Scallen v. Comm'r

¶2MEMORANDUM FINDINGS OF FACT AND OPINION

¶3RUWE, Judge: Respondent determined deficiencies of $ 735,745 and $ 38,296 in petitioner Thomas K. Scallen's Federal income taxes for 1989 and 1990, respectively. Respondent determined deficiencies of $ 25,933, $ 75,798, and $ 65,669, in petitioners Thomas K. Scallen's and Bille J. Scallen's Federal income taxes for 1992, 1994, and 1995, respectively. ¹ The parties filed a joint motion to sever the issue relating to Bille J. Scallen's joint and several liability, which we granted. After concessions, ² the only issue for decision is whether certain debts formerly owing to petitioner were business bad debts for purposes of section 166(a). ³

¶4*315              FINDINGS OF FACT

¶5Some of the facts have been stipulated and are so found. The stipulation of facts and the attached exhibits are incorporated herein by this reference. At the time of filing the petition, petitioners resided in Minneapolis, Minnesota.

¶6Petitioner is an experienced businessman, a producer, a radio personality, and a lawyer. Petitioner received a bachelor of arts degree (1949) and a law degree (1950) from Denver University. He worked 5 years as an assistant attorney general for the State of Minnesota, acting as a trial lawyer for the Minnesota Highway Department. He also worked for 1 year in the mid-1950s as counsel to the judiciary committee of the Minnesota State Senate. From 1956 to 1964, petitioner practiced law full time, and he thereafter practiced law part time. After 1964, petitioner spent approximately 95 percent of his time working on his own business deals and as an employee of various companies.

¶7In 1964, petitioner became president of the Bank of Minneapolis, a downtown retail bank in Minneapolis. This bank was a small bank, and each of its officers, including petitioner, was a loan officer. Petitioner acted as*316 a loan officer for about 4 or 5 years, and as a loan officer he evaluated creditworthiness, the character of the borrower, the cashflow of the business, the market value of the borrower's collateral, and "things like that". Petitioner was also president of the Lake City State Bank in Lake City, Minnesota.

¶8International Broadcasting Corporation (IBC)

¶9Petitioner incorporated International Broadcasting Corporation (IBC) in April 1981. IBC was a publicly held company, and its stock was traded on the NASDAQ national stock exchange. IBC's corporate office was located at 5101 IDS Tower, which was also petitioner's office address.

¶10Petitioner was a shareholder, director, and the chief executive officer of IBC from April 1981 to August 1996; he was its president from 1982 to 1995. Petitioner spent at least 80 percent of his time operating IBC. Petitioner received wages from IBC and/or its subsidiaries for each of the years 1987 to 1995. ⁴ Petitioner's personal financial statements report the following number of IBC shares owned by petitioner and their value:

¶11*317     Date     Number of shares        Value

¶12    ____     ________________        _____

¶13   11/30/86     6,605,000        $ 1,321,000

¶14   08/31/88      472,200         4,958,100

¶15   10/31/89      472,200         5,961,525

¶16   10/31/90      472,200         2,361,000

¶17   09/30/91      472,200          472,200

¶18   01/31/92      472,200          118,050

¶19   03/31/93      472,200          47,250

¶20   02/28/94      472,200          47,200

¶21In the mid-1980s, IBC decided to go into the entertainment business, and, in 1984, it bought the CBS television affiliate, KTAB TV, in Abilene, Texas. IBC paid $ 9 million for KTAB TV, which was financed with a loan from Marine Midland Bank of New York. The bank required petitioner to guarantee this loan. Petitioner was to receive 1 percent or $ 90,000 as a guaranty fee from IBC for his guaranty. IBC sold KTAB TV 2 years later for about $ 16 million.

¶22On December 17, 1986, petitioner executed a*318 guaranty agreement in favor of certain banks with respect to loans of $ 15 million to IBC. The banks were represented by National Westminster BankUSA (Natwest), as agent. The loans were made in connection with IBC's acquisitions of the Harlem Globetrotters and the Ice Capades, Inc. ⁵ The guaranty agreement states that "It is in the best interests of the undersigned [i.e., petitioner] that the Borrower, which is directly owned in part by the undersigned, be able to obtain the loans provided for in the Loan Agreement". The minutes of the special meeting of the board of directors of IBC, held on February 13, 1987, describe the circumstances of the guaranty by petitioner and authorize payment of a guaranty fee:

¶23   The Board then held a lengthy and detailed discussion of

¶24   compensation*319 for Thomas K. Scallen, President of the

¶25   Corporation. The Board noted Mr. Scallen had personally

¶26   guaranteed the Corporation's $ 15,000,000 obligation to National

¶27   Westminster Bank, USA ("Natwest") incurred in the

¶28   acquisition of The Harlem Globetrotters and Ice Capades and

¶29   recognized that the duties and responsibilities had greatly

¶30   increased as a direct result of these acquisitions. The

¶31   importance of Mr. Scallen to the success of the Corporation has

¶32   been indicated by the request for "key man insurance" by

¶33   Natwest. The directors determined that his activity and

¶34   direction are absolutely essential to the success of this

¶35   Corporation. Upon motion duly made and seconded, Thomas K.

¶36   Scallen recused himself, the following preambles and resolutions

¶37   were adopted:

¶38     WHEREAS:

¶39     It is highly advantageous to this Corporation to assure the

¶40     continued employment of Thomas K. Scallen as its President

¶41     because of his vast business experience and expertise in

¶42     corporate governance.

