t c memo united_states tax_court stephen h glassley and judith glassley et al petitioners v commissioner of internal revenue respondent docket nos filed date john e williams and eric w bloom for petitioners rodney j bartlett and brian m harrington for respondent the following cases were consolidated herewith for purpose sec_1 of trial briefing and opinion paul s mahoney docket no and edward f houser jr and kathryn g houser docket no there are presently at least four other cases docketed in this court which by stipulation are bound by the outcome of these consolidated cases contents page memorandum findings_of_fact and opinion opinion of the special_trial_judge findings_of_fact a background the jojoba industry in general carole a whittaker joseph e berberich jojoba development partners ltd a the private offering memorandum b the research_and_development agreement dollar_figure c the option and joint_venture agreement dollar_figure d the farm lease dollar_figure e the option and farm lease agreement dollar_figure petitioners dollar_figure a petitioners stephen h glassley and judith s glassley dollar_figure b petitioner paul s mahoney dollar_figure c petitioners edward f houser jr and kathryn g houser dollar_figure b the jojoba plantation dollar_figure c the consequences of petitioners' initial investment dollar_figure d the experts dollar_figure paul h gross dollar_figure dr eberhardt dollar_figure marvin t parr dollar_figure opinion dollar_figure a the criteria that must be satisfied for expense treatment under sec_174 dollar_figure the expenditures must be for research or experimentation dollar_figure the expenditures must be paid_or_incurred on behalf of the taxpayer dollar_figure the expenditures must be paid_or_incurred in connection with the taxpayer's trade_or_business dollar_figure b negligence dollar_figure petitioners glassley and houser dollar_figure dr mahoney dollar_figure c increased interest dollar_figure memorandum findings_of_fact and opinion dawson judge these cases were assigned to special_trial_judge norman h wolfe pursuant to the provisions of sec_7443a and rule sec_180 sec_181 and sec_183 the court agrees with and adopts the opinion of the special_trial_judge which is set forth below opinion of the special_trial_judge wolfe special_trial_judge respondent determined deficiencies in and additions to petitioners' federal income taxes as follows additions to tax petitioners year deficiency sec_6653 sec_6653 sec_6659 glassley dollar_figure dollar_figure - mahoney dollar_figure dollar_figure dollar_figure houser dollar_figure dollar_figure - dollar_figure dollar_figure - percent of the interest due on dollar_figure percent of the interest due on dollar_figure percent of the interest due on dollar_figure percent of the interest due on dollar_figure in the statutory notices of deficiency for petitioners stephen h glassley and judith s glassley petitioners glassley and petitioner paul s mahoney dr mahoney respondent also determined that the provision for increased interest under sec_6621 c applied subsequently respondent asserted by first amendment to answer that petitioners edward f houser jr all section references are to the internal_revenue_code in effect for the tax years in issue except as otherwise indicated all rule references are to the tax_court rules_of_practice and procedure sec_6621 was repealed by sec b of the omnibu sec_3 budget reconciliation act of obra publaw_101_239 103_stat_2106 effective for tax returns due after date obra sec d 103_stat_2400 the repeal therefore does not affect the instant cases and kathryn g houser petitioners houser were liable for increased interest under sec_6621 respondent concedes that there is no addition_to_tax due from dr mahoney under sec_6659 the issues remaining for decision are whether petitioners are entitled to deduct losses relating to their investments in a limited_partnership jojoba development partners ltd which arose principally from that partnership's deduction of purported research_and_development expenditures paid_or_incurred during whether petitioners are liable for additions to tax for negligence and whether petitioners' underpayments of tax are attributable to a tax-motivated transaction for purposes of computing increased interest pursuant to sec_6621 findings_of_fact some of the facts have been stipulated and are so found the stipulation of facts and exhibits attached thereto are incorporated herein by this reference a background the jojoba industry in general the jojoba plant is a shrub that is native to the sonoran desert region in arizona california and mexico a jojoba plant respondent asserted also by first amendment to answer that dr mahoney was liable for increased interest under sec_6621 respondent had determined in the statutory_notice_of_deficiency as well that the provision for increased interest under sec_6621 applied may live well over years the female jojoba plant produces a seed sometimes referred to as a bean that contains approximately percent by weight of an unusual oil jojoba oil is actually a liquid wax ester unlike the triglyceride oils typically produced by plants and is similar to sperm whale oil it take sec_5 years or more for a jojoba plant to produce seeds in a harvestable quantity approximately pounds of jojoba seeds are needed to produce gallon of jojoba oil jojoba oil is useful for a variety of purposes ranging from cosmetics and shampoos to industrial lubricants the ban in on the importation of sperm whale oil and products using that oil stimulated an interest in the commercial production of jojoba oil during the nineteen seventies and into the early nineteen eighties jojoba oil was available only from native jojoba plants at that time in the united_states there were only a few commercial-sized jojoba plantations all of which were in developmental stages domestication studies were being conducted in the united_states during that time at the university of california at riverside and the university of arizona among other places carole a whittaker prior to carole a whittaker whittaker taught mathematics and science primarily chemistry at the high school through college levels whittaker became generally interested in the jojoba plant and its seed during or she left her teaching position in to consider entering private business and then took a sabbatical year during which she investigated jojoba more intensively by the end of she had decided to plant and farm jojoba as a business from through whittaker read extensively on the subject attended international conferences on jojoba and consulted various authorities in the field including dr demetrios yermanos yermanos of the university of california at riverside and dr lemoyne hogan of the university of arizona from date through the spring of whittaker searched for a location on which to develop a commercial jojoba plantation whittaker had experience in science and project management but she had no experience in economics or business she therefore also sought advice during that time from friends and colleagues about how to develop a commercial jojoba enterprise by date whittaker identified a section of land in hyder arizona on which to develop a commercial jojoba plantation at that time with some associates she formed hyder jojoba inc hji a subchapter_s_corporation organized under the laws of arizona whittaker became hji's president and chairman and was its principal_shareholder dr demetrios yermanos a noted expert on the jojoba plant was recognized worldwide as a leader in the domestication of that plant for commercial purposes during date hji acquired a 640-acre parcel of partially developed land in hyder arizona and began farm development a small planting of jojoba undertaken in the fall of failed extensive planting of jojoba plants began in the spring of hji had planted acres of jojoba by the fall of planting of the remaining acres was completed in with the help of financing provided by hyder jojoba partners hjp a farming partnership hji was the general_partner of hjp provided farm management services to hjp and leased land to hjp joseph e berberich joseph e berberich berberich is a partner in the law firm of manning leaver bruder and berberich located in los angeles california he is involved primarily in a commercial and business practice of law his law firm was not directly involved in the transactions in issue in the instant cases berberich became interested in jojoba in after reading in world market perspective an industrial newsletter an article entitled jojoba super bean of the future berberich began reading more about jojoba and decided to invest in jojoba with three of his friends who shared an interest in such a project he traveled with those friends to a number of jojoba plantations located in southern california and in arizona berberich also read a number of private offering memoranda relating to investments in jojoba he attended an all-day seminar on jojoba given by yermanos at the university of california at riverside sometime during late berberich met whittaker in los angeles california he was impressed with her scientific background and with the fact that her father was william whittaker founder of the whittaker corp which was a publicly traded company berberich traveled with his friends to hyder arizona and examined the jojoba plantation planted by hji there to invest in whittaker's jojoba farming berberich and his associates became the first limited partners in hjp at that time berberich had no prior experience in agriculture or agricultural investments whittaker berberich and others believed that the successful commercialization of jojoba depended on the industry's developing a significant and stable supply of jojoba seed following discussions with berberich during late summer or early fall of whittaker developed a preliminary proposal relating to research regarding plant selection and propagation nutrient applications water requirements and pollination requirements that might be conducted in connection with a jojoba limited_partnership investment during whittaker and berberich agreed that berberich would form and serve as the general_partner of a new limited_partnership named jojoba development partners ltd jdp the decision to form this partnership had been made at least in principle by the time whittaker prepared her draft proposal concerning research possibilities to be attractive to potential investors and raise the funds that hji needed to develop its jojoba plantation the limited_partnership had to provide substantial tax benefits and had to be formed near the end of jojoba development partners ltd a the private offering memorandum with the assistance of counsel berberich prepared a private offering memorandum the offering relating to jdp the offering was dated date and represented that a minimum of and a maximum of limited_partnership units in jdp would be sold according to the offering jdp was to be organized to perform research_and_experimentation for the development of a particular strain of jojoba plant and seeds which can be planted grown and harvested in a commercially feasible manner and which will produce a commercial yield of jojoba beans or seeds the offering identified hji as the contractor selected to carry out the research_and_development r d program under an r d agreement pursuant to which hji would develop a so-called experimental plantation this plantation hereafter the small plantation was to consist of a minimum of acres and a maximum of acres depending on whether the minimum or maximum number of limited_partnership units was sold on land located in the hyder valley of arizona potential investors in jdp were advised that the offering would be terminated and any payments received together with any accrued interest would be refunded if the minimum number of limited_partnership units were not sold on or before date but that if the minimum number of units were so sold by date jdp would be formed and the offering would continue until the maximum number of such units was sold or until date whichever occurred first the offering further indicated that jdp intended to determine on or before date whether to convert the small plantation into a commercial plantation for the growing harvesting processing and marketing of jojoba plant material beans or seeds oil and products derived from the jojoba plants according to the offering jdp would continue only if it decided that growing the strain of jojoba developed under the r d program on a commercial basis was feasible either for jdp alone or in a joint_venture with hji the principal investment objectives of the partnership specified in the offering were as follows to conduct a comprehensive research_and_development program on the jojoba plants on the experimental plantation with the objective of developing a strain of jojoba which can be planted grown and harvested on a commercially feasible basis and which will produce a commercial yield of jojoba beans if the r d program is successful to convert the experimental plantation to a commercial plantation in and operate such plantation for profit to provide cash distributions to the limited partners commencing in or as early thereafter as possible through the operation of the commercial plantation and to generate tax losses in which can be used to offset the taxable_income from other sources in the investor suitability standards section of the offering potential investors were further advised that because of the risks and benefits involved the offering was restricted to persons who made a minimum purchase of one limited_partnership unit at a cost of dollar_figure per unit unless the general_partner permitted the purchase of a fraction of a unit and who had either a net_worth exclusive of home furnishings and automobiles of at least dollar_figure and taxable_income in some portion of which was subject_to federal_income_tax at a rate of percent or more or a net_worth exclusive of home furnishings and automobiles of at least dollar_figure potential investors were informed that investors in higher federal_income_tax brackets should be able to utilize more fully certain income_tax deductions generated by jdp potential investors were advised that an investor subscribing to one limited_partnership unit would have to pay dollar_figure in cash at the time of subscription and the balance of dollar_figure by the execution and delivery of a promissory note bearing interest at the rate of percent per year on the unpaid in the text we have employed the term small plantation to describe the initial operations of the jdp partnership instead of the pejorative term experimental plantation employed in the promotional literature principal balance payable dollar_figure on date dollar_figure on date and dollar_figure on date plus any accrued interest on the note potential investors were informed that the note would be on a full recourse basis to the limited_partner and that in the event of default a limited_partner would be subject_to expulsion from the partnership in the discretion of the general_partner and to deferral of his rights to return_of_capital according to the offering the limited partners would own a collective capital percentage of percent up to the point of recoupment