Plante v. Commissioner
Opinion
*466 Decision will be entered for respondent.
MEMORANDUM OPINION
CARLUZZO,
*467 In a notice of deficiency issued to petitioners on September 27, 1995, respondent determined a deficiency in their 1992 Federal income tax in the amount of $ 8,849. The issue for decision is whether petitioners are entitled to a net operating loss carryover deduction for the year 1992. The resolution of this issue depends upon whether petitioners suffered a net operating loss for the year 1991, which in turn depends upon whether petitioners are entitled to a business bad debt deduction for that year, claim for which was made for the first time in the petition.
Petitioners filed a joint Federal income tax return for the year 1992. At the time that the petition was filed they resided in Cumming, Georgia. References to petitioner are to Robert R. Plante. *468
After his graduation from Harvard University in 1962, petitioner worked for various companies in the packaging industry, including Boise Cascade, Continental Can, and Maryland Cup Corp. At the time petitioner was employed by Maryland Cup Corp. petitioners lived in the Baltimore, Maryland, area. When Maryland Cup Corp. announced plans to relocate to Green Bay, Wisconsin, petitioner rather than transfer, resigned from the company with the intent to invest in and manage a marina business.
On March 31, 1987, petitioner acquired an operating marina business located on the Middle River in Essex, Maryland, a suburb *469 of Baltimore. The purchase date and conflicting evidence as to the form of the sale are the only details of this transaction that have been placed in the record. 1 At the time of the purchase, or shortly thereafter, petitioner incorporated Boating Center of Baltimore, Inc. (BCBI or the corporation). Petitioner paid $ 25,000 for 5,000 shares of common stock of BCBI, which represented all of the corporation's issued and outstanding stock. On April 3, 1987, petitioner transferred all of the assets of the marina*470 to BCBI. From the date of its incorporation through December 20, 1991, petitioner was president and sole shareholder of BCBI. Petitioner entered into an agreement to sell his interest in BCBI, as discussed in more detail later in this opinion, on December 20, 1991.
On March 31 and October 15, 1987, petitioner advanced $ 275,000 and $ 45,000, respectively, to BCBI. Each transaction is evidenced by a promissory note (the notes) and a resolution adopted by BCBI's board of directors authorizing the corporation to accept the terms and conditions set forth in the relevant promissory note. The notes were signed by petitioner as president of BCBI, and the corporate resolutions were signed by petitioner as the sole member of BCBI's board of directors. *471 The
Except for the amounts and due dates, the terms and conditions of the notes are identical. Each refers to petitioner as the lender and BCBI as the borrower. The advances are characterized as loans from petitioner to BCBI with principal and interest (prime rate plus 2 percent computed quarterly) due in 1 year from the date of the note. Each note was renewable at the option of petitioner (as the lender). If BCBI defaulted on any term of the notes, became insolvent, filed a bankruptcy petition, or had a receiver appointed, the notes would become immediately due and payable in full. Neither note was fully paid as of its due date. The notes were not renewed, and the repayment periods were not extended.
Petitioners reported interest income from BCBI on their joint Federal income tax returns as follows:
| Year | Amount |
| 1987 | -0- |
| 1988 | -0- |
| 1989 | $ 39,102 |
| 1990 | 35,236 |
| 1991 | 20,599 |
Although less than clear from the record, it appears that from time to time prior to December 20, 1991, petitioner, or petitioners, advanced other funds considered by them to constitute loans, *472 to BCBI. Some of the interest referred to in the above table may relate to these other unspecified
Uncertified financial statements prepared by BCBI's certified public accountants reflect, among other things, long-term liabilities to petitioner as follows (year references are to fiscal years ended October 31):
| Year | Liability |
| 1987 | $ 320,000 |
| 1988 | 396,750 |
| 1989 | 392,409 |
| 1990 | 419,069 |
| 1991 | 491,243 |
No explanation of, or accounting for, the changes in the amount of the liability from year to year has been provided. We cannot tell whether the above amounts include principal and interest. Comparing the amount of liability for each year to the face amounts of the notes makes it obvious that, after October 31, 1987, the liabilities are not attributable exclusively to the notes. A statement included in BCBI's financial statement for its fiscal year ended October 31, 1988, indicates that the liability with respect to that year relates to "unsecured notes payable to*473 stockholder * * * due in 1997 bearing interest at 10% per annum, payable monthly." But for this reference, the record does not contain any evidence of notes fitting that description or loans from petitioners to BCBI under such terms.
