Hoyal v. Dep't of Revenue, TC-MD 190297G

• Decision Date: 20 December 2021
• Docket Number: TC-MD 190297G
• Parties: DAVID HOYAL, as Trustee of CRATER LAKE TRUST, Plaintiff, v. DEPARTMENT OF REVENUE, State of Oregon, Defendant.
• Court: Oregon Tax Court

DAVID HOYAL, as Trustee of CRATER LAKE TRUST, Plaintiff, v. DEPARTMENT OF REVENUE, State of Oregon, Defendant.

No. TC-MD 190297G

Tax Court of Oregon, Magistrate Division, Income Tax

December 20, 2021

DECISION

POUL F. LUNDGREN MAGISTRATE JUDGE.

Crater Lake Trust appeals the disallowance of losses from a real estate development company and from razing an unrelated pear orchard. The tax year at issue is 2014. Plaintiff was represented at trial by David Paul Lennon of Lennon &amp Klein, P.C. Defendant was represented by Darren Weirnick and James Strong, Senior Assistant Attorneys General. Plaintiff's witnesses were Jeffrey Hoyal, who was trustee of Crater Lake Trust during the relevant years; Lori Hoyal his wife and special trustee of Crater Lake Trust during the relevant years; Nicole Allaoui, née Hoyal their daughter and an employee of Crater Lake Trust during the relevant years; and Richard William Brewster, CPA. The exhibits in evidence are Plaintiff's Exhibits 1 to 36 and 38, and Defendant's Exhibits A to AA and FF.^[1]

I. STATEMENT OF FACTS

Crater Lake Trust is an irrevocable trust created by Jeffrey and Lori Hoyal in 2005. (Ex 7 at 11.) During the years relevant to this appeal, Jeffrey Hoyal served as trustee and Lori Hoyal served as special trustee for banking and finance. (Id. at 21; Exs 8 at 1; AA at 13-17.) The trust document names Jeffrey's mother as the trust's beneficiary during Jeffrey and Lori's lifetimes. (See Ex 7 at 11.) Jeffrey and Lori's two children-including Nicole Hoyal-are also beneficiaries, contingent on their surviving their parents. (See id. at 11, 15.) Lori Hoyal testified that the trust was a family trust for the purpose of holding assets and passing them on to the beneficiaries. David Hoyal, the trustee named on the Complaint, became trustee later and was uninvolved in the events underlying this litigation. (Ex AA at 15-17.)

For many years up to and including 2014, Jeffrey Hoyal had collaborated extensively in a successful magazine subscription business with another businessman, Dennis Simpson. The business involved marketing magazines through direct mailings using a psychological profiling system Hoyal had developed while attending graduate school. (Ex AA at 18-19.) Although Hoyal and Simpson lived in different states after 2010, they remained in constant communication about the subscription business, with Simpson calling Hoyal "every day or multiple times a day." (Ex FF at 3.)

Jeffrey Hoyal's part of the subscription business was conducted through two entities: Hoyal and Associates, Inc., and Breeze Enterprises, LLC. (Ex AA at 17-22.) The former was an S corporation wholly owned by the Hoyals, with Jeffrey Hoyal serving as president and Lori Hoyal as secretary. (Id. at 13; see Ex H at 7.) The latter was wholly owned by Crater Lake Trust and served as a holding company for the profiling-related intellectual property Jeffrey Hoyal had developed. (Ex. AA at 17-19.) Virtually all of Crater Lake Trust's 2014 income was received pursuant to a consulting agreement whereby Hoyal and Associates paid Breeze Enterprises over $2.4 million. (See Exs E at 9; H at 1.)

In addition to Breeze Enterprises, Crater Lake Trust owned or partly owned the following businesses in 2014: TLN LLC, a real estate investment company for which Plaintiff reported a $13, 074 loss; HP Classics LLC, an automobile and airplane restoration company from which Plaintiff reported $675 income; and Novato Development, LLC, of which Plaintiff's reported share of its 2014 losses was $140, 361. (Exs AA at 14; E at 11, 14; G at 8.) Plaintiff also reported a net operating loss of over $1.2 million from Novato Development's losses in 2013. (Exs D at 26; E at 1, 20; F at 1.)

A. Novato Development LLC

Crater Lake Trust held a 50-percent interest in Novato Development LLC, a company formed to develop a subdivision in Novato, California. (Exs N at 2; AA at 35-38.) The other half of Novato Development was owned or held for the benefit of Dennis Simpson.^[2] (See Exs N at 2; AA at 33-34; I at 58.)

Simpson and Jeffrey Hoyal formed Novato Development LLC in 2007. (Ex AA at 35.) Jeffrey Hoyal arranged for financing with a bank and brought in Bob Decker, a contractor, to serve as the project's "point person" in Novato. (See id. at 49.) Lori Hoyal kept the books and provided administrative support. (Id. at 14-15.) After the decline of the housing market in 2008 and 2009, Novato Development replaced Bob Decker with Jeffrey Hoyal's daughter, Nicole Hoyal. (Id. at 49.)

