Bryant v. Commissioner
| Decision Date | 27 September 1989 |
| Docket Number | Docket No. 3013-85. |
| Citation | 1989 TC Memo 527,58 TCM (CCH) 235 |
| Parties | Jonas R. Bryant and Carmen L. Bryant v. Commissioner. |
| Court | U.S. Tax Court |
Burgess L. Doan and Marvin L. Martin, for the petitioners. Andrew M. Winkler, for the respondent.
Memorandum Findings of Fact and Opinion
By two notices of deficiency dated November 27, 1984, respondent determined the following deficiencies in petitioners' Federal income tax:
Year Deficiency
Jonas R. Bryant ...... 1979 $203,492.52
Jonas R. and Carmen L
Bryant .............. 1982 9,088.00
The issues for decision are: (1) whether petitioner's1 mining activities were a sham and lacked economic substance; (2) whether certain amounts expended by petitioner in 1979 and 1982 were deductible as mine development expenditures pursuant to section 616(a)2; (3) whether petitioner was at risk under section 465 for amounts borrowed in connection with his mining investments; (4) whether petitioners were entitled to an interest deduction in 1982 for a claimed payment of interest on a promissory note; and (5) whether certain miscellaneous business expenses claimed by petitioners in 1982 were ordinary and necessary business expenses.
Some of the facts of this case have been stipulated and are so found. The stipulation of facts and first supplemental stipulation of facts, together with the exhibits attached thereto, are incorporated herein by this reference.
Petitioners resided in Bardstown, Kentucky, when they filed their petition. Petitioner holds a bachelor's degree in Ceramic Engineering from Virginia Technological University and a master's degree in Business Administration from Rutgers University. Petitioner also has earned some credit towards a Ph.D. in Business Administration from the University of Southern California. In September 1978, Hitachi Metals Corporation (Hitachi) purchased petitioner's closely held business, American Magnetics Corporation (American Magnetics). Petitioner owned 56 percent of the stock in American Magnetics; Alan Brown (Brown) and Charles Repenn (Repenn) held the remaining 44 percent. As part of the sale of American Magnetics to Hitachi, petitioner entered into a 5-year employment contract with Hitachi to manage its newly purchased plant. In 1979, petitioner requested that Hitachi shorten the length of his employment contract, which it did. Petitioner worked for Hitachi from September 1978 until mid-1980, although he stopped actively working in 1979. Petitioner's sale of his American Magnetics stock resulted in a long-term capital gain in his 1978 taxable year. In 1978, petitioner invested in a cattle feeding operation that resulted in a loss for that taxable year. In 1979, petitioner recognized a gain of $331,214 from his cattle feeding investment. Since 1982, petitioner has been employed as vice president and general manager of the ceramic operations for Crucible Materials Corporation in Elizabethtown, Kentucky.
In early 1979, petitioner's former business associate Brown went to Austin, Nevada, to investigate a silver mining investment opportunity. Brown spent a week investigating the Austin Silver Mine (Austin Mine) and interviewing William Noack (Noack), the miner in charge. Brown returned from his trip enthusiastic about the investment and brought back geological reports and other engineering data that petitioner studied. In March 1979, petitioner, along with Brown and Repenn, met with American Magnetic's former certified public accountant to discuss the financial implications of investing in the Austin Mine. Petitioner, Brown, and Repenn also reviewed the investment with American Magnetic's former attorney. Based upon Brown's enthusiastic report, his review of the data brought back by Brown, and his discussions with his C.P.A. and with his attorney, petitioner decided to invest in the Austin Mine, as did Brown and Repenn. Petitioner then requested that Robert Hughes (Hughes), who was marketing the Austin Mine investment, come to Indiana to discuss the details of the investment program with him. Hughes' presentation included a discussion of the favorable tax benefits of an investment in the Austin Mine.
On March 27, 1979, petitioner executed the following documents in connection with his subscription to the Austin Silver Program:
On March 27, 1979, a note was executed by Hughes as president for Equitable to Manhattan for $285,000. The note provided for three payments of $95,000 on March 27, 1980, March 27, 1981, and March 27, 1982, with interest at the prime rate plus 1/8 percent as established by Chase Manhattan Bank, New York. The note was marked "Paid 12-7-79" over the signature stamp of Noack.
Petitioner made the following payments to Equitable in connection with his Austin Mine investment:
Date of
Check Amount Description
3/27/79 $95,000.00 Silver mine
development work
12/30/80 61,152.05 One half silver
development note &
interest
12/29/82 10,000.00 interest for Austin
notes
12/27/83 19,300.00 interest on Austin
Silver notes
On October 22, 1985, petitioner executed a new promissory note to Equitable for $237,500. The note provided for interest of 8 percent per annum and a due date of October 22, 1995. The note further provided that it was secured by a mortgage. The mortgage, also dated October 22, 1985, was between petitioner, as mortgagor, and Equitable, as mortgagee. The mortgage conveyed an interest in petitioner's Bardstown, Kentucky, residence to Equitable as security for the payment of petitioner's note. The mortgage was notarized on November 15, 1985. The copy received by Equitable reflected that the mortgage had been recorded in the Nelson County, Kentucky courthouse. Petitioners jointly owned their residence, which was appraised at $232,500 on November 14, 1985.
The ore blocks leased by petitioner were located west of the Hillside Shaft on the Panamint Vein system. High grade silver was first discovered in the Austin area in the early 1860's. Miners sunk the Hillside Shaft at that time, and the area was heavily mined until the 1880's. The methods used by miners in the 1800's were very expensive compared to methods currently used. Accordingly, only high grade silver ore was mined and milled. Generally, those miners only considered ore containing in excess of 50 ounces of silver per ton to be worth mining. In 1946, the Nevada Equity Mining Company was formed to explore the claims around the Austin area, including the Hillside Shaft, which was cleaned out and rehabilitated. The next major development work was performed by Argus.
By letter dated December 7, 1979, Equitable obtained an accounting from Argus detailing the following development work undertaken and completed on petitioner's behalf:
Description Cost
Site Preparation
Hillside Shaft .......... $ 25,000
New York Shaft .......... 7,000
________
$ 32,000
Headframe Base
Hillside ................. 10,000
New York ................. 5,000
________
15,000
Decline Shaft
Hillside 95 ft. @
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