                        T.C. Memo. 1996-334



                      UNITED STATES TAX COURT



        PATRICK F. AND ARLENE GWON SHEEHY, Petitioners v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 17799-94.                Filed July 24, 1996.



     Ralph C. Larsen, for petitioners.

     Christine V. Olsen, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     JACOBS, Judge:   Respondent determined a $57,301 deficiency in

petitioners' 1991 Federal income tax, and an $11,460 section

6662(a) accuracy-related penalty for that year.

     The issues for decision are (1) whether petitioners are

entitled to deduct as research and development expenses $165,000
                                    -2-

that Patrick F. Sheehy paid in 1991 to acquire interests in

thoroughbred racehorses,1 and (2) whether petitioners are liable

for the section 6662(a) accuracy-related penalty for 1991.

     All section references are to the Internal Revenue Code for

the year in issue, and all Rule references are to the Tax Court

Rules of Practice and Procedure.          Some of the facts have been

stipulated and are found accordingly. The stipulation of facts and

the attached exhibits are incorporated herein by this reference.

                              FINDINGS OF FACT

     At the time they filed their petition, petitioners Patrick F.

and Arlene Gwon Sheehy, husband and wife, resided in Newport Beach,

California.      They timely filed their 1991 Federal income tax

return.

Background

     Patrick    F.   Sheehy   (petitioner)     is   a   medical   doctor   who

specializes in oncology and hematology.         He is also engaged in the

business of developing champion racehorses.               Mrs. Sheehy is a

research ophthalmologist.

Super Horse, Inc.

     During the year in issue, Super Horse, Inc. (Super Horse)

purchased thoroughbred racehorses and sold interests in these

horses    to   investors.      Super   Horse    assisted    individuals     in

     1
          In the notice of deficiency, respondent allowed
petitioners $12,675 as a depreciation deduction in lieu of the
claimed $165,000 deduction for research and development expenses.
                                       -3-

identifying     horses    that      could    potentially    become    champion

racehorses from their bloodlines.            At all relevant times, John E.

Judge was Super Horse's sole shareholder.                Mr. Judge was also

petitioners' accountant.

     In 1991, petitioner paid Super Horse $165,000 to acquire

interests in five thoroughbred racehorses, as follows:

Date of Purchase         Horse                     Interest          Price

1/17/91                  U Gotta Bargain           50%               $10,500

5/18/91                  Dr. Bounty                50                13,000
5/18/91                  Gypsy Pirate              66.6              14,000

8/25/91                  All the Days              50                 7,500

11/1/91                  Orchesis                  100               120,000

   Total                                                             165,000

Petitioner acquired his interests in these horses, believing that

the horses could become champions based on their bloodlines. Super

Horse trained these racehorses for petitioner.

Petitioners' 1991 Schedule C

     On a Schedule C attached to their 1991 Federal income tax

return, petitioners deducted $165,000 as research and development

expenses.2    This deduction relates to the amount petitioner paid

Super Horse to acquire his racehorse interests.             Petitioners took

the deduction on the advice of Mr. Judge.               They did not claim a

depreciation deduction for the racehorses.

Notice of Deficiency

     2
             The deduction appears on line 27a, "Other expenses".
                                          -4-

       In   the     notice        of    deficiency,       respondent         disallowed

petitioners'      $165,000        deduction     for    research      and    development

expenses based on the determination that expenses for purchasing

racehorses are not deductible under section 174.

                                        OPINION

Issue 1.    Research and Development Expense Deduction

       Section 174(a) allows a deduction for research or experimental

expenditures that are paid or incurred during the taxable year in

connection with a trade or business.                  Section 174(c) excepts from

this   treatment       any   amounts     expended      for    "the   acquisition      or

improvement of land, or for the acquisition or improvement of

property    to    be     used      in   connection       with     the      research    or

experimentation        and   of    a    character     which     is   subject    to    the

allowance under section 167" (relating to depreciation deductions

for property used in a trade or business or held for the production

of income).

       Racehorses      are   property      of    a    character      subject    to    the

allowance for depreciation.             Sec. 1.167(a)-6(b), Income Tax Regs.

("Livestock acquired for * * * breeding * * * purposes may be

depreciated"); see also Gamble v. Commissioner, 68 T.C 800, 812

(1977); Kirk v. Commissioner, 47 T.C. 177, 188 (1966).                          Section

1.174-2(b)(4), Income Tax Regs., provides, in part, that amounts

expended for research or experimentation do not include the costs

attributable to the acquisition of the property.                        Section 174(c)
                                     -5-

provides that depreciation allowances under section 167 shall be

considered expenditures under section 174.

     Petitioner     paid   $165,000       to    acquire   interests     in   the

thoroughbred     racehorses.        The    racehorses     are      section   167

depreciable property.      None of the amount was expended on research

costs; accordingly, we hold that no portion of the $165,000 is

deductible as a section 174(a) research and development expense.3

Issue 2.     Section 6662(a) Penalty

     Section 6662 imposes a penalty equal to 20 percent of the

portion of the underpayment that is attributable to negligence or

disregard of rules or regulations.             Sec. 6662(a) and (b)(1).

     "Negligence" includes any failure to make a reasonable attempt

to comply with the provisions of the Internal Revenue Code, and

"disregard"    includes    any    careless,       reckless,   or    intentional

disregard.    Sec. 6662(c).      Negligence is defined as the lack of due

care or the failure to do what a reasonable and ordinarily prudent

person would do under the circumstances. Marcello v. Commissioner,


     3
          Petitioners claim that prior to 1991 they deducted the
purchase price of racehorses as research and development expenses
on their Federal income tax returns and that upon audit of their
tax returns, respondent acquiesced in such treatment. Thus, they
argue, they should be allowed to similarily deduct the purchase
price of the racehorses for the year 1991. We reject
petitioners' argument based on the established principle that
each tax year is considered separately. See Harrah's Club v.
United States, 228 Ct. Cl. 650, 661 F.2d 203, 205 (1981).
However, we believe respondent's allowance of a deduction of the
purchase price for petitioner's racehorse interests in prior
years is a factor to be considered with respect to the sec.
6662(a) accuracy-related penalty.
                                             -6-

380 F.2d 499, 506-507 (5th Cir. 1967), affg. in part and remanding

in part 43 T.C. 168 (1964); Neely v. Commissioner, 85 T.C. 934, 947

(1985).

     Petitioner          specialized    in     hematology.        He    believed     that

studying the bloodline and genetic profile of thoroughbred horses

could     identify       future   champion         racehorses,    and    he    acquired

interests in racehorses, in part, to prove his theory.                     He credibly

testifed as to his belief that the development of the bloodline of

a thoroughbred horse was a "scientific endeavor".

     Petitioners' accountant, Mr. Judge, advised them that they

could deduct the purchase price of petitioner's interests in the

racehorses    as     a    research     and    experimental       expense      for   1991.

Reasonable reliance on a professional in such a matter can shield

a taxpayer from a finding of negligence.                 Horn v. Commissioner, 90

T.C. 908, 942 (1988); Daoust v. Commissioner, T.C. Memo. 1994-203.

We believe that petitioners' reliance on Mr. Judge was in good

faith.

        Further, petitioners had claimed such a deduction for earlier

years, and when these returns were audited, such deductions were

not disallowed.

        Although the situation involved herein is a close case, we

believe petitioners were not negligent.                 Accordingly, we hold that
                                 -7-

petitioners are not liable for the section 6662(a) accuracy-related

penalty for 1991.

     To reflect the foregoing,


                                           Decision will be entered

                                       under Rule 155.
