Pietz v. Comm'r of Internal Revenue , Docket Nos. 5854-70— 5856-70.
| Decision Date | 07 November 1972 |
| Docket Number | Docket Nos. 5854-70— 5856-70. |
| Parties | EDWARD H. PIETZ AND GLORIA PIETZ, ET. AL.,1 PETITIONERS v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
Frank E. McGee, for the petitioners.
Joseph M. Wetzel, for the respondent.
Petitioners and the Grants were equal partners in a partnership formed to build and operate a motel. The venture was unsuccessful and the motel and furnishings were sold. The purchaser assumed the mortgage on the property, paid $60,000 cash which was applied on a bank loan, and gave a second mortgage on the property to the Grants. This left the partnership with no assets. Petitioners suffered a loss of investment in the partnership upon termination of the partnership. Held, the loss recognized to petitioners was a capital loss.
Respondent determined deficiencies in the Federal income taxes of petitioners for the designated years in the following amounts:
The cases were consolidated on a joint motion by all of the parties because of their common questions of law and fact. However, prior to trial several issues in dispute between petitioners and respondent were settled through negotiation. As a result of the settled issues, petitioners Irven J. Harter and Margaret H. Harter no longer have their tax liability for the years 1965 and 1966 in contention. The remaining matter presented for our determination concerns only petitioners Edward H. Pietz and Gloria Pietz, and Tod E. McClaskey and Maxine M. McClaskey. The question we are to decide is: Whether petitioners are entitled to an ordinary loss or a capital loss deduction for the amount of the adjusted bases in a now defunct partnership which they failed to recover at the termination of the partnership.
Some of the facts are stipulated, and those facts, together with the exhibits attached thereto, are so found.
Petitioners Edward H. and Gloria Pietz are husband and wife and maintained their residence in Ridgefield, Wash., when they filed the petition herein. They filed joint Federal income tax returns for the taxable years 1965 and 1966 with the director of internal revenue for the district of Washington.
Petitioners Tod E. and Maxine M. McClaskey are husband and wife and maintained their residence in Vancouver, Wash., when they filed their petition herein. They filed joint Federal income tax returns for the taxable years 1965 and 1966 with the director of internal revenue for the district of Washington.
Since both Maxine M. McClaskey and Gloria Pietz were not active parties to the transactions in question, the designation ‘petitioners' will refer to Edward H. Pietz and Tod E. McClaskey unless specifically stated otherwise.
In October of 1964, Edward H. Pietz (sometimes hereinafter referred to as Pietz), Tod E. McClaskey (sometimes hereinafter referred to as McClaskey), and Harry and Cecile Grant (sometimes hereinafter referred to as the Grants) formed a partnership known as the Dunes Motel (sometimes hereinafter referred to as the partnership) for the purpose of building, furnishing, and operating a motel facility on leased land in Reno, Nev. Each of the partners had extensive experience in the motel business. The Grants had owned and operated a motel in Astoria, Oreg., which they had sold just prior to the Dunes venture. Pietz and McClaskey were business partners in several motel operations in Washington and Nevada.
The Dunes Motel partnership had a total capital contribution of $120,000. Each partner, Pietz, McClaskey, and the Grants, was credited with paid-in capital of $40,000.2 The partnership profits and losses were to be shared equally among the three equal interests. Additionally, the Grants were to receive a small salary for managing the business.
At the inception of the Dunes venture, in October of 1964, an agreement was executed and signed by the partners and their wives. Pertinent parts of the agreement provided:
1. Heretofore Tod E. McClaskey and Maxine M. McClaskey, husband and wife, and Edward H. Pietz and Gloria Pietz, husband and wife, have made, entered into and executed an indenture of lease * * * covering * * * certain real property situated in the City of Reno, Washoe County, Nevada, for the purpose of constructing thereon a motel and said parties have obtained plans and specifications prepared by * * * an architect of Vancouver, Washington, covering the proposed motel.
2. All of the parties agree that a partnership agreement will be entered into between them whereby the Grants will contribute Forty Thousand Dollars ($40,000.00) to the capital of the partnership for the purpose of constructing and furnishing the proposed motel.
