Volume 101 — Tax Court Reports

P was the parent company of several public utility gas companies, including S and S1. S and S1 owned pipelines and underground storage reservoirs. S and S1 maintained a static volume of gas in the pipelines and reservoirs that provided the pressure needed to deliver gas to customers. S and S1 accounted for these pressurizing gases ("cushion gas" in reservoirs and "line pack gas" in pipelines) as capital assets. R determined that these gases should be accounted for as inventory. In 1985 and 1986, S reclassified a portion of its working gas to cushion gas, based on engineering reports that more cushion gas was needed in its reservoirs. P did not obtain the Secretary's approval for the reclassification. R determined that the reclassification was a change in method of accounting. R also determined that any gas physically recoverable should not be depreciated. 1. Held, cushion gas and line pack gas are capital assets because the gases are an integral part of P's reservoirs and pipelines and essential to P's operations. 2. Held, the reclassification was a change in the method of accounting under sec. 446(e), I.R.C., because the reclassification deferred income by changing the method of identifying a material item of inventory. 3. Held, the standard for determining the nonrecoverable cushion gas and line pack gas at abandonment of operations is economic recoverability. Held, further, amounts of gas in various categories are determined.

The sole issue for decision is whether petitioners must include in income a recovery of interest expense by an S corporation, in which they were shareholders, when the interest expense was deducted by the corporation in a prior year when it was governed by the rules of subchapter C. Held, petitioners must include this recovery in income.

Decedent had the right to consume the principal of the marital trust fund. Held: although the event or contingency need not necessarily be beyond the decedent's control, the event or contingency must have a significant nontax consequence independent of the decedent's ability to exercise the power.

R issued, on the same day, a statutory notice determining deficiencies in and additions to P-parents' 1983 and 1988 Federal income taxes, and a statutory notice of transferee… Held: R's motion will be denied. As natural guardians of their minor son, P-parents may act as his next friends under Rule 60(d), Tax Court Rules of Practice and Procedure, and did in fact intend to petition for redetermination of both their deficiencies and their minor son's transferee liability.

W's husband died in 1988 at the age of 45. Held: Although the distribution of that amount satisfies the definition of a lump-sum distribution in sec. 402(e)(4)(A), 5-year averaging otherwise available to W under sec. 402(e)(1) is precluded by the provision in sec. 402(e)(4)(B)(i) imposing the condition that the distribution with respect to an employee * * * [be] received on or…

P is an affiliated group of corporations that filed consolidated returns for the years at issue. Held: inter alia, that the income from PH's LNG sales during the years at issue must be apportioned according to Example (2) of sec. 1.863-3(b)(2), Income Tax Regs., only if the factual prerequisites of Example (1) of said regulations are not satisfied.

R issued regulations changing the manner in which mutual savings banks calculated the allowable deduction for addition to bad debt reserves. Sec. 1.593-6A(b)(5), Income Tax Regs. Held: retroactive application of the changed rule was not an abuse of discretion.

On Apr. 25, 1983, P1, the common parent of P Group, became a party to a reverse acquisition as specified in sec. 1.1502-75(d)(3)(i), Income Tax Regs. Held: because P1, the old common parent, continued to exist after the reverse acquisition, there is justification for limiting our holding in Southern Pac. Co. to situations where the old common parent no longer exists after the reverse acquisition.

Ps received from decedent's estate farm property qualifying for special use valuation under sec. 2032A, I.R.C. Within 15 years of decedent's death, Ps, as qualified heirs, leased the qualified real… Held: P's cash rental of the qualified property constituted a cessation of qualified use resulting in a liability for additional Federal estate tax under sec. 2032A(c)(2)(A) with respect to the qualified property. 2.

P pleaded nolo contendere to one count of an indictment charging P with a violation of sec. 1 of the Sherman Act by engaging in anticompetitive conduct in marine construction, including collusive bid… Held: the standard for measuring sec. 162(g), I.R.C., applicability depends upon the scope of the conduct to which a taxpayer admitted in the criminal proceeding, and whether that conduct is essentially coextensive with the conduct that gave rise to the civil settlement.

