internal_revenue_service number release date index number ---------------------------- ------------------------------------ --------------------- ----------------------- - department of the treasury washington dc third party communication none date of communication not applicable_person to contact ----------------------- id no ------------- telephone number -------------------- refer reply to cc psi b04 plr-101605-05 date date re ------------------------------------------------------------------------------ legend settlor trust ---------------------- --------------------------------------------------------------------------------------- -------------------- ------------------------------------------------------------------------------------------------------- subtrust ------------------------------------------------------------------------------------------------------------------------- subtrust ------------------------------ 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------------------------------------------------------------------------------- ------------------------------------------------------------------------------------------------ ------------------------------- ------------ ------------------------------------- ---------------------------------------------------------- ---------------------------------------------------------------------------- ----------------------------------------------------------------- ---------------------------------------------------------------- ------------------------------------------------------------------------------ --------------------------------------------------------------------- date date date date a b c d e f g h year year corporation company holding_company new trust state co-trustee local court the act statute a statute b statute c statute d dear --------------- this is in response to the date letter and other correspondence requesting rulings on the income gift and generation-skipping_transfer gst tax consequences of the consolidation and proposed modification of certain trusts the facts submitted are as follows settlor created trust an irrevocable_trust on date before date for the benefit of a b c d e f and g her nephews and niece the original beneficiaries and their issue settlor died on date under article fourth of the trust the net_income is to be divided into equal under article third no distribution of principal is to be made until the termination plr-101605-05 shares at least annually with one share payable to each such nephew and niece in the event a niece or nephew dies prior to termination of the trust payment is to be made to or for his or her living issue by right of representation of the trust under article fifth the trust is to terminate on the death of the last survivor of the named nephews and niece and all of the children of h plus a period of twenty-one years on termination the principal is to be distributed in equal shares one share for each child then surviving of the original beneficiaries and one share for the issue then surviving of any then deceased child of the original beneficiaries if at any time before the termination_date all of the original beneficiaries are deceased and there are no living issue of a deceased original beneficiary then on the death of the last survivor of the original beneficiaries and their issue the principal is to be distributed to the persons then living who would be settlor’s heirs at law as though settlor had died intestate article eighth k provides that no stock_dividends shall be considered as income but the same shall be considered as an increment in the value of principal and added to principal no appreciation in value of principal nor profit resulting from the sale or disposition of any principal shall be considered as income but likewise as an increment in the value of principal in the case of sale or disposition of principal the profit shall be added to the principal all cash dividends except liquidating dividends shall be considered as income physical division and setting aside of portions of the property held in the trust to be feasible and for the best interests of the several beneficiaries the trust is to be divided making such division as nearly as possible in the exact proportions required article eighth q provides that as soon as the trustees may find an actual under article twentieth the trust is to be governed by the laws of state since its inception the trust has been administered as separate trusts currently subtrusts each for the benefit of a beneficiary and his or her issue for certain administrative and tax reporting purposes the trustees have found this to be costly and cumbersome as permitted under statute d the separate subtrusts have been consolidated into a single trust new trust governed by the terms of the trust as amended by the judicial modification described below the trust was initially funded with shares of corporation an operating business in year corporation became a wholly owned subsidiary of company and the trust’s shares of corporation were exchanged for shares of company corporation’s operating business was sold in year and company changed its name to holding_company on plr-101605-05 date holding_company undertook a plan of partial_redemption the principal now consists of the remaining holding_company shares and investment_assets such as stocks bonds and real_estate the trust elected to be an electing_small_business_trust under sec_1361 statute b governing the administration of trusts holding_company is an s_corporation for federal tax purposes each trust under effective date state enacted the act which includes statute a and under statute a in allocating receipts and disbursements to or between principal and income a fiduciary shall a administer a_trust in accordance with the terms of the trust even if there is a different provision in the act b administer a_trust in accordance with the act if the terms of the trust do not contain a different provision or give the fiduciary a discretionary power_of_administration c add a receipt or charge a disbursement to principal to the extent that the terms of the trust and the act do not provide a rule for allocating the receipt to or between principal and income a fiduciary may administer a_trust by the exercise of a discretionary power_of_administration given to the fiduciary by the terms of the trust even if the exercise of the power produces a result different from a result required or permitted under the act in exercising the power to adjust under statute b or a discretionary power_of_administration regarding a matter within the scope of the act whether granted by the terms of the trust or as provided in the act a fiduciary shall administer a_trust impartially based on what is fair and reasonable to all of the beneficiaries except to the extent that the terms of the trust clearly manifest an intention that the fiduciary shall or may favor one or more of the beneficiaries a determination in accordance with the act is presumed to be fair and reasonable to all of the beneficiaries under statute b a fiduciary may adjust between principal and income to the extent the fiduciary considers necessary if the fiduciary invests and manages trust assets as a prudent investor the terms of the trust describe the amount that may be distributed to a beneficiary by referring to the trust’s income and the fiduciary determines after applying the provisions of statute a and that the fiduciary is unable to comply with statute a in deciding whether and to what extent to exercise the power conferred by statute b a fiduciary shall consider all factors relevant to the trust and its beneficiaries in exercising discretion under statute b a professional trustee may adopt a policy that applies to all trusts or a policy that applies to individual trusts or classes of trusts stating whether and under what conditions it will use the adjustment power and the method of making adjustments statute c contains the state prudent investor rule modifying the trust as follows i the limitations of article eighth k shall not apply in on date pursuant to the co-trustee’s petition local court issued an order plr-101605-05 determining the income of the trust ii income shall be determined in accordance with the act and ii article third shall be amended to provide that the trustees will have the power to distribute principal to the extent necessary to allow the them to exercise their power to adjust under the act in exercising their power to adjust between principal and income the trustees may consider a the overall return on investments that have been or will be generated from the trust principal each year b the level of distributions that have been historically provided to the beneficiaries and c the impact inflation has on the value of the trust principal to future beneficiaries and the value of the distributions to current beneficiaries local court’s order is contingent on the receipt of a private_letter_ruling issued by the irs concluding that the modifications will not affect the generation- skipping transfer_tax exempt status of the trust it is represented that the trust including the separately administered subtrusts was irrevocable on date and there were no additions made after date rulings requested you have requested the following rulings after the consolidation new trust will be considered to have been created and become irrevocable before date and will be exempt from the generation-skipping_transfer_tax the judicial modification will not cause the trust or new trust to lose its status as exempt from generation-skipping_transfer_tax the consolidation will not constitute a transfer by any beneficiary that will be subject_to the gift_tax under sec_2501 the judicial modification will not result in a taxable gift under sec_2501 the consolidation will not result in the realization of income gain_or_loss under sec_61 or sec_1001 the judicial modification will not cause there to be a disposition for purposes of sec_1001 and will not result in the recognition of gain_or_loss the consolidation will result in new trust having assets with the same basis as held by the trusts immediately prior to the consolidation the holding periods for all of the assets of new trust will include the trusts’ holding_period for such assets under sec_1223 new trust as modified by the judicial modification will satisfy the requirements of plr-101605-05 sec_1361 ruling sec_1 - sec_2501 imposes a tax on the transfer of property by gift by an individual sec_2511 provides that the tax imposed by sec_2501 applies whether the transfer is in trust or otherwise whether the gift is direct or indirect and whether the property is real or personal tangible or intangible sec_2512 provides that if a gift is made in property the value thereof at the date of the gift shall be considered the amount_of_the_gift sec_2601 imposes a tax on every generation-skipping_transfer gst made after date a gst is defined under sec_2611 as a taxable_distribution a taxable_termination and a direct_skip sec_2612 provides that the term taxable_termination means a termination by death lapse of time release of a power or otherwise of an interest_in_property_held_in_trust where the property passes to a skip_person with respect to the transferor of the property sec_2612 provides that the term taxable_distribution means any distribution from a_trust