                  T.C. Memo. 2000-139



                UNITED STATES TAX COURT



            DANIEL J. CULNEN, Petitioner v.
     COMMISSIONER OF INTERNAL REVENUE, Respondent



Docket Nos. 25551-92, 6496-94.          Filed April 13, 2000.



     The issues for decision are: (1) whether P had
sufficient basis with respect to an S corporation
to permit him to deduct his pro rata share of
that corporation’s ordinary losses for the years in
question; and (2) whether (A) the corporation suffered
a sec. 1231, I.R.C., loss from the disposition of
property in one of those years and (B) P had sufficient
basis to permit him to deduct his pro rata share of
that loss.
     1. Held: P established that he had sufficient
basis for all years;
     2. Held, further, P established that the
S corporation suffered only a portion of the sec. 1231,
I.R.C., loss claimed; held, further, P had sufficient
basis to deduct his portion of the loss suffered.
                                       - 2 -


     Frank Agostino, for petitioner.

     Steven W. Ianacone, for respondent.



               MEMORANDUM FINDINGS OF FACT AND OPINION


     HALPERN, Judge:       These consolidated cases involve the

following determinations by respondent of deficiencies in,

additions to, and penalties on petitioner's Federal income tax:

                             Additions to Tax & Penalties
 Year   Deficiency   Sec. 6651(a)(1)    Sec. 6661   Sec. 6662   Sec. 6663
 1987    $271,885        $48,616         $67,971        --          --
 1989     217,204         42,824            --          --      $162,903
 1990     381,883         88,399            --       $75,524        --

     Unless otherwise indicated, all section references are to

the Internal Revenue Code in effect for the years in issue, and

all Rule references are to the Tax Court Rules of Practice and

Procedure.

     After concessions, the issues for decision are:              (1) Whether

petitioner had sufficient basis with respect to an S corporation

for his taxable (calendar) years 1987, 1989, and 1990 to permit

him to deduct his pro rata share of the corporation’s ordinary

losses for those years in the amounts of $388,106, $651,357, and

$213,732, respectively; and (2) whether (A) the corporation

suffered a section 1231 loss from the disposition of property in

1990 and (B) petitioner had sufficient basis to permit him to

deduct his pro rata share, $1,759,987, of that loss.
                               - 3 -


                         FINDINGS OF FACT

     Some facts have been stipulated and are so found.    The

stipulation of facts, with attached exhibits, is incorporated

herein by this reference.

     At the time the petitions were filed, petitioner resided in

Totowa, New Jersey.

Wedgewood Associates, Inc.

     During the years in issue, Wedgewood Associates, Inc., a New

Jersey corporation (Wedgewood), was an S corporation, see sec.

1361(a)(1), making its return of income on the basis of a

calendar year.   Wedgewood was in the restaurant business.   In or

before 1987, petitioner became a shareholder in Wedgewood.

Beginning in 1987 and ending in 1990, petitioner owned the

following percentages of Wedgewood’s shares:

                 Year                  Percentage
                 1987                    39.48
                 1988                    52.00
                 1989                    73.00
                 1990                    73.00

Wedgewood was unsuccessful in the restaurant business.    It ceased

doing business sometime in 1990, and, on or about March 14, 1990,

by Deed of Assignment for the Benefit of Creditors (the deed), it

conveyed its property for the benefit of those creditors.

Attached to the deed is a “Statement of Assets”, which lists

restaurant fixtures, equipment and furnishings subject to liens

of $1,865,000, a liquor license, cash on hand, accounts
                                - 4 -


receivable, and liquor inventory.    Only the liquor license and

liquor inventory are shown to have a value, $100,000 and $1,000,

respectively.1

Culnen & Hamilton, Inc.

     During the years in issue, Culnen & Hamilton, Inc. (Culnen &

Hamilton) was an insurance producer licensed by the State of New

Jersey.   During those years, petitioner was the sole shareholder

of Culnen & Hamilton.    Culnen & Hamilton made its return of

income on the basis of a fiscal year ending on January 31.      From

February 1, 1986, through May 31, 1987, Culnen & Hamilton was an

S corporation; after May 31, 1987, Culnen & Hamilton was a

C corporation.   See sec. 1361(a)(2).

