TAX COURT OPINION

Case: Carol A. & Richard Pesiri
Docket Number: 3969-11S
Judge: Marvel
Opinion Type: bench
Filed: 02/27/2012
Pages: 17

UNITED STATES TAX COURT WASHINGTON, DC 20217 CAROL A. & RICHARD PESIRI, Petitioners, v. COMMISSIONER OF INTERNAL REVEblUE, ) ) ) Docket No. 3969-11S ) Respondent. ) . ORDE R Pursuant to Rule 152(b), Tax Court Rules of Practice and Procedure, it is ORDERED that the Clerk of the Court shall transmit to petitioners and to respondent a copy of the pages of the[transcript of the proceedings of the above case before Judge L. Paige Marvel at[Boston, Massachusetts, on February 9, 2012, containing her oral findings of fact arid opinion. In accordance with the oral finilings of fact and opinion, decision will be entered under Rule 155. (Signed) L. Paige Marvel Judge Dated: Washington, D.C. February 27, 2012 SERVED FEB 2 8 2012 1 2 3 4 5 6 7 8 9 10 11 12 13 Bench Opinion by Judge L. Paige Marvel Pesiri v. Commissioner Docket No. 3969-11S February 9, 2012 The Court has decided to render oral findings of fact and opinion in this case and the following represents. the Court's oral findings of fact and opinion. The oral findings of fact and opinion shall not be relied upon as precedent in any other case. This case was heard pursuant to the provisions of Section 7463 of the Internal Revenue Code in effect when the petition was filed. Pursuant to Section 7463 (b), the decision to be entered is not . 14 reviewable by any other Court, and this opinion shall 15 16 17 18 19 20 21 22 23 24 25 not be treated as precedent for any other case. This bench opinion is made pursuant to the authority granted by Section 7459(b) of the Internal Revenue Code of 1986 as amended and Rule 152 of the Tax Court Rules of Practice and Procedure. Unless otherwise indicated, subsequent section references made in this bench opinion are to the Internal Revenue Code of 1986 as amended in effect for the relevant per od, and subsequent ule references are to the Tax Court Rules of Practice and Procedure. Heritage Reporting Corporation (202) 628-4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 Richard Pesiri, Mr. Pesiri, appeared pro se on behalf of himselff and his wife, Carol A. Pesiri, Mrs. Pesiri, who did) not attend the trial. Mary P. Hamilton appeared ont behalf of Respondent. When they filed their petition, Petitioners resided in Massachusetts. In a noticé of deficiency issued December 22, 2010, Respondent determined a deficiency in ederal income tax of $5,825 for Petitioners' 2005 taxable year. The issues for. decision are: 1) whether Petitioners must include in income interest received from John Häncock Mutual Life Insurance Company, John Hancock, and 2) whether Petitioners may claim a depreciation, deduction.with respect to a property that they held out for rent during 2005. To resolve the second issue, we must decide whether Petitioners used thescorrect blassification of the property to determine its useful life and depreciable basis. Background . The parties have stipulated some of the relevant facts, and we find the facts in accordance 23. with those stipulations, which we incorporate into 24 25 this opinion by this reference. We find additional facts on the basis of stipulated exhibits, any other Heritage Reporting Corporation (202) 628-4888 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 exhibits admitted into evidence we conclude are helpful, and sworn testimony to the extent we conclude that the testimony is credible. Mr. Pesiri received an Associate degree in engineering from Northeastern University, a Bachelor of Science degree from Northeastern University in 1978, and a diploma in financial planning from Boston University in 1994. Mr. Pesiri also held a Massachusetts real estate sales and broker license from December 1, 196 until September 9, 1999. He is not a certified appraiser. Mrs. Pesiri is the daughter of Fritz Anderson, Mr. Anderson, who died in 1982, and Edith H. Anderson, Mrs . Anderson, who died on October 25, 200 at the age of 97. Mrs. Pesiri held a Massachusetts real estate sales and broker license from December 1, 1964 until November 17, 1999. She is not a certified appraiser . Mrs . Pesiri was Mrs . Anderson' s sole heir . On May 7, 1996, Mrs . Anderson appointed Mrs . Pesiri as her attorney-in-fact pursuant to a durable power of attorney . Ôn that same day, Mrs . Anderson established a nomineÊ trust pursuant to a declaration N of trust Edith H. Anderson Investment Trust, a Nominee Trust . Mrs . Anderson and Mrs . Pesiri were named as the trustees .in the trust declaration. Heritage Reporting Corporation (202) 628-4888 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 On January 26, 1944, John Hancock, issued two life insurance -policies in the amount of $250 each to . Mr. Anderson. Mrs. Anderson was the named beneficiary for both policies. ohn Hancock subsequently issued paid;up policy certificates to Mr. Anderson with respect to the policïes. . (cid:16)042 Although the policies should have been resolved after Mr. Ahderson's death in 1982, they were not . Mrs . Pesiri dihàovered t-he policies af ter Mrs . Anderson' s death and contacted John Hancock about them. During 2005, ohn Hancock issued checks: totaling $1, 910 as interest due on the policies and made the checks payable to Mrs . Pesiri, who was Mrs . Anderson's sole heirf, the personal