to a skip_person other than a taxable_termination or a direct_skip under sec_2612 a direct_skip is a transfer subject_to federal estate or gift_tax made by a transferor to a skip_person under section a of the tax_reform_act_of_1986 act and sec_26 a the gst tax is generally applicable to gsts made after date however under section b a of the act and sec_26_2601-1 the gst tax does not apply to a transfer under a_trust that was irrevocable on date but only to the extent that the transfer is not made out of corpus added to the trust after date or out of income attributable to corpus so added under sec_26_2601-1 any trust in existence on date will be considered irrevocable unless the settlor had a power that would have caused inclusion of the trust in his or her gross_estate under sec_2038 or sec_2042 if the settlor had died on date sec_26_2601-1 provides rules for determining when a modification judicial construction settlement agreement or trustee action with respect to a_trust that is exempt from the gst tax under sec_26_2601-1 or will not cause the trust to lose its exempt status under the regulation unless specifically provided otherwise these rules are applicable only for purposes of determining whether an exempt trust retains its exempt status for gst tax purposes thus unless specifically noted the rules do not apply in determining for example whether the transaction results in a gift subject plr-101605-05 to gift_tax or may cause the trust to be included in the gross_estate of a beneficiary or may result in the realization of gain for purposes of sec_1001 sec_26_2601-1 provides that a modification of the governing instrument of an exempt trust including a trustee distribution settlement or construction that does not satisfy sec_26_2601-1 b or c by judicial reformation or nonjudicial reformation that is valid under applicable state law will not cause an exempt trust to be subject_to the provisions of chapter if the modification does not shift a beneficial_interest in the trust to any beneficiary who occupies a lower generation as defined in sec_2651 than the person or persons who held the beneficial_interest prior to the modification and the modification does not extend the time for vesting of any beneficial_interest in the trust beyond the period provided for in the original trust sec_26_2601-1 provides that a modification of an exempt trust will result in a shift in beneficial_interest to a lower generation beneficiary if the modification can result in either an increase in the amount of a gst transfer or the creation of a new gst transfer to determine whether a modification of an irrevocable_trust will shift a beneficial_interest in a_trust to a beneficiary who occupies a lower generation the effect of the instrument on the date of the modification is measured against the effect of the instrument in existence immediately before the modification if the effect of the modification cannot be immediately determined it is deemed to shift a beneficial_interest in the trust to a beneficiary who occupies a lower generation as defined in sec_2651 than the person or persons who held the beneficial_interest prior to the modification a modification that is administrative in nature that only indirectly increases the amount transferred for example by lowering administrative costs or income taxes will not be considered to shift a beneficial_interest in the trust in addition administration of a_trust in conformance with applicable local law that defines the term income as a unitrust_amount or permits a right to income to be satisfied by such an amount or that permits the trustee to adjust between principal and income to fulfill the trustee's duty_of impartiality between income and principal beneficiaries will not be considered to shift a beneficial_interest in the trust if applicable local law provides for a reasonable apportionment between the income and remainder beneficiaries of the total return of the trust and meets the requirements of sec_1_643_b_-1 sec_26_2601-1 example considers a situation where the grantor in establishes an irrevocable_trust for grantor s child and the child s issue in grantor s spouse also established a separate irrevocable_trust for the benefit of the same child and issue the terms of the spouse s trust and grantor s trust are identical in the appropriate local court approved the merger of the two trusts into one trust to save administrative costs and enhance the management of the investments the merger of the two trusts does not shift any beneficial_interest in the trust to a beneficiary who occupies a lower generation as defined in sec_2651 than the person or persons who held the beneficial_interest prior to the merger in addition the merger does not extend the time for vesting of any beneficial_interest in the trust beyond the period provided for in plr-101605-05 the original trust therefore the example concludes that the trust that resulted from the merger will not be subject_to the provisions of chapter of the internal_revenue_code sec_26_2601-1 example considers a situation where in the grantor a resident of state x establishes an irrevocable_trust for the benefit of grantor’s child a and a’s issue the trust provides that trust income is payable to a for life and upon a’s death the remainder passes to a’s issue per stirpes in state x amends its income and principal statute to permit the trustee to make adjustments between income and principal when the trustee invests and manages the trust assets under the state's prudent investor standard the trust describes the amount that shall or must be distributed to a beneficiary by referring to the trust's income and the trustee after applying the state statutory rules regarding allocation of receipts between income and principal is unable to administer the trust impartially the provision permitting the trustees to make these adjustments is effective in for trusts created at any time the trustee invests and manages the trust assets under the state's prudent investor standard and pursuant to authorization in the state statute the trustee allocates receipts between the income and principal accounts in a manner to ensure the impartial administration of the trust the example concludes that the administration of the trust in accordance with the state statute will not be considered to shift any beneficial_interest in the trust therefore the trust will not be subject_to the provisions of chapter further no trust_beneficiary will be treated as having made a gift_for federal gift_tax purposes and neither the trust nor any trust_beneficiary will be treated as having made a taxable_exchange for federal_income_tax purposes in the instant case the trust and subtrusts was irrevocable on date and there were no additions made after date the terms of the trust and new trust are identical the consolidation of the trusts does not shift any beneficial_interest in the trust to a beneficiary who occupies a lower generation as defined in sec_2651 than the person or persons who held the beneficial interests prior to the consolidation in addition the consolidation does not extend the time for vesting of any beneficial_interest in the trust beyond the period provided for in the original trust therefore the new trust resulting from the consolidation will not be subject_to the provisions of chapter sec_26_2601-1 example further since the beneficial interests of the beneficiaries before and after the consolidation are identical the merger and consolidate did not result in any beneficiary being treated as making a gift_for federal gift_tax purposes further the trustees propose to administer new trust pursuant to state statute b a statute that is similar to the state statute described in sec_26_2601-1 and sec_26_2601-1 example therefore administration of new trust in accordance with state statute b will not be considered to shift any beneficial_interest in trust or new trust for gst tax purposes nor will administration of new trust in accordance with state statute b cause any beneficiary to be treated as making a gift the modifications to the trust instrument as described above are consistent with the plr-101605-05 administrative_powers the trustees would otherwise possess in administering new trust under statute b accordingly based on the facts submitted and representations made we conclude that the consolidation and merger of subtrusts into new trust will not cause new trust to be subject_to the provisions of chapter the consolidation and merger of subtrusts into new trust will not constitute a transfer by any beneficiary that will be subject_to the gift_tax under sec_2511 administration of new trust pursuant to statute b and the modification of the trust instrument as described above will not cause trust or new trust to lose status as exempt from gst tax and administration of new trust pursuant to statute b and the modification of the trust instrument as described above will not cause any beneficiary of new trust to be treated as making a gift_for federal gift_tax purposes ruling sec_5 - in property and under sec_61 from an interest in a_trust sec_61 provides that gross_income includes gains derived from dealings sec_1001 provides that the gain from the sale_or_other_disposition of property shall be the excess of the amount_realized therefrom over the adjusted_basis provided in sec_1011 for determining gain and the loss shall be the excess of the adjusted_basis provided in sec_1011 for determining loss over the amount_realized sec_1001 states that the amount_realized from the sale_or_other_disposition of property shall be the sum of any money received plus the fair_market_value of the property other than money received under sec_1001 except as otherwise provided in subtitle a the entire amount of gain_or_loss determined under sec_1001 on the sale_or_exchange of property shall be recognized sec_1015 provides that if property is acquired after date by a sec_1_1001-1 provides that the gain_or_loss realized from the conversion of property into cash or from the exchange of property for other_property differing materially either in_kind or in extent is treated as income or loss sustained transfer in trust other than by a transfer in trust by a gift bequest or devise the basis shall be the same as it would be in the hands of the grantor increased in the amount of gain or decreased in the amount of loss recognized by the grantor on such transfer income authorized by state statutes will not constitute a recognition event for purposes of sec_1001 and will not result in a taxable gift from the trust’s grantor or any of the trust’s beneficiaries sec_1_643_b_-1 provides that a switch between methods of determining trust plr-101605-05 in 499_us_554 a financial the court concluded that sec_1_1001-1 reasonably interprets sec_1001 institution exchanged its interests in one group of residential mortgage loans for another lender’s interest in a different group of residential mortgage loans the two groups of mortgages were considered substantially identical by the agency that regulated the financial_institution the issue presented was whether a sale_or_exchange had taken place resulting in a realization of gain_or_loss under sec_1001 and stated that an exchange of property gives rise to a realization event under sec_1001 if the properties exchanged are materially different cottage savings u s pincite in defining what constitutes