¶43     WHEREAS:

¶44*320    The President has not been compensated for his personal

¶45     guaranty of the obligation to Natwest which guaranty now

¶46     continues until the guaranteed obligation is satisfied, and

¶47     these actions were not within the scope of his employment

¶48     agreement with the Company.

¶49     NOW, THEREFORE, BE IT RESOLVED:

¶50     That any other director of the Corporation is hereby

¶51     authorized and directed on behalf of this Corporation to

¶52     execute an amendment to the Schedule of Compensation

¶53     attached to the Executive Employment Agreement between the

¶54     Corporation and Thomas K. Scallen, dated July 11, 1983,

¶55     increasing the annual salary of Thomas K. Scallen to

¶56     $ 250,000, effective as at January 1, 1987.

¶57     FURTHER RESOLVED:

¶58     That, in consideration of the extension of his personal

¶59     guaranty as aforesaid, the reasonable value of which, in

¶60     the opinion of the Board of Directors, other than Thomas K.

¶61     Scallen, is at least equal to the amount of $ 150,000,

¶62*321      Thomas K. Scallen is hereby entitled to receive as and for

¶63     compensation for the extension of such guaranty the sum of

¶64     $ 150,000.

¶65     FURTHER RESOLVED:

¶66     That any Vice President of this Company is hereby

¶67     authorized and directed to execute and deliver to Thomas K.

¶68     Scallen a check in the amount of $ 150,000 in full

¶69     consideration of the extension of said guaranty upon

¶70     obtaining the consent of Natwest to such payment.

¶71At some point in or about 1988, Natwest made loans to IBC in the aggregate principal amount of $ 25 million. On June 1, 1988, petitioner guaranteed up to $ 17.5 million of those loans. The guaranty states that "It is in the best interests of the undersigned [i.e., petitioner] that the Borrower, which is directly owned in part by the undersigned, be able to obtain the loans provided for in the Loan Agreement". The board of directors for IBC determined that $ 175,000 was "a reasonable fee" for petitioner's guaranty and authorized the payment of that amount to petitioner.

¶72On May 25, 1989, IBC Amusement Rides, Inc., ⁶ executed a term*322 note of $ 1.5 million in favor of Fantasy Rides, Inc., pursuant to a purchase agreement by and among a number of parties including IBC and Charles R. Wood, one of IBC's directors. ⁷ On May 26, 1989, petitioner and IBC executed a guaranty in favor of Fantasy Rides, Inc., with respect to the term note. Mr. Wood required petitioner's guaranty as a condition precedent to his acceptance of the note from IBC Amusement Rides, Inc. Petitioner reluctantly agreed to this guaranty in order to close the purchase agreement and in recognition that the acquisition transaction was in jeopardy without his guaranty. A resolution by IBC's board of directors describes the circumstances of the guaranty and authorizes a guaranty fee be paid to petitioner:

¶73   In May 1989, at the time the acquisition of Mr. Wood's interests

¶74*323 in Great Escape and Fantasy Island were in the final stage of

¶75   negotiation, NatWest requested that Mr. Wood's three-year

¶76   promissory note be subordinated in all respects to the

¶77   obligation of the Company to NatWest. Mr. Wood, when advised of

¶78   this request, declined to complete the transaction unless he

¶79   received adequate security for the $ 1,500,000 obligation of the

¶80   Company and that adequate security, in his opinion, was the

¶81   personal guarantee of Thomas K. Scallen, who was reluctant to

¶82   provide the guarantee. However, in recognition that the

¶83   transaction was in jeopardy, Thomas K. Scallen agreed to provide

¶84   the guarantee.

¶85   The Directors discussed possible alternative financing to the

¶86   guarantee or payment to Mr. Wood in order to determine the

¶87   appropriateness of fees. Mr. Denis A Mola discussed the approach

¶88   of an investment banker, including comparisons to "bridge

¶89   loans" which would normally require 5 points over the life

¶90   of the loan taking into consideration periodicity. Mr. Mola

¶91   further advised that to obtain such a "bridge loan"

¶92   would have required*324 the Company give a substantial equity call

¶93   on the Company. The Directors discussed the lack of security or

¶94   the subordination, and the availability of potential

¶95   alternatives for Mr. Thomas K. Scallen's personal guarantee; the

¶96   timing of the granting of the guarantee; the reluctance of Mr.

¶97   Wood to go forward with the transaction unless the guarantee was

¶98   provided; the comparison to the "bridge loans" and the

¶99   requirement to give up equity to provide it. After further

¶100   discussion, Mr. Lawrence Beasley moved and Mr. George K.

¶101   Hagglund seconded (Mr. Charles R. Wood and Mr. Thomas K. Scallen

¶102   abstaining), the following resolutions were adopted:

¶103     NOW, THEREFORE, BE IT RESOLVED:

¶104     That, in consideration of the extension of his personal

¶105     guaranty of the obligation of the Company to Charles Wood,

¶106     the reasonable value of which, in the opinion of the Board

¶107     of Directors, other than Thomas K. Scallen and Charles

¶108     Wood, is at least equal to the amount of $ 150,000. The

¶109     compensation for the extension of such guaranty*325 in the

¶110     amount of $ 150,000 is hereby ratified and confirmed.

¶111In 1990, petitioner guaranteed a loan of $ 8.5 million from Natwest to IBC. The board of directors for IBC authorized a guaranty fee of 1 percent ($ 85,000) be paid to petitioner.

