Haag v. Comm'r of Internal Revenue
| Decision Date | 16 March 1987 |
| Docket Number | Docket No. 2902-84 |
| Citation | 88 T.C. No. 32,88 T.C. 604 |
| Parties | STANLEY W. HAAG, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
P, a physician, assigned his interest in a medical partnership and other businesses to P.C., a one-man profession al service corporation. P entered into an employment agreement with P.C. and performed medical services on behalf of P.C. P received either no salary or minimal salary from P.C. P took insubstantial sums of cash directly from the medical partnership and made and received cash advances to and from the P.C. R sought to allocate P.C.'s medical partnership income to P pursuant to section 61, the assignment of income doctrine and section 482. HELD, P.C., not P, controlled the earning of income from the medical partnership and section 61 and the assignment of income doctrine therefore do not apply. HELD FURTHER, section 482 applies in the one-man personal service corporation context. HELD FURTHER, inquiry into arm's-length dealing must be made with reference to the entire corporate entity. HELD FURTHER, except for an initial loan to P.C. on incorporation, cash advances between P and P.C. were not bona fide loan transactions. HELD FURTHER, a portion of P.C.'s income in 1979 and 1980 allocated to P pursuant to section 482. Ronald L. Mountsier, for the petitioner.
Vincent E. Mauer, for the respondent.
The Commissioner determined deficiencies in petitioner's Federal income tax as follows:
+----------------+
¦Year¦Deficiency ¦
+----+-----------¦
¦1979¦$94,060.30 ¦
+----+-----------¦
¦1980¦72,057.91 ¦
+----+-----------¦
¦1981¦84,240.17 ¦
+----------------+
The issues we must decide are (1) whether certain income reported by petitioner's closely-held corporation during the years in issue is taxable to petitioner pursuant to section 611 and the assignment of income doctrine; and (2) whether such income is allocable to petitioner pursuant to section 482.
All of the facts have been stipulated and, except as noted (see notes 2 and 3 infra), are so found. Petitioner, Stanley W. Haag, resided at Adel, Iowa when he filed his petition in this case. Petitioner timely filed Federal income tax returns for the taxable years 1979, 1980 and 1981.
Petitioner is a physician licensed to practice medicine in the state of Iowa. Prior to March 16, 1976 petitioner was a general partner in the Hilltop Medical Clinic (‘Hilltop‘), a partnership organized on January 1, 1967 under the laws of the state of Iowa. Petitioner joined the partnership no later than June 1971. Although the partnership agreement provides for amendment, it has not been amended to reflect the retirement or resignation of the original partners or the addition of new partners. Petitioner's name, therefore, does not appear on any written partnership agreement.
On March 16, 1976 petitioner organized Stanley W. Haag, M.D., P.C. (the ‘P.C. ‘), under the Iowa Professional Corporation Act, Chapter 496C, Iowa Code. The P.C. subsequently adopted by-laws, opened bank accounts in its name, caused a board of directors to be elected, elected officers and held shareholders' and directors' meetings. Petitioner was the sole director of the P.C. Petitioner and John L. Henss2 were the officers of the P.C., and petitioner and an employee stock ownership plan were the sole shareholders. The P.C. at all times has been a validly organized and operated professional corporation under Iowa law. The P.C. is not a sham or dummy corporation and is an entity taxable apart from its owners and employees. A business purpose for the formation of the P.C. was to continue the medical practice and other businesses of petitioner. The P.C. adopted an employee stock ownership plan (‘ESOP‘) and a medical reimbursement plan.
On or about March 16, 1976, petitioner assigned his interest in Hilltop to the P.C. Hilltop employed all of the partnership's non- professional employees and paid office, lab, medical and rent expenses. Hilltop also issued checks for malpractice insurance covering each partner, but charged the amounts paid to the partners' drawing accounts. The P.C. thus paid for petitioner's malpractice insurance.
Hilltop issued Schedules K-1 to the P.C. for Hilltop's 1979, 1980, 1981 and 1982 taxable years showing the P.C.'s distributive share of Hilltop income and its withdrawals and distributions as follows:
+--------------------------------------+
¦ ¦ ¦Withdrawals ¦
+----+---------------+-----------------¦
¦Year¦Ordinary income¦and distributions¦
+----+---------------+-----------------¦
¦1979¦$205,383 ¦$202,597 ¦
+----+---------------+-----------------¦
¦1980¦204,716 ¦196,287 ¦
+----+---------------+-----------------¦
¦1981¦228,802 ¦234,599 ¦
+----+---------------+-----------------¦
¦1982¦260,901 ¦251,551 ¦
+--------------------------------------+
Petitioner entered into an employment agreement with the P.C. on March 16, 1976. The agreement provides, in relevant part:
1. EMPLOYMENT
(a) The Corporation hereby employs the Employee to perform professional services on behalf of the Corporation and to render such services as are necessary for the Corporation to operate and maintain an establishment for * * * the practice of medicine.