a material difference for purposes of sec_1001 the court stated that properties are different in the sense that is material so long as their respective possessors enjoy legal entitlements that are different in_kind or extent cottage savings u s pincite the court held that mortgage loans made to different obligors and secured_by different homes did embody distinct legal entitlements and that the taxpayer realized losses when it exchanged interests in the loans cottage savings u s pincite it is consistent with cottage savings to find that the interests of the beneficiaries of new trust after the judicial modification will not differ materially from their interests in the subtrusts prior to the consolidation each beneficiary will continue to hold the same beneficial_interest as before the consolidation and under the same terms accordingly the consolidation of the subtrusts into new trust will not result in a material difference in_kind or extent of the legal entitlements and no gain_or_loss is recognized on the consolidation for purposes of sec_1001 because sec_1001 does not apply to the consolidation of new trust under sec_1015 the basis of the assets will be the same after the consolidation as the basis of those assets before consolidation beneficiaries after the judicial modification will not differ materially from their interests prior to the judicial modification because the act grants the trustees the power to administer the new trust in the same manner as proposed in the modifications the modifications are not treated as an exchange of interests by the beneficiaries or new trust except for the changes described above all other provisions of new trust will be identical to the trust accordingly the proposed judicial modification will not result in a material difference in_kind or extent of the legal entitlements enjoyed by the beneficiaries and no gain_or_loss is recognized for purposes of sec_1001 income gain_or_loss under sec_61 or sec_1001 by the trust the separate trusts new trust or any beneficiary of the separate trusts or new trust the proposed judicial modification of the trust and new trust will not cause there to be a disposition for purposes of sec_1001 and therefore no gain_or_loss is recognized on the consolidation the new trust consequently the proposed consolidation will not result in the realization of it is also consistent with cottage savings to find that the interests of the plr-101605-05 assets will have the same basis as held by the subtrusts prior to the consolidation ruling sec_1223 provides that in determining the period for which the taxpayer has held property however acquired there shall be included the period for which the property was held by any other person if under chapter of the code such property has for the purposes of determining gain_or_loss from a sale_or_exchange the same basis in whole or in part in the taxpayer’s hands as it would have in the hands of such other person assuming the assets transferred from subtrusts to new trust will have the same basis before and after the consolidation we conclude that the holding periods for the assets held by new trust will include the holding periods of those assets when held in subtrusts under sec_1223 ruling any taxable_year a small_business_corporation for which an election under sec_1362 is in effect for such year sec_1361 provides that the term s_corporation means with respect to sec_1361 defines a small_business_corporation as a domestic_corporation which is not an ineligible_corporation and which does not a have more than shareholders b have as a shareholder a person other than an estate a_trust described in sec_1361 c or an organization described in sec_1361 who is not an individual c have a nonresident_alien as a shareholder and d have more than one class of stock sec_1361 provides that an esbt as defined in sec_1361 is a permitted s_corporation shareholder sec_1361 provides that for purposes of sec_1361 and except as provided in sec_1361 the term esbt means any trust if i the trust does not have as a beneficiary any person other than an individual an estate or an organization described in sec_170 or ii no interest in the trust was acquired by purchase and iii an election under sec_1361 applies to the trust sec_1361 provides that the term electing_small_business_trust shall not include i any qualified_subchapter_s_trust as defined in subsection d if an election under subsection d applies to any corporation the stock of which is held by such trust ii any trust exempt from tax under this subtitle and iii any charitable_remainder_annuity_trust or charitable_remainder_unitrust as defined in sec_664 sec_1361 provides that such an election is to be made by the trustee and is to apply to the tax_year of the trust for which made and all subsequent tax years unless based solely on the information submitted and the representations made we plr-101605-05 revoked with the consent of the service conclude that after the proposed judicial modifications are adopted the modifications will not result in a change in the beneficiaries of the trusts or otherwise alter the qualification of new trust as an electing_small_business_trust esbt thus new trust will continue to satisfy the eligibility requirements of sec_1361 concerning the tax consequences of any aspect of any transaction or item discussed or referenced in this letter specifically no opinion is expressed concerning whether holding_company is eligible to be treated as an s_corporation or the validity of its election to do so except as expressly provided herein no opinion is expressed or implied this ruling is directed only to the taxpayers requesting it sec_6110 provides that it may not be used or cited as precedent in accordance with the power_of_attorney on file with this office a copy of this letter is being sent to your authorized representative enclosures copy for sec_6110 purposes sincerely george l masnik chief branch office of associate chief_counsel passthroughs special industries


internal_revenue_service index no number release date cc dom p si - plr-115347-98 date x y z a b c trust year year date date date date date date date x dear this letter is in response to your letter of date and previous correspondence submitted on behalf of a conservator of the estate of x requesting a ruling under sec_1014 of the internal_revenue_code the information submitted states that x and y were married in year during their marriage x and y acquired a significant amount of stock as of date a portion of x and y’s stock was held in a b account b account under x’s name approximately x of the stock held in the b account consisted of b stock b stock on date x and y executed a marital property declaration and agreement confirming that all property they held either separately or jointly was community_property on date the c county superior court determined that x was no longer competent to manage his personal needs and a temporary conservatorship for x was established y was appointed temporary conservator of x’s person early in year y was hospitalized on or about date y’s son z acting under a durable_power_of_attorney transferred half the stock in the b account including half the b stock to the trust this transfer was made without the written consent of x or of x’s court appointed conservator the instrument provides that assets transferred to the trust are y’s separate_property until this transfer the trust was unfunded on date the c county superior court determined that x was not competent to manage his assets and appointed a as permanent conservator of x’s estate on date y died on date the c county superior court determined that as of date the date of y’s death the property belonging to x and y including assets remaining in the b account and those transferred from this account to the trust constituted community_property therefore the c county superior court concluded that the transfer to the trust did not result in converting the assets to y’s separate_property a represents that at least one-half of the community_property interest in the b stock is includible in determining the value of y’s gross_estate sec_1014 of the code provides that the basis_of_property in the hands of a person acquiring the property from a decedent or to whom the property passed from a decedent will if not sold exchanged or otherwise_disposed_of before the decedent’s death by such person be the fair_market_value of the property at the date of the decedent’s death sec_1014 of the code provides that in the case of decedents dying after date the basis_of_property which represents the surviving spouse’s one-half share of community_property receives a basis equal to its fair_market_value at the date of the decedent’s death if at least one-half of the whole of the community interest in such property was includible in determining the value of the decedent’s gross_estate sec_852 of the family code provides that a transmutation of real or personal_property is not valid unless made in writing by an express declaration that is made joined in consented to or accepted by the spouse whose interest in the property is adversely affected based solely on the facts and the representations submitted that the b stock was community_property of x and y we conclude that the basis of the b stock including x’s one-half community_property share of it is its fair_market_value as of y’s death except as specifically set forth above no opinion is expressed concerning the federal tax consequences of the facts described under any other provision of the code in particular no opinion is expressed regarding the fair_market_value of the b stock at the time of y’s death additionally if the c county superior court’s order of date with regard to the community_property status of the b stock should be reversed or in any manner ceases to be in effect then this ruling shall be null and void this ruling is directed only to the taxpayer who requested it sec_6110 of the code provides that it may not be used or cited as precedent pursuant to the power_of_attorney on file with this office a copy of this letter is being sent to a sincerely yours j thomas hines senior technician reviewer branch office of the assistant chief_counsel passthroughs and special industries enclosures copy of this letter copy for sec_6110 purposes


