internal_revenue_service number release date index number ------------------------- --------------------------------- ------------------ ------------------------------ in re --------------------------------- 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 b05 plr-150272-13 date date legend taxpayer ---------------------------------------------------------- address ------------------------------------------------------------------------------------------------- ------------------------------- bins --------------------------------------------------------------- year ------------------------------------------------------ year ------------------------------------------------------ dear ------------------ this letter responds to your letter dated date submitted on behalf of taxpayer requesting an extension of time to make elections under sec_42 of the internal_revenue_code pursuant to sec_301_9100-1 of the procedure and administration regulations according to the information submitted taxpayer a partnership for federal_income_tax purposes placed buildings identified by bins in service in year the buildings are located at address taxpayer inadvertently failed to make timely elections under sec_42 to begin the credit_period for the buildings in the succeeding year year plr-150272-13 sec_42 defines the credit_period of any building as the period of taxable years beginning with the taxable_year in which the building is placed_in_service or at the taxpayer’s irrevocable election the succeeding taxable_year but in either case only if the building is a qualified_low-income_building at the close of the first year of the credit_period sec_301_9100-8 provides that the election under sec_42 generally must be made for the taxable_year in which the project is placed_in_service or the succeeding taxable_year if the sec_42 election is made to defer the start of the credit_period and must be made in the certification required to be filed pursuant to sec_42 and sec_301_9100-8 provides that the election under sec_42 is irrevocable specifically the election under sec_42 is made pursuant to the certification requirement of sec_42 which provides that following the close of the first taxable_year in the credit_period with respect to any qualified_low-income_building the taxpayer shall certify to the secretary at such time and in such form and in such manner as the secretary prescribes such other information as the secretary may require sec_1_42-1 of the income_tax regulations provides that a completed form_8609 low-income_housing_credit allocation and certification must be filed by the building owner with the irs the requirements for completing and filing form_8609 are addressed in the instructions to the form completion of the relevant portions of form_8609 satisfy the certification requirement of sec_42 and the instructions to form_8609 provide that the building owner must make a one- time submission of form_8609 to the low-income_housing_credit lihc unit at the irs philadelphia campus the building owner must file the original of the form_8609 with the lihc unit no later than the due_date including extensions of its first tax_return with which it is filing form 8609-a annual_statement for low-income_housing_credit sec_301_9100-1 through provide the standards the commissioner will use to determine whether to grant an extension of time to make an election sec_301_9100-1 defines the term regulatory election as including an election whose due_date is prescribed by a regulation revenue_ruling revenue_procedure notice or announcement published in the internal_revenue_bulletin under sec_301_9100-1 the commissioner has discretion to grant a reasonable extension of time under the rules set forth in sec_301_9100-2 and sec_301_9100-3 to make a regulatory election or a statutory election but no more than six months except in the case of a taxpayer who is abroad under all subtitles of the code except subtitles e g h and i plr-150272-13 sec_301_9100-2 provides automatic extensions of time for making certain elections sec_301_9100-3 provides extensions of time for making elections that do not meet the requirements of sec_301_9100-2 requests for relief under sec_301_9100-3 will be granted when the taxpayer provides evidence to establish that the taxpayer acted reasonably and in good_faith and the grant of relief will not prejudice the interests of the government in the instant case based solely on the facts submitted and the representations made we conclude that the requirements of sec_301_9100-1 and sec_301_9100-3 have been met accordingly taxpayer is granted an extension of time to make the elections under sec_42 for the buildings identified by bins by filing within days from the date of this letter amended forms that include the intended elections the amended forms along with a copy of this letter must be filed with the lihc unit at the following address provided in the instructions to form department of the treasury internal_revenue_service center philadelphia pa by making the elections under sec_42 for the buildings identified by bins taxpayer is electing to begin the credit_period for the buildings identified by bins in year accordingly taxpayer must file its federal_income_tax returns including the forms 8609-a and the schedules k-1 for year and all subsequent years as is necessary to reflect the proper amount of sec_42 credits no opinion is expressed or implied regarding the application of any other provisions of the code or regulations specifically we express no opinion on whether the buildings identified by bins otherwise qualify for the low-income_housing_credit under sec_42 plr-150272-13 this ruling is directed only to the taxpayer who requested it sec_6110 provides that it may not be used or cited as precedent in accordance with a power_of_attorney on file with this office we are sending copies of this letter to taxpayer’s authorized representatives sincerely associate chief_counsel passthroughs special industries s christopher j wilson by _______________________ christopher j wilson senior counsel branch office of associate chief_counsel passthroughs special industries enclosures copy of this letter copy for sec_6110 purposes cc


t c summary opinion united_states tax_court john r and edith m garbini petitioners v commissioner of internal revenue respondent docket no 3593-00s filed date james g sanford for petitioners paul k voelker for respondent pajak 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 unless otherwise indicated section references are to the internal_revenue_code in effect for the years in issue and all rule references are to the tax_court rules_of_practice and procedure the decision to be entered is not reviewable by any other court and this opinion should not be cited as authority respondent determined deficiencies in petitioners’ federal income taxes and accuracy-related_penalties in the following amounts year deficiency dollar_figure big_number sec_6662 dollar_figure dollar_figure after concessions by respondent of the medical expense issues this court must decide whether petitioners were not engaged in an activity for profit under sec_183 whether petitioners were entitled to claimed schedule f profit or loss from farming deductions for the taxable years in issue and whether petitioners were liable for accuracy-related_penalties under sec_6662 for the taxable years in issue some of the facts in this case have been stipulated and are so found petitioners’ residence was in myrtle creek oregon at the time they filed their petition petitioners timely filed form sec_1040 u s individual_income_tax_return for and on the form sec_1040 for both years petitioner john r garbini petitioner listed his occupation as rancher petitioner edith m garbini’s occupation was listed as housewife both petitioners were senior citizens during the taxable years in issue for each taxable_year in issue petitioners attached to their form_1040 schedule f profit or loss from farming on schedule f for petitioners reported no gross_income and deducted expenses in the amount of dollar_figure for a net_loss of dollar_figure on schedule f for petitioners reported no gross_income and deducted expenses in the amount of dollar_figure for a net_loss of dollar_figure respondent disallowed petitioners’ and schedule f loss deductions in full because petitioners did not substantiate their deductions and because petitioners were not engaged in an activity for profit due to the fact that petitioners did not substantiate their deductions sec_7491 is not applicable therefore petitioners have the burden_of_proof with respect to these determinations rule a we first address whether petitioners were not engaged in an activity for profit sec_183 disallows deductions attributable to an activity_not_engaged_in_for_profit except as provided under sec_183 for an activity_not_engaged_in_for_profit sec_183 allows deductions that would be allowable without regard to whether or not an activity is engaged in for profit sec_183 allows deductions that would be allowable if the activity were engaged in for profit but only to the extent that gross_income attributable to the activity exceeds the deductions allowable under sec_183 sec_183 defines an activity_not_engaged_in_for_profit as any activity other than one with respect to which deductions are allowable for the taxable_year under sec_162 or under paragraph or of sec_212 the standard for determining whether an expense is deductible under sec_162 or sec_212 and not subject_to the limitations of sec_183 requires a taxpayer to demonstrate that the activity was carried on with the actual and honest objective of making a profit 78_tc_642 affd without opinion 702_f2d_1205 d c cir sec_1_183-2 income_tax regs although a reasonable expectation of profit is not required the facts and circumstances must indicate that the taxpayer entered into the activity or continued the activity with the actual and honest objective of making a profit dreicer v commissioner supra pincite the taxpayer’s objective to make a profit must be analyzed by looking at all the surrounding facts id these facts are given greater weight than the taxpayer’s mere statement of intent id the regulations under sec_183 provide a nonexclusive list of relevant factors that should be considered in determining whether the taxpayer has the requisite profit objective sec_1_183-2 income_tax regs the factors are the manner in which the taxpayer carries on the activity the expertise of the taxpayer the time and effort expended by the taxpayer in carrying on the activity the expectation that the assets used in the activity may appreciate in value the success of the taxpayer in carrying on other similar or dissimilar activities the taxpayer’s history of income or losses with respect to the activity the amount of occasional profits if any which are earned the financial status of the taxpayer and any elements indicating personal pleasure or recreation id these factors are not applicable or appropriate in