representati e under Mrs . Anderson' s will, a'nd the t rus tee . o f Mrs . Anderson' s trust . On the dat ë of her death, Mrs . Anderson held a life estate in a p operty located at 124 Castle Road", Truro, ssachusetts, (Castle Road property), under a d ed that réflected that Mrs. Pesiri held the remainder interest. During Mrs. Anderson' s lifetime, the Castle Road property, which was on Cape Cod, was rented from time to time to people vacationing there. After Mrs. Anderson had a i stroke in she bould no longer manage the Heritage Reportin Corporation (202) 628 4888 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 25 property, so Petitioners took over the management of the property. The Castle Road property consists of land located on Cape Cod, which in 2005 was improved by four one-story detached wood frame seasonal use cottages . Each cottage has two bedrooms, one bath, a kitchen/dining area, living room and unf inished basement . The cottages are in average condition and competitive with other seasonal cottage properties . in the lower Cape region. Three of the cottages were held for rent and the other cottage; was used as an /Vl of f ice and utility building . Upon lvirs . . Anderson' s death, Mrs . Pesiri became the sole owner of the Castle: Road property. She continued to hold it out as rental property. Petitioners managed the property and obtained a- license from the Town of Truro to operate it as a rental property doing business as Castle.. Pines Cottages. During 2005, Petitioners: rented the cottages of the Castle Road property from the last week of June to mid-September. During the rental season of 2004 through 2008, the average rental lasted no more than 11 days . On their timely filed 2005 return, the Heritage Reporting Corporation (202) 628÷4888 I 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 8 Pesiris reported a "nominee distribution" from John Hancock, but did not! include the $1, 910 interest in income . On the basis of Mr . Pesiri' s advice , Mrs . Pesiri did not open a probate estate for Mrs . Anderson's estiate and she did not file a £orm 1041, U. S. income tax return for estates and trusts, for L Mrs. Anderson's estate or trust for 2005. On a Schedule C, profit or loss from business, attached to their 20Ó5 return, Petitioners claimed a depreciation deduction with respect to the Castle Road property in the amount of $24, 910 . In the notice .of deficiency, Respondent adjusted Petitioners reported income and expenses as follows. First, Respondent increased Petitioners' taxable income by $1, 910 : on the ground that they had failed to report interest income paid by John Hancock to Mrs. Pesiri on the life insurance policies insuring Mr . Anderson, of which Mrs . Anderson was the named beneficiary. Second, Respondent disallowed . $20, 918 of the depreciation and Section 179 expense deduction that the Pesiris claimed with respect to the Castle Road property. Respondent did so on the ground. that the Pesiris used the wrong depreciable basis, useful life and method in calculating their allowable depreciation Heritage Reporting Corporation (202) 628-4888 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 deduction. Third, Res}pondent reduced itemized deductions by $458 as a computational adjustment . Respondent also deterniined that the Schedule C rental activity reported oni the 2005 Schedule C should have been reported on Schedule E, gupplemental ncome and L. los s , and niade correéponding adjus tment s . Pe t i t ione rs agree that income and expenses with respect to the Castle Road property are properly reported on a Schedule E. ourth, Respondent Petitioners' claim of a bad debt deduction. Discussion I. Burden of Proof. Generally, the Commissioner's determinations are presumed correct and the taxpayer bears the burden of proving them erroneous . Rule 142; Welch v. Helvering, 290 U.S. 111, 115 (1933) . Also, deductions are a matter of legislative grace, and the taxpayer has the burden of showing entitlement to any deduction claimed. See Rule 142 (a) . Petitioners do not contend that the burden of proof shifts to Respondent pursuant to Section 7491(a), nor does the record allow us to conclude. that the requirements for shifting the burden of proof to Respondent are met. Heritage Reporting Corporation (202) 628 4888 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 10 II . Interest Income f rom John Hancock Petitioners disagree with Respondent's interest income adjustment. Petitioners claim that the interest income was not theirs and that Mrs. Pesiri received it ih her capacity as. a trustee of Mrs. Anderson's nomihal trust. Also, in their petition, . they state: "taxpayer, acting as executix of estate, collected decedants [ monies and paid it out for legal obligations, taxpayer not a beneficiary. " As discussed above, John Hancock paid interest with respect to the life insurance policies and Mrs. Anderson was the beneficiary of those policies . However, it was not until Mrs . Anderson' s death that Mrs . Pesiri contacted John Hancock regarding the policies and John Hancock issued the checks to Mrs . Pesiri . Generally, Section 691 contains rules for inclusion in income of various items when a cash basis taxpayer, like Mrs . Anderson, dies with ght to income that has not been received. Section 691 provides that all items of inbome in