t c memo united_states tax_court chester f and faye l sidell petitioners v commissioner of internal revenue respondent docket no filed date respondent recharacterized the income petitioner husband received from the rental of property to his wholly owned c_corporation from passive to nonpasssive pursuant to the attribution rule_of sec_1_469-4 income_tax regs and the so-called self-rented property rule contained in sec_1_469-2 income_tax regs as a consequence of this recharacterization petitioners were able neither to reduce such rental income by losses from other rental properties nor to use certain rehabilitation credits held pursuant to sec_469 i r c the secretary properly promulgated the attribution and self-rented property rules the self-rented property rule by virtue of the attribution rule is valid insofar as it recharacterizes rental income received by a david r andelman and juliette galicia pico controlling shareholder from a c_corporation from passive to nonpassive see 111_tc_215 held further the transitional relief provided in sec_1_469-11 income_tax regs is of no benefit to petitioners in determining their and tax_liability because sec_1_469-4 proposed income_tax regs fed reg date ps- 1992_1_cb_1219 is silent as to whether the activities of a c_corporation are or are not attributable to the corporation's shareholder held further respondent properly disallowed rehabilitation credits claimed by petitioners for and because once their net rental income for those years is recharacterized as nonpassive the limitation on passive_activity credits mechanically disallows the claimed credits for petitioners mary p hamilton david n brodsky and maura a sullivan for respondent jacobs judge respondent determined deficiencies accuracy-related_penalty under sec_6662 a memorandum findings_of_fact and opinion petitioners' federal income taxes as follows year penalty deficiency sec_6662 a dollar_figure --- big_number dollar_figure and an with respect to the deficiencies stem from respondent's recharacterizing the income chester f sidell mr sidell received from the rental of properties to his wholly owned c_corporation from passive to nonpasssive respondent now concedes the accuracy-related_penalty under sec_6662 for the issues for decision are whether respondent's recharacterization of the rental income mr sidell received from his wholly owned c_corporation was proper and if so whether respondent properly disallowed the rehabilitation credits petitioners claimed for those years all section references are to the internal_revenue_code as in effect for the years in issue findings_of_fact some of the facts have been stipulated and are so found the stipulation of facts and the exhibits submitted therewith are incorporated herein by this reference petitioners husband and wife resided in framingham massachusetts at the time they filed their petition contesting respondent's determinations for both years in issue petitioners filed joint federal_income_tax returns acquisition of rental properties mr sidell was the sole beneficiary of five trusts the manche realty trust cfs realty trust fls realty trust ghs realty trust and rms realty trust all five trusts are nominee trusts under massachusetts law and constitute grantor trusts for federal_income_tax purposes all income deductions and credits of these trusts were reported as pass-through items on petitioners' and federal_income_tax returns on date manche realty trust acquired title to the land and building known as the everett mill cotton weaving house the everett mill property located pincite canal street lawrence massachusetts the everett mill property is located in a national register historical district immediately after its purchase in the everett mill property was leased to kgr inc kgr mr sidell's wholly owned corporation at the time of its acquisition the everett mill property was in poor condition on date mr sidell executed an agreement for the acquisition of the land and building known as kunhardt mill located pincite island street lawrence massachusetts the kunhardt mill property is a historic mill dating back to the late 1800's and is located across the street from the everett mill property in the same national register historical district on date cfs realty trust rather than mr sidell took title to the kunhardt mill property at the time of its acquisition the kunhardt mill property needed substantial repair after its acquisition the kunhardt mill property was leased to kgr the property was subsequently renovated and thereafter used as kgr's corporate headquarters on date fls realty trust acquired the land and building located at canal mill and methuen streets lawrence massachusetts the fls realty trust property this property was subsequently leased to kgr to alleviate a parking shortage around kgr's offices on date and date respectively ges realty trust and rms realty trust acquired properties located near the everett mill kunhardt mill and fls realty trust properties these properties were acquired in anticipation of future expansion of kgr's business they were not rented to kgr during the years in issue kgr kgr incorporated in massachusetts has its principal_place_of_business in lawrence massachusetts for federal_income_tax purposes it is a subchapter_c_corporation kgr is engaged in the business of manufacturing women's and children's apparel under private labels for such customers as nordstrom talbots and dillards during the years in issue petitioner was the president treasurer and sole director of kgr with the exception of its retail sales operation which was managed by mrs sidell mr sidell managed every facet of kgr's day-to-day activities rehabilitation of everett mill kunhardt mill properties on date mr sidell submitted a historical preservation application to the u s department of the interior requesting certification that the everett mill property was a certified_historic_structure certification was subsequently granted by the national park service park service thereafter in and substantial rehabilitation repairs and modifications were made to the everett mill property petitioners claimed rehabilitation credits for the rehabilitation_expenditures in and the rehabilitation credits for these years were allowed and are not at issue in this case seeking similar tax treatment for the kunhardt mill property and concurrently with its acquisition mr sidell on behalf of cfs realty trust instituted a major rehabilitation project with respect to the property after repairs and renovations had begun on the kunhardt mill property mr sidell submitted a historic preservation certification application on date to the u s department of the interior seeking a determination that the work previously done on the property conformed with its standards for rehabilitation after mr sidell completed the rehabilitation project the park service preliminarily determined that the work performed on the kunhardt mill property was eligible for certified_rehabilitation status subsequently on date mr sidell submitted a historic preservation certification application request for certification of completed work to the park service rehabilitation costs totaling dollar_figure in and dollar_figure in were incurred with regard to the rehabilitated kunhardt mill property ’ an additional dollar_figure was incurred in related costs associated with obtaining qualified_rehabilitation status petitioners' and federal_income_tax returns petitioners timely filed their and federal_income_tax returns on their returns petitioners reported the following net rental income_property net rental income loss manche everett mill property dollar_figure dollar_figure cfs kunhardt mill property big_number big_number fls property big_number big_number ges property big_number big_number rms property n a big_number rental activities with net_income big_number big_number rental activities with net_loss big_number big_number net rental income big_number big_number petitioners also claimed rehabilitation credits of dollar_figure in and dollar_figure in with regard to the kunhardt mill property renovations the record does not enable us to account for the discrepancy between the stipulated amounts of rehabilitation costs for dollar_figure and dollar_figure and the amounts reflected on petitioners' federal tax returns for dollar_figure and dollar_figure notice_of_deficiency in the notice_of_deficiency dated date respondent recharacterized the positive income from the everett mill and kunhardt mill properties and the positive income from the everett mill and fls realty trust properties from passive to nonpasssive pursuant to sec_1_469-2 income_tax regs the recharacterization resulted in petitioners' and taxable_income being increased by dollar_figure and dollar_figure respectively in addition as a consequence of respondent's recharacterization respondent determined that petitioners' regular_tax_liability allocable to all passive activities for and was insufficient to enable them to use the rehabilitation credits claimed for those years see sec_469 opinion central to the dispute in this case is the validity of the so- called self-rented property rule contained in sec_1 f income_tax regs which provides property rented to a nonpassive activity ---an amount of the taxpayer's gross rental_activity income for the taxable_year from an item of property equal to the net rental_activity income for the year from that item of property is treated as not from a passive_activity if the property-- is rented for use in a trade_or_business activity in which the taxpayer materially participates for the taxable_year pursuant to this rule and by virtue of the attribution rule_of sec_1_469-4 income_tax regs respondent recharacterized the rental income mr sidell received in and from the three properties leased to his wholly owned c_corporation from passive to nonpasssive as a conseguence of this recharacterization petitioners were neither able to reduce such rental income by the losses from other rental properties nor able to utilize certain rehabilitation credits sec_469 and the self-rented property rule pursuant to sec_469 in general a taxpayer is denied both a passive_activity_loss and a passive_activity_credit for the taxable_year in which they arise a passive_activity_loss is defined as the amount by which the aggregate losses from all passive activities exceeds the aggregate income from all passive activities for such years see sec_469 likewise a passive_activity_credit is defined as the amount by which the sum of all allowable credits from passive activities exceeds the regular_tax_liability of the taxpayer allocable to all passive activities see sec_469 sec_469 specifically excludes certain transactions and sec_1_469-4 income_tax regs provides among other things that for grouping a taxpayer's trade_or_business activities and rental activities for purposes of applying the passive_activity_loss and credit limitations rules of sec_469 a taxpayer's activities include those conducted through c corporations that are subject_to sec_469 activities from its purview where a taxpayer materially participates in a trade_or_business the activity is excluded from being classified as passive sec_469 ultimately neither a passive_activity_loss nor a passive_activity_credit is permanently disallowed rather they are suspended until the taxpayer either has offsetting passive_income or disposes of his entire_interest in the passive_activity see sec_469 g the passive_activity rules reflect congress' concern over the widespread use of tax_shelters that allowed taxpayers to avoid paying tax on unrelated income see 105_tc_227 in large part sec_469 was intended to restore public confidence in the federal tax system by limiting the ability of taxpayers to derive tax_preferences from activities in which they did not have a substantial and bona _ fide involvement 32_fedclaims_736 see s rept pincite 1986_3_cb_1 see also 110_tc_46 as noted previously pursuant to sec_469 passive losses are allowed only to the extent of passive_income congress gave the secretary broad authority to promulgate rules and regulations under sec_469 see 111_tc_215 wherein this court held that neither the in 111_tc_215 the continued recharacterization rule_of sec_1_469-2 income_tax regs nor the attribution rule_of sec_1_469-4 income_tax regs is invalid because of an alleged failure to comply with the procedural notice and comment requirements of the administrative_procedure_act u s c sec_553 and c with respect to