defined as the point at which the total of the cumulative net profits allocated to the limited partners equaled percent of the total of the cumulative net losses allocated to them after which the limited partners would own a collective capital percentage of percent the general_partner would own as consideration for his capital_contribution of dollar_figure a partnership_interest of percent up to the point of recoupment and an interest of percent thereafter the offering advised potential investors that in addition to his profits interest the general_partner would receive a fee for of dollar_figure as compensation_for his services rendered in connection with the formation of jdp in addition commencing in the general_partner would receive a yearly fee as compensation_for his services in managing the day-to-day affairs of jdp in the respective amounts of dollar_figure per year for through dollar_figure per year for through dollar_figure per year for through and dollar_figure per year thereafter until termination of jdp furthermore the general_partner would be reimbursed for any costs he or his affiliates incurred on behalf of the partnership including organizational and offering expenses accounting and other services and operational expenses the offering further indicated that if the minimum number of partnership units were sold and acres were planted hji would receive a fee of dollar_figure dollar_figure in cash at execution of the agreement and the balance payable in through while if the maximum number of partnership units were sold and acres were planted hji would receive a fee of dollar_figure dollar_figure in cash in and the balance payable in through the offering however cautioned that the partnership will be funded with contributions of not less than dollar_figure nor more than dollar_figure the size of the r d program will be affected by the amount of funds at the partnership's disposal if the partnership receives only the minimum amount of proceeds it will be able to develop a acre experimental jojoba plantation and will have a reduced ability to conduct the degree of research_and_experimentation respecting propagation watering and fertilizing techniques it otherwise would do and to complete research_and_experimentation on a larger seed population all of which consequently may reduce the partnership's chances of developing a superior jojoba plant strain such a result would increase the risks associated with the venture if only the minimum or near minimum number of units is sold the partnership will have to pay higher organization and offering expenses per unit than if it received the maximum or near maximum amount of proceeds from the sale of units the number of acres under the r d program will increase in accordance with the size of the offering and dealing with a relatively fewer number of acres in the r d program or any subsequent commercial venture will entail additional risks of casualty economic and environmental problems and other matters the risks of which could be absorbed or compensated for in an r d program or venture with a larger number of acres in various locations attached to the offering was a copy of a 33-page tax opinion letter dated date issued by kaplan jacobowitz hendricks bosse p a a law firm located in phoenix arizona which served at that time as counsel to hji projections calculated by hji also were attached to the offering these projections concerned the tax impact and possible returns to partners based on various estimates and assumptions derived from hji's past experience in developing a jojoba plantation the relatively limited yield data available and its research respecting the cultivation of jojoba contrasting projections were provided on the premise of the development of a 160-acre plantation and sales of partnership units and on the premise of the development of a 464-acre jojoba plantation and sales of partnership units unexecuted copies of the certificate and agreement of limited_partnership and certificate of fictitious name subscription agreement promissory note offeree questionnaire offeree representative questionnaire research_and_development agreement option and joint_venture agreement option and farm lease agreement and farm lease were attached to the offering in addition to the claim of an immediate full tax deduction the promoters of jdp made a sales presentation concerning the profit potential of the jojoba industry and the idea that the purchase of a partnership unit was a good investment the offering however did not attract as many investors as the promoters had hoped by date six limited partners had each subscribed to one full partnership unit in jdp by date an additional two limited partners had each subscribed to one full partnership unit in jdp and two limited partners had each subscribed to a one-half partnership unit in jdp no limited_partner acquired a partnership unit in jdp after date berberich in his capacity as general_partner nonetheless executed the certificate and agreement of limited_partnership and certificate of fictitious name of jdp on date such certificate was recorded in the official records of yuma county arizona on date under the limited_partnership agreement no limited_partner was required to make any capital_contribution beyond the initial capital_contribution and no limited_partner was liable for the expenses liabilities or obligations of jdp b the research_and_development agreement on date berberich as general_partner of jdp and whittaker as president of hji executed a research_and_development agreement r d agreement the r d agreement represented that hji was experienced in the planting and cultivation of jojoba plants and could conduct research_and_experimentation work relating to the scientific development of a plant strain with fast hardy growth characteristics and high stable seed yields which could be planted grown and harvested in a commercially feasible manner the r d agreement also stated that jdp anticipated that hji would conduct such research_and_experimentation work in the r d agreement hji agreed to use its best efforts to carry out the research_and_development program r d program described below description of program the r d program to be conducted by hji on the terms and subject_to the conditions and payments set forth in this agreement shall consist of the following experimental plantation hji will acquire the ownership or use of such land buildings machinery equipment and other_property and will provide all personnel and materials necessary to develop and establish an experimental jojoba plantation the plantation the plantation shall consist of acres and shall be located on a site selected by hji in the hyder valley area of yuma county arizona the site of the plantation may be purchased or leased from an affiliate of hji plant strain hji will conduct original research into a particular jojoba plant strain it will then select both propagating seeds and plant cuttings for planting and cultivation in controlled areas of the plantation the growth characteristics of the plants will be closely observed and replacement will be made if and when hji determines that it is appropriate to the experimentation process and economically feasible cultivation techniques the plantation will be divided into separate areas with each area subjected to various forms of experimental husbandry the variations will include research_and_experimentation in soil conditions methods of propagation fertilization and watering each experiment shall be conducted in a scientific manner and closely monitored results the plant characteristics in each area of the plantation and the progress of plant growth will be recorded the nature and results of each experiment conducted in the plantation will likewise be recorded conclusion the r d program will be concluded and hji's obligations under this agreement fulfilled on date pursuant to the r d agreement jdp agreed to pay hji dollar_figure as full compensation_for the conduct of the r d program on the 60-acre jojoba plantation of which amount dollar_figure was due upon the signing of the r d agreement and the remaining dollar_figure was payable according to the terms of recourse notes to be delivered to hji upon the signing of the r d agreement the r d agreement indicated that hji had allocated dollar_figure per acre of the contract fee for the purchase of water and the installation of a water delivery system for the small plantation but that jdp would pay an additional sum up to a maximum of dollar_figure in the event that the actual cost of providing water to the small plantation exceeded dollar_figure per acre the r d agreement stated that all costs and expenses of the r d program were the sole responsibility of hji in addition it stressed that all payments due on the notes were required by hji to enable it to commence and carry out the r d program and are not in any way conditioned on hji's performance under this agreement if hji has received timely payment and then fails to perform as agreed the partnership may bring suit for damages or specific performance but further payments due under the notes may not be withheld no part of any sums paid_by the partnership to hji shall be refundable for any reason nor shall the partnership be entitled to withhold payment to hji the r d agreement stated that the parties did not contemplate that the r d program would result in any inventions or patents however the agreement indicated further it is contemplated that the r d program will result in discoveries technology and other information which may or may not be proprietary in any case either party to this agreement may use any information discovery or technology resulting from the r d program in any manner and for any purpose desired the r d agreement also provided that it is contemplated by the parties that if the r d program produces successful results the small plantation will be converted into a commercial jojoba farm and thereafter operated for profit by or on behalf of jdp pursuant to certain option agreements entered into simultaneously with the r d agreement the r d agreement stated further that all property of any kind real personal or mixed acquired by hji in connection with the r d program would be the property of hji and that jdp would have no interest in or rights to such property arising from the r d agreement or otherwise the r d agreement stated also that hji made no representation or guarantee of any kind with respect to the r d program or the results thereof in addition the r d agreement provided that hji had not agreed to conduct the r d program on an exclusive basis for jdp and was free to engage in any other activities including other research_and_development whether for itself or for others jdp paid all of the dollar_figure contract_price required under the r d agreement to hji as follows by check dated date jdp paid hji dollar_figure pursuant to the r d agreement on date jdp issued to hji five promissory notes bearing interest at the rate of percent per year the face amounts of the notes dates payable and amounts and dates of payment are as follows face_amount payable date payable amount_paid date paid dollar_figure dollar_figure big_number dollar_figure big_number dollar_figure big_number dollar_figure big_number 1information not provided in the record the promissory notes contained no restrictions or nonrecourse features when whittaker and berberich signed the r d agreement they both understood that hji would not undertake for jdp all of the activities specified in sec_2 of the r d agreement because the offering had not raised sufficient funds having failed to raise sufficient funds to carry out the program described in the offering circular on date berberich intended to form another limited_partnership that he hoped would attract additional investors whittaker and berberich anticipated that any discoveries resulting from research or experimentation activities on the jojoba plants or from their domestication on the plantations operated or managed by hji or its affiliates hereinafter collectively referred to as hyder jojoba plantations would be shared with other jojoba plantation operators so that marketable supplies of jojoba seed would be available whittaker recognized that any information gathered about jojoba grown in one environment might have no relevance to jojoba grown in a different environment c the option and joint_venture agreement on date berberich as general_partner of jdp and whittaker as president of hji additionally executed an option and joint_venture agreement under that agreement hji was given an option exercisable by notice to jdp not later than date to undertake the conversion of the small plantation to a commercial farming operation if not later than date the parties had agreed in writing that the r d program had produced a strain of jojoba plant that they wished to grow on a commercial basis we use the term joint_venture for convenience such designation should not be taken as a determination of the legal effect of the option and joint_venture agreement or of the nature of any farming operations undertaken pursuant to such agreement under the option and joint_venture agreement if hji exercised the option the resulting joint_venture would commence on date and continue until date no initial capital was to be contributed by the joint venturers instead the only capital of the joint_venture would be accumulated capital in the form of undistributed_earnings of the joint_venture the working_capital required by the joint_venture for the first fiscal_year would be supplied either by loans from hji or from other lenders no property was to be acquired by the joint_venture except for cash and short term investment securities and consumables such as propagating seed plant cuttings fertilizer herbicide and other miscellaneous supplies to be used within year any other_property needed to conduct the business of the joint_venture was to be furnished by hji or third parties the joint_venture however was to pay hji the fair rental value of all property furnished by hji or its affiliates but in no event more than it would cost to rent comparable_property in the open market pursuant to the option and joint_venture agreement the net profits or net losses of the joint_venture would be divided among the joint venturers as follows percent to jdp until the date upon which jdp had received distributions from the joint_venture in the amount equal to the principal sums but not interest_paid by jdp to hji under the r d agreement recoupment and thereafter percent the corresponding allocation was percent to hji until recoupment and thereafter percent distributions were to be made to the joint venturers in the same proportion as profits and losses were to be shared under the option and joint_venture agreement hji was given sole and exclusive authority over all of the business and affairs of the joint_venture the joint_venture was to have no employees at any time rather all personnel required to conduct the business of the joint_venture were to be furnished by hji and would be the employees solely of hji the joint_venture however was to pay hji monthly for the direct_cost of all personnel employed in the business of the