Cagle v. Comm'r of Internal Revenue
| Decision Date | 04 November 1974 |
| Docket Number | Docket Nos. 6967-71,6968-71. |
| Citation | 63 T.C. 86 |
| Parties | JACKSON E. CAGLE, JR., AND ANN CAGLE, PETITIONERS v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENTCHARLES L. WEBSTER, JR., AND SYLVIA WEBSTER, PETITIONERS v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
Robert C. Taylor and Fred Lohmeyer, for the petitioners.
Douglas R. Fortney, for the respondent.
Petitioners Jackson E. Cagle, Jr., and Charles L. Webster, Jr., along with John F. Eulich, formed a partnership in 1968 to deal in warehouses, office buildings, and other commercial property. By separate agreement the partnership agreed to pay John F. Eulich d.b.a. the Vantage Co. a management fee in the amount of $110,000 of which $90,000 was to be paid on or before Dec. 31, 1968. Held, the $90,000 payment made in 1968 is not deductible by the partnership and hence the losses distributed by the partnership and reported by petitioners are reduced accordingly since the payment was not incurred for ordinary and necessary business expenses.
The respondent determined deficiencies in the Federal income taxes of petitioners Jackson E. Cagle, Jr., and Ann Cagle and petitioners Charles L. Webster, Jr., and Sylvia Webster for their taxable years 1968 in the amounts of $33,218.44 and $14,006.80, respectively. Certain issues not having been raised in the petitions to the Court, the sole issue for determination is whether a $90,000 management fee paid by the partnership Parkway Property Co. to John F. Eulich d.b.a. the Vantage Co. is a deductible expenses of the partnership.
Some of the facts have been stipulated and are so found. The stipulation of facts, together with the exhibits attached thereto, are incorporated herein by this reference.
Petitioners Jackson E. Cagle, Jr., and Ann Cagle are husband and wife who; at the time of the filing of the petition herein, maintained their legal residence in Forth Worth, Tex. They filed their joint Federal income tax return for the calendar year 1968 with the district of internal revenue at Dallas, Tex. Petitioners Charles L. Webster, Jr., and Sylvia Webster are husband and wife who, at the time of the filing of the petition herein, maintained their legal residence in Forth Worth, Tex. They filed their joint Federal income tax return for the calendar year 1968 with the district director of internal revenue at Dallas, Tex. Ann Cagle and Sylvia Webster are parties to this action solely by virtue of having filed joint returns and consequently Jackson E. Cagle, Jr., and Charles L. Webster, Jr.; will hereinafter be referred to as the petitioners.
Pursuant to a partnership agreement dated August 1, 1968, John F. Eulich (hereinafter Eulich) as the managing partner and petitioners as the investor partners entered into a partnership known as Parkway Property Co. (hereinafter referred to as the partnership or Parkway). According to the partnership agreement the purpose, own, hold, deal in, mortgage, operate, manage, equip, lease, sell, exchange, transfer or in any manner dispose of warehouses, office buildings, and other commercial property, and to do and perform all things necessary or incidental or connected with or growing out of such business.'
The partnership agreement further states that the partnership expected to develop an office-showroom of approximately 80,000 square feet on 5.255 acres of land known as Parkway Plaza, which Eulich was to, and did, contribute to the partnership subject to an outstanding loan commitment obtained by Eulich. The office-showroom facility, as eventually developed, contained approximately 80,000 square feet and consisted of three buildings.
The partnership agreement specifies that all interest and ad valorem taxes to be paid during the period August 31, 1968, to December 31, 1969, on the contributed real estate and all commissions, management compensations, and other expenses would be allocated 100 percent to the investor partners pro rata; not to exceed an aggregate of $150,000. It further provides that the managing partner may make in his own name expenditures for interest, taxes, fees, commissions, and other expenses on behalf of the partnership and shall be entitled to reimbursement for such expense, not to exceed $150,000 during the period August 1, 1968; to December 31, 1969.