sec_1_469-4 income_tax regs it was envisioned that by promulgating regulations regarding related_party leases or sub-leases the secretary would be acting consistently with sec_469 see fransen v united_states aftr 2d ustc par e d la quoting h conf rept vol ii at ii-146 1986_3_cb_1 the court in fransen in granting summary_judgment for the government upheld the commissioner's determination that rental income received by the taxpayer husband an attorney from his continued taxpayer husband dr schwalbach practiced dentistry and was employed by a personal_service_corporation associated dentists he owned equally with another dentist dr schwalbach owned a building that he rented to associated dentists for use in its dentistry practice the taxpayers reported dollar_figure in as the net_income from the rental of the building to associated dentists the taxpayers attempted to offset this income with certain losses derived from unrelated activities namely a a rental loss from a commercial building apparently rented to an unrelated tenant b a passive loss from an investment in an s_corporation unrelated to the dentistry practice and c a passive loss from an investment in a partnership also unrelated to the dentistry practice in the aggregate the losses claimed totaled dollar_figure the commissioner applied the self-rented property rule and thereby disallowed the losses we sustained the commissioner's determination wholly owned personal service c_corporation had to be recharacterized as nonpassive because the building was rented to a trade_or_business in which the taxpayer materially participated ’ in doing so the court upheld the validity of the self-rented property rule citing the following portion of the preamble to sec_1_469-2t temporary income_tax regs fed reg date in the absence of regulations a taxpayer could derive passive_activity_gross_income from an active business in which tangible_property is used by renting the property to an entity conducting the activity or by causing an entity holding the property to rent the in fransen v united_states aftr 2d ustc par be d la the taxpayer husband was the sole shareholder of fransen hardin a personal_service_corporation the taxpayers leased a building in which each had an undivided one-half interest to fransen hardin the taxpayers reported dollar_figure of net rental income which they sought to offset with passive_activity_losses from other activities in the aggregate amount of dollar_figure the taxpayers argued that sec_1_469-2 income_tax regs flatly contradicts the plain language of the statute it purports to enforce the statute deems rental_activity income passive with a minor exception and the regulation's allowance of recharacterization of that income as non-passsive renders the regulation invalid we note that the preamble further states the conference_report accompanying the act states that it would be appropriate for the service to exercise its regulatory authority under sec_469 in the case of related_party leases or sub-leases with respect to property used ina business activity that have the effect of reducing active business income and creating passive_income h conf rept 99th cong 2d sess vol ii pincite fed reg date property to the taxpayer it would be inconsistent with the purposes of sec_469 to treat rental income as passive_activity_gross_income in such cases in successive attempts to define the scope of the self-rented property rule numerous sets of regulations were promulgated in both sets of temporary regulations promulgated on date and date respectively activities conducted through a c_corporation were excluded from being attributed to the taxpayer shareholder for purposes of determining material_participation see sec_1_469-5t temporary income_tax regs fed reg date t d 1988_1_cb_191 sec_1_469-4t b temporary income_tax regs fed reg date t d 1989_1_cb_121 pursuant to the sunset provisions of sec_7805 ’ the second set of temporary regulations sec_1 at b b expired on date on date sec_1_469-4 proposed income_tax regs fed reg date ps-1-89 1992_1_cb_6 proposed_regulations adopting the definition of activity for purposes of applying the limitations on passive_activity_losses and passive_activity credits as set forth in the second set of temporary regulations were issued concurrently e date with the promulgation of the second set of temporary regulations see ps--001-89 fed reg date 1989_1_cb_1057 sec_7805 provides any temporary_regulation shall expire within years after the date_of_issuance of such regulation was promulgated in the text of these proposed_regulations the secretary removed the explicit statement prohibiting attribution from a c_corporation to the corporation's shareholders no further specific guidance as to the secretary's ultimate position on this subject matter was then provided however the preamble to the regulation stated that the proposed regulation propose to replace sec_1_469-4t with a new sec_1_469-4 which will provide a modified definition of the term activity id pincite2 in the proposed_regulations issued in were replaced by the final version of sec_1_469-4 income_tax regs which included the following sentence a taxpayer's activities include those conducted through c corporations that are subject_to sec_469 s_corporations and partnerships sec_1_469-4 income_tax regs this represented a reversal of the secretary's position enunciated in the temporary regulations published in it is worth noting that the preamble to the final regulations stated a commentator requested clarification on whether activities conducted through a c_corporation may be grouped with activities not conducted through the c_corporation the final regulations clarify that in determining whether a taxpayer materially or significantly participates in an activity a taxpayer may group that activity with activities conducted through c corporations that are subject_to sec_469 that is personal service and closely held c corporations fed reg date t d c b pincite see schwalbach v commissioner supra pincite the final regulations were generally made effective for taxable years beginning after date see sec_1 a income_tax regs however sec_1_469-11 income_tax regs provides transitional relief for taxable years that end after date and begin before date under the transitional rules taxpayers are allowed to determine their tax_liability in accordance with the proposed_regulations promulgated in see sec_1_469-11 income_tax regs positions of the parties the parties disagree as to the proper characterization of the rental income from the everett mill kunhardt mill and fls realty trust properties petitioners seek to have the income mr sidell received in and from the rental of these properties characterized as income from a passsive activity in order to use passive losses from the rental of other properties and rehabilitation credits claimed on their and returns with respect to renovations made to the kunhardt mill property respondent relies on the self-rented property rule contained in sec_1_469-2 income_tax regs to support his characterization of the rental income from these properties as nonpasssive or active income respondent maintains that pursuant to sec_469 the secretary had the authority to prescribe regulations necessary or appropriate to carry out the provisions of sec_469 including regulations requiring net_income or gain from a limited_partnership or other passive_activity to be treated as not from a passsive activity see sec_469 continuing respondent posits that pursuant to that authority the secretary properly promulgated the self-rented property rule which recharacterizes rental income as nonpassive or active income when a taxpayer rents property to an activity in which the taxpayer materially participates petitioners challenge respondent's determinations making three arguments first petitioners assert that sec_1 f income_tax regs is invalid insofar as it recharacterizes rental income received from a c_corporation from passive to nonpassive hereinafter this argument is referred to as petitioners' validity argument petitioners maintain that in order for the self-rented property rule to apply the property must be rented for use ina trade_or_business activity in which the taxpayer materially participates and the activities of a c_corporation cannot be attributed to a taxpayer shareholder in determining whether that taxpayer has materially participated in the corporation's business activity according to petitioners application of sec_1_469-2 income_tax regs to ac corporation is contrary to the plain language origin and purpose of the passive_activity rules second petitioners argue that even if the application of the self-rented rule to a closely_held_c_corporation is deemed valid attribution recharacterization cannot apply to any taxable_year beginning before date when the final regulations discussed infra were adopted thus petitioners contend that they may determine their and tax_liability under the proposed_regulations promulgated in sec_1_469-4 proposed income_tax regs fed reg date ps-1-89 c b thereby avoiding the self-rented property rule and rendering the rental income in question as passive hereinafter this argument is referred to as petitioners' proposed_regulations argument respondent acknowledges that under the transitional relief provided in sec_1_469-11 income_tax regs taxpayers are permitted to determine their tax_liability in accordance with the proposed_regulations for taxable years ending after date and beginning before date nevertheless respondent asserts that under those proposed_regulations petitioners’ and tax_liability would be the same as under the final regulations because under the proposed_regulations a c corporation's activities would be attributed to its shareholders resulting in the rental income in question being characterized as nonpassive finally petitioners assert that assuming arguendo the rental income from the everett mill kunhardt mill and fls realty trust properties is properly recharacterized as nonpasssive or active income under sec_1_469-2 income_tax regs nonetheless respondent was without authority to disallow the claimed rehabilitation_credit hereinafter this argument is referred to as petitioners' credit argument according to petitioners denial of the rehabilitation_credit defeats the express legislative policy goal underlying the enactment of sec_47 namely to preserve historic landmarks and to provide an economic stimulus to areas susceptible to abandonment petitioners maintain a distinction between recharacterizing income on the one hand and recharacterizing the underlying activity on the other in this regard petitioners contend that sec_1_469-2 income_tax regs authorizes respondent only to recharacterize income not to disallow the sec_47 credit respondent counters by asserting that once petitioners' net rental income is recharacterized as nonpassive the limitation on passive_activity credits rather than sec_1_469-2 f income_tax regs mechanically disallows the rehabilitation_credit standard of review of sec_1_469-2 income_tax regs petitioners invite us to invalidate a portion of a regulation sec_1 f income_tax regs this we do only in the gravest of circumstances a regulation must be sustained unless unreasonable plainly inconsistent with the internal_revenue_code arbitrary or capricious see 333_us_496 103_tc_656 revd on other grounds 87_f3d_99 3d cir jablonski v commissioner