joint_venture plus a personnel administrative fee of percent of such cost in addition as compensation_for its services in managing the joint_venture hji was to receive a general administrative fee in a sum equal to dollar_figure for each acre of land devoted to the farming operations of the joint_venture plus cost of living increases under the option and joint_venture agreement hji was given the right and option any time on or after date to purchase for their fair_market_value all rights and interest of jdp in the joint_venture the option and joint_venture provided further that upon dissolution for any reason other than by such purchase the affairs of the joint_venture shall be liquidated forthwith the assets of the joint_venture shall first be used to pay or provide for all debts of the joint_venture including all accrued and unpaid operating_expenses if the assets are not sufficient to pay these obligations the joint venturers shall contribute in the same proportion as they share profits and losses the capital necessary to pay such obligations in full thereafter all moneys in the capital accounts of the joint venturers shall be paid to the joint venturers respectively entitled thereto then the remaining assets shall be divided according to the proportionate interests of the joint venturers on the basis that they share in profits and losses on the date of such dissolution during date berberich as general_partner of jdp and whittaker as president of hji executed an amendment to the option and joint_venture agreement that among other things changed the distribution of profits after recoupment to percent to jdp and percent to hji the amendment to the option and joint_venture agreement in addition gave jdp the right and option between date and date to require hji to purchase all of jdp's interest and rights in the joint_venture for convenience we shall use the name turtleback jojoba venture hereinafter to refer to the joint_venture that hji and jdp agreed to form pursuant to the option and joint_venture agreement d the farm lease on date hji entered into a farm lease with whittaker jojoba corporation whittaker jojoba under the farm whittaker formed whittaker jojoba during until it was merged into hji in or whittaker jojoba owned the land and plants allocated to jdp pursuant to the various agreements that the respective parties entered into on date continued lease whittaker jojoba agreed to lease to hji certain property9 near hyder arizona for a period of years commencing on date at a rental of dollar_figure per year in addition if hji and jdp agreed to form the turtleback jojoba venture hji was given the option under the farm lease to extend the lease_term until date for a yearly rental of dollar_figure plus percent of gross_income exceeding dollar_figure gross_income was defined as all income of any kind derived by the lessee from business conducted on or from the property e the option and farm lease agreement on date jdp and whittaker jojoba entered into an option and farm lease agreement that agreement provided in pertinent part that if hji decided not to enter into the turtleback jojoba venture then effective date jdp was given an option to lease the property described in the farm lease on substantially the same terms and conditions as set forth in the farm lease the option and farm lease agreement did not transfer to jdp any ownership rights to land plants equipment or any real or personal_property continued during shareholders of whittaker jojoba included among others whittaker and berberich as a result of the merger of whittaker jojoba into hji during or berberich became a shareholder of hji the legal description attached to the lease describes the property as the westerly big_number feet of the north half of the northwest quarter of sec_22 township south range west gila and salt river base and meridian petitioners a petitioners stephen h glassley and judith s glassley petitioners glassley resided in fort wayne indiana at the time they filed their petition in the instant cases during petitioner stephen h glassley dr glassley worked as a physician and petitioner judith s glassley mrs glassley worked as a medical assistant in fort wayne indiana petitioners glassley reported adjusted_gross_income of dollar_figure on their federal_income_tax return dr glassley became interested in jojoba after reading about the plant in the wall street digest an investment newsletter written by donald rowe rowe dr glassley had a high regard for rowe's investment advice in date dr glassley read more about jojoba and decided that an investment in jojoba might be a way to add to his retirement income mrs glassley then wrote to rowe to ask about potential jojoba investment opportunities in response petitioners glassley were provided with the names of two individuals one of whom was whittaker berberich telephoned petitioners glassley in response to a letter they had written to whittaker dr glassley was impressed by what berberich said about jojoba and whittaker following their telephone conversation berberich mailed a copy of the offering circular to petitioners glassley they studied the offering including the tax opinion and discussed it with their certified_public_accountant who had glanced at the tax opinion dr glassley was impressed with whittaker's credentials on date petitioners glassley subscribed to one partnership unit of jdp at a cost of dollar_figure as a result of their capital_contribution to jdp petitioners glassley acquired an 1-percent capital interest in jdp also on date they executed the signature page to the certificate and agreement of limited_partnership and certificate of fictitious name offeree questionnaire and a promissory note in the amount of dollar_figure payable to jdp in installments of dollar_figure on or before date dollar_figure on or before date and dollar_figure on or before date together with interest of percent per year of the unpaid balance petitioners paid to jdp or its escrow agent dollar_figure on date dollar_figure on date dollar_figure on date and dollar_figure on date dr glassley maintained his interest in the jojoba plant and its commercialization he continued to read about jojoba and together with mrs glassley attended an international conference on jojoba held in tucson arizona during petitioners glassley also traveled to hyder arizona and visited the jojoba plantation during and dr glassley would not have invested in jdp if he had thought the joint_venture would not be formed he was interested in making a profit from his investment and believed that there could be no profits without the formation of the joint_venture according to dr glassley he expected to recoup his investment in jdp and earn a few thousand dollars each year for at least years as a result of the commercialization of the jojoba plantation he also was aware of and attracted by the potential tax benefits outlined in the offering with respect to an investment in jdp on their federal_income_tax return petitioners glassley claimed a net_loss relating to jdp of dollar_figure resulting in a tax_benefit of approximately dollar_figure by notice_of_deficiency dated date respondent disallowed the partnership loss relating to jdp that petitioners glassley had claimed for on the grounds that they had not established the claimed amounts arose from transactions that had a bona_fide business economic purpose or substance or intent to make a profit apart from the intended tax consequences of such transactions the research_and_development expenses were not sic incurred in connection with a trade_or_business within the meaning of sec_174 the expenses claimed by the partnership were incurred or paid_by the partnership or if incurred or paid the expenses were not sic ordinary and necessary business_expenses your basis in the partnership is sufficient to entitle you to claim a partnership loss deduction or the partners are at risk within the meaning of sec_465 b petitioner paul s mahoney dr mahoney resided in los angeles california at the time he filed his petition in the instant cases during he worked as a physician dr mahoney reported adjusted_gross_income of dollar_figure on his federal_income_tax return on date dr mahoney subscribed to one partnership unit in jdp for a price of dollar_figure as a result of his capital_contribution to jdp dr mahoney acquired an percent capital interest in jdp also on date he executed the signature page to the certificate and agreement of limited_partnership and certificate of fictitious name offeree questionnaire and a promissory note in the amount of dollar_figure payable to jdp in installments of dollar_figure on or before date dollar_figure on or before date and dollar_figure on or before date together with interest of percent per year of the unpaid balance dr mahoney paid to jdp or its escrow agent dollar_figure on date dollar_figure on date dollar_figure on date and dollar_figure on date on his federal_income_tax return dr mahoney claimed a net_loss relating to jdp of dollar_figure by notice_of_deficiency dated date respondent disallowed the partnership loss relating to jdp that dr mahoney had claimed for on the grounds that he had not established any amount was paid pursuant to a research_and_development agreement or if paid that such expenditures were not preconceived shams lacking economic_substance alternatively the amount deducted by the partnership as research_and_development expenses has been disallowed because it has been determined that such expenditures do not meet the requirements of sec_174 in the further alternative the amount deducted by the partnership as research_and_development expenses has been disallowed because it has not been established that a profit_motive existed when such amounts were paid and that the transaction was entered into other than solely for tax purposes in the further alternative the amount deducted by the partnership as research_and_development expenses has been disallowed because you have not established that the accrual_method is a proper method for accounting for research_and_experimental_expenditures or that the use of the accrual_method by said partnership clearly reflects partnership income in the further alternative you have not established that the portion of the amount deducted by the partnership as research and experimental expenses that is attributable to the note presented by said partnership is not contingent or that all events have occurred which fix the liability thereof see sec_465 dr mahoney also was a partner in hjp on his federal_income_tax return he claimed a net_loss relating to hjp of dollar_figure dr mahoney did not testify at trial c petitioners edward f houser jr and kathryn g houser petitioners houser resided in lubbock texas at the time they filed their petition in the instant cases during and petitioner edward f houser jr dr houser worked as a physician and petitioner kathryn g houser worked as a realtor petitioners houser reported adjusted_gross_income of dollar_figure on their federal_income_tax return and dollar_figure on their federal_income_tax return dr houser retired from the practice of medicine in dr houser first became interested in investing in jojoba during or after reading articles about the plant in a number of investment newsletters during he read rowe's jojoba-related articles in the wall street digest dr houser wrote to rowe and was referred to whittaker dr houser was impressed with her credentials and telephoned her she referred him to berberich who subsequently sent dr houser a copy of the offering circular dr houser studied the offering including the tax opinion he discussed the offering with his certified_public_accountant who did not raise any concerns about the potential investment dr houser also discussed the offering with his brother an attorney who told dr houser that the law firm issuing the tax opinion was reputable and that in the brother's opinion the offering looked promising on date petitioners houser subscribed to one partnership unit of jdp at a total cost of dollar_figure as a result of their capital_contribution to jdp petitioners houser acquired an 1-percent capital interest in jdp also on date they executed the signature page to the certificate and agreement of limited_partnership and certificate of fictitious name offeree questionnaire and a promissory note in the amount of dollar_figure payable to jdp in installments of dollar_figure on or before date dollar_figure on or before date and dollar_figure on or before date together with interest of percent per year of the unpaid balance petitioners houser paid to jdp or its escrow agent dollar_figure on date dollar_figure on date dollar_figure on date and dollar_figure on date dr houser was enthusiastic about the jojoba plant's product development and profit potential petitioners houser traveled to hyder arizona and visited the jojoba plantation during or dr houser was interested in making a profit from his investment in jdp according to dr houser he believed that after the jojoba plantation was commercialized and the crop matured income from his investment would supplement his retirement income and help build an estate for the benefit of his children and grandchildren dr houser would not have invested in jdp if he had not believed that the joint_venture would be formed and that it would be profitable he also was aware of and attracted by the potential tax benefits outlined in the offering of an investment in jdp on their federal_income_tax return petitioners houser claimed a net_loss relating to jdp of dollar_figure resulting in a tax_benefit of approximately dollar_figure on their federal_income_tax return petitioners houser claimed a net_loss relating to jdp of dollar_figure resulting in a tax_benefit of approximately dollar_figure by notice_of_deficiency dated date respondent disallowed the partnership losses relating to jdp that petitioners houser had claimed for and on the grounds it has not been established that the partnership is engaged in a trade_or_business or that the partnership engaged in the activity with the primary purpose of making a profit it has not been established that any claimed deductions for research_and_development expenses represent an expenditure for or related to research_and_development actually undertaken it has not been established that the amount proven to be expended if any in relation to alleged research_and_development are currently deductible and are not capital expenditures it has not been established that you had any amount_at_risk as defined by sec_465 of the internal_revenue_code it has not been established that purported transactions contained any economic reality or substance it has not been established that the accrual_method of accounting clearly reflects the partnership income it has not been established that any amount deducted for research_and_development expenses was paid_or_incurred in connection with the partnership's trade_or_business b the jojoba plantation for convenience we use the name turtleback i hereafter to refer to the 80-acre jojoba plantation for which the expenses at issue in the instant cases ostensibly were incurred hji purportedly allocated of those acres to jdp and the other acres to jojoba development partners