every case 86_tc_360 the facts and circumstances of the case in issue remain the primary test id in determining whether petitioners were engaged in an activity with the requisite profit objective all the facts and circumstances of their situation must be taken into account 72_tc_411 affd without published opinion 647_f2d_170 9th cir no single factor is controlling nor is the existence of a majority of factors favoring or disfavoring a profit objective necessarily controlling 32_f3d_94 4th cir affg tcmemo_1993_396 sec_1_183-2 income_tax regs in petitioners purchased acres of land the ranch in myrtle creek oregon except for two log cabins the ranch was unimproved and contained trees pasture land and three ponds since about petitioners have cleared areas and planted more trees had cattle graze the pasture land and built roads ponds and barns petitioners’ residence was built in about petitioners moved into the house in approximately and have resided there through the time of trial in petitioners sold a mobile home park for dollar_figure million in applying the factors to determine profit objective we first consider the manner in which the taxpayer carries on the activity the fact that the taxpayer carries on the activity in a businesslike manner and maintains complete and accurate books_and_records may indicate that the activity is engaged in for profit sec_1_183-2 income_tax regs petitioners did not maintain books_and_records rather petitioner made a monthly list of expense categories and based on his canceled checks recorded the amounts expended for each category at trial petitioner submitted various invoices canceled checks and the monthly lists for the taxable years in issue petitioner did not have a business plan to make money from the ranch petitioner did not keep the type of records which could be used to increase the profitability of a business petitioner never prepared budgets or market projections which would outline strategies for ensuring a profitable business venture and making informed business decisions on a periodic basis such lack of information upon which to make educated business decisions tends to belie a taxpayer’s contentions that an activity was pursued with the primary objective of making a profit dodge v commissioner tcmemo_1998_89 affd without published opinion 188_f3d_507 6th cir a change_of operating methods adoption of new techniques or abandonment of unprofitable methods in a manner consistent with an intent to improve profitability may also indicate a profit_motive sec_1_183-2 income_tax regs petitioner contends that he has made efforts to reduce expenses in order to operate the ranch in a profitable manner nothing in the record indicates what efforts to reduce expenses if any were made during the taxable years in issue petitioner never ascertained how or when he would make a profit or how he could change his operating methods to improve his profitability although petitioners owned cattle during the years in issue there were no sales of cattle during those years nor was there any evidence of an effort to raise cattle for profit on their ranch we next consider the expertise of the taxpayer since purchasing the ranch petitioner has learned about the types of trees that should be planted in specific areas on the ranch petitioner also claimed that in he began studying researching and compiling data on the marketing and sale of verified emission reduction offsets carbon credits to polluting entities and that he has consulted about that subject with the oregon department of forestry and a chemistry biology professor who holds a ph d yet during the years in issue petitioner did not put any acquired knowledge to use in an endeavor to make a profit we next consider the time and effort expended by the taxpayer in carrying on the activity petitioner worked on the ranch almost everyday and employed one full-time ranch hand during the taxable years in issue the ranch hand performed general maintenance of the property and barns petitioner occasionally hired outside temporary labor we next consider the taxpayer’s expectation that the assets used in the activity may appreciate in value petitioner contends that he has enhanced and created value in the trees and the carbon credits related to the trees petitioner paid dollar_figure for the ranch in its undeveloped condition with the improvements made by petitioner and the value of the timber and carbon credits petitioner estimates that the value of the trees alone is dollar_figure million and that the ranch is worth dollar_figure million petitioner did not provide any basis for such estimates petitioner stated that since with the exception of and he has planted big_number to big_number trees per year petitioner further stated that these trees are not considered suitable for harvesting until years after planting we note that no trees were harvested during the taxable years in issue petitioner contends that the growing trees have value and profit potential in the form of cut timber and carbon credits again petitioner never sold any carbon credits during these taxable years we next consider the success of the taxpayer in carrying on other similar or dissimilar activities prior to purchasing the ranch petitioner said he purchased undeveloped land in san jose california and developed the first luxury mobile home park for senior citizens in the state petitioners owned and operated the mobile home park for approximately years petitioner stated that petitioners worked days per week and employed one groundsman petitioner further stated that the mobile home park operated profitably after the first years and that years thereafter petitioners sold the mobile home park for dollar_figure million the taxpayer’s history of income or losses with respect to the activity is another factor at trial petitioner did not provide a history of income or losses for his ranch during the taxable years in issue losses exceeded dollar_figure an average of dollar_figure for each year although petitioner claimed that the losses since have lessened petitioner admitted that the losses for the years before those in issue would have been roughly the same as the taxable years in issue over this approximate time frame of years petitioner incurred losses of dollar_figure the amount of occasional profits if any which are earned is another factor no profits were earned with respect to the ranch during the years in issue we next consider the financial status of the taxpayer during the taxable years in issue neither petitioner nor his wife earned_income from wages for taxable_year petitioners reported taxable interest in the amount of dollar_figure dividend income in the amount of dollar_figure capital_gains in the amount of dollar_figure and taxable social_security_benefits in the amount of dollar_figure for taxable_year petitioners reported taxable interest in the amount of dollar_figure dividend income in the amount of dollar_figure taxable refunds credits or offsets in the amount of dollar_figure capital_gains in the amount of dollar_figure rental real_estate income in the amount of dollar_figure and taxable social_security_benefits in the amount of dollar_figure for both taxable years almost all the taxable interest_income and capital_gains income were derived from interest and installment payments of principal made by the buyers of petitioners’ mobile home park as a result of their other income petitioners realized substantial tax benefits from the approximate dollar_figure loss deduction for each taxable_year in issue finally in determining profit objective we consider whether there are elements of personal pleasure or recreation petitioners owned horses during the taxable years in issue but petitioner stated that neither of them rode the horses for pleasure petitioners probably had personal pleasure from residing on a large ranch although petitioners had the money to purchase the ranch and operate it they never had a business plan or took steps to operate the ranch to make a profit taking the record as a whole we find that the facts and circumstances indicate that petitioners did not possess the actual and honest objective of making a profit from their ranch therefore we find that petitioners were not engaged in an activity for profit sec_183 pursuant to sec_183 deductions are allowed for an activity_not_engaged_in_for_profit but only to the extent that gross_income exceeds the deductions allowable under sec_183 without regard to whether or not the activity is engaged in for profit petitioners did not prove that they had any such expenses because petitioners had no gross_income for the taxable years in issue none of their claimed expenses are deductible therefore we sustain respondent’s determinations as to the accuracy-related_penalties imposed for the taxable years in issue respondent has satisfied his burden of production under sec_7491 116_tc_438 sec_6662 imposes a percent penalty on the portion of any underpayment_of_tax attributable to negligence or disregard of rules or regulations sec_6662 negligence is any failure to make a reasonable attempt to comply with the provisions of the internal revenue laws and includes any failure by the taxpayer to keep adequate books_and_records or to substantiate items properly sec_6662 sec_1_6662-3 income_tax regs moreover negligence is the failure to exercise due care or failure to do what a reasonable and prudent person would do under the circumstances 85_tc_934 disregard includes any careless reckless or intentional disregard of rules or regulations sec_6662 sec_1_6662-3 income_tax regs no penalty will be imposed with respect to any portion of any underpayment if it is shown that there was a reasonable_cause for such portion and that the taxpayer acted in good_faith with respect to such portion sec_6664 under the facts of this case sec_6664 is not applicable petitioner’s recordkeeping practice of creating monthly lists from canceled checks simply is inadequate such actions are not those of a prudent and reasonable person in business on this record we conclude that petitioners were negligent and are liable for the accuracy-related_penalties under sec_6662 as determined by respondent for the taxable years in issue we need not address other grounds for respondent’s determinations as to sec_6662 reviewed and adopted as the report of the small_tax_case division decision will be entered under rule