BH is the parent of an affiliated group of corporations filing a consolidated Federal income tax return. W, a subsidiary of BH in the business of operating a surface coal mine, made payments characterized by W and the purported insurer (I) as insurance payments for black lung liability. Under the arrangement between W and I, renewable at W's option, "premium" payments were front-loaded: premiums for years prior to the anticipated mine closing year (including both years at issue) were far larger than necessary to insure against risks pertaining to that year; premiums in the anticipated mine closing year were insufficient to insure against risks pertaining to that year. Thus, premiums for years prior to the anticipated mine closing year, in large part, constituted prepayments of the premium pertaining to the year in which the mine was expected to close. R allocated only a small portion of such expenditures to current expenses for each year at issue and allowed deductions only to that extent. I maintained on its books and records a "reserve account" in W's name, to which certain amounts were credited and debited. Credits to the account included premium payments, allocated portions of investment income and unrealized securities gains, and credits resulting from the termination of other insureds' policies where other insureds have positive reserve account balances. Charges to the account included the estimated present value of approved claims against W, deductions resulting from the termination of other insureds' policies where other insureds have negative reserve account balances, expenses incurred in connection with handling of claims against the insured, and allocated portions of unrealized securities losses. Two years following cancellation of the policy, W would have been entitled to a full refund of its reserve account balance (so long as it did not enter into a similar policy with I). Held, W's expenditures created a distinct asset and, accordingly, were capital expenditures. Commissioner v. Lincoln Sav. & Loan Association, 403 U.S. 345 (1971). Held, further: Assuming arguendo that W's expenditures were payments for insurance coverage, such coverage pertained almost entirely to years other than those at issue. Ps have failed to prove R's allocation to be incorrect. Rule 142(a), Tax Court Rules of Practice and Procedure. Thus, R's determinations are sustained.

In 1985, P, a corporation, decided to terminate its defined benefit pension plan (pension plan). Held: P's pension plan had an accumulated funding deficiency in FYE 1985 subject to the 5-percent excise tax under sec. 4971, I.R.C.D.J. Lee, M.D., Inc. v. Commissioner, 92 T.C. 291, 300 (1989), affd. 931 F.2d 418 (6th Cir. 1991), followed.

I, an S corporation, purchased stock in RC and shortly thereafter sold the stock at a significant loss. Held: The ordinary loss treatment prescribed in sec. 1244(a), I.R.C., only extends to stock issued to individual taxpayers and partnerships. Because the RC stock was issued to I, an S corporation, it follows that Ps are not entitled to report the loss as an ordinary loss in this case.

Held, P may net interest income against interest expense in determining the amount of the interest deduction to be allocated and apportioned in computing combined taxable income for P and its DISC under sec. 994(a)(2), I.R.C. 1954. Dresser Indus., Inc. v. Commissioner, 911 F.2d 1128 (5th Cir. 1990), revg. on this issue 92 T.C. 1276 (1989), distinguished.

T was a participant in her employer's defined benefit pension plan, which was tax qualified under sec. 401, I.R.C. In 1988, when she was 54 years old, the plan was terminated, and her total accrued benefit in the plan was distributed to her. The distribution was made to T solely on account of the plan's termination and not "on account of separation from service or disability." 1. Held: The distribution did not qualify as a "lump sum distribution" (a term of art defined in sec. 402(e)(4)(A), I.R.C.) since it was not made on account of any of the four alternative events specified in sec. 402(e)(4)(A): Death, attainment of age 59 1/2, separation from the service, or disability. It was therefore ineligible for income averaging treatment under sec. 402(e)(1), I.R.C. In addition, the special transitional relief afforded by TRA sec. 1122(h)(3), TRA of 1986, was inapplicable, because the latter provision did not affect the definition of a lump sum distribution contained in sec. 402(e)(4)(A), I.R.C. It affected only the additional requirements for income averaging contained in the operative provision of sec. 402(e)(4)(B), which in turn was applicable to a "lump sum distribution", as defined in sec. 402(e)(4)(A). The age 50 transitional provision in TRA sec. 1122(h)(3) was concerned only with the treatment of lump sum distributions in subpar. (B) of Code sec. 402(e)(4), and did not change the definition of a lump sum distribution in subpar. (A) of sec. 402(e)(4). Further, the definition of a lump sum distribution in sec. 401(k)(10)(B), relied upon by T, was also inapplicable. That definition in sec. 401(k)(10)(B) relates merely to sec. 401(k)(2) and not to sec. 402(e) involved in this case. 2. Held, further, the distribution was subject to the 10-percent additional income tax under sec. 72(t), I.R.C, since it was made prior to T's attainment of age 59 1/2 and since there was no evidence that the distribution qualified under any of the other exceptions contained in sec. 72(t)(2) to imposition of the additional tax.