ltd ii jdp-ii a limited_partnership formed by berberich in hji also developed an additional adjacent 40-acre field of jojoba for jdp-iidollar_figure berberich spoke with whittaker regularly by telephone and visited the hyder jojoba plantations once or twice a year in addition he spoke with her at the international jojoba conference held in tucson arizona in and at a seminar held in los angeles california which was sponsored by the arizona growers association in addition on occasion whittaker sent to berberich written progress reports or other correspondence related to jojoba and the jojoba plantations purportedly allocated to jdp and jdp-ii berberich periodically reported to the jdp limited partners on matters relating to the partnership when acquired turtleback i was a raw parcel of land during january and date the field was surveyed cleared of brush and laser graded a water delivery system was installed and one-half mile of concrete ditch was laid during march the field was prepared for planting by ripping land- planing listing plowing pre-irrigating and relisting turtleback i was planted with jojoba seed on date for that purpose hji used seed only from native jojoba plants that in addition to jdp and jdp-ii hji managed jojoba plantations and served as research_and_development contractor for at least other designated research_and_development partnerships in hyder ariz the record does not reveal who promoted or served as general_partner of those partnerships were growing in superior arizona hji treated some of those seeds with fungicide and or germination hormones during the planting period but observed no measurable differences in the plants as a result of such treatment hji undertook a program to vary the nutrients to be applied to the jojoba plants on turtleback i whittaker and berberich anticipated that varying the nutrient applications would help hji discover how to use nutrient applications to increase seed productivity of jojoba plants and thereby increase profits in the first written progress report to berberich as general_partner of jdp dated date whittaker advised jdp among other things due to the limited size of the r d program under contract with jojoba development partners it will not be possible to carry out all of the r d projects planned for a 454-acre project the 80-acre planting for jdp and jdp ii will allow us to do an excellent study on the effects of various nutrient applications commencing this month we are dividing turtleback i into experimental plots and intend to apply the following treatments control no treatment nitrosul applied in irrigation water urea applied directly to plant roots through soil urea foliar application ammonia applied directly to plant roots through soil micronutrients applied foliarly numbers and combined numbers and combined numbers and combined numbers and combined the foliar applications will not begin until at least spring of when there is new growth on the plants i expect that it will take at least three years before we will be able to observe any measurable differences from these various treatments what we will be looking for are differences in the rate of plant growth seed yield leaf tissue analysis and oil content of seeds in the second written progress report to berberich as general_partner of jdp dated date whittaker advised jdp among other things that in recent months i have had the opportunity to discuss jojoba development partner's r d program in detail with drs dave palzkill and bill feldman at the university of arizona with the technical representatives of our agri-chemical supply company and with our farm staff dave palzkill commented on the need for growers in various areas to carry out r d programs such as this and suggested that we compare notes with bob roth of the u of a extension services station dr palzkill recommended that rather than than sic study response to different forms of nitrogen in ammonia vs nitrate vs urea or methods of application in water soil or foliarly we would do better to study varying amounts over a wider range than we had anticipated and to include response to phosphorus in the program he also pointed out the need to replicate all trials in the two separate plots following dr palzkill's recommendations whittaker revised the nutrient application program planned for turtleback i consequently the acres of turtleback i were divided into plots of jojoba plants with rows each seven application formulations were devised for those plots consisting of varying amounts of nitrogen and phosphate and varying application periods during the year each application formulation was then applied to of the plots the primary purpose of the seven application formulations was to test how to use nutrient applications to increase the yield and profitability of jojoba production during whittaker on behalf of hji contracted with inter ag services inc ias headed by dr paul j eberhardt eberhardt to conduct periodic leaf tissue analyses to measure the effect of the nutrient applications on the jojoba plants the leaf analyses indicated that the nitrogen and or phosphate applications had no discernable effect on the jojoba plants growing on turtleback i results from nutrient applications to jojoba plants growing in other locations such as in desert center california and at the university of arizona jojoba research site however had indicated that those jojoba plants responded positively to nitrogen and or phosphate applications it is common for crops in different environments to respond differently to nutrients subsequently hji contracted with ias in date for a total_contract_price of dollar_figure to conduct some nutrients tests to try to determine among other things why the jojoba plants on turtleback i were not responding to the nitrogen and phosphorous as had been expected some of the services performed by ias for hji related to the effects on the jojoba plants of other nutrients such as zinc iron magnesium and copper and were associated with jdp-ii one of the projects undertaken by ias for hji was performed on jojoba plants that were not located on turtleback i the work performed by ias confirmed that additional nitrogen and phosphate applications did not benefit the jojoba plants on turtleback idollar_figure consequently hji discovered that it would not need to incur costs relating to the application of those additional nutrients to jojoba grown on turtleback i as a result of the jojoba leaf tissue analyses hji also learned that the appropriate nutrient levels for a jojoba plant varied seasonally hji continued the nutrient field testing on the jojoba plants on turtleback i beyond date the expiration date for the r d agreement in date hji and jdp executed an agreement regarding the option and joint_venture agreement in which both parties expressed their consensus that the jojoba growing on turtleback i could be farmed on a commercial basis and that turtleback i should be converted to a commercial jojoba plantation subsequently on date whittaker notified jdp that hji had exercised its option to convert turtleback i to a commercial farm and form turtleback jojoba venture with jdp pursuant to the option and joint_venture agreement during and hji operated turtleback i as a commercial jojoba dr eberhardt gave reports on the nutrient tests at variou sec_11 meetings of the jojoba growers assoc in addition during date he presented an article at the seventh international conference on jojoba held in phoenix ariz in which he relied on information gathered from the leaf analyses of jojoba plants grown on the hyder jojoba plantations as a result that information is now being used as a guide or baseline for determining the health of jojoba plants grown in other parts of the world plantation and sold jojoba seeds harvested from jojoba plants growing there under the name turtleback jojoba venture for turtleback jojoba venture reported a net farm loss of dollar_figure on schedule f of its u s partnership return of income form_1065 for turtleback jojoba venture reported a net farm profit of dollar_figure on schedule f of its u s partnership return of income form dollar_figure at the same time that hji exercised its option to enter into turtleback jojoba venture with jdp hji exercised an option to convert the jojoba plantation purportedly allocated to jdp-ii to a commercial jojoba plantation and to enter into a joint_venture with jdp-ii turtleback jojoba venture ii thereafter hji treated turtleback jojoba venture and turtleback jojoba venture ii as one jojoba plantation tjv during late whittaker informed berberich that the tjv plantation was in good condition and had excellent prospects for producing profitable yields of jojoba seeds but that tjv was out of funds she also indicated that harvesting efficiency was unacceptably poor and that it would probably take several years of continued development of machinery equipment and systems before harvesting efficiency would be substantially improved in in the schedule f for turtleback i venture reported a farm rent expenditure of only dollar_figure rather than the minimum dollar_figure rental fee required under the farm lease had turtleback i venture reported the full dollar_figure rental fee the schedule f would have reflected a net farm loss of dollar_figure addition she indicated that although the market price and demand for jojoba oil were strong and were expected to remain so the jojoba industry in general is reflecting the same kind of problems that are being experienced by hji and its affiliates virtually all jojoba producers are experiencing cashflow problems several more years are required than were originally predicted to reach commercial production the development of efficient harvesting although steady has delayed cashflow even further in most cases the capital required to attain positive cashflow is exceeding the amount committed by the original investors and the sources for obtaining additional funding are severely limited whittaker further suggested as an alternative to the dissolution of tjv or the provision by the jdp and jdp-ii limited partners of a working_capital loan a plan calls for the combination of up to big_number acres of plantations in the hyder area into a single company which for want of a better name we will currently call nucorp a key objective of the plan is to develop an entity which is capable of attracting new investment capital while preserving the capital of the original investors under this plan hji and all of the partnerships with which hji is affiliated will be invited to contribute their assets to nucorp in exchange for stock in the company cash will be raised from both existing partnerships and new investors all partnerships will have the opportunity to preserve their relative equity positions however in order to attract new investment capital the interests of all previous capital will have to be subordinated to any new contributions the formation of such an entity creates a viable vehicle for funding and managing a number of plantations which might otherwise fail the company will attract new investment capital by offering a preferred position and lower risk to potential new investors it will be capable of borrowing funds by using certain personal guarantees of new key investors as well as its assets as collateral for such loans nucorp should post a profit by and show significant cashflow within a to 5-year period by then the company will have several alternatives including being a favorable candidate for acquisition by a larger company or of becoming publicly traded and expanding rapidly to meet increasing demand for jojoba oil berberich notified the limited partners of jdp and jdp-ii of hyder jojoba plantations' cash_flow problems by letters dated date and date in those letters he endorsed whittaker's plan to form a corporation that would combine into one entity all of the entities then comprising the hyder jojoba plantations subsequently effective date the partners of jdp exchanged their partnership interests for stock in a new corporation hji holdings inc holdings petitioners accordingly became shareholders in holdings as a result of the exchange jdp realized ordinary_income from liabilities assumed on the exchange in the amount of dollar_figure which was reflected on its final partnership tax_return filed for in connection with the creation of holdings the partners of jdp and jdp-ii were credited with raising capital of dollar_figure from sale of the assets of the partnerships and additional contributions made by partnersdollar_figure as a part of the reorganization holdings owns all of the land and assets that hji or entities affiliated with hji had owned following the reorganization holdings farmed approximately big_number acres of jojoba in the hyder valley the record does not reveal whether any of the petitioners made any additional capital contributions c the consequences of petitioners' initial investment jdp used the calendar_year and the accrual_method of accounting to report its income on its u s partnership return of income form_1065 for calendar_year partnership return on the partnership return jdp deducted among other things dollar_figure for research_and_experimental_expenditures jdp reported a net_loss of dollar_figure on the partnership return a proportionate amount of which was passed through to each partner of jdp from the inception of jdp its partners intended and expected hji to farm jojoba commercially on turtleback i for the partners to realize a return of their investment in jdp commercial farming operations had to be conducted on turtleback i hji had sole responsibility for the farming operations on turtleback i the dollar_figure jdp agreed to pay hji under the r d agreement was based on a fixed contract_price hji placed the dollar_figure in its general funds hji used the dollar_figure among other purposes to pay the farm lease payments to whittaker jojoba to prepare the land for farming including installing the irrigation system to purchase jojoba seeds and to plant and jdp reported no income on its partnership return in addition to the dollar_figure it deducted for research_and_experimentation expenditures jdp deducted dollar_figure for legal fees dollar_figure for accounting fees and dollar_figure for amortization of organization costs cultivate those seeds hji activities did not result in any patentable technology nor was any patentable technology expected to be developed from those activities jdp had no right under any of the various agreements entered into during or amendments thereto to share in any profits from turtleback i before date following the formation of turtleback jojoba venture during through the hyder jojoba plantations produced substantial amounts of jojoba seed during hji harvested big_number pounds of jojoba seed from acres of jojoba plants during it harvested big_number pounds of jojoba seed from big_number acres as of the date of trial however a stable market for jojoba seed or oil had not evolved and demand for the jojoba seed did not expand to the extent expected for some products less expensive synthetic substitutes for jojoba oil were developed that adversely affected the demand for jojoba seeds consequently prices for jojoba seeds and oil have