tcmemo_1998_396 ultimately the validity of a regulation is determined by its reasonableness and whether it harmonizes with the plain language of the statute its origin and its purpose see 440_us_472 106_tc_1 87_tc_261 the starting point in determining the deference given to a regulation is whether the regulation is legislative or interpretive in nature see mordkin v commissioner tcmemo_1996_187 citing 911_f2d_1128 5th cir affg in part and revg in part 92_tc_1276 a legislative_regulation is one that is issued under a specific grant of authority to define a term or prescribe a method of executing a statutory provision see id an interpretive regulation is one that is promulgated under the general authority of sec_7805 see id congress authorized the secretary to promulgate such regulations as may be necessary or appropriate to carry out provisions of sec_469 which specify what constitutes an activity material_participation or active_participation for purposes of sec_469 and requiring net_income or gain from a limited_partnership or other passive_activity to be treated as not from a passive_activity sec_469 emphasis added this court has already determined that sec_1_469-2 income_tax regs is a legislative_regulation promulgated under sec_469 see schwalbach v commissioner t c pincite- accordingly we give that regulation the highest level of judicial deference see 467_us_837 fransen v united_states aftr 2d ustc par e d la schwalbach vv commissioner supra jablonski vv commissioner supra analysis of parties' arguments petitioners maintain in their validity argument that the self- rented property rule cannot apply to reclassify their rental income as mnonpassive because kgr's business activities cannot be attributed to mr sidell for purposes of determining material_participation we disagree mr sidell's transaction with kgr is the epitome of a self-renting transaction mr sidell is the sole shareholder of kgr and manages its operations in various capacities at the same time that mr sidell materially petitioners acknowledge that mr sidell materially participated in kgr however they argue that there is a distinction between materially participating in kgr and materially participating in the activities of kgr petitioners cite no authority to support this distinction regardless of any continued participated in kgr's operations through his grantor trusts he rented several pieces of real_property to kgr kgr used the leased property in conducting its apparel business by being in effect both the lessor and lessee of the properties in question mr sidell established the amounts of rent and unless the resulting rental income is deemed nonpassive he could have used all of his passive losses to offset that income moreover there is ample legislative_history and proper delegation under sec_469 supporting respondent's attribution of kgr'ss activities to mr sidell specifically congress authorized the secretary to promulgate regulations that specify what constitutes an activity and what constitutes material_participation further congress permitted the secretary to promulgate regulations that permitted recharacterization of net_income or gain from a limited_partnership or other passive_activity as being not from a passsive activity sec_469 we believe other passive_activity encompasses activities of ac corporation engaged in a trade_or_business continued distinction mr sidell's day-to-day management of kgr's only line_of_business would constitute material_participation in all the activities of kgr which consequently would trigger the self- rented property rule see sec_1_469-5t temporary income_tax regs fed reg date t d 1988_1_cb_191 in enacting sec_469 congress was specifically concerned with both related_party leases and the possibility of abuse by the formation of closely held corporations see eg sec_469 s rept pincite 1986_3_cb_1 h conf rept vol ii at ii-147 1986_3_cb_1 fed reg feb on brief petitioners assert that no potential for abuse exists in this case because they own no tax_shelters they claim that their lawrence massachussetts properties are the only rental properties they have and that these properties are either contiguous to or located across the street from each other moreover petitioners maintain that ownership of the real properties was separated from the business of kgr for valid business reasons--to insulate the properties from potential liabilities arising from the operation of kgr's business and to insulate kgr from potential liabilities arising from the ownership of the property in addressing these assertions respondent states on brief the petitioners' assertion that no abuse potential is present in the present case because they own no tax_shelters begs the guestion furthermore the unguestioned legitimate business needs that prompted the purchases of the various properties that caused petitioners to incur losses do not mean that the petitioners’ case is not the sort against which the strictures of sec_469 should be aimed the self-rental_rule as a matter of administrative convenience is a bright line rule the rule does not look to a taxpayer's motives in structuring transactions we are persuaded by respondent's responses to petitioners' assertions consequently we conclude that the self-rented property rule in sec_1_469-2 income_tax regs is valid pursuant to the secretary's delegated regulation-making authority we now turn our attention to petitioners' proposed regulation argument the taxpayers in connor v commissioner tcmemo_1999_185 advanced a similar argument ’ we rejected the taxpayers' argument in that case and for the reasons expressed both therein and hereinafter do so in this case as in connor petitioners herein assert that the proposed_regulations promulgated in did not specifically disavow the provisions in the temporary regulations issued in which provided that a taxpayer's activities do not include operations in connor v commissioner tcmemo_1999_185 the taxpayer husband practiced dentistry and was employed by a professional_service_corporation in which he was a shareholder until date the corporation was known as michael f connor d d s s c after that date the corporation was known as drs connor mckeever s c the professional_service_corporation leased the building the rochester street building in which it conducted its business activities from taxpayer wife the taxpayers reported net_income from the rental of the rochester street building as dollar_figure and dollar_figure in and respectively they reported losses from the rental of another property and losses from a partnership which they used to offset the rental income from the rochester street building the commissioner determined that the rental profits from the rochester street building constituted nonpassive_income and consequently could not be used to offset the taxpayers' passive losses we sustained the commissioner's determination that a taxpayer conducts through one or more entities other than wi10 pass through entities sec_1_469-4t b temporary income_tax regs fed reg date accordingly petitioners maintain it is abundantly clear that proposed regulation sec_1_469-4 was not intended to and in fact did not change the rule from the temporary regulations that a taxpayer's activities did not include those conducted through a c_corporation consequently it is clear that under proposed regulation sec_1_469-4 the self rented property rule does not apply to the rental of property to a c_corporation petitioners' proposed regulation argument is founded upon the transitional relief set forth in sec_1_469-11 income_tax regs which as applicable herein permits petitioners to determine their tax_liability for and using the rules set forth in the proposed_regulations promulgated in rather than the final regulations as previously stated these proposed at trial petitioners introduced over respondent's objection a multitude of internal_revenue_service internal documents and memoranda purporting to show intent on the part of the drafters of sec_1_469-4 proposed income_tax regs fed reg date to maintain the exclusion on attribution of activities from c corporations we find these documents to be of little probative value inasmuch as they do not state the final position of either the commissioner or the secretary see connecticut gen life ins co v commissioner t cc affd 177_f3d_136 3d cir normally such internal memoranda are not binding on the secretary and cannot be used to determine intent see id pincite observing that material from administrative work files generally reflects only personal views of various government representatives not official statements of the commissioner or the secretary 87_tc_865 regulations are silent as to whether the activities of a cc corporation are attributable to the corporation's shareholders contrary to petitioners' assertion the silence of the proposed_regulations on this subject cannot be equated to providing petitioners with relief from the attribution_rules set forth in the final regulations simply put the proposed regulations' silence means nothing not something moreover the rule_of nonattribution set forth in the temporary regulations issued in is not relevant because the relief afforded petitioners under the transitional rules is based solely on the rules set forth in the proposed_regulations of not in the temporary regulations we are mindful that the proposed_regulations eliminated the specific statement found in sec_1_469-4t b temporary income_tax regs fed reg date t d 1989_1_cb_121 the second set of temporary regulations which stated for purposes of applying sec_469 and the regulations thereunder a taxpayer's activities do not include operations that the taxpayer conducts through one or more entities other than passthrough entities the preamble to the proposed_regulations states this document proposes to replace sec_1_469-4t with a new sec_1_469-4 which will provide a modified definition of the term activity and the preamble to the final regulations fed reg date t d 1994_2_cb_81 states the final regulations clarify that in determining whether a taxpayer materially or significantly participates in an activity a taxpayer may group that activity with activities conducted through c corporations that are subject_to sec_469 that is personal service and closely held c corporations emphasis added it is inferable from the elimination of the aforementioned statement in the temporary regulations of and the preamble to the proposed_regulations of that the secretary did not intend in those proposed_regulations to adhere to the position previously taken in the temporary regulations as we noted in schwalbach v commissioner supra there is nothing in the proposed_regulations that would lead us to believe that the secretary was proposing to retain the rule set forth in the temporary regulations that the activities of a c_corporation are not to be attributable to the corporation's shareholders see schwalbach v commissioner t c pincite because the proposed_regulations are silent as to whether the activities of a c_corporation are or are not attributable to the corporation's shareholders the proposed_regulations are of no benefit to petitioners in determining their and tax_liability finally we turn our attention to petitioners' credit argument a passive_activity_credit is defined as the amount by which the sum of the credits from all passive activities allowable for the taxable_year under subpart