantial amounts. In the 8 years from 2004 through 2011, she received a total of $707,524. Commencement of the horse activity However, in 1991 she was concerned that alimony 17 might not be a reliable source of support, and she 18 19 20 21 22 23 24 decided to start a horse business on her farm. She has had no other employment since 1991. In 1992 she produced and mailed flyers advertising her business. She did not develop a written business plan and thinks she did not need one because she did not ever take out business loans. She obtained a certification from the American Riding Institute 25 Certification Program. Over the succeeding years she 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 6 1 2 3 4 5 6 7 8 9 attended workshops and courses from the U.S. Dressage Foundation and North Carolina State University. Ms. Wegner made improvements to the property that benefited the horse business. She added fencing; she finished an arena and planted shade trees around it; she added lights and mirrors to the arena; she build a round 70-foot diameter walled area in which young horses could be trained; she built a tractor shed with'a level area for shoeing. She 10 believed that these improvements enhanced the value 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 of the farm. Initially Ms. Wegner established separate bank accounts for the horse activity. But she later began using QuickBooks software to keep track of her expenses, and she concluded that separate bank accounts were unnecessary. She kept all her receipts, entered land categorized them on QuickBooks every month or two, and thereby kept track of all her expenses. For the preparation of her tax returns, she gave her accountant copies of her QuickBooks reports. 1991-2002 Ms. Wegner evidently intended that her business would include horse breeding, selling, training, and boarding. As many; as 9 horses can be kept on the 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 7 1 2 farm at one time (though there have often been as few as 2 or 3) . In her first 12 years she had some 3 modest success at sales of horses (though never any 4 5 6 7 net profit) . In the earlier years she devoted more attention to attempts at horse breeding, and she bred one very promising mare--Hoopie--by which she hoped to make her reputation and establish her business. 8 Other owners confirmed her high opinion of Hoopie. 9 Ms. Wegner had arranged for a promising stallion 10 11 12 13 14 15 16 17 18 19 (owned by a breeder whom Ms. Wegner highly respected as an expert in the horse business) to breed with Hoopie, and Ms. Wegner was hopeful that this would facilitate her plan. However, in November 2001 Hoopie died in a training accident. This constituted a devastating setback for Ms. Wegner and her business. Then in January 2002 another horse with great potential-- Fable--suffered an infection that interrupted her development. These professional setbacks combined 20 with long-term mental health problems of Ms. Wegner's 21 22 23 24 25 adult daughter to cause Ms. Wegner to become seriously discouraged about her business, and she was "ready to throw in the towel". She spoke with a real estate agent about the possibility of selling her farm. 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 8 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 2002-2014 However, the breeder she respected offered to breed the stallion to another of Ms. Wegner's mares at no cost. Ms. Wegner took this as a vote of confidence in her-~consistent 'with serious encouragement she had received from other successful owners who believed that Ms. Wegner has what it takes for the horse business--and it buoyed her hopes for eventual success. This breeding produced a foal-- nicknamed "Cuddles"--whom Ms. Wegner considers a valuable horse. Nonetheless, Ms. Wegner came to believe that her risks would be lower, and her chances of success greater, if she focused less on breeding and selling and more on training and boarding. In about 2007 she developed a website to advertise her business. Her prospects of a business on the farm were somewhat dimmed by the declining circumstances of her daughter. Concerned about her ability to run the business with her daughter present at the house on the farm property, she got advice from a consultant in 2005 about the soundness of her plan. Encouraged by his advice, she persisted. The business continued to experience losses, but Ms. Wegner perceived that she had no alternative for supporting herself after 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company alimony would cease in 2011, and that she therefore 9 simply had to make the business profitable. Losses From 1991 through 2013, Ms. Wegner has incurred an impressive string of losses, and profit in only one year (2012). In the ten years from 2004 through 2013, Ms. Wegner reported nine years of losses that, offset by the 2012 profit of $10,635, totaled $259,135. The nature of Ms. Wegner's wor_k In the two years at issue--2009 and 2010--Ms. 1 2 3 4 5 6 7 8 9 10 11 12 Wegner worked virtually every day on the farm, 13 14 15 16 17 18 19 20 21 22 23 24 25 usually about seven hours a day and sometimes 13 or 14 hours a day. Her expense for hired help was negligible, and on her own she fed the horses twice a day, watered them, medicated them, examined them for injuries, cleaned stalls, and trained horses and riders. She maintained the arena, mowed, and purchased feed. In those years