respect of a decedent.are included in the gross income of the ultimate recipient fór the ta able hen received. Subject to various caveats, the recipient can be the decedent's estate or the person who Heritage Reporting Corporation (202) 628-4888 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 11 acquires the right to receive the amount. See Sectiön 691. According to Article 2 of Mrs. Anderson's will, all of.Mrs. Anderson's property was to be distributed to her revocable living trust, that is, the nominal trust discussed above. Petitioners contend that Mrs. Pesiri was merely the trustee of that trust and had no right to trust income. In general terms, the taxable income of a trust is determined in a manner similar to that of an individual, see Section 641(b), but trusts may deduct amounts of income actually distributed or required to be distributed to their beneficiaries, see Section 651. The.record establishes that Mrs. Pesiri was the trustee of the trust . O ev , Petitione failed to convince us that she 'received the interest income in her trustee capacity. Notably, the råcord contains no credible evidence regarding the identity of the beneficiaries of the trust. The ßeclaration of Arust provides that the beneficiaries must be identified in the attached schedule of eneficiaries, yet the eclaration of rust in the record is incomplete and contains no such schedule. Mr. Pesiri 1 p attempted to supplement the jeclaration of rust, but 2 Heritage Reporting Corporation (202) 628-4888 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 12 the formatting, section numbering and the page numbering suggests that the relevant page belongs to another unidentified trust document. In addition to this factual gap regarding the identity of the beneficiaries, the record contains no credible evidence; that Mrs . Pesiri actually treated the money as trust income or that she segregated the funds, held them in escrow, o distributed the money to them. In fact, the recórd supports a finding that Mrs . Pesiri kept thé[ money and either did not distribute the amounts to the beneficiaries or was, in fact, the beneficiary of the trust. Because Petitioners failed to convince us that Mrs. Pesiri was not the beneficiary òf the nominal trust, we must conclude that she received the interest as the sole beneficiary of that trust or the heir of Mrs. Anderson' s es tate . According;Ly, we sustain Respondent's determiñation regarding the interest income f rom John Hanc ock . III. The Depreciation Deduction . As'discussed above, Respondent partially disallowed the depreciation and Section -179 deduction with respect . to the Castle Road property on the grounds that Petitioners placed the property in service on October 25, 2004, that the "cost basis" of Heritage Reportïng Cbrporation (202) 628 4888 . 13 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 the property was $298,100, the basis attributable to the land was $142,400, and the depreciable basis of the buildings was $155,700, and that the useful life of the property was 39 years. Petitioners dispute the disallowance of a substantial part of the depreciation deduction. They assert that Respondent used an incorrect value for the property and the amount properly allocable to the buildings, and they also claim that the correct useful life is 27.5 years. Generally, Section 167(a) allows, as a depreciation deduction, a.reasonable allowance for exhaustion, wear and tear, and obsolescence of property if the taxpayer uses such property in a trade or business or other income-producing activity. Se also Section 1.167(a)-1(a), Income Tax Regs. Section 168 provides that, except as otherwise provided therein, the depreciation deduction authorized by Section 167.(a) for any tangible property shall be determined by using 1) the applicable depreciation method, 2) the applicable recovery, and 3) the applicable convention. The depreciation system set forth in Section 168 as in effect for 2005 is known as the Modified Accelerated Cost Recovery System (MACRS) Under MACRS, the applicable depreciation method for non-residential real property and the Heritage Reporting Corporation (202) 628-4888 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 residential rental property is the straight line method. See Sectionë 168 (b) (3) . The applicable recovery period depends on whether the real property is classified as residential rental property or non- residential. real property: for residential rental property, the applicable recovery period is 27.5 years, whereas, for nonresidential real property, it is 39 -years. Sectioh 168 . Petitioners claimed (cid:16)042 depreciation deductions using the recovery period of 27.5 years on the ground that the Castle Road property is residential rental property rather than non-residential real property. According to Section 168 (e) (2F) (A) , " [t] he term 'residential property' means ány building or LT structu if 80 peröent or more of the gross rental . * income from such building or structure for the taxable ye is . rental incomë f rom d elling units . " The ter n w "dwelling unit", in turn, means a house or apartment used to provide living accommodations in a bu.ilding or structure. See Section 168 (e) (2) (A) (ii) . The term "dwelling unit " does not include a unit in a hotel, motel, or other establishment if more than one half of the units in it are used on a transient basis. See The term "non-rësidential real property" means Nl any Section 1250 property (namely, property of a Heritage Reporting Corporation (202) 62814888 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 character subject to the allowance for depreciation under Section 167) , which is not residential rental property or property with a class life of less than 27 . 