Wedgewood’s Payments

     On 46 occasions, from April 1987 through January 1990,

Culnen & Hamilton made payments by check and, on one of those

occasions, by wire transfer to Wedgewood (without distinction,

the 46 checks), in amounts totaling $4,034,017.41.2      The


     1
          The record is unclear with regard to the total value of
the liquor license and liquor inventory. While they were the
only assets listed as having value, the statement of assets
listed the total value of assets as $110,000 (not $101,000).
     2
          The amounts for each year are as follows:

                       Year                Amount
                       1987             $1,968,000.00
                       1988              1,691,537.36
                       1989                368,410.05
                                                        (continued...)
                                 - 5 -


46 checks were issued to Wedgewood on behalf of petitioner.       The

payments represented by the 46 checks were shown on the books of

Culnen & Hamilton as shareholder loans.      The 46 checks were

deposited into a bank account of Wedgewood, and their receipt was

shown on the books of Wedgewood as indebtedness to petitioner.

At some point during the years in issue, there was a reduction of

$375,000 in the total amount of $4,034,017.41 shown on the books

of both Wedgewood and Culnen & Hamilton to reflect partial

repayments.

     On 28 occasions, from April 1989 through March 1992, Culnen

& Hamilton issued checks in payment of expenses of Wedgewood’s,

in amounts totaling $501,918.22 (the 28 checks).3       The payments

represented by the 28 checks were shown on the books of Culnen

& Hamilton as officer loans and on the books of Wedgewood as

indebtedness to petitioner.

     On six occasions, from February 1987 through August 1990,

Culnen & Hamilton issued checks in payment of, or with respect


     2
      (...continued)
                       1990                  6,070.00
                         Total           4,034,017.41
     3
         The amounts for each year are as follows:

                       Year                  Amount
                       1989                $97,078.50
                       1990                404,130.86
                       1991                    683.86
                       1992                     25.00
                         Total             501,918.22
                                - 6 -


to, petitioner’s purchase from a Dr. Nagel of Dr. Nagel’s

interest in Wedgewood, in amounts totaling $568,152.17 (the six

checks).4   The payments represented by the six checks were shown

on the books of Culnen & Hamilton as officer loans.

     On eight occasions, from April 1987 through December 1991,

Culnen & Hamilton paid certain other amounts, at least some of

which related to petitioner’s investment in Wedgewood in amounts

totaling $737,733.27 (the eight payments).5    The payments

represented by the eight payments were shown on the books of

Culnen & Hamilton as officer loans.

     For 1987 through 1989, Wedgewood recorded on its books

interest due to petitioner in the amounts of $38,991.08,

$250,918.44, and $326,160.97, respectively (for a total of

$616,070.49.)



     4
            The amounts for each year are as follows:

                      Year                Amount
                      1987              $335,000.00
                      1989                80,214.07
                      1990               152,938.10
                        Total           $568,152.17
     5
            The amounts for each year are as follows:

                      Year                 Amount
                      1987               $72,143.21
                      1988               300,000.00
                      1989               202,000.00
                      1990               135,061.97
                      1991                28,528.09
                        Total            737,733.27
                                 - 7 -


Wedgewood’s Income Tax Returns

     Wedgewood’s Federal income tax returns for 1987 through 1990

show the following balance sheet entries with respect to loans

from shareholders:

     Year            Beginning Balance          Ending Balance
     1987                $186,827                 $1,773,887
     1988               1,773,887                  3,530,306
     1989               3,530,306                  4,380,992
     1990               4,380,992                  6,097,200

     Wedgewood’s Federal income tax return for 1990 (the 1990

return) includes a Form 4797, Sale of Business Property, which

shows a disposition of furniture and fixtures acquired on

April 1, 1988, at a cost of $2,780,959, and disposed of on

September 1, 1990.   There is no gross sales price shown, and a

loss is claimed in the amount of $2,506,244, which is the

acquisition price less depreciation (the difference being

Wedgewood’s adjusted basis in the property).    Taking into account

certain other entries on the Form 4797, the net loss reported on

that form is $2,410,941 (the Form 4797 loss).    A Schedule K-1,

Shareholder’s Share of Income, Credits, Deductions, Etc.,

accompanying the 1990 return, reports that petitioner’s share of

the Form 4797 loss is $1,759,987.