¶112On February 23, 1990, petitioner executed a guaranty in favor of Natwest with respect to a $ 60 million loan made by Natwest and other banks to IBC. The guaranty states that "The Guarantor [i.e., petitioner] is a shareholder of the Borrower and will derive benefits, both directly and indirectly, by virtue of the loans being made to the Borrower".

¶113IBC paid to petitioner loan guaranty fees of $ 150,000, $ 175,000, $ 150,000, and $ 85,000, in 1987, 1988, 1989, and 1990, respectively, for the various guaranties discussed above.

¶114Western Media Group Corp. (WMG)

¶115Western Media Group Corp. (WMG), formerly known as Ionic Controls, Inc., ⁸ was incorporated in 1980. WMG was a publicly held company, and its stock was traded in the over-the- counter market. WMG owned a library of recordings, it was involved in oil and gas activities, and it operated an iron and steel company. WMG's principal corporate office and records were also located*326 at 5101 IDS Center.

¶116Petitioner was a shareholder, officer, and director of WMG. Petitioner acquired an interest in WMG in 1981, and at all times relevant, he held 2.5 percent of its issued and outstanding shares. Petitioner's personal financial statements report the following number of shares petitioner owned and their value:

¶117 Date     Number of shares     Value

¶118 ____     ________________     _____

¶11911/30/86      124,000      $ 12,400

¶12008/31/88      124,000       12,400

¶12110/31/89      124,000       23,250

¶12210/31/90      124,000       23,250

¶12309/30/91      124,000       23,250

¶12401/31/92      124,000       12,400

¶12503/31/93      124,000       23,250

¶12602/28/94      124,000       23,250

¶12705/31/95      124,000       23,250

¶128*327 Petitioner did not receive wages or other compensation for services from WMG during 1987-95.

¶129In 1987, WMG's oil and gas assets were nearly exhausted, and its iron and steel company commenced a bankruptcy proceeding. In 1989, WMG was contemplating a public offering to facilitate its entry into new areas of business; i.e., it was considering publishing and broadcasting (radio and television) activities. WMG decided to acquire an AM radio station, KXDC-AM, in Monterey, California, and an FM radio station, KXDC-FM, in Carmel, California, for an aggregate cost of $ 2.65 million. The acquisition of KXDC was proposed to petitioner by William Retzlaff, who informed petitioner that WMG required a "bridge loan" in order to purchase KXDC. Petitioner and WMG expected that any loans made by petitioner would be repaid from the proceeds of a public offering. Petitioner made a "very extensive examination" of KXDC; he had a consulting engineer; and he met with a reputable sales manager who agreed to work as general manager of KXDC. He also met with certain media people, advertisers, and radio station operators in the Monterey area to confirm the value of*328 the property and the marketplace. He determined that the value of KXDC was $ 2.7 million.

¶130To facilitate WMG's acquisition of KXDC, petitioner entered into a loan agreement with Natwest on April 19, 1989. The agreement called for a loan or loans of up to $ 3 million due on the earlier of April 30, 1990, or the sale of 4.5 million units of WMG in a public offering. Petitioner entered into a contemporaneous agreement with WMG in which he agreed to lend WMG up to the aggregate principal sum of $ 3 million. This loan agreement extended over the same time period as the agreement with Natwest. In connection with the loan agreement, WMG executed a note in favor of petitioner.

¶131The loan agreement between petitioner and Natwest and the loan agreement between petitioner and WMG provided for the same interest rates. ⁹ The loan agreement with Natwest provided that petitioner would pay Natwest a "commitment fee" as defined in the agreement ¹⁰ and a facility fee of 1 percent. The agreement with WMG, meanwhile, provided that WMG would pay petitioner a nonrefundable commitment fee of 10 percent ($ 300,000). WMG's obligation to petitioner was the subject of a security agreement, which petitioner*329 perfected by filing a financing statement with the Secretary of State's office for the State of California. The security agreement provided petitioner a security interest in all the assets of WMG, including its corporate office, AM and FM transmitters, studios, and call letters. In accordance with his loan agreement with Natwest, petitioner executed an assignment document and then assigned the WMG note and other collateral to Natwest.

¶132In 1989, petitioner borrowed $ 2.65 million and $ 350,000, separately, under the*330 Natwest loan agreement, which amounts he in turn lent to WMG pursuant to his loan agreement with that company. Petitioner advanced additional funds to WMG in 1989, which petitioner represents totaled $ 696,456.21. Petitioner made additional advances to WMG of $ 643,646.85, $ 236,450, $ 29,610.49 in 1990, 1991, and 1992, respectively. In 1990 and 1991, Century Park Pictures Corp. (CPPC) ¹¹ made loans to WMG. In 1991, petitioner made payments of $ 223,164.44 to CPPC on the notes issued by WMG, and he treated those payments as additional advances to WMG.

¶133WMG made payments of $ 124,050, $ 25,000, $ 262,000, and $ 2,000 to petitioner in 1989, 1990, 1991, and 1992, respectively. Those amounts were applied to reduce the principal balance then owing from WMG to petitioner. WMG accrued interest expense on its note to petitioner in 1989 and 1990. Petitioner reported the receipt of $ 900 interest income from WMG*331 on Schedule B, Interest and Ordinary Dividends, of his 1989 Federal income tax return. Petitioner did not report any interest income from WMG in 1990, 1991, or 1992.