department of the treasury employer_identification_number contact person - id number contact telephone number uil internal_revenue_service p o box cincinnati oh release number release date date date legend b country c city d city f organization g event h date j year k year x dollars amount y dollars amount z dollars amount dear why you are receiving this letter this is our response to your date letter requesting approval of a set-aside under internal_revenue_code sec_4942 you've been recognized as tax-exempt under sec_501 of the code and have been determined to be a private_foundation under sec_509 our determination based on the information furnished your set-aside program is approved under internal_revenue_code sec_4942 as required under sec_4942 the set_aside amount must be paid within the 60-month period after the date of the first set-aside description of set-aside request you plan to commit a total of x dollars over a five year period for the relocation of the f in b from d to c you requested to set_aside y dollars no later than h as a distributable_amount for calendar_year j you estimate that you will make additions to the initial set-aside in the amount of z dollars in each of the four years following the initial set-aside the f is a public interest incorporated organization in b it is currently exempt from tax on its fixed real_property in d and any profits derived from its public interest operations since the f is a public interest incorporated organization it is subject_to laws that are similar to the laws applicable to tax-exempt organizations in the u s the f’s objectives include collecting storing and preserving works_of_art conducting research and survey related activities concerning art and related documents and undertaking activities for the public by spreading knowledge and developing local culture the f maintains a permanent collection of works_of_art and has approximately of those works on display at a time the f is open to the public six days a week and periodically organizes art-related lectures and presentations there is also a library that art historians and researchers may access upon request in k the f began investigating the acquisition of a site for a c branch after receiving recommendations from a consultant it was determined that the f’s operations should be relocated from d to c the relocation is expected to result in a dramatic increase in visitors along with an improvement in the ability to recruit curators and other staff members at the beginning of j the f provided you with a document describing its plans to relocate and a detailed explanation of the reasons for relocation the document also provided an estimated budget for relocation your board_of directors then adopted a corporate resolution approving the f's plan to relocate and agreeing to assist with the relocation you indicate that the project can be better accomplished with a set_aside because although the f has been actively searching for an appropriate site land is extremely scarce in c and it has been difficult to find a suitable location therefore it is not possible to predict when a location will be found additionally even if the location is found and acquired there are no contractors available in c at this time due to the heavy demand from the upcoming g the f would prefer not to pay property_tax on undeveloped land for several years before construction can begin so there is an incentive to defer the acquisition of the site until construction can be started also the f does not want to incur the costs of hiring architects consultants or other personnel for the relocation until a new location has been found you and the f intend to enter into a grant agreement under which you will disburse set_aside funds to the f over a period of time expected to extend for several years as various events occur for instance upon the f’s notification to you that it has located a site for the new_building and will be entering into a purchase agreement you will disburse an amount equal to all or part of the down payment you will then disburse all or part of the remaining purchase_price when the purchase of the site closes you wiil also disburse funds when the f notifies you that it will be entering into a contract with an architectural firm to design the new_building or with a contractor to construct the new_building under the terms of the grant agreement the f will be required to provide you with assurances that all necessary approvals authorizations consents and permits from the applicable governmental authorities were properly obtained before you make any disbursements the f will also be required to provide you with copies of the site purchase contract architectural services contract construction_contract and other services contracts to show the costs incurred in addition the f will have to provide you with periodic progress reports about the relocation finally the grant agreement will provide that disbursements for the relocation must be made and applied within sixty months of the date the amounts were first set-aside basis for our determination internal_revenue_code sec_4942 states that an amount set_aside fora specific project which includes one or more purposes described in sec_170 may be treated as a qualifying_distribution if it meets the requirements of sec_4942 b sec_4942 of the code states that an amount set_aside for a specific project will meet the requirements of this subparagraph if at the time of the set- aside the foundation establishes that the amount will be paid within five years and either clause i or ii are satisfied sec_4942 of the code is satisfied if at the time of the set-aside the private_foundation establishes that the project can better be accomplished using the set-aside than by making an immediate payment sec_53_4942_a_-3 of the foundations and similar excise_taxes regulations provides that a private_foundation may establish a project as better accomplished by a set-aside than by immediate payment if the set-aside satisfies the suitability test described in sec_53_4942_a_-3 sec_53_4942_a_-3 of the foundations and similar excise_taxes regulations provides that specific projects better accomplished using a set-aside include but are not limited to projects where relatively long-term expenditures must be made requiring more than one year’s income to assure their continuity in revrul_74_450 1974_2_cb_388 an operating_foundation converted a portion of newly acquired land into a public park under a four-year construction_contract the construction_contract payments were to be made mainly during the final two years this constituted a specific project the foundation's set-aside of ail its excess earnings for four years was treated as a qualifying_distribution under internal_revenue_code sec_4942 what you must do your approved set-aside s will be documented on your records as pledges or obligations to be paid_by the date specified the amounts set_aside will be taken into account to determine your minimum_investment_return under internal_revenue_code sec_4942 and the income attributable to your set_aside s will also be taken into account in computing your adjusted_net_income under sec_4942 of the code additional information this determination is directed only to the organization that requested it internal_revenue_code sec_6110 provides that it may not be used or cited as a precedent please keep a copy of this letter in your records we have sent a copy of this letter to your representative as indicated in your power_of_attorney if you have any questions please contact the person listed in the heading of this letter sincerely jeffrey cooper director exempt_organizations rulings and agreements enclosure


t c memo united_states tax_court walter l gross jr and barbara h gross petitioners v commissioner of internal revenue respondent calvin c linnemann and patricia g linnemann petitioners v commissioner of internal revenue respondent docket nos filed date ps made gifts to their children of shares in s_corporation which annually distributed substantially_all of its income r determined gift_tax deficiencies based on adjustments increasing the fair_market_value of the shares principal differences between the parties are whether to tax affect corporation’s earnings in determining discounted cash- flow the discount for lack of marketability and the cost of equity held value of shares determined marketability discount and cost of equity determined tax affecting inappropriate under facts presented james j ryan and gerald j rapien for petitioners robin herrell and matthew fritz for respondent memorandum findings_of_fact and opinion halpern judge these cases have been consolidated for trial briefing and opinion by notices of deficiency dated date respondent determined deficiencies in federal gift_taxes as follows docket number petitioner year deficiency walter l gross jr dollar_figure barbara h gross big_number calvin c linnemann big_number patricia g linnemann big_number unless otherwise indicated all section references are to the internal_revenue_code in effect for the years in issue and all rule references are to the tax_court rules_of_practice and procedure the common question presented by these consolidated cases is the date fair_market_value of certain shares of corporate stock transferred by gift by petitioners walter l gross jr walter gross and patricia g linnemann patricia linnemann to their respective children petitioners barbara h gross barbara gross and calvin c linnemann calvin linnemann the wife and husband of walter gross and patricia linnemann respectively are petitioners because they and their respective spouses consented to having the gifts made by each spouse considered for federal gift_tax purposes as having been made one-half by each spouse respondent initially determined that each share of stock in question had a value of dollar_figure but now concedes that each such share has a value of no more than dollar_figure petitioners based their gift_tax liabilities on a value of dollar_figure which they maintain is the correct value findings_of_fact introduction some of the facts have been stipulated and are so found the stipulation of facts with accompanying exhibits is incorporated herein by this reference at the time of the filing of the petitions all of the petitioners resided in cincinnati ohio g éj pepsi-cola bottlers inc the shares of stock in guestion are shares of g j pepsi-cola bottlers inc g j an ohio corporation formed in the business operations of g j can be traced to a business conducted by a partnership formed in the 1920s between two married couples isaac n and esther m jarson and walter l and nell r gross the founders by the year of the gifts here in guestion the founders had died and ownership of g j had devolved to certain relatives of the founders viz the gross family group which included members of the linnemann family and the jarson family group in directly and through voting trusts each family group owned percent of the outstanding shares of stock of g j in g j elected to be taxed as a small_business_corporation an s_corporation within the meaning of sec_1371 of the internal_revenue_code of by agreement dated date the s_corporation agreement the shareholders of g j agreed to maintain g j’s status as an s_corporation for at least years g j in fact maintained its s_corporation status through date at which time there were no plans to change its s_corporation status further an agreement restricting the transfer of the g j shares by and among the members of the gross family group the gross family restrictive