The investor partners were to, and did, contribute $200,000 in cash during the period August 1, 1968 to December 31, 1969, and they agreed that most of such sum would be used by the partnership either to pay the above expenses or to reimburse Eulich directly. The net profits of the partnership, the net gains resulting from the sale or other disposition of any property held by the partnership; and the losses of the partnership were to be divided in the following proportions:
+----------------------------+
¦John F. Eulich ¦50%¦
+------------------------+---¦
¦Jackson E. Cagle, Jr. ¦25%¦
+------------------------+---¦
¦Charles L. Webster, Jr. ¦25%¦
+----------------------------+
Among other powers as the managing partner, Eulich had the right, power; and authority to negotiate and execute leases and subleases for the purpose of improving the partnership property, to execute and deal with mortgages, notes, and other instruments of indebtedness in his own name on behalf of the partnership; or in the partnership name. The partnership agreement provides that no partners would receive any salary or drawings for services rendered on behalf of the partnership in a capacity as a partner, but also recognized that each partner would only devote a portion of his time to partnership business since all partners were also involved in other business.
The partnership and John F. Eulich d.b.a. the Vantage Co. (hereinafter sometimes referred to as Vantage) entered into a management agreement dated August 15, 1968, which provided that Vantage would receive for its services, as well as for expenses incurred by it in performance of its services, $110,000 payable $90,000 on or before December 31, 1968, and $20,000 on or before October 1, 1969. The management agreement, in pertinent part, reads as follows:
WHEREAS: Company (Parkway) desires to avail itself of Manager's (John F. Eulich d.b.a. the Vantage Co.) capacity, knowhow, expertise, past general experience, and over-all knowledge of all aspects of the development and management of real property in connection with Company's development of its property located in the Great Southwest Industrial District, Arlington, Texas.
IT HAS BEEN AGREED by the parties hereto as follows:
1. Manager will assist and advise Company with respect to economic planning, feasibility, market analysis and the approach and appeal with respect to development of the above property.
2. Manager will provide Company with techniques regarding financial, accounting and other technical aspects applicable to the development and operation of such property.
3. Manager will assist in the general supervision and administration of Company's operation from the date hereof through October 31, 1969.
Eulich would not have agreed to form the partnership with petitioners as partners without the payment of the aforementioned fee.
The services actually performed by John F. Eulich d.b.a. the Vantage Co. for the partnership were a feasibility study of the office-showroom development which included economic forecasts, market potential, budget and project costs, and anticipated rents; work with the architects on the preliminary plans of the office-showroom complex; work with the construction general contractors with respect to the cost of the project and coordination of the architecture and construction thereof; and the arranging of financing using his own credit to some extent. No portion of the management fee was for managing the property after it was completed. Rather it was for work done at the inception and during the development of the office-showroom complex. John F. Eulich d.b.a. the Vantage Co. was hired because of Eulich's personal expertise in the field of development projects.
Vantage performed similar services for a management fee for other partnerships investing in similar development projects.
The following events took place in connection with the development of the office-showroom project. On September 24, 1968, Eulich purchased 5.255 acres of land (Parkway Plaza). On September 28, 1968, an architect firm was hired to draw up a plan for the complex and a photographer was hired to photograph the property. On October 31, 1968, a commitment letter for the construction loan was received. In November 1968, the architect firm received several payments for its work. On December 6, 1968, John F. Eulich d.b.a. the Vantage Co. borrowed $1 million from the Prudential Insurance Co. on a 25-year note; a building permit was issued to Dal-Tex Construction Co. to construct the building shell; and a contract was awarded to the Van Co. to finish the various suites of the office-showroom. Construction of the first suite of the office-showroom was completed for occupancy in June 1969, the second suite in July 1969, the third suite in August 1969, and two additional suites in September 1969.
Parkway reported no gross income on its first return covering the period August 1; 1968, through December 31, 1968. It deducted expenses totaling $105,972.51; including the $90,000 paid to Vantage in 1968 which was identified on the partnership return as a ‘Management Fee.’ The $105,972.51 loss shown on the partnership return of income was distributed in accordance with the partnership agreement with Jackson E. Cagle, Jr., and Ann Cagle reporting a loss of $51,493 and Charles L. Webster, Jr., and Sylvia Webster reporting a loss of $51;493.13 on their individual returns for 1968.1
In his notices of deficiencies to both petitioners, respondent determined that the $90,000 management fee deduction was not allowable because it was not established ‘that such amount was paid...
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