¶134Following the purchase of KXDC, the business started going downhill. The sales people whom Mr. Retzlaff brought to the station were trading station time for personal items, and the station manager fell in love with a Greek fisherman and moved to Greece without telling WMG. Further, Mr. Retzlaff had represented that there was an underwriter who was going to sell WMG's stock in the public offering; however, this representation was false. WMG incurred a loss from continuing operations of $ 933,378 in 1989, and it had a negative net worth of $ 951,552. WMG incurred an additional loss of $ 1,054,792 in 1990. In or about this time, petitioner repaid the $ 3 million loan from Natwest with proceeds from the sale of another business in which he had an interest.

¶135In early 1990, petitioner determined that WMG would not be able to repay the loan proceeds received from petitioner and that it was necessary to sell WMG's radio stations to realize their remaining value. In March 1990, petitioner and WMG agreed to rescind WMG's obligation*332 to petitioner for the 10-percent commitment fee. The letter from petitioner to the board of directors of WMG rescinding the commitment fee agreement states:

¶136   This confirms my offer and your acceptance to rescind, effective

¶137   October 13, 1989, the agreement to pay a commitment fee of

¶138  $ 300,000 to me in consideration of my obtaining a bridge loan

¶139   and operating loan to Western Media Group Corporation at the

¶140   time of acquisition of KXDC-AM & FM. I no longer am obligated to

¶141   National Westminster Bank, USA (the "Bank") as change of

¶142   circumstance subrogates me to the Bank's position.

¶143   Accordingly, I will be receiving interest at the contract rate

¶144   during the term of the loan and the purpose for the commitment

¶145   fee has been mitigated.

¶146   In addition, I agreed to extend the term of the loan to July 31,

¶147   1990 or upon the successful completion of the current public

¶148   offering, whichever is first.

¶149On January 21, 1991, an unrelated party later incorporated as the Joaquin Financial Group, Inc. (Joaquin), made an offer to purchase the KXDC-AM and KXDC-FM radio stations from WMG for $ 1.1 million. *333 On July 31, 1991, WMG and Joaquin closed on the purchase. Joaquin paid WMG $ 239,514 cash for part of the purchase price and issued a promissory note of $ 860,486 for the remainder. WMG assigned the Joaquin note to petitioner in 1991. Petitioner applied the Joaquin note to reduce the principal balance which WMG owed him. Joaquin defaulted on its obligation, and on November 6, 1992, petitioner sent a notice of default to Joaquin. In 1995, petitioner received a final receivership distribution of $ 549,764.18 with respect to Joaquin's note.

¶150In addition to the promissory note executed by WMG for up to $ 3 million, WMG executed other promissory notes in favor of petitioner:

¶151 Date        Amount      Interest rate       Due

¶152 ____        ______      _____________       ___

¶15304/21/89      $ 200,000        12%         Demand

¶15404/28/89       20,000        12         Demand

¶15505/23/89       20,000        13.5        Demand

¶15606/09/89       35,000        13         Demand

¶15706/19/89       75,000        13         Demand

¶15807/07/89       45,000        13         Demand

¶15907/11/90       27,000        11         Demand

¶16007/19/90       73,000        11         Demand

¶16108/15/90       20,000        11         Demand

¶162*334 Not all petitioner's loans and advances to WMG were the subject of promissory notes.

¶163Medical Investment Corporation (Medicor)

¶164In the early 1960s, petitioner formed a company called Medical Investment Corp. (Medicor), which was in the business of leasing medical equipment to doctors. Petitioner was the chief executive officer of this company.

¶165Medicor bought the Olmstead County Bank located in Rochester, Minnesota. The purchase of the bank was financed with a loan from the First National Bank of St. Paul. Petitioner endorsed the note issued to First National Bank, which made him liable as a principal. Petitioner began as the senior vice president of the Olmstead County Bank, and he later became the acting executive officer and chief loan officer.

¶166In the early 1970s, Medicor changed its*335 corporate purpose, and it acquired the Shipstead and Johnson's Ice Follies. It also owned Northwest Sports Entertainment (Northwest) which, in turn, owned the Western Hockey League franchise of the Vancouver Canucks. ¹²

¶167In December 1970, Northwest purchased a $ 3 million certificate of deposit from the Bank of the South Pacific and Trust Co., Ltd. (South Pacific), a wholly owned Bahamian company of Medicor. South Pacific then lent $ 3 million to Medicor. Medicor also received $ 500,000 in intercompany advances from a subsidiary of Northwest. On June 17, 1971, Capozzi Enterprises, Ltd., lent $ 3,648,575 to Medicor so that Medicor could redeem the certificate of deposit and repay the intercompany advances and related expenses. In an annual report submitted to the Securities and Exchange Commission, Medicor reported:

¶168   The Registrant [Medicor], by Agreement dated*336 December 17, 1971,

¶169   borrowed $ 4,000,000 Canadian funds from the Bank of British

¶170   Columbia, Vancouver, British Columbia, and concurrently

¶171   therewith repaid a loan made June 17, 1971 by Capozzi

¶172   Enterprises, Ltd., Vancouver, British Columbia, to the

¶173   Registrant in the amount of $ 3,127,849 U.S. funds and $ 532,648

¶174   Canadian funds. The proceeds of that loan (June 17, 1971) were

¶175   used to repay certain indebtedness of the Registrant's wholly-

¶176   owned subsidiary, the Bank of the South Pacific and Trust Co.,

¶177   Ltd., to Northwest Sports Enterprises, Ltd., … in the amount

¶178   of approximately $ 3,000,000 and the repayment of additional

¶179   indebtedness of the Registrant to Northwest in the amount of

¶180   approximately $ 500,000. These debts were both guaranteed by

¶181   the Registrant and its President, T. K. Scallen. …

¶182   [Emphasis added.]