| Year | Petitioner | Mary B. Plante |
| 1987 | $ 39,000 | $ 3,900 |
| 1988 | 33,000 | 5,100 |
| 1989 | -0- | 1,800 |
| 1990 | 1,500 | -0- |
| 1991 | 38,000 | -0- |
Although petitioner intended to make a career out of the marina business, his intentions were frustrated by the operating losses suffered by BCBI. In order to minimize his loss with respect to his investment in BCBI, petitioner decided to sell his interest in the corporation.
BCBI was listed for sale for $ 2.25 million through a broker, who in August or September 1991 identified Douglas and Kay Hansen as prospective purchasers. After preliminary negotiations, petitioner indicated that he would be willing to accept $ 1,050,000 from the Hansens for his*474 interest in BCBI.
On December 20, 1991, petitioner and his attorney met with the Hansens and their attorney. After extended discussions, petitioner entered into a stock purchase agreement (the agreement) wherein he agreed to sell his interest in BCBI to the Hansens for $ 1,050,000 ($ 300,000 in cash, payable at various dates, and a note from the Hansens and BCBI in the amount of
During the meeting that took place on December 20, 1991, Mr. Hansen learned about petitioner's outstanding advances to BCBI, which at the time amounted to $ 475,000. Apparently, Mr. Hansen was unaware that BCBI's books reflected a liability to petitioner, and he insisted that any debt owed to petitioner be eliminated. Petitioner and the Hansens reached an understanding as to how the outstanding advances were to be treated, *475 as reflected in the following paragraphs in the agreement: The shareholder, as the sole Shareholder and as President of the Corporation, hereby makes the following representations and warranties which shall survive the Closing Date; Shareholder has transferred Four Hundred Seventy-Five Thousand ($ 475,000.00) Dollars of notes and accrued interest of the Corporation due Shareholder as of 11/1/91 to the equity account of the Corporation and has made this an irrevocable capital contribution to the Corporation. The notes, accrued interest and capital lease due Shareholder as of the Closing have been tendered to Buyer in exchange for Buyer notes.
On March 26, 1993, petitioners filed an amended 1991 return. On the amended return, petitioners treated the BCBI stock as small business stock defined by section 1244 and claimed an ordinary loss of $ 693,492 from the sale of such stock. Also on amended returns, a net operating loss in the amount of $ 655,191 was carried back to 1988, and then forward into 1989 and 1990, in the amounts of $ 601,814 and $ 591,629, respectively.
On their 1992 Federal income tax return, petitioners claimed a net operating loss carryover deduction in the amount of $ 587,581, *477 the source of which is not readily identifiable on the return, but apparently relates to the sale of petitioner's BCBI
In the notice of deficiency, respondent determined that petitioner suffered a loss of $ 693,492 ($ 1,743,793 basis, minus $ 1,050,000 realized) on the sale of his BCBI stock and further determined, pursuant to section 1244, that petitioners were limited to an ordinary loss deduction of $ 100,000 in 1991 from the transaction. 3 Respondent treated the balance of the loss ($ 593,492) as a long-term capital loss, allowed a $ 3,000 capital loss deduction in 1991, and treated $ 590,492 as a long-term capital loss carryover from 1991 to 1992. Consistent with this treatment of the transaction in 1991, respondent determined that petitioners had a net operating loss of $ 61,698 for that year. After carrying the net operating loss back to 1988 and forward to
*479
Although not specifically addressed by either party, there appears to be agreement between them on the following points. First, the BCBI stock in the hands of petitioner constituted a capital asset as defined by section 1221. Except as provided by section 1244, because of the period that petitioner held the stock any loss that resulted from its sale or disposition would be treated as a long-term capital loss. Secs. 1222 and 1223. Secondly, the parties agree that petitioner suffered a loss on the sale of his BCBI stock (the resolution of the issue here under consideration could have an effect on the amount of the loss; otherwise there is no dispute between the parties on the point). Lastly, the parties apparently agree that petitioner's BCBI stock constituted small business stock within the meaning of section 1244(c), subject to the provisions of section 1244(a) and (b), which under the circumstances of this case would allow petitioners to treat $ 100,000 of the loss sustained on the sale of the stock as an ordinary loss. In this regard we note that petitioners' treatment of the transaction on their 1991 amended
In general, section 166 allows a taxpayer a deduction for any debt that becomes worthless within the taxable year. Sec. 166(a). To justify a deduction under section 166, petitioners must establish that a bona fide debt existed.