fallen in may or date holdings cut off irrigation to the jojoba plants because it had insufficient cash_flow to continue operations as a result as of the date of trial the income potential for turtleback i was small none of the jdp limited partners ever have recovered their initial investment in jdp as of the date of trial the limited partners continued to hold their interests in holdings d the expert sec_1 paul h gross paul h gross gross testified for petitioners relating to the value of any research or experimentation services that were to be provided by hji to jdp pursuant to the r d agreement gross is employed by american appraisal associates which is located in atlanta georgia he has professionally valued fertilizer companies formulations of fertilizer application methods of fertilizer devices for the applications of fertilizers patents thereon hybrid seed corn varietal strains germ plasm pools and the like gross is qualified to testify in the instant cases as an expert on valuing research_and_development contracts gross concluded that as of date the value of the r d agreement was dollar_figure according to gross the value of the contract at its inception depended on the qualification of the contractor who was to perform the services the plan of activity incorporated in the contract and the reasonableness of the payments to be made under the contract in his view hji was qualified to perform the research or experimentation services based on hji's and whittaker's background their experience in operating a commercial jojoba plantation in the hyder valley of arizona and their contacts with qualified technical experts gross used a cost approach to assess the reasonableness of the payments under the contract to estimate the reasonableness of the costs to be performed under the r d agreement as of date gross made an analysis of each aspect of the costs to be incurred in fulfilling that agreement for that purpose gross first noted that neither hji nor whittaker had prepared a cost estimate at the time the project was first entered into nor a project plan outlining what was going to be done for the consideration he also established that at the outset of the project there was no cost accounting system that would specifically identify the costs allocated to jdp gross therefore used data that whittaker had maintained for through to estimate for each activity15 the per acre contract expenditures that would be required under the contract on a year-by-year basis he quantified these costs on a 60-acre gross segmented the activities under the r d agreement for through as follows for project planning land acquisition land clearing and planing installation of irrigation construction of the pilot_model initial planting for cultivation fertilization including analysis and tissue analysis irrigation plant growth analysis harvesting yield analysis for cultivation irrigation fertilization analysis tissue analysis harvesting yield analysis basis and accumulated those total costs throughout the year period of the contract gross calculated the aggregate amount of those costs to be about dollar_figure in addition to check the reasonableness of his cost method analysis and in the absence of a demonstrable income stream because of a poorly reproduced exhibit we had considerable difficulty in deciphering the schedule submitted by gross in his report in support of his calculation of aggregate costs of dollar_figure our best approximation of the amounts reflected on that exhibit are as follows estimated annual contract expenditures by hji and its subcontractors in performing research_and_experimentation services year land use charge dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure hourly labor dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure equipment use dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure irrigation dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure chemicals dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure contract labor dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure harvesting labor - - dollar_figure dollar_figure dollar_figure consulting modeling year only - months effort dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure general farm maintenance dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure farm management dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure sub-total dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure administrative and overhead dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure sub-total dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure profit dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure sub-total dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure total for acres rounded dollar_figure dollar_figure dollar_figure dollar_figure dollar_figure 5-year total dollar_figure per acre total dollar_figure gross used a cost savings approach in other words the calculation of the benefit derived from the research performed and conversion of that savings into a value amount gross classifies this approach as in a broad category of an income approach according to gross for the cost savings approach he valued as of date the discoveries made from the cost savings that he calculated for his cost savings approach gross relied on eberhardt's conclusion that the leaf tissue analyses performed by ias for hji indicated that the amount of nitrogen and phosphate routinely being applied to the jojoba plants on turtleback i was not justified gross calculated the savings from not applying the unneeded fertilizer to be dollar_figure savings per acre based on dollar_figure of savings per acre for nitrogen and dollar_figure per acre for phosphate he then used a 10-percent capitalization rate to determine a total per acre savings value of dollar_figure from not applying unnecessary nitrogen and phosphate in his report gross opined that it is not customary to conduct expensive research_and_experimentation on a pilot_model and then expect the pilot operation to provide for recovery_of such expense rather the discoveries derived from research_and_experimentation performed at a relatively small cost on a pilot_model are thereafter utilized in large- scale production to produce large-scale cost savings gross consequently concluded that the value of the discoveries in from the nutrient tests were most applicable to a large producer of jojoba he estimated that such a major jojoba producer would save at least dollar_figure from the nonpurchase of nitrogen and phosphate as a result of the nutrient tests conducted on turtleback i based on his calculated dollar_figure savings per acre times big_number acres the big_number acres represent his estimate that a major jojoba producer such as hji would have big_number acres or more of jojoba under cultivation in preparing his report gross did not consider any of the various contractual relationships that existed between jdp and hji he did not attribute any value in preparing his report to the fact that a contractual joint_venture opportunity existed between hji and jdp paul j eberhardt eberhardt testified for petitioners as to the nature of any research or experimentation activities that hji may have conducted on turtleback i during the r d period as stated earlier eberhardt is the head of ias eberhardt has a bachelor of science degree in agricultural research with a minor in chemistry a master of science degree in soils with a minor in statistics and plant physiology and a doctor of philosophy degree in agricultural chemistry and soils with a minor in plant physiology he is qualified as an expert in agronomics and agricultural research_and_experimentation eberhardt concluded that the totality of research or experimentation activities performed by hji including activities allegedly performed for jdp-ii was research in the experimental or laboratory sense and was activity to discover information that would eliminate uncertainty regarding the commercialization of jojoba plantations eberhardt was not aware of the manner in which hji purportedly allocated different plots of jojoba plants to various limited_partnerships as far as he knew ias performed its services for hji marvin t parr marvin t parr parr testified for respondent as to the merits of any research or experimentation activities hji may have conducted for jdp parr is an engineer employed by the internal_revenue_service in montgomery alabama he visited the tjv plantations and inspected the growing jojoba he is qualified to testify as an expert in the instant cases as to the matters set forth in his report parr concluded that the activities performed on turtleback i between date and date were predominately aimed at the creation of an existing mature jojoba farm and were not simply directed at acquiring information about jojoba that was unknown at the time he also concluded that the activities would not have eliminated any uncertainty regarding the commercialization of jojoba because during that period jojoba was being grown in other locations both without and within the united_states and there were conflicting results about the benefits of nutrients especially with respect to nitrogen the conflict in the results was that in some locations the jojoba had responded favorably to nitrogen in the growth of the plants and in some instances in yield of seeds while in other locations the growers had found no effect from applying nitrogen parr agreed however that some of the activities performed on turtleback i during the period in question would be research activities he agreed that some of the fertilizer trials such as the original nutrient application program begun in the spring of the revised nitrogen and phosphate application in mid- as well as the ias nutrient study in were valid research conducted under proper experimental procedures according to parr before any experimental activities commenced a number of capital improvements had to be undertaken including the clearing and removal of brush the leveling and grading of the land surface the installing of irrigation supply piping to and on the tract and the installing of a concrete- lined irrigation ditch on the tract other expenditures relating to establishing the jojoba stand such as planting the seed and irrigating the field to cause the seed to germinate and the plants to grow also were undertaken before any experimental activities began parr concluded that only a minor portion of the expenditures on turtleback i related to actual research the however parr would disregard as irrelevant to jdp all but a small part of the research conducted by ias because that research was not identified in the r d agreement was not performed using jojoba plants from turtleback i or was not carried out on turtleback i bulk of the such activities was related to the creation and development of a commercial jojoba plantation parr estimated that without cost documentation the expenses actually related to research activities would be less than percent of the expenses that went into the acquisition and creation of the jojoba plantation he would exclude from research expenditures such as the land lease planting irrigation and other cultivation practices performed during the 5-year r d period because those activities would be required regardless of any research according to parr nutrient study costs include only the actual application of the nutrients and the recordkeeping of the period of time when those nutrient applications were made and the dissemination of the results at the end of that time they do not include the cost to create the plantation which includes among other things the land the jojoba plants and the irrigation system parr also concluded that any research activities would not have been proprietary because the results already were known and such knowledge was widely disseminated among the growers since at that time in the development of the jojoba industry the growers were not keeping secrets from one another and they were freely sharing information including knowledge of irrigation fertilizer and pruning opinion a the criteria that must be satisfied for expense treatment under sec_174 sec_174 states as a general_rule that research or experimental expenditures which are paid_or_incurred by a taxpayer during the taxable_year in connection with his trade_or_business may at the election of the taxpayer be treated as expenses not chargeable to capital_account the expenditures so treated shall be allowed as a deduction sec_174 a taxpayer is entitled to a deduction for research_and_experimental_expenditures with respect to expenses paid_or_incurred by the taxpayer directly as well as expenses paid or sec_174 provides in pertinent part sec_174 research_and_experimental_expenditures a treatment as expenses -- in general --a taxpayer may treat research or experimental expenditures which are paid_or_incurred by him during the taxable_year in connection with his trade_or_business as expenses which are not chargeable to capital_account the expenditures so treated shall be allowed as a deduction c land and other_property --this section shall not apply to any expenditure for the acquisition or improvement of land or for the acquisition or improvement of property to be used in connection with the research or experimentation and of a character which is subject_to the allowance under sec_167 relating to allowance for depreciation etc or sec_611 relating to allowance for depletion but for purposes of this section allowances under sec_167 and allowances under sec_611 shall be considered as expenditures incurred on the taxpayer's behalf by another person or organization stankevich v commissioner tcmemo_1992_458 sec_1_174-2 income_tax regs the expenditures must be for research or experimentation the term research or experimental expenditures as used in sec_174 means expenditures incurred in connection with the taxpayer's trade_or_business which represent research_and_development costs in the experimental or laboratory sense sec_1_174-2 income_tax regs this regulation further provides the term research or experimental expenditures includes generally all such costs incident to the development of an experimental or pilot_model a plant process a product a formula an invention or similar_property and the improvement of already existing property of the type mentioned the term does not include expenditures such as those for the ordinary testing or inspection of materials or products for quality control or those for efficiency surveys management studies consumer surveys advertising or promotions we have found the above definition to be reasonable and consistent with the intent of the statute to limit deductions to those expenditures of an investigative nature expended in developing the concept of a model or product 41_tc_582 emphasis in original affd without discussion on this issue 357_f2d_209 5th cir in the instant cases petitioners contend that hji was conducting valid research or experimentation on behalf of jdp and consequently under sec_174 jdp is entitled to deduct the contract fee it paid hji for such research or experimentation respondent contends on the other hand that hji used the funds jdp paid it to create a valuable capital_asset