Lemmen v. Comm'r of Internal Revenue
| Decision Date | 23 December 1981 |
| Docket Number | Docket No. 1432-79. |
| Citation | 77 T.C. 1326 |
| Parties | GERRIT B. LEMMEN and JUDITH K. LEMMEN, PETITIONERS v. COMMISSIONER of INTERNAL REVENUE, RESPONDENT |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
Petitioner Gerrit B. Lemmen purchased a herd of cattle in 1973 for a stated price of $40,000 and a second herd of cattle in 1974 for a stated price of $20,000. At the time of these purchases, the fair market value of the cattle was $7,000 per herd. In connection with each purchase, petitioner entered into a maintenance contract under which the seller agreed to breed and otherwise care for the cattle in exchange for some of the heifer calves and all of the bull calves to be born during the term of the contract. Petitioner did not expect to realize any income from his cattle-breeding ventures on an annual basis; however, it was his objective ultimately to derive a profit from the sale of each herd as a result of increases in the price of cattle and in the size of his herds. Held, petitioner's cattle-breeding ventures were activities engaged in for profit during 1973, 1974, and 1975; therefore, he is entitled to investment credits and deductions for depreciation with respect to the cattle without regard to the limitations of sec. 183, I.R.C. 1954. Held, further, petitioner's basis for depreciation of the cattle is limited to their fair market value at the time of purchase. Held, further, amounts paid for the cattle in excess of their fair market value are allocable to the maintenance contracts. Held, further, the period over which amounts allocable to the maintenance contracts are amortizable determined. George W. Harrison III, Robert A. Hudson, and Charles D. Miner, for the petitioners.
F. Michael Kovach and Deborah S. Hack, for the respondent.
Respondent determined deficiencies in petitioners' Federal income taxes as follows:
+--------------------+
¦Year ¦Deficiency ¦
+------+-------------¦
¦ ¦ ¦
+------+-------------¦
¦1973 ¦$10,030 ¦
+------+-------------¦
¦1974 ¦19,905 ¦
+------+-------------¦
¦1975 ¦4,369 ¦
+--------------------+
After concessions by both parties, the issues remaining for decision are:
(1) Whether petitioner Gerrit B. Lemmen's investment in polled Hereford cattle during the years in question constituted an activity engaged in for profit, and, if so;
(2) Whether the excess of the purchase price of the cattle over their fair market value at the time of purchase represents an intangible asset that is not subject to amortization or depreciation.
At the time the petition was filed, petitioners Gerrit B. Lemmen (hereinafter petitioner) and Judith K. Lemmen, husband and wife, were legal residents of Bloomfield Hills, Mich. They filed joint Federal income tax returns for 1973, 1974, and 1975 with the Internal Revenue Service Center, Cincinnati, Ohio.
During the years in question, petitioner was employed fulltime as a lumber broker. In addition, he operated his own wholesale lumber business during 1973, 1974, and 1975. In each of those years, petitioner's income from his employment and business was in excess of $100,000, and he was subject to a marginal Federal income tax rate of at least 50 percent.
In August 1968, Calderone-Curran Ranches, Inc. (CCR), was incorporated under the laws of Michigan, with its principal place of business in Grass Lake, Mich. CCR was engaged in the business of raising and maintaining registered polled Hereford cattle for breeding purposes, both for its own account and for the account of others. It offered the cattle for sale to investors in “managed breeding herds” consisting of 10 female animals each.
CCR offered the herds for sale through the brokerage firm of Manley, Bennett, McDonald & Co. Dale Uhas (Uhas), a “registered representative” employed by that firm, contacted petitioner in early 1973 concerning the possibility of petitioner's investing in a CCR herd.1 In this connection, Uhas provided petitioner with a prospectus dated October 16, 1972 (the prospectus), and a supplement to the prospectus dated February 20, 1973. Petitioner read both of these documents prior to making any investment in a CCR herd.
Under the prospectus, CCR offered 179 managed breeding herds for sale at a price of $40,000 per herd ($4,000 per animal). Each herd was to be composed of animals ranging from 1 through 4 years in age, but CCR did not “assure that the age mix of a particular herd will be comparable to the age mix of each other herd.” The selection of particular cattle for each herd was to be made by CCR and was not subject to the approval of individual investors. The prospectus stated that each investor in a herd “may enter into a Maintenance Contract with * * * [CCR] for the care and breeding of the cattle.” It further stated as follows:
Purchase of the herds offered hereby is subject to a high degree of risk.* * * Such a purchase is considered suitable primarily by investors in the higher tax brackets because of certain tax benefits available under present provisions of the Internal Revenue Code.* * *
* * *
The herds offered hereby are designed to permit persons with high ordinary taxable income to become breeders of registered purebred Polled Hereford cattle and to build herds through use of * * * [CCR's] management and facilities.
The prospectus discussed in considerable detail the Federal income tax consequences (e.g., investment credit, depreciation, ordinary income versus capital gain) that could result from the purchase of a herd and the subsequent sale of the herd or individual animals from it.2 By way of example, pro forma investment analyses were set forth in the prospectus3 with respect to hypothetical herds purchased either for cash4 or under a deferred payment plan. These analyses, which projected that an initial herd of 10 animals would grow to 66 animals over a 7-year period, showed the annual tax savings that would be generated as a result of the investment credit and the deductions for depreciation and interest payments (under the deferred payment plan) in the case of herds purchased by investors subject to marginal tax rates of 50 percent, 60 percent, or 70 percent. The analyses also showed the annual and cumulative “Investment cost after tax deductions” that would be incurred in the year of purchase and during the following 7-year period. 5
Petitioner is a cautious investor who appreciates the time-value of money. Prior to being approached by Uhas in connection with the CCR offering, petitioner had heard “a lot of bad things about cattle.” Petitioner had no experience in raising or selling cattle.
Uhas has never been a rancher. He does not hold a degree in animal husbandry and, apart from persons who represented CCR, did not consult with anyone holding such a degree at the time he became involved with the CCR offering. Uhas was able to evaluate the cattle-maintenance and breeding programs of CCR only in terms of the credentials of the persons responsible for those programs. However, he was qualified to independently evaluate the office operations and business practices of CCR from a managerial standpoint.
On or about February 11, 1973, Uhas sent to petitioner the schedule on page 1332 detailing the cash outlay and tax benefits that would be involved in purchasing a CCR herd and holding it for 7 years.
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