Characterization of an advance by a shareholder to a corporation as either a loan (debt) or contribution to capital (equity) is a question of fact that can be resolved only by reviewing the circumstances surrounding the transaction.
A shareholder/taxpayer seeking to treat an advance to a corporation as a loan bears the burden of proof on the point, Rule 142(a);
Taking into account the above factors, we first consider whether the $ 475,000, or any portion thereof, constituted a loan,
But for the advances evidenced by the notes, there is little, if any, evidence in the record regarding the details of any other transaction(s) that account for the*484 $ 155,000 difference between the face value of the notes and the stipulated amount of the unpaid advances. As we have often stated, deductions are a matter of legislative grace. A taxpayer who claims a deduction must identify the specific statute that allows for the deduction and demonstrate that all of the requirements of the statute have been satisfied. Rule 142(a);
Narrowing our focus on the treatment of the notes in connection with disposition of petitioner's BCBI stock leads us to conclude that the balance of petitioners' claim for a bad debt deduction (the*485 amount represented by the notes) must also be rejected.
Assuming, without finding, that the advances evidenced by the notes represent bona fide loans from petitioner to BCBI, it is clear that the underlying "debt" was satisfied, "paid", canceled, or forgiven in connection with petitioner's sale of his stock to the Hansens. The agreement clearly makes the disposition of the notes part of the sale transaction and characterizes their disposition as a contribution to BCBI's capital. Petitioners have presented us with nothing that suggests otherwise. Petitioners' argument that the amount evidenced by the notes should now result in a section 166 bad debt deduction is inconsistent with the nature of the underlying transaction. Respondent's arguments regarding the application of
Furthermore, a shareholder's cancellation or forgiveness of any debt owed to the shareholder from the shareholder's closely held corporation is generally considered a contribution to the corporation's capital, which is what occurred in this matter.
Because petitioners are not entitled to a bad debt deduction for the year 1991, it follows, and we hold, that petitioners are not entitled to the net operating loss carryover deduction here in dispute.
To reflect the foregoing,
Footnotes
1. The parties stipulated that petitioner "purchased the assets of an existing marina". Petitioner's direct testimony suggests that he purchased the stock of the corporation that owned and operated the marina. We proceed as though the stipulation accurately describes the transaction.↩
2. In preparing petitioners' original and amended 1991 Federal income tax returns, the allocation schedule in the agreement was obviously ignored, and petitioners reported the transaction as though the entire purchase price was attributable to the sale of BCBI stock. See
infra↩ note 3.3. It would appear that respondent was unaware of or disregarded the allocation schedule in the agreement, potentially allowing petitioners (at least with respect to the amounts attributed to the covenant not to compete and consulting services) to offset ordinary income by long-term capital loss in excess of the amounts otherwise allowable under sec. 1211(b). We cannot tell at this point whether treating the sale of petitioner's option in the real estate as though it were inherently part of the sale of his BCBI stock worked to petitioners' advantage or disadvantage for Federal income tax purposes. In this regard it should also be noted that the parties stipulated that in the agreement petitioner "agreed to sell all of the issued and outstanding shares of stock of * * * [BCBI] for $ 1,050,000" which does not accurately describe the transaction, but is consistent with the positions taken on petitioners' original and amended 1991 returns and in the notice of deficiency.↩
4. The parties stipulated that as of Nov. 1, 1991, "the petitioner had unpaid advances to the corporation totaling $ 475,000". The preamble to the stipulation states that respondent "does not stipulate and agree by the use of the terms 'note,' 'loan,' or 'advance' in this stipulation or annexed exhibits that amounts paid to or on behalf of * * * [BCBI] by petitioner * * * constituted loans for federal income tax purposes."↩
Case-law data current through December 31, 2025. Source: CourtListener bulk data.