During the years leading up to and including 2013 and 2014, Nicole Hoyal lived onsite in Novato and exercised multiple roles in Novato Development LLC: "manager, director, foreman, supervisor, inspector." (Ex AA at 46.) Plaintiff submitted thousands of pages of contractor invoices and other Novato Development documents addressed to Nicole Hoyal and her LLC, Eagle Eye Management. (Ex 30.) Defendant does not dispute that Nicole Hoyal materially participated in Novato Development's business. (Def's Post-Trial Memo at 4.)

Lori Hoyal kept the books for all the businesses in which Crater Lake Trust held a stake except HP Classics. (Ex AA at 14-15.) She testified that her duties for Novato Development extended to other administrative support and included design work in consultation with Nicole Hoyal about the homes under construction. After consulting records not in evidence, including bank statements, telephone records, emails, and a check register, she prepared a worksheet showing the time she estimates having worked on various tasks throughout 2014.^[3] (Ex 38.) She concluded that her "total material participation" in Novato Development was 155.59 hours in 2014. (Id. at 3.) Approximately half of that total was attributed to telephone conversations with Nicole Hoyal. (Id.) She also reviewed Jeffrey Hoyal's telephone records and determined that he had spent about 200 hours on work-related calls, including 147 hours with Dennis Simpson and 46 hours with Nicole Hoyal. (See Ex 31.) The remaining hours included calls between Jeffrey Hoyal and the farm manager at Hoyal Farms, Inc-another S corporation owned by Jeffrey and Lori Hoyal.

Jeffrey Hoyal testified that he retained ultimate authority as Novato Development's manager, having been so designated in 2012 when the LLC switched from being member-managed to manager-managed. (Ex N.) He directed Nicole Hoyal to assume her various responsibilities, such as becoming a water inspector to meet city testing requirements. (Ex AA at 47-48.) He expected her to keep him apprised of the project's progress and of problems that arose. (Id. at 48.) Jeffrey Hoyal estimated that he worked "[p]robably 500 hours" on Novato Development in 2014. (Id. at 72.) He based that estimate on his telephone records and on the "mountains of documents" produced by Novato Development. (Id.) He also visited Nicole Hoyal quarterly for a day or two, during which time he attended home owners association meetings associated with Novato Development. Jeffrey Hoyal estimated that he worked 500 hours at each of four other businesses: Hoyal and Associates, Breeze Enterprises, HP Classics, and Hoyal Farms. (Id. at 70-71.)

In 2017, Dennis Simpson brought a lawsuit against Jeffrey and Lori Hoyal in circuit court. (Ex I at 1.) Jeffrey and Lori Hoyal's responsive pleading included the following allegation:

"Hoyal was the nominal manager of Novato, but Simpson, directly and through one or more agents, including Noel Parducci, was fully aware of and controlled the financial reporting, development decisions, and matters relating to the sale of subdivision lots by Novato."

(Id. at 33.) Jeffrey Hoyal affirmed the truth of that allegation and further testified that "[e]very * * * financial transaction that happened in Novato had to be run through [Noel Parducci] and run through Dennis Simpson." (Ex AA at 75-76.) When Jeffrey Hoyal was asked in a follow-up question whether development decisions were run through Jeffrey Hoyal, his response was: "They had to be run through me through him." (Id. at 76-77.)

B. Pear Trees

In July 2013, Plaintiff purchased an 80, 000-tree pear orchard from Associated Fruit Company for $1, 250, 000. (Ex 14 at 1.) Associated Fruit retained ownership of the pear crop then growing and a leasehold through the 2014 harvest. (Ex 15 at 1.) No rent was required for the lease, but the lease would "terminate in its entirety" by November 1, 2014. (Id. at 1-2.) Plaintiff and Associated Fruit attempted to negotiate an allocation of the sale price between the land and the pear trees. At that time, Plaintiff sought to allocate $650, 000 to the pear trees, while Associated Fruit sought to allocate all value to the land; in the end, no allocation was included in the purchase and sale agreement. (Exs 18 at 1; 19 at 10.) Plaintiff ultimately allocated a basis of $800, 000 to the pear trees on its 2014 depreciation schedule. (Ex E at 21.) Jeffrey Hoyal testified that he derived an allocation of $10 per tree from the nursery price of a young pear tree and from the difference in average value between pear-bearing and irrigated acreage in Oregon divided by the number of trees per acre. (Exs 25 at 47; 26 at 9.)

Associated Fruit terminated the lease after the 2013 harvest-a year early-whereupon Plaintiff leased the land to Hoyal Farms. (Exs 21 at 1; 13 at 1.) Jeffrey Hoyal testified that he decided not to continue growing pears without a tenant, citing the state of the market, the expense of pest control, and his own experience in growing hay rather than pears. He arranged to have the trees removed by a power company for use as biofuel in the spring or summer of 2014.^[4] He then prepared the land for growing hay.

The 2013 purchase was not the first time Jeffrey Hoyal had...