in the form of a jojoba plantation including expenditures_for lease payments site preparation such as ripping the land plowing discing and purchasing and installing an irrigation system and for planting the jojoba seeds respondent argues that such expenditures were made for the improvement of land to which jdp could gain a property interest and hence under sec_174 the expenditures are not allowable petitioners counter however that jdp did not acquire an ownership_interest in the land jojoba plants or equipment used on turtleback i or in any other_property as a result of the disputed expenditures petitioners assert that under sec_1_174-2 income_tax regs any costs hji incurred to build the jojoba plantation on turtleback i are deductible as costs associated with building a pilot_model petitioners assert further that respondent's expert parr acknowledged that hji performed at least some qualifying research on jdp's behalf that was experimental in naturedollar_figure petitioners contend that given parr's admission that the nutrient study had to occur on an existing jojoba plantation and that all of turtleback i was used for the qualifying research under sec_1_174-2 income_tax regs the commissioner must allow petitioners to deduct the expenditures associated with the development of the purported model jojoba plantation we do not agree any business arrangement may be scrutinized to ascertain whether its form comports with economic reality 77_tc_964 see 435_us_561 324_us_331 gregory v helvering on brief respondent concedes that some of hji's activities connected with the jojoba plants specifically relating to nutrient studies did constitute research_and_experimentation respondent maintains however that less than percent of hji's efforts on the property ostensibly allocated to jdp constituted research_and_experimentation respondent does not concede that the expenditures were incurred in connection with jdp's trade_or_business in light of respondent's concession we make no determination here as to whether hji's activities on turtleback i rose to the level of research_and_experimentation as contemplated under sec_174 however even if research_and_experimentation did occur on turtleback i for the reasons discussed infra we do not agree that such activities were incurred on jdp's behalf we are not bound by conclusions or stipulations of law e g 308_us_39 243_us_281 765_f2d_643 7th cir affg 80_tc_955 82_f2d_338 5th cir revg and remanding a memorandum opinion of the board_of_tax_appeals 39_tc_170 n affd 331_f2d_485 2d cir 293_us_465 the objective economic realities of a transaction control the tax consequences of a given transaction rather than the particular form the parties employed e g frank lyon co v united_states supra pincite commissioner v court holding co supra pincite 64_tc_752 affd on other grounds 544_f2d_1045 9th cir as the court_of_appeals for the seventh circuit has noted the freedom to arrange one's affairs to minimize taxes does not include the right to engage in financial fantasies with the expectation that the internal_revenue_service and the courts will play along the commissioner and the courts are empowered and in fact duty-bound to look beyond the contrived forms of transactions to their economic_substance and to apply the tax laws accordingly 765_f2d_643 7th cir affg 80_tc_955 after reviewing the record in the instant cases we agree in substance with respondent that jdp did not pay the dollar_figure contract fee for research or experimentation to be conducted by hji on jdp's behalf rather for the reasons discussed below we conclude that the moneys jdp remitted to hji for the putative research or experimentation in actuality were paid for the limited partners' right to participate in the jojoba farming enterprise being operated by hji in hyder arizona we are convinced that from the inception of jdp rather than being a stand-alone operation turtleback i functioned and was viewed as part of one integrated jojoba farming operation conducted by hji in our view the r d agreement was designed and entered into solely to provide a mechanism to disguise the capital contributions of the limited partners as currently deductible expenditures and thus reduce the cost of their participation in the farming venture as the transaction was structured jdp could obtain no economic benefit solely from the putative research or experimentation apart from the potential tax benefits no patents or inventions were expected to be developed in addition any discoveries obtained through hji's efforts were to be shared without compensation with other jojoba growers consequently jdp could receive no marketable asset from hji's putative research or experimentation activities plainly no unrelated party would have paid hji for a similar research_and_development contract under circumstances like those presented in this case petitioners nonetheless contend that the r d agreement had independent value they assert that as of date the r d agreement had a fair_market_value of dollar_figure and that the value of the anticipated benefits of the research was greater than the dollar_figure jdp paid hji under the r d agreement in addition they contend that the value of the cost savings to the jojoba industry as a whole resulting from the nutrient studies exceeded the amount jdp paid hji under the r d agreement petitioners contend further that the parties to the agreements believed that jdp would profit from the anticipated increased yield of jojoba seed resulting from the research_and_development project they also contend that jdp benefitted from the r d agreement by obtaining the right to use any discoveries resulting from the research or experimentation and by the joint_venture tjv using those discoveries after the research_and_development period ended we disagree we believe that jdp received no economic benefit from its right to use discoveries technology and other information resulting from the putative research or experimentation the parties fully anticipated from the beginning that any such results were to be used by hji and disbursed widely and freely throughout the jojoba industry we doubt that a disinterested third party under similar circumstances would have been willing to pay for the right to use any such discoveries furthermore we do not agree with petitioners that the r d agreement had a fair_market_value of dollar_figure as estimated by petitioners' expert the nutrient studies hji conducted on turtleback i by their very nature were applicable primarily if not exclusively to that site gross however made no adjustment in his valuation of the r d agreement for its limited applicability in addition gross failed to take into consideration the value of the additional rights arising from other agreements the parties executed simultaneously with the r d agreement no one denies that the only way anyone could possibly profit from the putative research or experimentation was from harvesting the seeds from the mature jojoba plants indeed drs glassley and houser admitted in effect at the trial that they would never have participated in jdp had they thought that farming activities would not be conducted on turtleback i yet no valuation was made of the fair_market_value of any rights conveyed by the option and joint_venture agreement or the option and farm lease agreement we believe that gross did not value the other rights purportedly conveyed to jdp in particular through the option and joint_venture agreement even after we suggested at the trial that he do so because such valuations would have shown that the purported value of the r d agreement was overstated in our view in light of the manner in which the arrangement was structured jdp could not have found a willing buyer for the r d agreement at any price let alone the dollar_figure it agreed to pay hji because jdp received no substantive ownership rights to the results of the putative research or experimentation furthermore we consider gross' valuation of the purported benefits of hji's putative research_and_development as highly exaggerated the only way he was able to arrive at his dollar_figure cost-savings estimate was arbitrarily to apply the alleged per acre savings to big_number acres as the transaction was structured in however jdp could only reap any profits from the acres purportedly allocated to it others had interests in the large areas farmed by hji in hyder so gross' computation of the valuation for jdp was simply contrary to fact moreover even eberhardt states that the results of the nutrient studies were site specific therefore petitioners' argument that the jojoba industry saved millions of dollars as a result of hji's putative research or experimentation is outlandish in addition we view with much skepticism testimony that the parties to these agreements anticipated that jdp would recoup the cost of the r d contract fee from the increased production of the jojoba plants on turtleback i resulting from a successful research program the record reveals that no one made any projections before the agreements were executed or afterward relating to the profit potential of a 60-acre jojoba plantation the profit projections in the offering were based on a jojoba plantation's containing a low of acres and a high of acres the offering furthermore cautioned that jdp would face higher risks should only the projected minimum acres be planted yet nowhere is any attempt made to show that the results of operations on the acres purportedly allocated to jdp could support the anticipated 5-year research_and_experimentation project to which the parties seemingly bound themselves in the r d agreement indeed gross admitted in his report that it is not customary to conduct expensive research_and_experimentation on a pilot_model and then expect the pilot operation to provide for recovery_of such expense gross furthermore in effect acknowledged that the only effective use of any discoveries obtained would have been on a large-scale operation much greater than the acres allocated to jdp even whittaker testified that jdp as a 60-acre partnership was not a self-sustaining unit petitioners however would have us believe that they expected not only to recover the full cost of the putative research or experimentation but also to earn a substantial profit from operations on the 60-acre plantation in our view given the structure of the putative research_and_development program such an expectation would be pure fantasy the self-serving nature of the claims together with the absence of any evidence to support them makes such testimony implausible based on this record we are convinced that the r d agreement was without economic_substance in our view the r d agreement was mere window dressing devised to attract investors for hji's jojoba farming operation through the promise of a large upfront deduction for what in actuality were capital contributions we note that the parties paid scant attention to the terms of the offering or the r d agreement for example the offering unequivocally states that unless a minimum of limited_partnership units were sold by date the offering would be terminated and any subscription payments would be returned only six limited partners had subscribed by date yet the offering was not terminated just four more limited_partnership units were sold between december and date two full units and two one-half units for a total of nine full limited_partnership units nonetheless berberich proceeded to close the offering and to execute the limited_partnership agreement on date the parties' haste to close the offering and form the limited_partnership by yearend in contradiction to the express terms of the offering circular leads us to conclude that the primary objective of the transaction was to generate tax losses during the first year of the partnership and thus reduce the cost of petitioners' capital_investment in a jojoba farming venture as for the r d agreement whittaker admitted at the trial that there was no way hji could undertake the research or experimentation outlined in that agreement for dollar_figure it is quite clear from the record moreover that as of date no specific research_and_development plan had been formulated for the jojoba expected to be planted on turtleback i in fact the research or experimentation plan devised for turtleback i was not designed until moreover no cost estimates were made for the putative research or experimentation at the time the documents were executed nor did an accounting system exist to allocate costs to jdp for at least the first years of the purported research_and_development period we conclude that the dollar_figure contract fee was driven by the need to provide the promised tax benefits for jdp's investors and that it was not based on the value of any anticipated services to be rendered by hji under such circumstances we agree with respondent that the r d agreement did not delineate the agreement of the parties as to any research_and_development to be conducted and it had no substance petitioners contend however that the option and farm lease agreement which purportedly accorded jdp the right to operate turtleback i had hji elected not to enter into a joint_venture shows that jdp was independent from hji and intended to use the expected discoveries in a trade_or_business we do not agree first as we have stated earlier we believe that from its inception turtleback i was not an independent jojoba plantation but functioned as a part of hji's jojoba farming enterprise second we are not convinced from this record that jdp ever had a realistic prospect of carrying on a jojoba farming operation for example jdp had no experience in farming jojoba as far as we can tell from the record berberich was not involved directly in the farming of jojoba on turtleback i or anywhere he was a lawyer not a farmer and all of his activities concerned administering jdp or monitoring his own investments in the hyder jojoba plantations jdp moreover had no employees and no equipment and it did not own the jojoba plants the record is devoid of any evidence that jdp could have operated a successful jojoba plantation on acres or that if it could that jdp would have had sufficient funds20 to continue such operations nor is there any evidence that any limited_partner could or would have stepped in to farm turtleback i although the parties took great care to clothe the transaction in the garments of research or experimentation when we view the transaction closely we are convinced that the limited partners were not paying for research or experimentation but for the right to share in the profits from hji's jojoba farming enterprise under such circumstances we conclude that the disputed payments were in the nature of capital contributions sec_174 does not permit a deduction for a contribution_to_capital see safstrom v commissioner t c the record does not reveal jdp's financial status as of date the purported commencement_date of the turtleback jojoba venture however we note that the limited partners were not obligated to contribute any funds to jdp beyond their initial partnership unit costs eight full and two one-half units in jdp were sold resulting in total capital contributions from the limited partners