Ps controlled corporation I. In 1978, 1979, and 1981, I issued options, containing restrictions on vesting and transfer, to Ps, in connection with their performance of services for I. The 1981… Held: the immediately exercisable requirement of sec. 1.83-7(b)(2)(ii), Income Tax Regs., is valid.

In each of the years 1981, 1982, 1983, 1984, and 1986, Ps incurred investment interest expense in excess of the amount in which such interest was currently deductible under sec.… Held: the carryover of investment interest expense to succeeding years under sec. 163(d) is not limited by the amount of Ps' taxable income in the current year. 2. Held, further, we will no longer follow our opinion in Beyer v. Commissioner, 92 T.C. 1304 (1989), revd. 916 F.2d 153 (4th Cir. 1990).

P extended interest-bearing loans repayable in monthly installments over 15 years. Held: the provisions of the notes do not, as a matter of law, control the allocation of the payments for income tax purposes.

In 1987, P, former CEO and vice president of bankrupt Newbery Corp., entered into a settlement agreement regarding alleged preferential… Held: transfer of $ 80,000 cash and the deed to residence into escrow satisfied the requirements of sec. 461(f): (1) A liability need not be in writing to qualify as an asserted liability; (2) P relinquished control of the residence by depositing the deed into escrow; and (3) the agreement amounted to Ps' refunding income to Newbery,…

Sec. 1441(a), I.R.C., requires that persons paying certain types of income (including interest) to nonresident aliens withhold 30 percent thereof as a tax. Held: the special 6-year period of limitations contained in sec. 6501(e)(1), I.R.C., applies where there is an omission of gross income paid to nonresident aliens that exceeds 25 percent of the amount shown on Form 1042.

The decedent created three irrevocable inter vivos trusts, as to each of which she retained the right to remove the sole trustee, a corporation qualified to conduct trust business, and substitute a… Held: the assets of the trusts are not required to be included in the decedent's gross estate under secs. 2036(a)(2) and 2038(a)(1), I.R.C.

Pursuant to a good faith settlement of a will contest alleging undue influence, decedent's 1982 will and codicils thereto were amended to provide, inter alia, for the division of the residuary estate… Held: the amounts passing to the marital and charitable shares are those in the settlement agreement and are not limited to the amounts that would have passed under the 1982 will and codicils.

Decedent's will established two shares of the residue, one which qualified for the marital deduction under sec. 2056, I.R.C. (the marital share) and one which did not so qualify (the nonmarital… Held: the marital trust should not be reduced by the amount of the administration expenses. Estate of Street v. Commissioner, 974 F.2d 723 (6th Cir. 1992), revg. T.C. Memo. 1988-553, distinguished.

Petitioner was required to change to a calendar tax year by secs. 441(i) and 444, I.R.C. To effect the change, petitioner was required to file an annualized return for a short tax period under sec.… Held: respondent's determination is sustained and petitioner is required to annualize the partnership items in question.

R issued two notices of deficiency for Ps' 1983 tax year. R did not issue the first notice of deficiency within the time allowed by sec. 6501, I.R.C. R later conducted a Tefra partnership audit of a partnership in which Ps had invested in 1983. R issued a second notice of deficiency to Ps as a result of that audit. Ps contend that issuance of the second notice of deficiency is barred by: (1) The general statute of limitations, sec. 6501, I.R.C.; (2) the limitation on issuance of two notices of deficiency to a taxpayer for 1 year, sec. 6212(c), I.R.C.; and (3) res judicata. Held, issuance of the second notice of deficiency is allowed by the statute of limitations applicable to Tefra partnership audits, sec. 6229, I.R.C., and is not barred by sec. 6212(c) or 6501, I.R.C., or by res judicata. Held, further, R's deficiency determination is sustained, and Ps are liable for increased interest under sec. 6221(c), I.R.C.

P filed timely his 1976 Federal income tax return on which he reported an $ 861,019 net operating loss (NOL) deduction arising from his… Held: the period of limitation under sec. 6501, I.R.C., does not bar respondent's assessment of the deficiency that she determined for P's 1976 taxable year; respondent's adjustment to P's 1976 Nol deduction was timely because it was within the scope of the restrictive language contained in Form 872-a. Held, further, the equitable doctrine…

R determined that P, a publicly held corporation, unreasonably accumulated its earnings and profits and, therefore, was subject to the accumulated earnings tax. Held: the accumulated earnings tax can apply to a publicly held corporation regardless of the concentration of ownership or whether the shareholders are actively involved in the operation of the corporation.