transfer agreement dated date also remained in effect as of date ' the gross family restrictive transfer agreement contained express provisions to prevent termination of g j's s_corporation status as of date g éj had issued an outstanding big_number shares of common_stock without par_value in g j's top management positions and voting control were largely in the hands of the senior members of the gross and jarson family groups the shareholders of g j got along well there was a similar restrictive transfer agreement by and among the members of the jarson family group holding shares of g éj dated date which also remained in effect as of date and they did not allow differences in their business philosophies to interfere with the successful operation of the corporation none of g j's shareholders was interested in selling his or her shares in g j bottled and distributed various soft drinks including seven-up dr pepper and five variations of pepsi- cola through franchise agreements with pepsico dr pepper and seven-up g j had the exclusive right to bottle and distribute the various soft drinks it produced within several geographic territories g j was a well-managed company in it was the third-largest independent pepsi-cola bottler g j owned most of the real_estate associated with its plants and warehouses it owned in excess of vehicles including tractors trucks and trailers additionally g j owned about big_number soft drink vending machines g j sold the soft drinks it produced to supermarkets convenience stores mass merchandisers gas mini- marts drugstores vending companies restaurants bars lunch counters and concessions in it had approximately big_number customers from through there were steady increases in gé j's operating income total income and distributions to shareholders during that period distributions to shareholders nearly equaled the company's entire income as shown below fiscal_year operating other total shareholder ended income income income distributions dollar_figure dollar_figure dollar_figure dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number petitioners' gifts on date walter gross made a gift of shares of common_stock in g j to each of his three children together the walter gross gifts each of the walter gross gifts represented dollar_figure percent of the issued and outstanding shares of g éj walter and barbara gross the grosses each reported one- half of the amount they determined to be the value of the walter gross gifts on a timely filed form_709 united_states gift and generation skipping transfer_tax return form_709 in determining and reporting the value of the walter gross gifts the grosses relied on an appraisal report prepared by business valuations inc the business valuations report and business valuations respectively dated date valuing shares of g j's common_stock as of date at dollar_figure a share since the grosses used a value of dollar_figure a share the total reported value of the walter gross gifts was dollar_figure on date patricia linnemann made a gift of shares of common_stock in g j to each of her two children the patricia linnemann gifts each of the patricia linnemann gifts represented dollar_figure percent of the issued and outstanding shares in g j patricia and calvin linnemann the linnemanns each reported one-half of the amount they determined to be the value of the linnemann gifts on a timely filed form_709 in determining and reporting the values of the patricia linnemann gifts the linnemanns also relied on the business valuations report the total reported value of the patricia linnemann gifts was dollar_figure ultimate finding of fact on date the fair_market_value of a share of stock of g j representative of the shares constituting both the walter gross and patricia linnemann gifts was dollar_figure opinion i introduction on date walter gross and patricia linnemann made gifts to their respective children of shares of stock ina corporation g j pepsi-cola bottlers inc g j walter gross and patricia linnemann are members_of_a_family group the gross family group that in owned percent of the outstanding shares of stock of g j each child received a number of shares of stock in g j constituting less than a 1-percent interest in the corporation the parties disagree as to the fair_market_value value of those gifts the parties have assumed that each of the shares of stock in question a g j share had the same value but have expressed their disagreement over that value petitioners argue that on date the gift date the value of a g j share was dollar_figure respondent argues that it was dollar_figure il code and regulations sec_2501 imposes a tax for each calendar_year on the transfer of property by gift during such calendar_year by individuals sec_2512 provides that i f the gift is made in property the value thereof at the date of the gift shall be considered the amount_of_the_gift the standard for determining the value of a gift_for purposes of the gift_tax is fair_market_value ie the price at which the property would change hands between a willing buyer and seller neither being under any compulsion to buy or sell and both having knowledge of relevant facts see 411_us_546 sec_25_2512-1 gift_tax regs valuation is an issue of fact see eg 94_tc_193 and petitioners bear the burden_of_proof rule a we have found that the fair_market_value of a g j share was dollar_figure on the gift date we shall explain our reasons for that finding tiil arguments of the parties a reliance on expert testimony both parties rely on expert testimony to establish the value of a g j share petitioners rely on the expert testimony of david o mccoy a business appraiser who prepared a report valuing the common shares of g j mr mccoy was accepted as an expert appraisal witness by the court and his report was accepted into evidence as his direct testimony mr mccoy also prepared a report in rebuttal to respondent’s expert witness which report was accepted into evidence as additional direct testimony petitioners also called charles a wilhoite an appraiser and valuation expert who prepared a second report in rebuttal to respondent’s expert witness mr wilhoite was accepted as an expert on appraisal and valuation methodology by the court and his report was accepted into evidence as his direct testimony respondent called mukesh bajaj ph d an appraisal expert who prepared two reports one valuing minority interests in g j as of the gift date and one in rebuttal to mr mccoy’s first report dr bajaj was accepted as an expert appraisal witness by the court and his reports were accepted into evidence as his direct testimony the principal disagreements among the parties’ expert witnesses are whether it is appropriate to tax affect g j’s earnings in determining the value of a g j share the lack of marketability discount to be applied in valuing a gé j share and g j’s cost of equity we shall describe their testimony with respect to their areas of disagreement b mr mccoy’s testimony introduction mr mccoy stated that his assignment was to determine the fair_market_value of small minority interests in the common_stock of g j mr mccoy used three separate methods to determine that value market price comparison method discounted future free cash-flow method and valuation by capitalization of earnings mr mccoy gave equal weight to the results reached under the second and third methods but only one-third of that weight to the result reached under the first method mr mccoy determined a weighted average value for a g j share and then applied a discount for lack of marketability to arrive at the aforementioned value for a g j share of dollar_figure tax affecting g éj’s earnings under the discounted future free cash-flow method mr mccoy considered g j to be an asset capable of producing cash-flows to its owners for an infinite number of periods he determined the present_value of g j by first hypothesizing the available cash for each such period second discounting each such amount to reflect both the delay in payment and the risk of nonpayment and third summing the results mr mccoy testified that in various professional associations published standards governing the conduct of professional business appraisers and that professional appraisers were ethically bound to follow those standards specifically mr mccoy specified an appraisal foundation publication entitled the uniform standards of professional appraisal practice uspap which required business appraisers to be aware of to understand and correctly to employ recognized methods and techniques necessary to produce a credible result the standards rule mr mccoy further testified that in order to comply with the standards rule it was necessary for professional appraisers to tax affect the earnings_of an s_corporation in order to produce a credible business appraisal to accomplish such tax affecting mr mccoy introduced a fictitious tax burden equal to an assumed corporate tax_rate of percent which he applied to reduce each future period’s earnings before such earnings were discounted to their present_value sec_11 imposes a tax on the income of every corporation additionally the shareholders of a c_corporation defined in sec_1361 as any corporation which is not an s_corporation must include in gross_income any dividends received from the c_corporation sec_301 thus giving rise to the claim that the income of a c_corporation is subject_to a double tax conversely an s_corporation as defined in sec_1361 continued lack of marketability discount mr mccoy examined several studies that considered the lack of marketability of closely held and restricted securities mr mccoy testified that based on his examination an average lack of marketability discount for shares that would eventually become freely tradable was mr mccoy then concluded that a greater discount was required for the g j shares because they were illiquid and not marketable mr mccoy testified that a discount rate of at least percent was required to compensate an owner for the lack of marketability of those shares cost of capital mr mccoy testified that g j's cost of equity_capital was percent he explained that g j compared in size to very continued generally is not subject_to the sec_11 tax see sec_1363 instead the items of income loss deduction or credit of the s_corporation are passed through to the shareholders of the s_corporation and are taken into account directly in computing their tax_liabilities see sec_1366 additionally in ohio s_corporations such as g j are not subject_to state_income_tax see ohio rev code ann sec_5733 b banks-baldwin specifically mr mccoy noted that in addition to being closely held the g j shares were restricted as to transferability and were subject_to a right_of_first_refusal ‘ in his oral testimony mr mccoy distinguished between nominal and real numbers mr mccoy testified that the difference was that the effects of inflation which he opined to be percent were eliminated from nominal numbers to produce real numbers mr mccoy explained that