of dollar_figure according to the offering the general_partner was to contribute dollar_figure to jdp therefore at the most jdp would have contributed capital of dollar_figure jdp's partnership return for reflected the r d agreement contract fee of dollar_figure syndication costs of dollar_figure organizational costs of dollar_figure and legal and accounting fees of dollar_figure which totaled dollar_figure as the transaction was structured jdp could earn no income from its inception on date through date accordingly jdp's operating_expenses for that period of time had to be paid from the remaining dollar_figure contributed capital unless advanced by the general_partner according to the offering the general_partner was to be paid dollar_figure for each of through it appears unlikely therefore that as of date jdp would have had the financial resources to take over operations on turtleback i if hji had decided not to continue operations on that plot memo affd without published opinion 42_f3d_1401 9th cir reinke v commissioner tcmemo_1981_120 in view of our conclusion that jdp did not pay hji for research or experimentation we need not further address petitioners' argument that during the alleged research_and_development period turtleback i was functioning solely as a pilot or model and therefore the costs of its construction are deductible under sec_1_174-2 income_tax regs we note however that as the foregoing discussion suggests turtleback i was not a model at all and that even if it had been a model it would not have been a model for operation by or on behalf of jdp or its investors the expenditures must be paid_or_incurred on behalf of the taxpayer in the instant cases respondent has conceded that some of hji's activities on turtleback i were research or experimentation in the experimental or laboratory sense petitioners contend that respondent's concession is dispositive of the question of the deductibility of the expenditures associated with the development of turtleback i we do not agree see supra note such expenditures also must have been incurred on jdp's behalf sec_1_174-2 income_tax regs states that the provisions of sec_174 apply not only to costs paid_or_incurred by the taxpayer for research or experimentation undertaken directly by him but also to expenditures paid_or_incurred for research or experimentation carried on in his behalf by another person or organization on this record we are not persuaded that any research or experimentation performed on turtleback i was conducted on jdp's behalf rather we are convinced that hji operated an integrated jojoba farming operation in hyder arizona and that any research or experimentation conducted on turtleback i was designed and implemented to aid hji's entire jojoba enterprise as discussed above there is no evidence that turtleback i functioned independently of hji moreover it is clear that from its inception jdp was viewed as a part of hji's jojoba farming enterprise indeed the interrelationship of hji and jdp can be seen in the following responses whittaker made to questions posed to her on direct examination by which petitioners were trying to establish that it was anticipated that the purported research_and_development program would lead to valuable discoveries emphasis added q counsel what would be the nature of the property interest the intangible_property interest that the discoveries might constitute a whittaker i am sorry by the end of the program or through the program i think the nature of the property would be technological expertise information or knowledge the question of patentability and licensing i think is a twofold issue one is is it proprietary or specific enough to be of the nature of being patentable but really more importantly or specific to our purposes i did not we did not consider that it was to the benefit of our associated group to compartmentalize our information between one partnership and another but rather it was to the benefit of all the parties jojoba development parties hyder jojoba inc hyder jojoba partners which were the entities then in existence to apply whatever knowledge we discovered to the benefit of all of the parties and move forward as a leading and profitable jojoba production company q so specifically with respect to jdp did you expect the discoveries would be beneficial to jdp a absolutely q and how would it be beneficial specifically to jdp a how would improving the - - it would be beneficial - - q in other words how would the discoveries be beneficial to jdp a assuming that we had discovered that a specific amount or regime of nutrient application could increase yield by a certain amount that would not only benefit jdp specifically with regard to its operation under a joint_venture but would also benefit jdp which is a 60-acre partnership and not a self- sustaining unit but rather a group related to hyder jojoba inc and all of its farm production by contribution towards the development of an economically viable unit company corporation that could produce jojoba effectively and profitably the record shows that hji did not serve solely as jdp's agent jdp had no power to direct or control any aspect of the research or experimentation process berberich's activities were solely ministerial there is no evidence that jdp berberich or any limited_partner was involved in directed or controlled any phase of the alleged research or experimentation project cf everett v commissioner tcmemo_1990_65 citing 92_tc_423 affd 930_f2d_372 4th cir at the time the r d agreement was executed the costs of any research or experimentation to be conducted on turtleback i had not been estimated under that agreement hji was to be responsible for all of the costs of operating turtleback i hji would make all of the decisions relating to its operations and the putative research or experimentation including deciding exactly what research or experimentation if any would be done although jdp purportedly paid a fixed contract fee for the putative research projects delineated in the r d agreement at the time that agreement was executed neither party to the agreement expected hji to carry out the described projects hji moreover did not plan to make a profit from the receipt of the r d contract fee the fee was to provide hji with working_capital and financial resources to develop the jojoba plantation and conduct any research_and_development projects its profit would come only from operating the jojoba plantation hji furthermore expected to and did use the results of its putative research or experimentation activities on all of the hyder jojoba plantations hji shared in the potential risks of failure and rewards of successful research or experimentation under such circumstances we conclude that jdp did not pay hji dollar_figure in consideration for obtaining ownership of the discoveries resulting from the putative research or experimentation rather we conclude that any research or experimentation that hji conducted on turtleback i was for its own benefit and on its own behalf the expenditures must be paid_or_incurred in connection with the taxpayer's trade_or_business petitioners contend that the putative research or experimentation expenditures were paid_or_incurred in connection with jdp's trade_or_business according to petitioners the research was done in contemplation that jdp and hji would form a joint_venture with the express purpose of commercially and profitably farming jojoba upon the expiration of the research program if it was determined at that time that such venture would be commercially feasible furthermore petitioners assert the joint_venture subsequently was formed and it operated a commercial jojoba plantation on which the discoveries from the research or experimentation were used respondent contends on the other hand that jdp was only a passive investor that never engaged in or planned to engage in its own separate trade_or_business respondent asserts that the passive nature of the investment is reflected in jdp's willingness to enter into the r d agreement without retaining any proprietary rights to any technology developed and where any discoveries obtained from the field testing would be available to anyone in the jojoba industry respondent contends that jdp's actions following the execution of the r d agreement with hji were ministerial at most and that hji enjoyed complete discretion and control_over any research or experimentation as well as the farming activities that were pursued after date respondent contends further that the second_phase of jdp following the expiration of the r d period was highly speculative since it was conditioned on hji's exercising an option to exploit the jojoba plantation that had been developed if hji refused to exercise the option however jdp could only realize profit from the arrangement by exercising its option to lease the property from whittaker jojoba in which jdp's general_partner held an interest respondent argues that these highly speculative and conditional arrangements could not rise to the status of a business realized or anticipated on date when the research_and_development fee was deducted respondent asserts that jdp was only a vehicle for the injecting of risk capital 83_tc_667 see also 87_tc_698 affd 832_f2d_403 7th cir in 416_us_500 the supreme court established that deductions under sec_174 could be claimed in connection with a trade_or_business even though the taxpayer was not currently producing or selling any product in following the snow case however this court has held that to be entitled to a deduction the taxpayer must be engaged in a trade_or_business at some time and the activities must be sufficiently substantial and regular to constitute a trade_or_business green v commissioner supra pincite where a partnership is claiming deductions under sec_174 the controlling inquiry is whether there is a realistic prospect that the technology to be developed will be exploited in a trade_or_business of the entity in question see diamond v commissioner t c pincite see also 998_f2d_1514 9th cir affg on this issue tcmemo_1990_380 845_f2d_148 7th cir affg tcmemo_1986_403 harris v commissioner tcmemo_1990_80 supplemented by 99_tc_121 affd 16_f3d_75 5th cir mere legal entitlement to enter into a trade_or_business does not satisfy this test instead the legal entitlement must be backed by a probability of the firm's going into business levin v commissioner f 2d pincite kantor v commissioner supra pincite ldl research dev ii ltd v commissioner tcmemo_1995_172 stankevich v commissioner tcmemo_1992_458 but cf 46_f3d_950 9th cir revg tcmemo_1991_ where the court_of_appeals for the ninth circuit concluded that there was a realistic prospect that the partnership involved in that case would be engaged in a trade_or_business in scoggins the individual taxpayers had directed the research themselves had experience in marketing and had the ability to provide the partnership with sufficient capital to manufacture and market the equipment in question if the corporation did not do so the circumstances in scoggins are wholly different from those presented here see ldl research dev ii ltd v commissioner supra also distinguishing the scoggins case a facts_and_circumstances_test has been employed by this court in determining whether there is a realistic prospect that a partnership may enter into a trade_or_business with respect to technology that is to be developed we have considered such factors as the terms of the parties' contractual arrangements the intentions of the parties involved in the arrangement the amount of capitalization retained by the partnership during the research_and_development contract period the exercise of control by the partnership over the person or organization doing the research the business activities of the partnership the capacity and incentive if any of the partnership to use the products in its own trade_or_business and the experience of the partners e g diamond v commissioner supra pincite levin v commissioner t c pincite mach-tech ltd partnership v commissioner tcmemo_1994_225 affd 59_f3d_1241 5th cir stankevich v commissioner supra double bar chain co v commissioner tcmemo_1991_572 the grant of an exclusive license to exploit technology prior to commencement of research_and_development may preclude a licensor from engaging in a trade_or_business with respect to the technology see levin v commissioner t c pincite green v commissioner supra in addition this court has also disallowed deductions claimed for research_and_experimental_expenditures even though the licenses had not officially been entered into upon execution of the research_and_development agreements see stauber v commissioner tcmemo_1992_128 double bar chain co v commissioner supra in stauber we found that the partnership never intended to enter into a trade_or_business with respect to the technology and that there was a pre-existing understanding regarding a future license of the technology in double bar chain co v commissioner supra we held that even though there was no written license agreement the partnership never intended to enter the trade_or_business of manufacturing and marketing the technology the relevant factors in this determination included the limited capital retained in the partnership the private offering memorandum stating that none of the essential activities relating to the technology would be conducted by the partnership the lack of control_over the research activities and the lack of experience of the investors in stankevich v commissioner supra we looked to the passive nature and limited activity of the partnerships as well as their lack of control_over all aspects of the investment in holding that the general_partner never intended that the partnerships would enter into a trade_or_business we also held that the contractual arrangements between the parties made the prospects unrealistic that the partnerships would ever be capable of entering into a trade_or_business with respect to any technology that might be developed consequently we held that everything that the taxpayers did was wholly consistent with investor activity not the activity of a person engaged in an active trade_or_business id in determining whether research_and_development expenditures were incurred in the taxpayer's trade_or_business this court has considered a two-step inquiry whether the taxpayer's activities in connection with the venture were sufficiently substantial and regular to constitute a trade_or_business and whether the taxpayer had the requisite profit objective in undertaking the activity see 83_tc_667 stankevich v commissioner supra petitioners contend that such requirements have been satisfied in the present cases because tjv's primary motive in farming jojoba was to realize profit and its farming operations were continual and regular petitioners contend that the present cases are distinguishable from cases such as green v commissioner supra levin v commissioner supra and stankevich v commissioner supra because jdp actually formed a joint_venture with hji in that commercially farmed jojoba petitioners argue that the formation and operation of that joint_venture is determinative of the trade_or_business question we do not