she was in her early 60s. Tax issues For 2009 and 2010, Ms. Wegner filed Federal income tax returns (Exs. 1-J,2-J), on which she claimed losses from her horse activity, which offset alimony income. (Stip. 28) The IRS examined her 866.488.DEPO www.CapitalReportingCompany.com 1 Capital Reporting Company 2009 and 2010 returns and issued a notice of deficiency on April 24, 2013. (Stip. 4; Ex. 3-J.) Ms. Wegner timely filed her petition in this Court on 10 July 18, 2013. I. General legal, principles OPINION A taxpayer who is carrying on a trade or business may deduct ordinary and necessary expenses incurred in connection with the operation of the business. Sec. 162(a). However, a taxpayer cannot reduce her taxable income by claiming as deductions the expenses she incurs for her hobby or other non- 1 2 3 4 5 6 7 8 9 10 11 12 13 profit activity. Section 183(a) provides generally 14 15 16 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). 17 Generally, the IRS's deficiency determinations set 18 19 20 forth in a notice of deficiency are presumed correct, and the taxpayer bears the burden of showing the determinations are in error. Rule 142(a); Welch v. 21 Helvering, 290 U.S. 111,115 (1933). Thus, if the IRS 22 23 24 25 determines that a given horse activity is not engaged in for profit, that determination is presumed correct, and the taxpayer has the burden to prove otherwise. 866.488.DEPO www.CapitalReportingCompany.com . Capital Reporting Company 11 1 2 3 4 5 6 7 8 9 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." An activity constitutes a "trade or business" within the meaning of section 162--and it escapes the limitation of section 183--if the taxpayer's actual and honest objective is to realize a profit. Osteen v. 10 Commissioner, 62 F. 3d 356, 358 (11th Cir . 1995) , af f' g 11 12 13 in part, rev'g in part, T.C. Memo. 1993-519. The expectation of profit need not have been reasonable; however, the taxpayer must have entered into the 14 activity, or continued it, with the objective of 15 making a profit. Hulter v. Commission, A 91 T.C. 16 371,393 (1988); 26 C.F.R. sec. 1.183-2(a). Whether 17 18 19 20 the requisite profit objective exists is determined by looking at all the surrounding facts and circumstances. Keanini v. Commissioner, 94 T.C. 41,46(1990); 26 C.F.R. sec. 1.183-2(b). Greater 21 weight is given to objective facts than to a 22 taxpayer's mere statement of intent. Thomas v. 23 Commissioner, 84 T.C. 1244, 1269(1985), aff'd, 792 24 25 F.2d 1256 (4th Cir. 1986); 26 C.F.R. sec. 1.183-2(a). Horse-related activities often fail to i 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 12 1 2 3 4 5 6 7 survive scrutiny under section 183. The stereotypical scenario is probably the wealthy businessman who runs a real business during the week and owns a "gentleman farm" as a weekend retreat where he keeps horses for the recreation of himself and his family and friends. But he dabbles in horse- breeding, with no expectation of ever making a 8 profit, so that hh can deduct the expenses of his 9 horses and thereby have Uncle Sam subsidize the 10 11 weekend farm. However, there are some horse breeders who really are engaging in the activity to make a 12 profit. See, e.g., Miller v. Commissioner, T.C. Memo 13 14 15 16 17 18 19 20 21 22 2008-224. Ms. Wegner does not fit the stereotypical abusive scenario, and she is instead engaged in her horse activity with an intention of making a profit. II. Factors under section 183 26 C.F.R. section 1.183-2(b) provides a list of factors to be considered in the evaluation of a taxpayer's profit ;objective. The list is nonexclusive, and the number of factors for or against the taxpay r is not necessarily determinative, but rather all facts and circumstances 23 must be taken into account, and more weight may be 24 25 given to some factors than to others. Id.; see Dunn v. Commissioner, 70 T.C. 715,720 (1978), aff'd, 615 866.488.DEPO www.CapitalReportingCompany.com . Capital Reporting Company 13 1 2 3 4 5 6 7 8 9 10 11 12 13 14 F.2d 578 (2d Cir. 1980). We now address these 9 factors. 1. Manner in which the activity is conducted The fact that a taxpayer carries on the activity in a business-like manner and maintains complete and accurate books and records may indicate a profit objective. 26 C.F.R. sec. 1.183-2(b)(1). The evidence establis ed that Ms. Wegner kept accurate records that were adequate for her purpose. Her small-scale advertising was sensible for her business. While Ms. Wegner had no written business plan for her horse activity, her lack of any need for obtaining business loans makes this fact less significant. We conclude that this factor--the 15 manner in which the activity is conducted--is mostly 16 17 18 19 20 21 22 23 24 25 in Ms. Wegner's favor and tends to indicate that she had the requisite profit motive. 2. Expertise of the taxpayer and he advisors ( A taxpayer's expertise, research, and study of an activity, as well as her consultation with experts, may be indicative of a profit intent. C. F· © -thfMt. sec. 1.183-2 (b) (2) . Ms . Wegner had skills and 26 experience developed in her youth, and she further developed them by taking specific training and obtaining a certification. She consulted owners, 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 14 1 2 3 4 breeders, and trainers she respected, and she got advice from a business consultant at a critical juncture. We conclude that this factor--expertise-- is in Ms. Wegner's favor and tends to indicate a 5 profit motive. 