¶183The record does not show whether petitioner guaranteed the Capozzi loan or whether he received any fees for the guaranties that he made with respect to the above transactions.

¶184In 1971, petitioner lent $ 310,000 to Medicor. He received as collateral all the outstanding*337 stock of South Pacific, which had a value of approximately $ 300,000 and a subordinated position in other investments of $ 77,500.

¶185Accounting and Tax Return Preparation

¶186Petitioner borrowed funds to finance the loans that he made to WMG and other companies in which he held an interest. Those funds were borrowed from various credit card companies with whom petitioner had lines of credit. ¹³ After depositing the proceeds from those borrowings, petitioner used his personal checking account to advance funds to WMG and other entities. Petitioner made monthly payments, generally the minimum amount due, to the credit card companies. The monthly payments covered interest.

¶187Kelly Posthumus was an accountant employed by IBC. She maintained petitioner's personal checking account records, wrote checks to pay his bills, prepared schedules of his loans to companies, and prepared yearend*338 schedules and summaries for petitioner's tax accountants. Every time petitioner made a loan to a company, Ms. Posthumus recorded it on a schedule set aside for that particular company. Each loan was separated by date, check number, and amount on the schedule. At the end of each year, Ms. Posthumus would review petitioner's credit card and credit line statements and prepare a schedule of petitioner's interest expense for the year to give to petitioner's tax accountants. The yearend schedules and summaries were also prepared from check registers of petitioner's checking accounts. Ms. Posthumus did not keep track of the interest rates applicable to the loans that petitioner made, and she was not personally aware whether anyone for petitioner sent periodic statements to the debtor companies that he lent money. Petitioner did not keep or maintain records reflecting the accrued interest that WMG owed him.

¶188Petitioner hired McGladrey and Pullen, L.L.P., to do his personal and business accounting and to prepare his tax returns beginning in the 1980s through 1992. Petitioner's tax returns were prepared from the schedules prepared by Ms. Posthumus. McGladrey and Pullen also did accounting work*339 for WMG, and it prepared amortization schedules and maintained records for the accrued interest WMG owed petitioner.

¶189An employee of McGladrey and Pullen, James Estes, a C.P.A., assisted petitioner in his tax return preparation and planning. Petitioner met with Mr. Estes in December 1990 to discuss his income and deductions for 1990. Among the items discussed were petitioner's loans to WMG which he at that time did not anticipate as being collectible, and the impact the loans would have on his taxes. A memorandum prepared by Mr. Estes from that meeting states: "It is desired to claim a loss with respect to the uncollectible notes in 1990. In addition it is desired to claim the loss as an ordinary loss."

¶190Petitioner's Federal income tax returns for 1987, 1988, and 1989, included a Schedule C, Profit or (Loss) From Business or Profession, for each year relating to "T Scallen Presents" described as an "entertainment" activity. ¹⁴ On line 21 of petitioner's Form 1040, U.S. Individual Income Tax Return, for 1987, and on line 22 of his Forms 1040 for 1988 and 1989, he reported the loan guaranty fees that he received from IBC in those years as "other income". ¹⁵ Petitioner's income tax*340 returns for years subsequent to 1989 did not include Schedules C for the "T Scallen Presents" entertainment activity. Instead, the returns for 1990-1995 contained a Schedule C for an unnamed business activity described as "lending/financing". ¹⁶ On his returns for those years, petitioner did not claim deductions for any expenses relating to his receipt of loan guaranty fees from IBC or any other party. The returns for 1990-94 each included a disclosure statement that stated petitioner was engaged in a trade or business which consisted of: (1) The extension of loan guaranties in exchange for fees; and (2) making loans in anticipation of a high rate of return in the form of interest income in respect of those loans.

¶191*341 On the returns for 1990-93, petitioner claimed the following bad debt deductions, relating to his loans to WMG, on his Schedules C for those respective tax years:

¶192  Tax Year       WMG

¶193   1990     $ 2,741,053

¶194   1991       437,614

¶195   1992       887,610

¶196   1993        9,112

¶197In the notices of deficiency issued to petitioner(s), respondent determined that petitioner's lending and financing activities for 1990-95 did not constitute a trade or business. Respondent determined that the bad debt amounts should have been reported as nonbusiness bad debts on Schedule D, Capital Gains and Losses, of petitioner's returns for those years. ¹⁷

¶198*342                 OPINION

¶199Section 166(a) allows as a deduction any debt which becomes worthless within the taxable year. However, section 166(a) is not applicable to any nonbusiness debt, and, where any nonbusiness debt becomes worthless within the taxable year, the loss resulting therefrom shall be considered a loss from the sale or exchange of a capital asset held for not more than 1 year. Sec. 166(d)(1). A nonbusiness debt means a debt other than: (1) A debt created or acquired (as the case may be) in connection with a trade or business of the taxpayer; or (2) a debt the loss from the worthlessness of which is incurred in the taxpayer's trade or business. Sec. 166(d)(2). Business bad debts generally include payments of principal or interest made by a taxpayer in discharge of part or all of his obligation under a guaranty agreement entered into in the course of a trade or business of the taxpayer. Sec. 1.166-9(a), Income Tax Regs. The burden is on the taxpayer to show his entitlement to a business bad debt deduction.¹⁸Rule 142(a); Litwin v. United States, 983 F.2d 997, 999 (10th Cir. 1993). The question whether*343 a debt is a business or nonbusiness debt is one of fact, and it depends upon whether the debt is proximately related to a trade or business of the taxpayer. Imel v. Commissioner, 61 T.C. 318, 323 (1973); sec. 1.166-5(b)(2), Income Tax Regs.