agree the fact that some enterprise be it hji or tjv was conducting commercial farming on turtleback i is not determinative as we have stated previously the mere presence of a valid business_enterprise at some levels of a transaction does not automatically entitle passive investors distant from day-to-day operations of the enterprise to the associated tax benefits 85_tc_557 rather to resolve the trade_or_business question in the instant cases we must focus on jdp not tjv as petitioners would have us do for the reasons set forth above we conclude that jdp did not intend to engage nor did it engage in its own trade_or_business as stated previously we have concluded that turtleback i was not operated as an independent jojoba plantationdollar_figure jdp functioned from the beginning as a part of hji's farming enterprise jdp's relationship with hji did not change as of date when purportedly the research_and_development period ended and the putative joint_venture operation commenced hji continued to have sole responsibility and control_over the jojoba farming operations jdp moreover was not called upon to provide any additional contributions to fund the operations of the joint_venture the fact that jdp would begin to share in any profits after formation of the joint_venture is not determinative since no profits could have been expected during the putative we may take into account a taxpayer's actions in year sec_21 subsequent to the years in issue in evaluating the taxpayer's prospects during the years in issue levin v commissioner f 2d n 7th cir affg 87_tc_698 research_and_development period because that period coincided with the maturation period of the jojoba plants the only ostensible difference in the relationship between jdp and hji is that allegedly after as general partners both jdp and hji would be jointly liable for any debts and losses of a joint_venture in the present cases however we find that difference to be without distinction we are guided by the maxim that the relevant inquiry is the actual manner not the form in which the parties intended to structure their relationship 561_f2d_572 5th cir affg 381_fsupp_431 m d ga see also 765_f2d_643 7th cir affg 80_tc_955 jdp was a limited_partnership consequently the potential liability of the individual partners did not change as a result of the formation of turtleback jojoba venture the mere presence of a profit_motive moreover is not determinative of whether the sec_174 deduction will be allowed what is significant in the instant cases is that jdp never actually managed or controlled the use or marketing of the results of the research or experimentation see 16_f3d_75 5th cir affg tcmemo_1990_ jdp did not have a realistic prospect of carrying on its own jojoba farming_business even though jdp had an option to farm turtleback i at the end of the r d period it would have the opportunity to exercise that option only if hji decided that it would be uneconomical to enter into the turtleback jojoba venture with jdp as we stated previously there is no evidence that jdp would have had the technical expertise or financial resources to operate a jojoba plantation had hji not exercised its option to enter into turtleback jojoba venture there is no evidence that berberich or any limited_partner could or would have stepped in to operate a commercial jojoba plantation on turtleback i commencing in neither jdp nor any of its partners had any experience in farming jojoba jdp moreover had no employees equipment or any other physical assets and apparently would not have had sufficient funds to acquire the necessary assets to operate a jojoba plantation after the to years needed for the jojoba plants to become productive jdp moreover was allocated only acres on which to operate such plantation which from the evidence in this case was insufficient acreage on which to conduct such an operation under such circumstances we conclude that at the time the r d agreement was executed jdp did not intend to engage in a business of its own because of this conclusion we do not address alternative arguments raised by the parties in support of their various positions accordingly we hold that petitioners are not entitled to deduct losses attributable to jdp's deduction for research or experimentation expenditures under sec_174 respondent is sustained on this issue b negligence respondent determined that petitioners are liable for additions to tax for negligence or intentional_disregard_of_rules_and_regulations under sec_6653 and sec_6653 provides for an addition_to_tax in an amount equal to percent of the underpayment if any part of the underpayment is due to negligence or intentional_disregard_of_rules_and_regulations sec_6653 provides for an addition_to_tax in an amount equal to percent of the interest payable under sec_6601 with respect to that portion of an underpayment attributable to negligence or intentional_disregard_of_rules_and_regulations negligence is defined as the failure to exercise the due care of a reasonable and ordinarily prudent person under like circumstances e g 925_f2d_348 9th cir affg 92_tc_1 898_f2d_455 5th cir affg tcmemo_1989_189 and tcmemo_1989_56 845_f2d_746 7th cir affg 85_tc_127 85_tc_934 the question is whether a particular taxpayer's actions in connection with the transaction were reasonable in light of his experience and the nature of the investment or business see 60_tc_728 a taxpayer may not be negligent but still violate sec_6653 and by intentionally disregarding respondent's rules and regulations marcello v commissioner 380_f2d_499 5th cir affg in part and remanding in part 43_tc_168 and tcmemo_1964_299 petitioners have the burden of proving that the underpayment_of_tax was not due to their negligence or intentional_disregard_of_rules_and_regulations rule sandvall v commissioner supra pincite forseth v commissioner supra 79_tc_846 petitioners glassley and houser petitioners glassley and houser contend that the addition_to_tax for negligence under sec_6653 and is not applicable to them because they relied in good_faith on the advice of competent professionals that the tax treatment for the putative research_and_development expenditures was proper respondent asserts on the other hand that petitioners have not demonstrated that they were reasonable in relying upon their accountants she contends further that petitioners have not shown what advice if any they received from their accountants or that the accountants had sufficient knowledge of the facts to render a competent opinion we agree with respondent reliance on the advice of competent professionals even if erroneous may form the basis for a successful defense against the imposition of an addition_to_tax for negligence e g 94_tc_473 91_tc_396 affd without published opinion 940_f2d_1534 9th cir 89_tc_849 affd 904_f2d_1011 5th cir affd 501_us_868 86_tc_492 affd 864_f2d_1521 10th cir 47_tc_399 affd f 2d 6th cir however reliance on professional advice standing alone is not an absolute defense to negligence but only one factor to be considered freytag v commissioner supra reimann v commissioner tcmemo_1996_84 kaplan v commissioner tcmemo_1994_81 a taxpayer's reliance must be reasonable in good_faith and based on full disclosure ewing v commissioner supra 63_tc_149 further reliance on a tax professional will not absolve taxpayers where they are aware that the facts upon which they predicate their deductions are not the facts of the transaction in issue 92_tc_827 dr glassley testified that he relied on his accountant in claiming the disputed expenditures while dr houser testified that he relied on his accountant and his brother an attorney to show good_faith reliance petitioners glassley and houser must establish that these individuals were competent to render the advice that petitioners supplied them with all necessary information and that the incorrect return was a result of the professional's mistakes weis v commissioner supra 51_tc_467 neither petitioners glassley nor houser have established that their accountants or brother had specialized knowledge of the jojoba industry or of agricultural research nor have petitioners glassley or houser established the extent or nature of these individuals' tax expertise none of these alleged professionals moreover made an independent investigation of the jdp partnership or hired anyone to make such an investigation in evaluating the transaction petitioners glassley's accountant and petitioners houser's accountant and dr houser's brother relied solely on the offering circular see vojticek v commissioner tcmemo_1995_444 to the effect that advice from persons with an interest in the transaction is better classified as sales promotion furthermore there is no reliable evidence in the record suggesting the exact nature of the advice if any that was given neither of the accountants nor dr houser's brother testified we cannot assume that their testimony would have been favorable to petitioners the normal inference is that it would have been unfavorable 47_tc_92 affd 392_f2d_409 5th cir see also 87_tc_74 65_tc_182 6_tc_1158 affd 162_f2d_513 10th cir on this record we conclude that petitioners glassley and houser did not act in good_faith reliance on professional advice in each case the record shows that they acted on their fascination with the idea of participating in a jojoba farming venture and their satisfaction with tax benefits of expensing their investments which were clear to them from the promoter's presentation they passed the offering circular by their accountants for a glance and dr houser spoke with his brother an attorney though apparently not a person knowledgeable about tax matters or agriculture the facts here do not establish consultation with an expert cf 71_f3d_515 5th cir affg in part revg in part tcmemo_1994_179 petitioners glassley and houser have not established that their purported reliance on the advice of their accountants and brother actually occurred or was reasonable in good_faith and based on full disclosure hence such alleged reliance is not sufficient to shield them from liability for the negligence additions to tax an addition_to_tax for negligence is correctly assessed in cases where deductions claimed on returns are not supported by the facts sandvall v commissioner supra marcello v commissioner supra petitioners claimed deductions for purported research_and_experimental_expenditures that we have found to have been in actuality contributions to capital based on the record we conclude that petitioners glassley and houser knew or should have known that jdp's payments to hji were not made for the purposes stated in the r d agreement we conclude further that they nonetheless deliberately disregarded respondent's rules and regulations in claiming as research or experimentation expenditures on their tax returns for the years in issue the bulk of their capital contributions for the right to participate in hji's jojoba farming enterprise accordingly we hold that petitioners glassley and houser are liable for the negligence additions to tax under the provisions of sec_6653 and respondent is sustained on this issue dr mahoney dr mahoney did not testify at trial and he has presented no evidence on this issue consequently dr mahoney has failed to carry his burden of showing that in claiming the disputed deductions he was not negligent or did not intentionally disregard respondent's rules and regulations accordingly he also is liable for the negligence additions to tax under the provisions of sec_6653 and respondent is sustained on this issue c increased interest respondent determined in the notices of deficiency that the increased interest under sec_6621 applied to petitioners glassley and petitioner mahoney respondent also asserted by amended answer that the increased interest under sec_6621 applied to petitioners houser respondent has the burden_of_proof with respect to the increased interest asserted in the amendment to answer rule a 87_tc_970 the increased rate of interest under sec_6621 i sec_120 percent of the statutory rate imposed on underpayments under sec_6601 if the underpayment exceeds dollar_figure and is attributable to a tax-motivated transaction as defined in sec_6621 the increased interest is effective only with respect to interest accruing after date notwithstanding that the transaction was entered into before that date 85_tc_552 affd per curiam without published opinion 795_f2d_1005 2d cir respondent contends that the increased rate of interest under sec_6621 applies because the research_and_development expense deductions that petitioners claimed resulted in a substantial_underpayment attributable to a tax-motivated transaction sec_6621 enumerates types of transactions that are considered tax-motivated transactions furthermore sec_6621 gives the secretary_of_the_treasury authority by regulation to add to the categories of transactions that will be treated as tax-motivated transactions the definition of a tax-motivated transaction includes any use of an accounting_method specified in regulations prescribed by the secretary as a use which may result in a substantial distortion_of_income for any period sec_6621 in 90_tc_558 affd in part and remanded on another issue 912_f2d_44 2d cir the court determined that the deduction from income of management fees that should have been capitalized and amortized was a distortion_of_income under sec_6621 see also lieber v commissioner tcmemo_1993_391 upham v commissioner tcmemo_1989_253 affd 923_f2d_1328 8th cir sec_301_6621-2t temporary admin proced regs fed reg date c b dollar_figure sec_301_6621-2t temporary proced admin regs in pertinent part provides as follows in question and answer format q-3 what accounting_method may result in a substantial distortion_of_income for any period under sec_6621 a-3 a deduction or credit disallowed or income included in any of the circumstances listed below shall be treated as attributable to the use of an accounting_method that may result in a substantial distortion_of_income and shall thus be a tax_motivated_transaction that results in a tax motivated underpayment in the case of a taxpayer who computes taxable_income using the cash_receipts_and_disbursements_method of accounting any deduction continued jdp and thus petitioners claimed deductions for research_and_development expenditures that we found were in actuality nondeductible_contributions to capital such deductions caused a material distortion of their income see lieber v commissioner supra upham v commissioner supra the underpayment resulting from such disallowed deductions is therefore attributable to a tax-motivated transaction accordingly petitioners are liable for the additional interest determined in the notices of deficiency or asserted by amendment to answer respondent is sustained on this issue to reflect the foregoing decisions will be entered for respondent in docket nos and decision will be entered under rule in docket no continued disallowed for any period because i the expenditure resulting in the deduction was a deposit rather than a payment ii the expenditure was prepaid for tax_avoidance purposes and not for a business_purpose or iii the deduction resulted in a material distortion_of_income see eg revrul_79_229 c b