5 years . Section 168 (e) (B) . 15 L2 There is no question that accommodations in the Castle Road property were living accommodations in a building or structure . The issue of the applicable recovery period. therefore- turns on whether the accommodations in the Castle Road property were units in an establishment that were used on a transient basis. Neither Sedtion 168 nor the regulations . thereunder define when unit s in an establishment are LN considered to be used on a transient basis . However, as a general rule, words in revenue legislation should be interpreted according to their ordinary, everyday meaning. Fort Howard Corp. Subs v. CommissionÊr, L 103 T.C. 345, 351 (1994) (citing Commissioner v. Soliman, 506 U.S. 16 , 174 (1993 . "Transient" means, Y inter alia, "passing through or by a place with only a brief stay or sojourn . " Merriam Webster' s Collegiate Dictionary 1254 (10t ed. 1997) The record establishes that, on average, customers rented rooms in the cottages at the Castle Road property for less than 11 days. Because Heritage Reporting Corporation (202) 628a4888 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 16 typically custosers stayed quite briefly, we conclude the Castle Road property was used on a transient basis. Accordingly, the Castle Road property is properly classified as non-residential real property with an applicable recovery period of 39 years. The next issue is the adjusted basis of the Castle Road property. Generally, property acquired from a decedent has a basis equal to its fair market value on the date.of death. Section 1014 (a) (1). Because Mrs. Pesiri.inherited the property in 2004, Mrs. Pesiri's basis in the property equals the value of the property on the.date of Mrs. Anderson's death. It is the date of death value that becomes Mrs. Pesiri's adjusted basis for purposes of calculating depreciation with respect to the property. In 2010, Petitioners obtained an appraisal of the Castle Road property. Robert C. Kloumann, a certified general real estate appraiser, appraised the property as of Mrs. Anderson's date of death, October 25, 2004. Using the market data/discounted cash flow valuation methodology, Mr. Kloumann concluded that the highest and best use of the property was as "4 prospective individual cottage condominiums". . He explained his conclusion as follows: "the Heritage Reporting Corporation (202) 628-4888 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 17 subject has been valued as if the four units have been converted to individual condominium units." Mr. Kloumann estimated the time it would take to market and sell the cottages on the property as condominiums an that the fair market value of the fee simple interest in the Castle Road property was $770,000 as of October 25, 2004. Respondent accepts and agrees with this valuation, but Petitioners do not . Petitioners contend that the correct fair market value of the Castle Road property as of October 25, 2004 is $1, 065, 000 on the basi;s of a statement contained in the appraisal report at page 46, which shows a gross sellout figure o.f that amount. The parties stipulated to assessment information regardinc the Castle Road property from the Town of Truro for . fiscal years 2004+2007. The assessments for each fiscal year showed total valuations ranging from $298,100 for the fiscal year 2004 to $481,200 for fiscal year 2007. The amount of the total value for the property allocated to the land ranges from $142,400. or 47.77 percent of the total value for fiscal year 2004 to $268,200 or 55.74 percent of the total value for fiscal year 2007. Petitioners did not obtain an appraisal of the Castle Road property before filing their 2004 or Heritage Reporting Corporation (202) 628-4888 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 18 2005 Jederal income hax return. They did not offer 4 any other appraisal into evidence at trial. The information in the record is insufficient to support a finding that the fair market value of the Castle Road property exceeds $770,000. Accordingly, we find that (cid:16)042 the fair market value of the Castle Road property as of October 25, 2004 is $770,000, of which 47.77 percent is attributable to the land and 52.23 percent is attributable to the buildings. With respect to Mr. and Mrs. Pesiri's bad debt claim that is rèferenced;in the notice of deficiency, we note that Petitioners did not assign error to that determination in their petition. We therefore deem the bad debt claim conceded. See Rule 34(b)(4). We have considered all of the arguments raised by either party, and to the extent not discussed, we find them to be irrelevant or without merit. As follows from the foregoing, decision will · be entered pursuant to Rule 155. This concludes the Court's oral findings of fact and opinion in this case. (Whereupon,nat 2:10 p.m., the bench opinion in the above-entitled matter was concluded.) // Heritage Reporting;.Corporation (202) 628-4888