¶200Respondent determined that petitioner was not engaged in the trade or business of lending or financing as he claimed on his Federal income tax returns for 1990-95. Petitioner contends, on the other hand, that he has a long history of making loans and guaranties that together shows that he was involved in the trade or business of making loans and guaranties.

¶201To be engaged in a trade or business, the taxpayer must be involved in the activity with continuity and regularity, and the taxpayer's primary*344 purpose for engaging in the activity must be for income or profit. Commissioner v. Groetzinger, 480 U.S. 23, 35, 94 L. Ed. 2d 25, 107 S. Ct. 980 (1987); see also Golanty v. Commissioner, 72 T.C. 411, 425-426 (1979), affd. without published opinion 647 F.2d 170 (9th Cir. 1981). Section 166(a) is applicable only to the exceptional situations in which the taxpayer's activities in making loans have been regarded as so extensive and continuous as to elevate that activity to the status of a separate business. Imel v. Commissioner, supra 61 T.C. at 323. In determining whether the taxpayer is in the trade or business of lending money, we consider: (1) The total number of loans made; (2) the time period over which the loans were made; (3) the adequacy and nature of the taxpayer's records; (4) whether the loan activities were kept separate and apart from the taxpayer's other activities; (5) whether the taxpayer sought out the lending business; and (6) the amount of time and effort expended in the lending activity and the relationship between the taxpayer and his debtors. United States v. Henderson, 375 F.2d 36, 41 (5th Cir. 1967); Serot v. Commissioner, T.C. Memo. 1994-532,*345 affd. without published opinion 74 F.3d 1227 (3d Cir. 1995).

¶202Petitioner argues that he was in the trade or business of "making loans and guaranties"; he relies on the following summary of guaranties and loans that petitioner claims he made:

¶203           Guaranties petitioner made

¶204Year   Debtor      Amount of guaranties      Guaranty fee

¶205____   ______      ____________________      ____________

¶2061984   IBC         $ 9,000,000          $ 90,000

¶2071987   IBC          15,000,000          150,000

¶2081988   IBC          17,500,000          175,000

¶2091989   IBC Amusement

¶210      Rides, Inc.    1,500,000          150,000

¶2111990   IBC          8,500,000           85,000

¶212Total             51,500,000          650,000

¶213            Loans petitioner made

¶214Year    Debtor      Amount of loans     Number of loans

¶215____    ______      _______________     _______________

¶2161979-86   IBC         $ 397,738         125

¶2171989    WMG         3,000,000           1

¶2181989    WMG          ¹ 696,456           23

¶2191990     WMG           643,646            61

¶2201991     WMG           236,450            25

¶2211992     WMG          ² 10,560            5

¶222Total             ³ 4,989,850            240 *346

¶223Respondent contends that petitioner's return treatment for the lending and financing activity in 1990-95 is inconsistent with his return treatment for that activity during prior tax years; therefore, evidence of the prior tax years is "irrelevant", and we should only consider those loans and guaranties which occurred in 1990-95. ¹⁹ We disagree.

¶224*347 Petitioner's loans and guaranties during prior tax years are relevant in determining whether he was in the trade or business of making loans and guaranties. We do not agree with respondent that petitioner's failure to list lending or financing as his trade or business on returns for tax years prior to 1990, or his failure to report guaranty fees on a Schedule C, forecloses petitioner's reliance on loans and guaranties that he made during those prior years. Indeed:

   Reporting an activity on Schedule C is indicative of a trade or

   business. However, petitioner's failure to so report his income



   from lending activities on Schedule C is not conclusive of the



   absence of a trade or business. This is particularly true when



   as here the return was prepared by a CPA. [

Ruppel v. Commissioner, T.C. Memo. 1987-248.]

¶225Nevertheless, we should point out that our holding in this respect should not be read to suggest that petitioner's failure to report a trade or business on Schedule C for the prior years is irrelevant. In that regard, a taxpayer's listing of his occupation as an "executive" on his tax returns and his failure to file a*348 Schedule C in connection with a purported trade or business are factors that indicate that the taxpayer is not in the trade or business of lending money. Estate of Bounds v. Commissioner, T.C. Memo. 1983-526. Thus, although petitioner's failure to report a trade or business on Schedule C in the prior years is not conclusive, we weigh this factor with other factors in determining whether petitioner was in the trade or business of making loans and guaranties. ²⁰ After considering the loans and guaranties for the prior years and for the years at issue, we cannot conclude that petitioner was engaged in any such trade or business.