* * *
(d) The Employee agrees to devote his entire time, attention, knowledge and skill to such employment and shall at all times maintain and enhance the reputation of the Corporation, its shareholders and employees and the profession, generally.Compensation for petitioner's services was left to the discretion of the Board of Directors after taking into account the P.C.'s and petitioner's cash flow needs.
In addition to the partnership interest in Hilltop, petitioner contributed farms and a dog kennel and breeding operation to the P.C. on March 16, 1976. In exchange for the partnership interest, professional equipment, land, the farms and the kennel and breeding operations, the P.C. assumed certain indebtedness of petitioner ($123,500.00 owed to the West Des Moines State Bank), issued to petitioner 100 shares of stock with no par value but valued at the time of the transfer at $10.00 each and a non-interest bearing note in the face amount of $56,085.66. The transaction qualified for nonrecognition treatment under section 351(a).
The P.C. acquired two farms from petitioner totaling 280 acres, portions of which were used for grain farming and portions for the kennel operations and related activities. At all relevant times, the P.C. owned 30-70 dogs. The P.C. trained hunting dogs, boarded dogs and breed dogs. The P.C. was known for its German shorthaired pointers and German wirehaired pointers and some of its dogs were of ‘national quality.‘ Petitioner is a recognized national expert on these breeds. The P.C. also ran a shooting club on the farm property and hunters paid a fee to hunt. The farm was stocked with game birds and the P.C. operated the farm in such a way as to increase the game bird population.
The P.C.'s income from the farm, kennel and breeding operations for the fiscal years ending February 29, 1980, February 28, 1981 and February 28, 1982 was as follows.:
+------------------------------------------------+
¦ ¦2/29/80 ¦2/28/81 ¦2/28/82 ¦
+------------+-----------+-----------+-----------¦
¦Total income¦$19,388.94 ¦$11,451.38 ¦$8,830.12 ¦
+------------+-----------+-----------+-----------¦
¦Expenses ¦105,814.21 ¦84,884.71 ¦96,887.32 ¦
+------------+-----------+-----------+-----------¦
¦Net income ¦(86,425.27)¦(73,433.33)¦(88,057.20)¦
+------------------------------------------------+
On November 28, 1978, Doc's Renowned Restaurant, Ltd. (the ‘Restaurant‘) was incorporated as a wholly-owned subsidiary of the P.C. During all relevant periods the P.C. and the restaurant filed consolidated federal income tax returns. The P.C.'s net income from the restaurant for the fiscal years ending February 29, 1980, February 28, 1981 and February 28, 1982 was as follows:
+-------------------------------------------------------+
¦ ¦2/29/80 ¦2/28/81 ¦2/28/82 ¦
+-------------------+-----------+------------+----------¦
¦Total income ¦$539,663.12¦($10,589.67)¦$27,750.00¦
+-------------------+-----------+------------+----------¦
¦Costs of goods sold¦430,550.41 ¦26,585.37 ¦0 ¦
+-------------------+-----------+------------+----------¦
¦Expenses ¦207,975.98 ¦93,941.63 ¦34,459.58 ¦
+-------------------+-----------+------------+----------¦
¦Net income ¦(98,863.27)¦(131,116.67)¦(6,709.58)¦
+-------------------------------------------------------+
The P.C. entered into separate written agreements in 1978 to provide medical services to the Mitchellville Girls Training School (the ‘Training School‘) and the Mitchell Village Care Center (the ‘Care Center‘). The P.C. received the following income from those contracts for the fiscal years ending February 29, 1980, February 28, 1981 and February 28, 1982:
+------------------------------------------------+
¦ ¦2/29/80 ¦2/28/81 ¦2/28/82 ¦
+---------------+----------+----------+----------¦
¦Training School¦$11,898.00¦$ 7,272.00¦$12,885.36¦
+---------------+----------+----------+----------¦
¦Care Center ¦9,454.74 ¦13,038.72 ¦5,567.45 ¦
+------------------------------------------------+
Petitioner made an unknown number of cash advances to the P.C. between March 16, 1976 and February 28, 1979. As of February 28, 1979 the P.C.'s books reflected that it owed petitioner $105,243.59. During the years in issue the P.C. repaid that amount in full and transferred to petitioner additional amounts so that on February 28, 1982, petitioner had taken out of the P.C. $27,400.02 more than the $105,243.59 of cash he had advanced.
Petitioner's ‘loans‘ to the P.C. initially did not state any interest, but beginning on March 1, 1980, 10 percent interest...
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