we must add his opined 4-percent inflation rate to his reported cost of equity continued small capitalization public companies which necessitated such a required rate of return in addition to his market--derived required rate of return mr mccoy further buttressed his opinion by summing the following component risk factors of g éj's cost of equity_capital percent as the risk-free rate of return percent as an equity risk premium percent as an adjustment for company specific risk and finally percent as a small capitalization risk premium cc dr bajal’s testimony introduction dr bajaj also stated that his assignment was to determine the fair_market_value of certain minority blocks of stock in g j dr bajaj relied principally on a discounted cash-flow approach to determine that value to test the validity of his conclusions he considered the values of companies he thought comparable to g éj he also applied a discount for lack of marketability and he arrived at the aforementioned value for a g j share of dollar_figure continued percent in order to convert it back to a nominal number for comparative purposes he therefore agreed that using nominal numbers his calculated cost of equity was percent compared to dr bajaj's calculation of percent although the sum of mr mccoy's risk factors i sec_15 percent mr mccoy added percent to his result in order to convert it to a nominal rate of return for comparison purposes see supra note assumption of a zero-percent corporate tax_rate dr bajaj knew that g j was an s_corporation on the valuation_date and based on information that he had received from g j's management he assumed that it would remain an s_corporation indefinitely he further assumed that virtually all of g éj's earnings would continue to be distributed to its shareholders dr bajaj determined that a zero-percent corporate tax_rate was an appropriate assumption to make in determining the earnings_of g j available for distribution dr bajaj also ignored shareholder level taxes in arriving at his discount rate lack of marketability discount dr bajaj testified that an appropriate discount for lack of marketability applicable to géj's shares on the valuation_date wa sec_25 percent in arriving at his conclusion dr bajaj first reviewed various commonly cited published studies that examined marketability discounts he divided the studies into two categories studies that analyzed sales of restricted_stock by firms that also had publicly traded shares and studies that compared share prices observed in successful initial public offerings ipos with regard to the first category dr bajaj concluded that due to variations in characteristics of the observed firms and transactions only about to percent of the observed discounts could be attributed to a lack of marketability with regard to the second category dr bajaj concluded that the published results were not useful in evaluating discount levels for two reasons first dr bajaj testified that many of the pre-ipo private market transactions probably did not occur at fair_market_value second dr bajaj testified that examining only a selection of firms that carried out successful ipos was a biased statistical sample and that such bias would tend to increase the apparent discount relying more on his own empirical analysis of lack of marketability discounts and considering such factors as g j's generous dividend policy and its greater marketability restrictions e the restrictive transfer agreements dr bajaj concluded that a conservative estimate of the lack of marketability discount for g j's shares on the valuation_date wa sec_25 percent cost of capital dr bajaj used a 5-percent cost of equity and a 25-percent cost of debt to derive a 4-percent weighted cost of capital for g éj he used the capital_asset pricing model to derive his opined cost of equity dr bajaj used dollar_figure percent as according to dr bajaj the studies that analyzed sales of restricted_stock by firms that also had publicly traded shares demonstrated that the median discounts ranged from to percent the risk-free rate of return ’ 4-percent as the long-term market risk premium and dollar_figure percent as g j's beta coefficient ’ dr bajaj's cost of equity calculation was as follows dollar_figure dollar_figure percent dr bajaj determined g j's cost of debt capital by looking at g j's real borrowing costs in date g j took on debt in part to fund an expansion it borrowed the needed funds at dollar_figure percent which was three-quarters of a percent below the then prime rate of percent d petitioners' motion in limine petitioners have moved to exclude dr bajaj's testimony the motion first petitioners argue that dr bajaj's opinion as to the fair_market_value of a minority stock ownership_interest in g j 1s inadmissible because it was derived from the application of scientifically unreliable methodologies see 509_us_579 under the dr bajaj explained that the yield_to_maturity on 30-year treasury securities was an appropriate measure of a risk-free rate which according to information published by the federal reserve was dollar_figure percent as of date dr bajaj explained that the 4-percent long-term market risk premium was derived from historical data published by ibbotson associates inc dr bajaj defined beta as a measure of the tendency of a security's return to move with the overall market's return he estimated g j's beta from the betas for public firms operating in the soft drink industry for which published figures were available federal rules of evidence the trial judge must ensure that any and all scientific testimony or evidence admitted is not only relevant but is also reliable petitioners further argue that neither dr bajaj's underlying data nor his empirical analysis has been published or otherwise submitted for peer review by the appraisal profession finally petitioners argue that in part the data dr bajaj relied upon was not available in and therefore a willing and knowledgeable buyer and seller could not at that time be expected to have relied on dr bajaj's marketability discount analysis in arriving at a fair_market_value determination of g j's stock petitioners cite 94_tc_193 and estate of mueller v commissioner tcmemo_1992_284 as authority for the proposition that we must reject dr bajaj's new data and empirical analysis as a matter of law we disagree in daubert v merrell dow pharm inc supra pincite the supreme court held that the general acceptance test the dominant standard for determining the admissibility of novel scientific evidence at trial was superseded by the adoption of the federal rules of evidence fed r of evid reads if scientific technical or other specialized knowledge will assist the trier of fact to understand the evidence or to determine a fact in issue a witness qualified as an expert by knowledge skill experience -- - training or education may testify thereto in the form of an opinion or otherwise pursuant to fed r of evid the court must assure that scientific evidence is not only relevant but also reliable daubert v merrell dow pharm inc supra pincite daubert however 1s not limited to evidence that is scientific only in the laboratory sense recently in kumho tire co v carmichael u s 119_sct_1167 the supreme court made clear daubert’s general holding--setting forth the trial judge’s general ‘gatekeeping’ obligation--applies not only to testimony based on ‘scientific’ knowledge but also to testimony based on ‘technical’ and ‘other specialized’ knowledge dr bajaj's testimony as well as mr mccoy's was of a technical nature therefore daubert is applicable here and we have a gatekeeping role to perform as we have said value is a question of fact see supra sec ii dr bajaj has an opinion as to that fact arrived by applying certain tools of financial analysis primarily a discounted cash-flow analysis which is a method of analysis also employed by mr mccoy petitioners do not claim that a discounted cash-flow analysis is an unreliable tool for determining the present_value of one or more future cash-flows eg the distributions of cash dr bajaj assumed g j would continue indefinitely we have for many years relied ona discounted cash-flow analysis to determine the present_value of one or more future cash-flows see eg 7_bta_295 willamette indus inc v commissioner tcmemo_1990_339 setting forth the algebraic formula to determine the present_value of a future payment when properly applied a discounted cash-flow analysis is a reliable tool for financial analysis the difference in opinions as to value reached by the two expert witnesses at least to the extent it is attributable to the discounted cash-flow approach is exclusively the result of differences between them as to the values of certain variables not a difference as to methodology therefore since we find the discounted cash-flow analysis to be a reliable tool to determine the present_value of one or more future cash-flows we believe that petitioners’ argument to wit that dr bajaj’s opinion is based on unreliable methodologies is nonsensical because we find that both parties' experts relied on the same acceptable valuation methodology and that the areas of disagreement between the experts are merely factual disagreements over various factors and assumptions we need not address further petitioners' second concern that dr bajaj's method has not been subjected to peer review finally we address petitioners' last contention that the data dr bajaj relied upon was not available in and therefore in calculating a discount for lack of marketability a willing buyer and seller could not have relied upon it dr bajaj's sample consisted of observed transactions from date to date seventy-eight of the transactions preceded the gift date and were announced subseguent to the gift date petitioners' reliance on estate of newhouse v commissioner supra and estate of mueller v commissioner supra is misplaced in estate of newhouse we held t he focus of a valuation inquiry is on the existing facts circumstances and factors at the valuation_date that influence a hypothetical willing buyer and willing seller in determining a selling_price estate of newhouse v commissioner t c pincite it is not improper however to consider later events to the extent that such events may shed light upon a fact circumstance or factor as it existed on the valuation_date see eg 88_tc_38 we do not interpret dr bajaj to have opined that a willing buyer and a willing seller would or could have relied upon the data he used on the gift date instead dr bajaj testified that based on a survey and examination of similar transactions including transactions that occurred after the gift date we can determine with reasonable accuracy what willing buyers and willing sellers were doing on the valuation_date dr bajaj testified it is methodologically appropriate to use the comprehensive sample i collected to estimate marketability discounts even though approximately half the sample consists of post-valuation date announcements because there is no reason to