d of part iv of subchapter_a exceeds the regular_tax_liability of the taxpayer for the taxable_year allocable to all passive activities sec_469 emphasis added the rehabilitation_credit is a credit allowable under subpart d of part iv of subchapter_a see sec_46 sec_38 in determining the existence and amount of a passive_activity_credit the regular_tax_liability allocable to all passive activities must be ascertained the regular_tax_liability allocable to passive activities is defined in sec_1_469-3t temporary income_tax regs fed reg date as follows d regular_tax_liability allocable to passive activities--- in general ----for purposes of paragraph a of this section the taxpayer's regular_tax_liability allocable to all passive activities for the taxable_year is the excess if any of -- the taxpayer's regular_tax_liability for such taxable_year over the amount of such regular_tax_liability determined by reducing the taxpayer's taxable_income for such year by the excess if any of the taxpayer's passive_activity_gross_income for such year over the taxpayer's passive_activity deductions for such year thus in order to utilize a tax_credit allocated to a passive_activity a taxpayer must have passive_income in excess of passive deductions see sec_1_469-3t examples and temporary income_tax regs fed reg date because petitioners’ net rental income has been recharacterized as nonpassive for and petitioners have no passive_income without passive_income petitioners have no regular_tax_liability allocable to passive activities any rehabilitation_credit would be in excess of such regular_tax_liability accordingly we hold that respondent properly disallowed the rehabilitation_credit for the years in issue in reaching our conclusions herein we have considered all other arguments presented and to the extent not discussed above find them to be irrelevant or without merit to reflect the foregoing and respondent's concession decision with respect to the deficiencies for and will be entered for respondent decision with respect to the accuracy-related_penalty under sec_6662 a with respect to will be entered for petitioners


t c summary opinion united_states tax_court jean erick fortius petitioner v commissioner of internal revenue respondent docket no 23746-05s filed date jean erick fortius pro_se laura a price for respondent panuthos chief special_trial_judge this case was heard pursuant to the provisions of sec_7463 of the internal_revenue_code in effect at the time the petition was filed the decision to be entered is not reviewable by any other court and this opinion should not be cited as authority unless otherwise indicated subsequent section references are to the internal_revenue_code in effect for the year in issue and all rule references are to the tax_court rules_of_practice and procedure respondent determined a dollar_figure deficiency in petitioner’ sec_2002 federal_income_tax and a dollar_figure addition_to_tax under sec_6651 the issues for decision are whether petitioner qualifies as a head_of_household whether petitioner is entitled to an earned_income_credit whether petitioner can deduct dollar_figure for business-related expenses and whether petitioner is liable for an addition_to_tax under sec_6651 for failure_to_file a timely tax_return background some of the facts have been stipulated and are so found the stipulation of facts and the attached exhibits are incorporated herein by this reference at the time the petition was filed petitioner resided in orlando florida petitioner lived in massachusetts in with his wife and son petitioner worked as a taxi cab driver that year and leased a cab from a company in boston petitioner was responsible for purchasing gasoline for the cab petitioner and his wife did not file a joint federal_income_tax return petitioner instead filed as a head_of_household and claimed an earned_income_credit with respect to his son petitioner reported the income and expenses related to the taxi cab on schedule c profit or loss from business adjustments not addressed in this opinion are computational petitioner claimed a total of dollar_figure of expenses on schedule c petitioner filed hi sec_2002 return on date respondent issued petitioner a notice_of_deficiency in date denying the claimed credit and deductions respondent also changed petitioner’s filing_status to married_filing_separately and determined a late-filing addition_to_tax petitioner filed a timely petition with the court discussion in general the commissioner’s determinations set forth in a notice_of_deficiency are presumed correct and the taxpayer bears the burden of showing that the determinations are in error rule a 290_us_111 pursuant to sec_7491 the burden_of_proof as to factual matters shifts to the commissioner under certain circumstances petitioner has neither alleged that sec_7491 applies nor established his compliance with the requirements of sec_7491 and b to substantiate items maintain records and cooperate fully with respondent’s reasonable requests petitioner therefore bears the burden_of_proof head_of_household sec_1 imposes a special income_tax rate on a taxpayer filing as head_of_household an individual shall be considered a head_of_household if inter alia he is not married at the close of the taxable_year sec_2 because petitioner was married at the close of he is not considered a head_of_household respondent’s determination on this issue is sustained earned_income_credit an eligible_individual may be allowed a credit which is calculated as a percentage of the individual’s earned_income sec_32 in the case of an individual who is married the earned_income_credit is allowed only if a joint_return is filed for the taxable_year under sec_6013 sec_32 as mentioned above petitioner did not file a joint_return for sec_6013 provides generally that where a taxpayer has filed a separate_return for a taxable_year and the time prescribed for filing has expired the taxpayer nevertheless may make a joint_return with his spouse petitioner and his wife have not attempted to file a joint_return however and the election under sec_6013 cannot be made after either spouse timely petitions the court in response to a notice_of_deficiency for the year in issue sec_6013 91_tc_926 respondent’s determination on this issue is sustained schedule c deductions a taxpayer who is carrying_on_a_trade_or_business generally may deduct ordinary and necessary expenses paid_or_incurred in connection with the operation of the business sec_162 110_tc_402 deductions are a matter of legislative grace and the taxpayer bears the burden of proving that he is entitled to any deduction claimed rule a 292_us_435 the taxpayer is required to maintain records that are sufficient to enable the commissioner to determine his correct_tax liability see sec_6001 sec_1_6001-1 income_tax regs at trial petitioner asserted that he incurred the following expenses in connection with driving a taxi cab dollar_figure for leasing the cab dollar_figure for gasoline and dollar_figure for cleaning and washing the cab petitioner credibly testified that he leased a cab for an average of or days a week at a cost of dollar_figure to dollar_figure a day petitioner also testified that he paid for gasoline for each day he drove petitioner used cash to pay the lease and to purchase gasoline respondent disallowed the claimed expenses because of petitioner’s failure to maintain records in accordance with as mentioned above petitioner claimed dollar_figure of expenses on schedule c this amount represents dollar_figure of leasing expense and dollar_figure of bad_debt expense a notation on schedule c suggests that petitioner may have intended to claim the dollar_figure as car and truck expense in any event petitioner offered no testimony with respect to the claimed deduction for dollar_figure and we therefore consider that petitioner has conceded this amount of the adjustment see 117_tc_117 n petitioner did not claim any amount for gasoline or cleaning and washing expenses on schedule c sec_6001 respondent acknowledges however that petitioner drove a taxi cab during the year in issue and incurred some amount of expenses where a taxpayer establishes that he incurred a business_expense but cannot prove the amount of the expense the court may approximate the amount allowable bearing heavily against the taxpayer whose inexactitude is of his own making 39_f2d_540 2d cir king v commissioner tcmemo_2006_112 to apply the cohan_rule the court must have a reasonable basis for estimating the amount of the expense 85_tc_731 keenan v commissioner tcmemo_2006_45 based on petitioner’s credible testimony and respondent’s acknowledgment that petitioner incurred expenses we conclude it is appropriate to apply the cohan_rule we conclude that in petitioner leased a cab days a week for weeks at a cost of dollar_figure a day for a total of dollar_figure we also conclude that petitioner spent dollar_figure on gasoline for the year representing an the rule announced in 39_f2d_540 2d cir does not apply to expenses relating to listed_property which generally includes any passenger_automobile sec_274 sec_280f 50_tc_823 affd per curiam 412_f2d_201 2d cir seidel v commissioner tcmemo_2005_67 however the term passenger_automobile does not include any vehicle used by the taxpayer directly in the trade_or_business of transporting persons for compensation or hire sec_280f sec_1_280f-6 income_tax regs the cab that petitioner leased therefore is not listed_property average of dollar_figure a day petitioner offered no testimony or other evidence with respect to cleaning and washing expenses petitioner therefore is not entitled to a deduction for this item see vanicek v commissioner supra respondent’s determination on this issue is modified to the extent that petitioner is entitled to a deduction of dollar_figure addition_to_tax under sec_6651 if a tax_return is not timely filed an addition_to_tax will be assessed unless it is shown that such failure is due to reasonable_cause and not due to willful neglect sec_6651 the commissioner has the burden of production with respect to the liability of any individual for an addition_to_tax under sec_6651 sec_7491 the burden of showing reasonable_cause under sec_6651 remains on the taxpayer 116_tc_438 the parties stipulated that petitioner filed hi sec_2002 tax_return on date respondent therefore has met his burden of production at trial petitioner offered no testimony with respect to this issue accordingly respondent’s determination is sustained reviewed and adopted as the report of the small_tax_case division to reflect the foregoing decision will be entered under rule