6 7 3. Time and effort expended Ms. Wegner worked full time at the horse 8 activity, and it was her sole occupation. It 9 required difficult, sustained physical labor. This 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 factor is strongly in Ms. Wegner's favor and tends to indicate a profit motive. 4. The expectation that assets may appreciate in value. Ms. Wegner made substantial improvements to the farm and believed that thereby she had improved its value. This factor tends to show a profit motive. 5. The taxpayer's success in similar or dissimilar activities Ms. Wegner had useful experience as an employee in other horse-related businesses, but she cannot point to any similar business of her own (or even any dissimilar business) in which she had success. We therefore conclude that this factor is neutral and does not indicate a presence or an absence of profit 25 motive. 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 15 1 2 3 4 5 6 7 8 6-7. History of income or loss/amount of gain In the two years at issue, in the previous 18 years, and in all but one of the subsequent three years, Ms. Wegner has incurred an impressive string of losses on her tax returns. In the ten years from 2004 through 2013, Ms. Wegner reported nine years of losses that, offset by the 2012 profit of $10,635, totaled $259,135. This factor weighs against Ms. 9 Wegner in assessing her profit motive. A record of 10 11 substantial losses over several years may be indicative of the|absence of a profit motive. 12 Golanty v. Commissioner, 72 T.C. 411,426 (1979), 13 aff'd, 647 F.2d 170 (9© Cir. 1981). 26 C.F.R. 14 15 16 17 18 19 20 21 22 section 1.183-2(b)(6) provides that a series of losses during the startup phase of an activity may not necessarily be an indication that the activity is not engaged in for profit; and this Court has recognized that the startup phase of an American horse breeding activity is 5 to 10 years. Engdahl v. Commissioner, 72 T.C. 659,669(1979). Even by that rather forgiving standard, this factor weighs against Ms. Wegner and tends to indicate a lack of a profit 23 motive. 24 25 8. Financial status of the taxpayer A lack of income from sources other than the 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 16 1 activity in question may indicate that an activity is 2 3 engaged in for profit. On the other hand, substantial income from sources other than the 4 activity in question, particularly if offset by 5 6 7 8 9 10 11 12 13 substantial tax benefits, may indicate the activity is not engaged in: for profit. 26 C.F.R. sec. 1.183- 2(b)(8). Ms. Wegner received substantial taxable alimony income from her ex-husband, totaling $707,524 in the 8 years 2004 through 2011; but her claimed horse activity substantially offset that income and reduced her tax liability (e.g., by about $77,000 total in the 8 years from 2004 through 2011). This factor tends against Ms. Wegner's claim of a profit 14 motive. However, the significance of this factor is 15 16 17 18 19 20 21 22 23 24 25 diminished by the fact that she did continue the horse activity even after the alimony ceased, showing that sheltering that alimony income was not the reason for the activity. 9. Elements, of personal pleasure. The absence o:f personal pleasure or recreation relating to the activity in question may indicate the presence of a profit objective. 26 C.F.R. sec. 1.183-2(b)(9). Ms. Wegner has not owned any horses for her own riding, and no evidence suggests that any relatives or friends of Ms. Wegner's ever ride the 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 17 1 2 3 4 5 6 7 8 9 horses that she has raised and tended. We have no doubt that Ms. Wegner is a horse-lover and gets satisfaction out of working in the horse activity. However, we consider such satisfaction with one's work to be completely beside the point in this analysis. Fortunate people do choose, as their principal profit-making activity, an activity they enjoy and that gives them a feeling of satisfaction. The mere fact that a taxpayer derives such 10 satisfaction from a particular activity does not, per 11 12 13 14 15 se, demonstrate a lack of profit motive. We conclude that this factor--lack of elements of personal pleasure--is in Ms. Wegner's favor and tends to indicate that she!had the requisite profit motive. Eive of these factors tend to show a profit 16 motive, one is neutral, and three tend against. We 17 18 19 20 21 22 23 24 25 consider them all in light of Ms. Wegner's testimony that she did subjectively intend to make a profit, despite her long history of losses, and those objective facts largely support our perception that her testimony is credible. Her intention to profit from this activity may not have been entirely rational, but we believe it was real. Conclusion We conclude that Ms. Wegner engaged in the horse 866.488.DEPO www.CapitalReportingCompany.com Capital Reporting Company 18 1 activity during tax years 2009 and 2010 with the actual and honest objective of making a profit, and that section 183 is inapplicable in this case. To reflect the foregoing, decision will be entered for the petitioner. This concludes the Court's oral Findings of Fact and Opinion in this case. (Whereupon, at 11:18 a.m., the above-entitled matter was concluded.) 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 · 866.488.DEPO www.CapitalReportingCompany.com