believe that the underlying economics of private_placement would have changed after the valuation_date we agree further petitioners have not alleged that the observed lack of marketability discounts in similar private_placement transactions would have changed after the valuation_date additionally after performing an identical statistical analysis on only the prevaluation portion of his data sample dr bajaj reported a predicted discount similar to the discount he predicted using his complete data ’ for the foregoing reasons petitioners' motion will be denied and an appropriate order will be issued iv valuation of the gift tax affecting géj's earnings a introduction the decision whether to tax affect g j’s projected_earnings under the discounted cash-flow approach accounts for the most significant differences between the parties' expert witnesses in fact dr bajaj repeated his analysis substituting a in fact the predicted discount associated with the prevaluation data was slightly lower than with the full sample 40-percent corporate_income_tax rate for the zero-percent corporate rate he first assumed offsetting for interest payment deductions dr bajaj calculated that the resulting market capitalization dropped from dollar_figure million to dollar_figure million a 34-percent reduction which amount was within percent of the weighted average value dollar_figure computed by mr mccoy petitioners argue for tax affecting not only on the basis of the testimony of their expert witnesses but also on the basis that respondent has advocated that adjustment and must be held to it b petitioners' position petitioners introduced into evidence two internal documents of the internal_revenue_service a valuation guide for income estate_and_gift_taxes the guide and an examination technique handbook for estate_tax examiners the handbook we read those excerpts as neither requiring tax affecting nor laying the basis for a claim of detrimental reliance the guide in relevant part reads x s_corporations are treated similarly to partnerships for tax purposes s_corporations lend themselves readily to valuation approaches comparable to those used in valuing closely held corporations you need only to adjust the earnings from the business to reflect estimated corporate income taxes that would have been payable had the subchapter_s_election not been made the handbook in relevant part reads if you are comparing a subchapter_s_corporation to the stock of similar firms that are publicly traded the net_income of the former must be adjusted for income taxes using the corporate tax_rates applicable for each year in question and certain other items such as salaries these adjustments will avoid distortions when applying industry ratios such as price to earnings both statements lack analytical support and we refuse to interpret them as establishing respondent’s advocacy of tax- affecting as a necessary adjustment to be made in applying the discounted cash-flow analysis to establish the value of an s_corporation even if we were to interpret the excerpts as petitioners do petitioners do not claim that the excerpts have the force of a regulation or ruling nor have they shown the type of detrimental reliance that might work an egquitable estoppel against respondent equitable_estoppel is a judicial doctrine that precludes a party from denying his own acts or representations which induced another to act to his detriment estoppel is applied against the commissioner with utmost caution and restraint 98_tc_695 internal citations and quotation marks omitted in any event detrimental reliance on the part of the party seeking to invoke estoppel is a key condition id petitioners have failed to prove that they relied on either the guide or the handbook in any way accordingly respondent is not estopped from disregarding a fictitious corporate tax when valuing an s_corporation cc mr mccoy’s testimony mr mccoy lists eight costs or tradeoffs shareholders incur as a result of electing to be taxed as an s_corporation the enumerated costs or tradeoffs highlight three areas of concern which tax-affecting is directed to address first mr mccoy addresses the possibility that if an s_corporation distributes less than all of its income the actual distributions might be insufficient to cover the shareholders' tax obligations as a theoretical matter we do not believe that tax-affecting an s corporation's projected_earnings is an appropriate measure to offset that potential burden associated with s_corporations in any event we do not think it is a reasonable assumption that g j would not make sufficient distributions to cover its shareholders' tax_liabilities g j had a strong growth record and a history of making cash distributions to shareholders that nearly equaled its entire income petitioners have not convinced us that it would be reasonable to assume g j would not continue this practice second mr mccoy addresses the risk that an s_corporation might lose its favorable s_corporation status we might consider an approach that sought to determine the probability of such an occurrence and which utilized a tax_rate equal to the product of such probability and the corporate tax_rate in an effort to guantify that potential loss we do not however think it is reasonable to tax affect an s corporation's projected_earnings with an undiscounted corporate tax_rate without facts or circumstances sufficient to establish the likelihood that the election would be lost finally mr mccoy argues that s_corporations have a great disadvantage in raising capital due to the restrictions of ownership necessary to qualify for the s_corporation_election this concern is more appropriately addressed in determining an appropriate cost of capital in any event it is not a justification for tax affecting an s corporation's projected_earnings under a discounted cash-flow approach mr mccoy has failed to put forward any cognizable argument justifying the merits of tax affecting g j's projected_earnings under a discounted cash-flow approach d mr wilhoite’s testimony mr wilhoite was asked to address whether as of the valuation_date it was reasonable for dr bajaj to value a g j share using the discounted cash-flow method while assuming a zero-percent corporate tax_rate mr wilhoite faults dr bajaj for not taking into account the known payment of taxes in arriving at a value for the g j shares it is unclear however whether the known payment that mr wilhoite has in mind is the avoided corporate level tax paid_by a c_corporation or the shareholder level tax that results from the flowthrough of tax items to the shareholders of an s_corporation the clearest argument mr wilhoite put forward explaining why it is appropriate to tax-affect an s corporation's earnings is in effect an s_corporation is committed to making distributions to shareholders sufficient to cover individual tax_liabilities on allocated s_corporation earnings in the same fashion that a c_corporation is committed to making tax_payments to the service to cover corporate tax_liabilities on reported taxable earnings whether the outflow is a cash distribution made by an s_corporation to satisfy shareholders' tax_liabilities or the direct payment of a tax_liability by a c_corporation the decrease in cash experienced by either entity represents a known payment which reduces the availability of cash which could otherwise be used to maintain or expand existing operations such a decrease must be taken into consideration when valuing an entity whether it is structured as a c_corporation or an s_corporation mr wilhoite’s testimony is not persuasive on redirect examination mr wilhoite stated y ou deduct the taxes that would be paid if the company were structured as a c_corporation and that leaves you with a distributable_amount of earnings further mr wilhoite had the following discussion with the court mr wilhoite we’re dealing with a stock of a corporation g j and g j 1s an s_corporation and g j has generated significant earnings up until the date of the valuation and all of those earnings have been distributed to the shareholders the court um-hmm mr wilhoite but every dollar of earnings for g éj in any particular year has to go to the irs whether it goes through the shareholders or directly it has to go to the irs so what’s left above the tax that they’re paying to the irs is the true distribution to the shareholder and also represents the true available cash that the company can distribute it is possible that mr wilhoite is arguing that in valuing an s_corporation the avoided c_corporation tax must be taken into account as a hypothetical expense in addition to the shareholder level taxes actually imposed on the s corporation’s shareholders indeed that is the position taken by mr mccoy mr wilhoite has failed to convince us however that dr bajaj should have applied a hypothetical corporate tax_rate in excess of the zero-percent actual corporate tax_rate he did apply he has not convinced us that such an adjustment is appropriate as a matter of economic theory or that an adjustment equal to a hypothetical corporate tax is an appropriate substitute for certain difficult to quantify disadvantages that he sees attaching to an s_corporation_election we believe that the principal benefit that shareholders expect from an s_corporation_election is a reduction in the total_tax burden imposed on the enterprise the owners expect to save money and we see no reason why that savings ought to be ignored as a matter of course in valuing the s_corporation - - although perhaps less likely mr wilhoite may believe that as a matter of proper application of a present_value analysis dr bajaj was required to tax affect g j’s expected distributions on account of the expected tax burden to be borne by its shareholders dr bajaj assumed that g j would continue to distribute all of its earnings annually he made no explicit adjustment for any shareholder level taxes although undoubtedly he knew such taxes would be due dr bajaj did not however ignore shareholder level taxes he simply disregarded them both in projecting gé j’s available cash and in determining the appropriate discount rate the present_value of any future deferred cash-flow is a function of three variables the amount of the cash-flow the discount rate and the period of deferral ’ the discount rate reflects the return over time to the investor on the amount invested commonly expressed as a rate of interest if in determining the present_value of any future payment the discount rate is assumed to be an after-shareholder-tax rate of return then the cash-flow should be reduced tax affected to an after-shareholder-tax amount if on the other hand a preshareholder-tax discount rate is applied no adjustment for taxes should be made to the tt pv c r where pv equals the present_value r equals the discount rate c equals the cash-flow and n equals the number of periods of deferral cash-flow ’ since in applying his discounted cash-flow approach dr bajaj assumed a preshareholder-tax