¶226*349 Petitioner did not advertise for customers in the course of his lending and financing activities. There is no evidence of record that he held a reputation in the community as a lender or as a guarantor. As part of his lending and financing activities, petitioner lent money only to companies in which he held an interest. He guaranteed loans only with respect to those same companies. Petitioner points to no loans or guaranties involving unrelated parties or parties with whom he had no direct involvement as an investor. ²¹ Petitioner did not actively pursue loan or guaranty opportunities with respect to either the general public or within his community of companies. Petitioner made loans or guaranties when the need arose with respect to one of his companies. Petitioner devoted most of his time to IBC and his other activities. He has not shown that he devoted any significant time to WMG, and he was not paid for any of his services thereto. The record does show a long history (from the 1960s to the 1990s) of loans and guaranties petitioner made to companies in which he held an interest. However, that history is broken and sporadic, and it certainly is by no means continuous. See United States v. Henderson, 375 F.2d at 41.*350

¶227Petitioner had no employees for the activity other than those employed in the IDS Tower office. He included the wages or compensation for those employees as part of his general office overhead. None of those expenses were reflected on his personal tax returns or on the Schedules C. Petitioner did not engage, on any consistent basis, in the type of formal activities that one might associate with a lending and financing trade or business. It would have been impossible to perceive his lending and financing activities as a trade or business separate from his personal or his companies' affairs.

¶228Moreover, the testimony of Ms. Posthumus and the testimony of petitioner indicate that petitioner maintained none of the records that would show the*351 profits actually earned or which might be expected to be earned on loans from petitioner to his companies. To that extent, respondent describes petitioner's records as "anemic", and he contends that petitioner "had no means of determining whether he was re-loaning borrowed funds at positive, or profitable, interest rate spreads or at negative, or unprofitable, interest rate spreads." Given the record before us, we agree with respondent.

¶229Petitioner contends that the most important test in determining whether he is engaged in the trade or business of making loans and guaranties is "the extent of the activity"; i.e., the number of loans and guaranties and the respective amounts. Petitioner claims that "Other Courts have determined that taxpayers were in the trade or business with a volume less than shown by Thomas Scallen", citing Cushman v. United States, 148 F. Supp. 880 (D. Ariz. 1956) (loans totaling $ 88,352 over 2 years); Serot v. Commissioner, T.C. Memo. 1994-532 ($ 1,950,000 in loans over a 9-year period); Ruppel v. Commissioner, T.C. Memo. 1987-248 ($ 1,379,000 in loans over 4 years); Minkoff v. Commissioner, T.C. Memo. 1956-269*352 ($ 300,000 in loans over 5 years). However, petitioner has overemphasized the role that the number of loans and, for that matter, the number of guaranties play in determining whether there exists a trade or business. We agree that the volume of activity, e.g., lending and making guaranties, is indicative of a trade or business; however, that factor alone does not establish a trade or business.

¶230Petitioner borrowed funds from credit card companies at high interest rates and then lent those same funds to his companies. There is no evidence that petitioner used any of his personal funds to make these various loans, and there is no evidence that petitioner was able to obtain, or expected to obtain, any differential between the interest on loans from the credit card companies to petitioner and the interest on loans from petitioner to companies in which he had an interest. ²² We cannot conclude that petitioner engaged in these lending transactions to earn a profit from the interest on the loans. We cannot conclude that the numerous loans over the course of years were part of any trade or business of petitioner.

¶231*353 With respect to IBC, petitioner claims that he made 125 separate loans or advances totaling $ 397,738 to IBC between 1979- 1986. Petitioner testified that those loans were made whenever IBC was "short of money, and they needed help" and that he got interest on these loans. Petitioner relies on a handwritten schedule entitled "Loans from T.K. Scallen to IBC: checks written to IBC by TKS", which lists the dates of the purported loans, their amounts, and the check numbers for the loans. The record otherwise does not show the circumstances of the loans to IBC, and we have no reasonable basis for concluding whether those loans represented bona fide indebtedness, from where petitioner obtained the funds advanced to IBC, and whether petitioner expected to earn a profit from the interest on those loans.

¶232With respect to the many advances made to WMG in 1989-92, petitioner claims that those advances should be considered loans made as part of his claimed lending and financing business. However, the circumstances under which those advances were made show otherwise.

¶233Soon after WMG purchased the AM and FM radio stations, those activities went downhill. After petitioner realized that WMG was unlikely*354 to be capable of repaying the $ 3 million he lent it in 1989, he continued to advance funds to WMG to keep the company going and to protect the value of his collateral. Petitioner testified:

¶234   Q Now, when in 1990 did you determine that WMG was not going to

¶235   be able to repay you?

¶236   A I'm not sure of the date. It was just a continuing

¶237   deteriorating situation.

¶238   Q And as I understand your testimony, the funds that you

¶239   continued to advance to Western Media after that point were to

¶240   try and preserve what value was there in the radio station?

¶241           *   *   *   *   *   *   *

¶242   A … What I was trying to say, and perhaps didn't say it very

¶243   well, is that if the station goes dark and off the air, it has

¶244   no value. The value is the license and the format and the

¶245   continuing broadcast. And that's what I was trying to preserve.

¶246   Q I understand that. But at that point, the advances you made

¶247   after you determined that the loan wasn't going to be repaid was

¶248   to protect what value there was there. It was not to make

¶249   interest income?

¶250*355    A Absolutely.

¶251Given petitioner's testimony and the circumstances which gave rise to the advances, we cannot agree that those advances were made for the opportunity of earning high returns on interest income as petitioner claimed in the disclosure statements attached to his returns for 1990-94. Petitioner could not have reasonably expected repayment on those advances, and any expectation of a profit would have been imaginary, especially considering the high rates of interest which attached to petitioner's borrowing of the funds advanced. The advances were made for the sole purpose of protecting petitioner's original loan of $ 3 million. That loan and the commitment fee do not establish a trade or business of making loans and guaranties.