Decedent owned 168,600 shares of Jung Corp. stock at her death. 1. Held, fair market value of the shares determined. Sec. 2031, I.R.C. 1954. 2. Held: fair market value of the shares determined. Sec. 2031, I.R.C. 1954. 2. Held, further, petitioner is not liable for an addition to tax. Sec. 6660, I.R.C. 1954.

In Estate of Holl v. Commissioner, 967 F.2d 1437 (10th Cir. 1992), revg. 95 T.C. 566 (1990), this case was remanded for a revised determination of the value of in-place oil and gas reserves extracted… Held: the determination of value should include a minimal discount for risk or uncertainty, as set forth in respondent's expert report.

P, a publicly held corporation primarily engaged in retailing, uses an estimate of shrinkage not verified by yearend physical count in computing its yearend inventory. Held: The regulation does not prohibit the use of a shrinkage estimate in computing yearend inventory. Accordingly, P's estimate does not, as a matter of law, cause its accounting method to fail to clearly reflect income.

Forms 872-S, Consents to Extend the Time to Assess Tax Attributable to Items of an S Corporation, were signed on the line designated for the tax matters person (TMP) by M, the secretary-treasurer and… Held: under Oregon law and pursuant to the bylaws and resolution, M and D were authorized by B and I, respectively, in writing to sign the consents, and the consents are valid. See sec. 6229(b)(1)(B), I.R.C.; Cambridge Research & Dev. Group v. Commissioner, 97 T.C. 287 (1991).

H and W, residents of California, were divorced in 1984. Held: the antialienation provisions of sec. 401(a)(13), I.R.C., and the preemption provisions of the Employee Retirement Income Security Act of 1974, Pub.

D's late husband bequeathed his estate to a marital trust, for the benefit of D, and a residuary trust, for the benefit of his children… Held: D's agreement with the beneficiaries of the residual trust to vest outright ownership of approximately one-half of the assets of the estate in D during her lifetime was tantamount to converting her testamentary power of appointment into a lifetime one and exercising it in favor of herself, and therefore, did not constitute a taxable…

Ps, disqualified persons, lent money and guaranteed bank loans to a pension trust. Held, Ps are liable for sec. 4975(a), I.R.C., excise taxes on prohibited transactions, in the amounts computed by R. Held: Ps are liable for sec. 4975(a), I.R.C., excise taxes on prohibited transactions, in the amounts computed by R.

On Nov. 17, 1983, U.S. Customs agents seized $ 359,500 in cash from P as he and his wife were attempting to enter Canada from the United States. Held: the District Court judgment is not res judicata in the instant case.

P, a logger, drove daily from his residence to numerous job sites located throughout the Black Hills National Forest. P worked approximately 6 to 7 hours per day cutting trees. Held: P was self-employed and may report income from his business on Schedule C. Held, further, payments to P reported on petitioners' returns as equipment rental actually constituted compensation for P's logging activities and must be reported on Schedule C. 2.

R moved to dismiss for lack of jurisdiction the partial affirmative defense of equitable recoupment asserted in P's amended petition. Held: Without reaching the merits of P's equitable recoupment defense, the Tax Court is authorized to apply the doctrine of equitable recoupment, and R's motion to dismiss is denied. Secs. 6214(b) and 6512(b), I.R.C. 1954, held inapplicable, and Commissioner v. Gooch Milling & Elevator Co., 320 U.S. 418 (1943), distinguished.

Held, as of April 1980, the term tar sands, for purposes of the alternative fuel production credit under sec. 44D, I.R.C., consisted of the… Held: as of April 1980, the term tar sands, for purposes of the alternative fuel production credit under sec. 44D, I.R.C., consisted of the several rock types that contain an extremely viscous hydrocarbon which is not recoverable in its natural state by conventional oil well production methods including currently used enhanced recovery…

J owned the majority of the outstanding shares of stock in P. P is franchisee in several H & R Block franchise agreements. Held: The purpose of the monthly payments to J was to minimize the ordinary and necessary franchise fees incurred in P's business. P may deduct the full amount of the monthly payments made to induce J to refrain from causing an event of increase as an ordinary and necessary business expense pursuant to sec. 162(a), I.R.C.

On April 2, 1986, H and W entered into a separation agreement which provided that H would purchase W's stock in J, a corporation of which they were the sole stockholders. Held: entry of the nunc pro tunc order was contrary to Ohio law and will not be given effect for Federal tax purposes. Consequently, the judgment entered by the Ohio court, which imposed a primary and unconditional obligation on H to purchase W's stock, is treated as valid.