discount rate he made no error in failing to tax affect the expected cash-flow if mr wilhoite’s criticism is based on his assumption that dr bajaj wrongly disregarded shareholder level taxes then he is in error lack of marketability discount we have considered the expert testimony on the lack of marketability issue and we weigh that testimony in light of the experts' qualifications and other credible_evidence see estate of newhouse v commissioner t c pincite while we recognize the severity of the restrictions imposed both by law and by and among the existing shareholders which limited the marketability of g j's shares in we find dr bajaj's testimony to be thorough and more persuasive than mr mccoy's taking account of the inherently subjective and imprecise nature of the thus assume that in consideration for today investing dollar_figure an investor is to receive dollar_figure in year the interest rate implicit in this example is percent assume that the investor’s return will be subject_to a 40-percent tax if the investor considers that his after-tax return will be dollar_figure and assumes an after-tax discount rate of percent then the present_value of the after-tax cash_flow of dollar_figure would be dollar_figure if on the other hand the investor considers that his pretax return will be percent then the present_value of the pretax cash_flow of dollar_figure would also be dollar_figure hence there is no difference in result investigation ’ we find that an appropriate lack of marketability discount for the gifted shares on the gift date wa sec_25 percent cost of capital the final significant area of contention between the parties is the appropriate cost of equity_capital to be used for purposes of valuing the g j shares based on the opinions of their respective experts petitioners and respondent assert g j’s appropriate cost of equity_capital was percent and percent respectively it is unclear how mr mccoy arrived pincite percent mr mccoy begins by stating the reguired rate of return is determined by comparison to rates of return on investments of similar risk he then ranks various investments by quality as of date beginning with long-term government bonds and ending with the category extreme risk one ranking consists of cc bond and very small cap companies which shows yield to both parties criticize the opposing opinion evidence testimony as being arbitrary and unsupported petitioners note that at first dr bajaj in his report carefully estimated a conservative lack of marketability discount of percent then arbitrarily based on several additional facts and with less than half a page of discussion he virtually doubles his estimate and concludes that an appropriate discount i sec_25 percent respondent in turn notes that the business valuations report relies on studies which examined biased statistical data and studies which misinterpret observed results maturity of the next higher ranking ccc bond and small cap companies shows a yield_to_maturity of mr mccoy testified that he chose percent because it fell within the range of yields to maturity for very small capitalization companies he also testified that he checked his conclusion by building up the required rate of return from various factors including an expected small stock risk premium of percent the source of which allegedly was stocks bonds bills and inflation yearbook ibbotson associates inc it is not clear how mr mccoy defines very small cap companies at trial mr mccoy in fact admitted that gé j did not fall into the ibbotson definition of a small company we therefore have no confidence in the foundation of mr mccoy's analysis on this issue we are not bound by the opinion of any expert witness and will accept or reject expert testimony in the exercise of sound judgment see 304_us_282 92_tc_312 petitioners have not met their burden of demonstrating that an appropriate cost of equity_capital for g j on the gift date was percent we find dr bajaj's testimony to be thorough and convincing dr bajaj opined a 4-percent weighted average cost of capital for g j as of the valuation_date he used the capital_asset pricing model to derive an appropriate cost of equity_capital and he used g j's real borrowing costs to derive an appropriate cost of debt capital for g j as of the valuation_date indeed géj's 25-percent borrowing rate in was three-quarters of a percent below the prime rate by the valuation_date the prime rate had dropped to percent therefore we believe that dr bajaj's opinion errs on the generous side if at all we accord significant weight to bajaj's opinion further the category immediately above very small cap companies in mr mccoy's rankings is entitled small cap companies which according to mccoy has a reported required rate of return of percent that figure is associated with a nominal category that is not inconsistent with petitioners' assertions that g j was a small company and it is in harmony with respondent's asserted value therefore we conclude that an appropriate cost of equity_capital for g j on the gift date wa sec_15 percent v conclusion for the foregoing reasons we conclude that the value of the gifted shares on the gift date was dollar_figure per share decisions will be entered under rule


t c no united_states tax_court john m cameron and caroline d cameron and john p and teena g broadaway petitioners v commissioner of internal revenue respondent docket no filed date ps were shareholders of x which computed its earnings_and_profits under the percentage_of_completion_method_of_accounting x elected to be taxed as an s_corporation and in a subsequent taxable_year distributed a dividend to ps held for purposes of measuring the amount of the dividend x's earnings_and_profits for its last taxable_year as a c_corporation must be computed on the basis of year-end estimates of the total costs of its long- term contracts the estimates may not be revised retroactively to reflect actual costs and earnings_and_profits may not be adjusted for subsequent taxable years to which the subchapter_s_election applied edgar j tyler for petitioners michael f o'donnell for respondent opinion laro judge the camerons and broadaways petitioners jointly petitioned for redetermination of federal_income_tax deficiencies determined by respondent as follows broadaways camerons year year deficiency dollar_figure deficiency dollar_figure dollar_figure after concessions by the parties we must decide two remaining questions that will determine the extent to which petitioners recognized dividend income from a distribution by cameron construction co company in whether company's contemporaneous estimates of the cost of completing its long-term_contracts may be revised retroactively in computing earnings_and_profits under the percentage_of_completion_method we hold that they may not whether company's earnings_and_profits may be adjusted for taxable years to which its subchapter_s_election applied we hold that they may not stipulations this case was submitted on the basis of a fully stipulated record the stipulations of fact and attached exhibits are incorporated herein by this reference at the time they filed their joint petition the broadaways resided in bono arkansas and the camerons resided in jonesboro arkansas petitioners were shareholders in company during the taxable years at issue company is engaged in the road and highway construction business_company calculated its income from construction contracts under the completed_contract_method of accounting accordingly it was required by sec_312 to compute its earnings_and_profits as if it used the percentage_of_completion_method_of_accounting company elected to be taxed as an s_corporation pursuant to sec_1362 effective following the close of its taxable_year ended date as an s_corporation company's first tax_year was a short_year ending date and company thereafter reported on a calendar_year basis at some time during its taxable_year company made a distribution to petitioners the distribution is taxable to petitioners as a dividend to the extent of the accumulated_earnings_and_profits of the company existing on date the parties have specified four alternatives if company's earnings_and_profits must be computed as of the end of each taxable_year on the basis of reasonable contemporaneous estimates of the costs to complete it sec_1 unless otherwise indicated all section references are to the internal_revenue_code in effect for the taxable years at issue and all rule references are to the tax_court rules_of_practice and procedure construction contracts and may not be adjusted for taxable years ended after date then the accumulated_earnings_and_profits and resulting deficiencies for the taxable_year are e_p broadaways camerons dollar_figure dollar_figure dollar_figure if company's earnings_and_profits may be computed as of the end of each taxable_year on the basis of the actual contract costs determined thereafter but may not be adjusted for taxable years ended after date then the accumulated_earnings_and_profits and resulting deficiencies for the taxable_year are e_p broadaways camerons dollar_figure dollar_figure dollar_figure if company's earnings_and_profits must be computed as of the end of each taxable_year on the basis of reasonable contemporaneous estimates of the costs to complete its construction contracts and may be adjusted for taxable years ended after date then the accumulated_earnings_and_profits and resulting deficiencies for the taxable_year are e_p broadaways camerons dollar_figure dollar_figure dollar_figure if company's earnings_and_profits may be computed as of the end of each taxable_year on the basis of the actual contract costs determined thereafter and may be adjusted for taxable years ended after date then the accumulated_earnings_and_profits and resulting deficiencies for the taxable_year are e_p broadaways dollar_figure dollar_figure camerons dollar_figure our task is to select the one alternative if any that is in accordance with the governing law discussion it is undisputed that company was required to use the percentage_of_completion_method for purposes of computing its earnings_and_profits sec_312 the first issue is how to perform this computation under sec_460 as enacted by the tax_reform_act_of_1986 publaw_99_514 100_stat_2358 gross_income from a long-term_contract is taken into account as the work progresses the amount of gross_income from a long-term_contract that is accrued for each taxable_year is that proportion of the expected total contract income that the amount of costs incurred through the end of the taxable_year bears to the total expected costs reduced by cumulative amounts of contract income that were reported for previous taxable years sec_460 h rept pincite 1986_3_cb_630 see also kollsman instrument corp v commissioner tcmemo_1986_66 affd 870_f2d_89 2d cir berger engg co v commissioner tcmemo_1961_292 the second issue is how the computation of company's earnings_and_profits was affected by its election under subchapter_s