3. The McClaskeys and the Pietzes will contribute to the partnership all of the expenses which they have incurred in connection with the negotiation of the above-mentioned lease and will assign a one-third interest in the leasehold to the Grants.
4. The McClaskeys and the Pietes as a part of their capital contribution to the partnership agree to construct upon the premises more particularly described in the lease forty-five (45) motel units together with the manager's unit at a cost which shall not exceed Seven Thousand Five Hundred Dollars ($7,500.00) per unit including the manager's unit and including all furnishings, but not including linen and supplies.
5. The Motel will be constructed in accordance with plans and specifications * * * which all of the parties have examined and heretofore approved. The total cost of the project including the swimming pool, landscaping, blacktopping and sprinkler system will be included in the guaranteed price of $7,500.00 per unit.
6. It is further understood that temporary and permanent financing will be arranged by the McClaskeys and the Pietzes in a maximum amount of Two Hundred Twenty Thousand and No/100 Dollars ($220,000.00), the proceeds of which loan will be used for construction and furnishing of the motel at a cost, however, not to exceed the limitation guaranteed by the McClaskeys and the Pietzes.
7. It is further understood and agreed that the Grants will devote their full time and efforts as resident managers of the motel and that they will be paid Five Hundred and No/100 ($500.00) Dollars per month for such services.
8. The parties agree that they will enter into an appropriate partnership agreement covering the operation of the partnership which partnership agreement shall provide that policies of the partnership shall be set by Tod E. McClaskey and Edward H. Pietz and that all of the net receipts from the operation of the business are to be applied on the loan and in reduction of the mortgage. of $258,811.35 and furnished at an additional cost of $86,493.58.
During 1964 and 1965 the Dunes Motel facility was constructed at a cost of $258,811.35 and furnished at an additional cost of $86,493.58
To finance the motel construction, in accord with the terms of the initial partnership agreement. Pietz and McClaskey obtained $225,000 at 6-percent interest on a short-term loan by drawing on their personal line of credit at the Vancouver Branch of the Seattle First National Bank. Petitioners maintained and used this line of credit as a source of short-term financing for all of their motel operations, which included the Dunes Motel partnership. 3 The two petitioners, alone, signed the note for the $225,000, and there was no designation on the obligation as to petitioners' business relation, title of office, or authority to borrow the money. The initial loan was identified No. 20,646 by the bank and dated February 26, 1965.
Originally, the partners planned to refinance the $225,000 interim loan with a long-term loan as soon as possible after completion of the motel. However, McClaskey and Pietz were unable to find suitable permanent refinancing for the loan. Consequently, the line of credit advancement had to be renewed On june 1, 1965, by another note designated No. 20,987. The new obligation was for an amount of $228,562.50, which constituted principal of $225,000 and interest of $3,562.50. The second note was signed by only Pietz and McClaskey, with no designation thereon as to their business relation, title of office, or authority.
Payments were made on loan No. 20,987 on July 21, 1965, in the amount of $4,791.04, and on September 20, 1965, in the amount of $3,303.59. The two remittances were paid with checks drawn on the Dunes Motel bank account at First National Bank of Nevada, Reno, Nv. Both checks were signed by petitioner McClaskey and Harry Grant. The amounts tendered were to cover interest and to reduce the outstanding principal.
Eventually, petitioners were able to obtain a $165,000 long-term loan to partially fund their construction costs on a more permanent basis. They procured the loan from Standard Insurance Co. of Portland, Oreg. In respect of this borrowing, petitioners, with their wives, and the Grants signed a 7-percent note. On August 16, 1965, a real property deed of trust and a chattel mortgage on the Dunes Motel and its furnishings were executed by them in favor of Standard Insurance Co. of Portland, Oreg. The net proceeds of this loan, $163,267.35, were paid to Seattle First National Bank to decrease the amount due on the note designated as loan No. 20,987. That left a remaining balance on the June 1, 1965, note of $61,742.16.
On September 20, 1965, the $61,742.16 balance due on loan No. 20,987 was renewed by a note identified as loan No. 21,402. As in the case of the prior loans drawn on the petitioners' line...
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