¶252The loan from Natwest to petitioner and the loan from petitioner to WMG had the same interest rates. Petitioner could not have earned, or expected to earn, a profit on that series of loans. As petitioner suggests, he was acting as a mere conduit between Natwest and WMG, because WMG was to cover all the principal, interest, and fees that petitioner might incur with respect to Natwest. Thus, in substance, the series of loans resembles a typical*356 guaranty arrangement, and the commitment fee that petitioner was to receive from WMG resembles a typical guaranty fee. The only possible business reason we find on the record for petitioner in making this loan commitment was the opportunity of receiving the commitment fee. However, similar to petitioner's other guaranty arrangements, it appears this fee was a mere afterthought. Further, the rescission of the commitment fee that petitioner offered and which WMG accepted suggests that this fee may have been intended only as additional security. ²³ We cannot agree that provision for this fee alone establishes a trade or business.

¶253In addition, the guaranties made with respect to IBC do not establish a trade or business for petitioner. Several, if not all, of the guaranties were made in connection with IBC's or a subsidiary's acquisition of*357 another business or company. Petitioner made those guaranties as a means of accomplishing the acquisition and only after he was approached by the company and informed that the deal might not go through. The receipt of a guaranty fee appears to be just an afterthought with respect to those guaranties. For example, petitioner testified with respect to the 1984 guaranty of the IBC loan:

¶254   Q And why did you do the loan guarantee?

¶255   A Because it was necessary to expedite the transaction, and I

¶256   felt that it was a good business proposition. I thought the

¶257   value was -- in the collateral was excellent. And I charged a

¶258   fee for doing it.

¶259Also, with respect to IBC Amusement Rides, Inc.'s acquisition of the Ice Capades and the Harlem Globetrotters, petitioner testified as to why he signed a guaranty: "Well, again, it was a way of expediting the transaction. It was done through a bank I was familiar with. It looked like a good business opportunity to me, because I was well secured. And I was able to make a fee."

¶260The minutes of the board of directors of IBC and the resolutions that relate to the authorization of guaranty fees to petitioner also show a*358 lack of business initiative, and indeed reluctance, on the part of petitioner to make the guaranties. If anything, those minutes, the resolutions, and petitioner's testimony indicate to us that petitioner made the guaranties to protect or enhance his investment interest in IBC and not as a part of a lending or financing trade or business.

¶261Further, it is not altogether clear that there was any agreement or understanding regarding guaranty fees in place before or contemporaneous with petitioner's making of the various guaranties. Respondent suggests that the lack of assurance of receiving fees from IBC is inconsistent with petitioner's claim of a trade or business of making guaranties. Respondent argues that the fees were not approved until the passing of the formal resolutions, that petitioner guaranteed debts before "his entitlement to the related guarantee fee became an approved fact", and that his guaranties "can only be construed as gratuitous acts which he intended to protect and/or benefit his then existing interests in IBC". Petitioner testified that the board's resolutions authorizing the fees were made after he had guaranteed the various loans; however, he also testified that*359 the written authorization simply memorialized what the board had previously agreed to as part of informal discussions. Petitioner testified that "I certainly felt entitled to rely on that. These are honorable men on that board of directors. I had no concerns."

¶262The minutes and resolutions, which relate to the various guaranty fees from IBC, show that there was much more going on than the informal discussions that petitioner alludes. Although it is clear that petitioner expected some fee from IBC at the time of making the guaranties, it is not clear that he was aware of the amount, if any, that he would receive. Only upon formal authorization by the board do we find any assurance of a guaranty fee being paid to petitioner. Certainly, the lack of formalism in petitioner's making the guaranties and obtaining assurance other than reliance on the "honorable men" of the board is a factor inconsistent with the existence of a trade or business.

¶263Petitioner also relies upon the guaranties made during the 1960s and 1970s with respect to loans involving Medicor. However, the record does not show that petitioner received any fees with respect to those guaranties, and guaranties alone without the*360 related fees would be insufficient to support a finding of a trade or business. Petitioner claims to have received a 1-percent fee on the endorsement of the note for the 1963 Medicor acquisition of the Olmstead County Bank. He relies solely on his own testimony, which we find less than compelling:

¶264   Q Do you recall what fee that was, or the amount of that fee?

¶265   A I believe -- and I'm not sure. This was a long time ago. But I

¶266   think it was 1 percent of the amount of the loan.

¶267Petitioner also claims that he received a 1 and

¶268Petitioner suggests for the first time on brief that, with respect to WMG, "If, as the Commissioner suggests, the taxpayer was trying to preserve his income as an officer of the corporation, then he is entitled to take the deductions as ordinary losses." It is well established that a taxpayer's status as an employee is a business interest. See United States v. Generes, 405 U.S. 93, 101, 31 L. Ed. 2d 62, 92 S. Ct. 827 (1972); Halle v. Commissioner, T.C. Memo. 1983-760. However, it is a fact that petitioner did not receive wages or other compensation for services from WMG during the period 1987 to 1995. Thus, it is not plausible that petitioner*361 made the loan to WMG with the dominant motivation of protecting any business interest as an employee in WMG, and there is no evidence that petitioner was to receive or expected to receive any compensation as a result of the loan.

¶269Petitioner has not shown he was engaged in the trade or business of making loans and guaranties at any relevant time in the instant case. Petitioner is not entitled to business bad debt deductions for the amounts he lent to WMG.

¶270An appropriate order will be issued.