effective date absent the election company would have continued to accrue income from its long-term_contracts for earnings_and_profits purposes on the basis of year- end estimates of total contract costs the earnings_and_profits available for distribution to petitioners in would have been determined on the basis of estimated costs to complete contracts in progress on the last day of company's taxable_year the result is not the same under subchapter_s the basic purpose of the earnings_and_profits account is to keep track of the amount of corporate funds that have not yet been taxed to shareholders when a corporation elects pass-through treatment under subchapter_s its net_income earned as an s_corporation is taxed currently to the shareholders and thereafter is generally distributed tax-free sec_1366 sec_1368 c in accordance with the much more limited role of earnings_and_profits in a pass-through system of taxation sec_1371 provides for taxable years after that the accumulated_earnings_and_profits that an s_corporation carries over from pre-election years when it was a c_corporation generally are not adjusted for the taxable years during which the election is in effect sec_1371 s rept pincite 1982_2_cb_718 accompanying subchapter_s_revision_act_of_1982 publaw_97_354 stat while exceptions apply in certain cases none are relevant on these facts sec_1371 and d it follows that after its conversion to an s_corporation through the end of there was no change in the amount of company's earnings_and_profits computed on the basis of estimates made as of date petitioners' argument starts with the proposition that earnings_and_profits for a given taxable_year should measure as accurately as possible the current ability of the corporation to make distributions to shareholders without impairing its capital they concede that in preparing annual tax returns using the percentage_of_completion_method company would have been required to compute earnings_and_profits on the basis of the limited information that was available at the time yet they contend where as here earnings_and_profits for the years at issue can be recomputed when more information about the costs of company's long-term_contracts is known they should not be bound by the estimates reflected on company's original returns in petitioners' view accuracy requires the use of additional information that has subsequently become available although petitioners' primary position is that the concern for accuracy in computation of earnings_and_profits should override the freeze on earnings_and_profits provided for by sec_1371 they argue in the alternative that even if earnings_and_profits were frozen as of the effective date of company's subchapter_s_election sec_1371 does not disallow or forbid 'correcting' the 'c' corporation earnings_and_profits if the figures as of the date of the conversion were inaccurate petitioners' contention that retroactive adjustments are necessary if earnings_and_profits are to perform their intended function would be more persuasive if no other means of correcting inaccuracies in the accrual of long term contract revenue under the percentage_of_completion_method were available that is not the case however the percentage_of_completion_method has a built-in mechanism for correcting mistaken estimates it differs from the mechanism that petitioners propose see herwitz accounting for long-term construction contracts a lawyer's approach harv l rev ndollar_figure h rept pincite 1986_3_cb_1 for each year the cumulative amount of contract revenue that has already been reported in prior years is subtracted from the cumulative amount of contract revenue that is otherwise reportable as of the close of the current_year if in year the taxpayer reports too much revenue and overstates earnings_and_profits as a result of underestimating the amount of its costs to complete contracts in progress there will be correspondingly less revenue that remains to be reported for those contracts in succeeding years the overstatement of earnings_and_profits in the earlier year may cause shareholders to report a larger amount of any distribution in that year as a dividend but the lower revenues and higher costs generated in completion of the contracts will reduce earnings_and_profits available for distribution in later years which in turn may reduce dividend income for shareholders in these years in this way the percentage_of_completion_method is self-correcting when used consistently over the life of the taxpayer's long-term_contracts if this self-correcting mechanism had operated to adjust company's earnings_and_profits after date the unexpectedly high costs incurred and the revision of cost estimates in the taxable_year would apparently have had the effect of reducing accumulated_earnings_and_profits as well as the dividends to petitioners in that year that petitioners could not take advantage of this mechanism to reduce their dividend income for was the consequence of electing the provisions of subchapter_s one of which is the freeze on earnings_and_profits sec_1371 we do not find this result to be inequitable to petitioners considering that they would have had no complaint about the accuracy of earnings_and_profits measurement under the percentage_of_completion_method had company overestimated its total contract costs as of the time of its subchapter_s_election rather than underestimating them the normal operation of the tax laws will not be adapted to suit the convenience of individual taxpayers petitioners' argument that in the interest of accuracy they should be entitled to use a different adjustment mechanism from that provided for under the percentage_of_completion_method finds no support in general principles of tax_accounting on the contrary the general_rule for the timing of income accruals as stated in the regulations is that where an amount of income is properly accrued on the basis of a reasonable estimate and the exact amount is subsequently determined the difference if any shall be taken into account for the taxable_year in which such determination is made sec_1_451-1 income_tax regs to allow a taxpayer to reopen the taxable_year of the original estimate would moreover be inconsistent with the annual accounting principle upon which the federal_income_tax is predicated the courts have long maintained income_tax_liability must be determined for annual periods on the basis of facts as they existed in each period no other system would be practical in view of the statute_of_limitations the obvious administrative difficulties involved and the lack of finality in income_tax_liability which would result 39_bta_338 affd sub nom 111_f2d_60 7th cir accord hillsboro natl bank v commissioner 460_us_378 n ndollar_figure 345_us_278 282_us_359 it does not appear from the stipulated facts that an attempt was made to correct the estimates reflected on company's original return for the taxable_year ended date by means of an amended_return the implication of petitioners' argument however is that if a taxpayer in similar circumstances filed an amended_return respondent would be obligated to accept it the cases hold otherwise as a corollary to the annual accounting principle it is well established that where a transaction was properly reported on the original return and the original filing deadline has passed the acceptance of an amended_return that alters the tax consequences of the transaction is generally within the discretion of respondent 65_tc_113 coons v commissioner tcmemo_1983_777 see also hillsboro natl bank v commissioner supra pincite n accordingly company's earnings_and_profits for its last taxable_year as a c_corporation must be determined from company's reasonable estimate as of date of its costs to complete construction contracts in progress the parties have stipulated that this amount is dollar_figure the rules of subchapter_s precluded any adjustment to company's earnings_and_profits in the circumstances of this case see sec_1371 as a result company's earnings_and_profits remained dollar_figure on date and the dividend distributed to petitioners in must be measured by reference to this amount in accordance with the parties' stipulation the deficiency in federal_income_tax for was dollar_figure for the broadaways and dollar_figure for the camerons to reflect the foregoing decision will be entered under rule


internal_revenue_service department of the treasury index number washington dc number release date person to contact telephone number refer reply to cc dom p si br 1-plr-102961-00 date mar legend x d1 d2 this responds to the letter dated date and prior correspondence submitted on behalf of x requesting relief under sec_1362 of the internal_revenue_code facts x was incorporated on d1 x intended to be treated as an s_corporation for federal_income_tax purposes effective on d2 but the s election was not timely filed law and analysis sec_1362 provides that a small_business_corporation may elect to be an s_corporation sec_1362 provides the rule on when an s election will be effective if an s election is made within the first two and one-half months of a corporation’s taxable_year then the corporation will be treated as an s_corporation for the year in which the election is made if the election is made after the first two and one-half months of a corporation’s taxable_year then the corporation will not be treated as an s_corporation until the taxable_year after the year in which the s election is made plr-102961-00 sec_1362 provides that if no election is made pursuant to sec_1362 or if made the election is made after the date prescribed for making such an election and the secretary determines there was reasonable_cause for the failure to timely make the election then the secretary may treat such an election as timely made for such taxable_year and effective as of the first day of that tax_year x did not file a timely election to be treated as an s_corporation under sec_1362 effective on d2 x has however established reasonable_cause for not making a timely election and is entitled to relief under sec_1362 conclusion based solely on the facts submitted and representations made and provided that x otherwise qualifies as a subchapter_s_corporation we conclude that x will be recognized as an s_corporation effective d2 within days from the date of this letter x should submit a properly completed form_2553 with a copy of this letter attached to the relevant service_center except as expressly provided herein no opinion is expressed or implied 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 x is in fact an s_corporation for federal tax purposes this ruling is directed only to the taxpayer requesting it sec_6110 of the code 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 the taxpayer’s representative sincerely signed dianna k miosi dianna k miosi chief branch office of the assistant chief_counsel passthroughs and special industries enclosures copy of this letter copy for sec_6110 purposes