internal_revenue_service number release date index number ---------------------- --------------- ------------------------- ----------------- ----------- ------------- in re --------------- department of the treasury washington dc person to contact -------------------- id no ------------- telephone number --------------------- refer reply to cc intl br1 - plr-112401-04 date september --------------- ------------------------- --------- this responds to a letter from employer’s authorized representative dated a in legend employer date a country a dear ------------------- which employer requests a ruling that salaries wages and similar remuneration paid to employees of employer an agency of the government of country a are exempt from u s taxation under the income_tax treaty between the united_states and country a representations submitted by employer and accompanied by a penalty of perjury statement executed by an appropriate party while this office has not verified any of the material submitted in support of the request_for_ruling it is subject_to verification on examination and trade matters and also encourages foreign enterprises to invest in country a nearly all of the funding received by employer is from the government of country a visas as nondiplomatic representatives of the government of country a they are not citizens of the united_states and do not have immigrant status in the united_states employer provides policy advice to the government of country a on enterprise certain employees of employer are based in the united_states and hold a-2 the rulings contained in this letter are based upon information and the government service article of the income_tax treaty between the united employer represents that its employees are not citizens of the united_states and plr-112401-04 their u s resident status if applicable arose solely for the purpose of rendering services to employer or other agencies of the government of country a states and country a generally provides that salaries wages and similar remuneration paid_by a state to an individual for services rendered to that state are taxable only in that state the income is taxable only in the other state where the services were performed however if the individual is a citizen and resident of the other state or if the individual is a resident of the other state and did not become a resident of the other state solely for the purpose of rendering the services to the first state the income may be taxable by the other state if the services are rendered in connection with a business carried on by the first state were not residents of the united_states prior to their employment by employer in the united_states employer also represents that its activities are of a governmental nature and that it is not carrying on a business based on the representations made we conclude that the salaries wages and similar remuneration paid to the employees of employer are exempt from u s taxation under the government service article of the income_tax treaty between the united_states and country a concerning the tax consequences of any aspect of any transaction or item discussed or referenced in this letter the code provides that it may not be used or cited as precedent letter is being sent to employer’s representative this ruling is directed only to the taxpayer requesting it sec_6110 of in accordance with the power_of_attorney on file with this office a copy of this except as expressly provided herein no opinion is expressed or implied sincerely m grace fleeman senior counsel office of associate chief_counsel international


department of the treasury employer_identification_number contact person - id number contact telephone number uil internal_revenue_service p o box cincinnati oh number release date date date legend w quantity x quantity y dollars amount dear you asked for advance approval of your scholarship grant procedures under sec_4945 this approval is required because you are a private_foundation that is exempt from federal_income_tax you requested approval of your scholarship program to fund the education of certain qualifying students our determination we approved your procedures for awarding scholarships based on the information you submitted and assuming you will conduct your program as proposed we determined that your procedures for awarding scholarships meet the requirements of code sec_4945 as a result expenditures you make under these procedures won't be taxable also awards made under these procedures are scholarship or fellowship grants and are not taxable to the recipients if they use them for qualified_tuition_and_related_expenses subject_to the limitations in code sec_117 description of your request your letter indicates you will operate a grant program the purpose of your grants will be to enable qualified individuals to obtain a post-secondary education at either the college university or graduate school level by defraying the cost of tuition books fees and similar expenses initially you expect to award w grants annually in the future you may receive additional funding in the form of lifetime or testamentary gifts which may enable you to eventually award up to x grants annually the amount of grants is expected to be in the range of y dollars annually grants are made on a one-time basis if a student desires to extend his letter catalog number 58263t or her eligibility for a grant he or she must re-apply and submit updated academic and financial information eligibility is limited to individuals who are or have been residents of a non-profit or other institutional home for the care of children within the united_states who have been deprived of a loving and nurturing home environment as well as lack the financial resources to continue their education each applicant must complete an application and have earned a high school or a general equivalency diploma and provide supporting documentation any existing or prospective student at any high school college or graduate school may apply you will publicize the availability of your grants in a manner that makes availability known to a broad charitable_class of individuals including through the development of a website with information and application materials and through personal or written contacts with high school college and graduate school administrators and other interested persons the selection committee will consist of the members of your board_of directors vacancies on your board are filled by the vote of the members of the board_of directors no grants may be awarded to the members of your board_of directors officers substantial contributors or their family members to any member of the selection committee or for a purpose that is inconsistent with the purposes described in sec_170 the criteria for selection of recipients will be academic potential and financial need in determining an applicant's academic potential you will consider the grade point average transcript of courses evidence of responsible citizenship and leadership potential through participation in extracurricular or community activities additionally you will require at least one letter of recommendation from a teacher or employer no minimum grade point average will be required however the applicant must have satisfactorily earned a diploma and demonstrated the potential to succeed at the post secondary level each applicant must submit a signed financial statement showing a complete list of his or her assets liabilities and income it is anticipated that very few of the applicants will be receiving any parental financial support you will limit your awards to applicants whose financial statements demonstrate they would be unable to afford the cost of their education in some cases you will pay grants directly to the educational_institution in other cases you will pay the grant directly to the recipient for him or her to use at a qualifying educational_institution each educational_institution and recipient must agree in writing to use the grant funds to defray the recipient's expenses only if the recipient is enrolled at a qualifying educational_institution and his or her standing is consistent with the purpose and conditions of the grant the recipient will be required to provide copies of cancelled checks receipts or similar documentation for letter catalog number 58263t distributions that are made directly to the recipient no documentation will required when funds are distributed directly to an educational_institution failure to use the funds for the prescribed purposes or to remain a student in good standing will result in immediate termination of the grant award and require that the recipient return all unused funds a grant will be used only for qualified_tuition_and_related_expenses within the meaning of sec_117 tuition and fees required for the enrollment or attendance of the student at a qualifying educational_institution and fees books supplies and equipment required for courses of instruction at such an educational_institution and for room board travel and other similar school-related expenses you represent that you will complete the following arrange to receive and review grantee reports annually and upon completion of the purpose for which the grant was awarded investigate diversion of funds from their intended purposes and take all reasonable and appropriate steps to recover the diverted funds ensure other grant funds held by a grantee are used for their intended purposes and withhold further payments to grantees until you obtain grantees' assurances that future diversions will not occur and that grantees will take extraordinary precautions to prevent future diversion from occurring you represent that you will maintain the following all records relating to individual grants including information obtained to evaluate grantees identify a grantee is a disqualified_person establish the amount and purpose of each grant and establish that you undertook the supervision and investigation of grants described above basis for our determination the law imposes certain excise_taxes on the taxable_expenditures of private_foundations code sec_4945 a taxable_expenditure is any amount a private_foundation pays as a grant to an individual for travel study or other similar purposes however a grant that meets all of the following requirements of code sec_4945 is not a taxable_expenditure the foundation awards the grant on an objective and nondiscriminatory basis the irs approves in advance the procedure for awarding the grant the grant is a scholarship or fellowship subject_to the provisions of code sec_117 the grant is to be used for study at an educational_organization described in code sec_170 b a ii other conditions that apply to this determination this determination only covers the grant program described above this approval will apply to succeeding grant programs only if their standards and procedures don't differ significantly from those described in your original request this determination applies only to you it may not be cited as a precedent letter catalog number 58263t you cannot rely on the conclusions in this letter if the facts you provided have changed substantially you may report any significant changes to your program by completing form_8940 and sending it to the cincinnati office of exempt_organizations at internal_revenue_service exempt_organizations determinations p o box cincinnati oh you cannot award grants to your creators officers directors trustees foundation managers or members of selection committees or their relatives all funds distributed to individuals must be made on a charitable basis and further the purposes of your organization you cannot award grants for a purpose that is inconsistent with code sec_170 you should keep adequate_records and case histories so that you can substantiate your grant distributions with the irs if necessary we've sent a copy of this letter to your representative as indicated in your power_of_attorney please keep a copy of this letter in your records if you have questions please contact the person listed at the top of this letter sincerely director exempt_organizations letter catalog number 58263t