Culnen & Hamilton’s Income Tax Returns

  Culnen & Hamilton’s Federal income tax returns for 1987 through

1989 show the following balance sheet entries with respect to

loans to stockholders:
                               - 8 -


      Year           Beginning Balance            Ending Balance
      1987              $1,814,212                  $1,712,517
      1988               1,712,517                   4,329,091
      1989               4,329,091                   6,702,399

Petitioner’s Income Tax Returns

      On petitioner’s income tax returns for 1987, 1989, and 1990

he claimed the following losses from Wedgewood:

                     Year                Loss
                     1987              $388,106
                     1989               651,357
                     1990               213,732

On petitioner’s 1990 income tax return, he also claimed his share

of the Form 4797 loss in the amount of $1,759,987 (the $1,759,987

loss).

                              OPINION

I.   Introduction

      Respondent disallowed petitioner’s pro rata share of

Wedgewood’s ordinary losses for 1987, 1989, and 1990 because

petitioner failed to convince respondent that he had an adequate

basis with respect to his investment in Wedgewood.      We must

determine that basis.   Respondent disallowed petitioner’s share

of the Form 4797 loss (the $1,759,987 loss) for the same reason

and because petitioner failed to convince respondent that
                                  - 9 -


Wedgewood suffered the $1,759,987 loss.       We must determine both

his basis and whether Wedgewood suffered any loss.6

      Petitioner bears the burden of proof.      See Rule 142(a).

II.   Petitioner’s Basis With Respect to Wedgewood

      A.     Principal Statutory Provisions

      Section 1366(a)(1) provides that a shareholder of an

S corporation shall take into account his pro rata share of the S

corporation’s items of income, loss, deduction, or credit for the

S corporation’s taxable year ending in the shareholder’s taxable

year.      Section 1366(d), however, imposes a limit on the amount of

such losses and deductions (without distinction, losses) that a

shareholder may take into account for any taxable year.       He may

not take into account an aggregate amount of such losses

exceeding the sum of (1) his adjusted basis in the stock of the S

corporation and (2) his adjusted basis in any indebtedness of the

S corporation to the shareholder (collectively, his S corporation

investment).      See sec. 1366(d)(1).    Any losses so disallowed may

be carried forward indefinitely.      See sec. 1366(d)(2).




      6
          In the statutory notice of deficiency, respondent sets
forth numerous grounds for disallowing the $1,759,987 loss. On
brief, respondent’s principal argument (other than that
petitioner lacks sufficient adjusted basis in his investment in
Wedgewood) is that petitioner has failed to show that Wedgewood
realized any loss. We assume that respondent has conceded any
other grounds.
                                - 10 -


     B.     Disagreement Between the Parties

     To deduct his pro rata share of Wedgewood’s losses,

petitioner must prove that he had sufficient adjusted basis in

his S corporation investment (with respect to Wedgewood,

petitioner’s Wedgewood investment).       Generally, cost defines an S

corporation shareholder’s initial basis in his S corporation

investment acquired for cash.     See sec. 1012.    Adjusted basis is

determined by making certain adjustments to cost basis.       See sec.

1016.     Section 1367 provides additional, special rules with

respect to adjusting basis in an S corporation investment.       The

disagreement between the parties concerns only petitioner’s cost

basis in his Wedgewood investment.       The parties disagree as to

whether petitioner’s cost basis in his Wedgewood investment

includes the various payments represented by the 46 checks, the

28 checks, the 6 checks, and the 8 payments (collectively, the

Wedgewood payments).     Respondent denies that the Wedgewood

payments represent petitioner’s cost in obtaining his Wedgewood

investment.     Respondent insists that the Wedgewood payments

constitute an investment by Culnen & Hamilton (not petitioner) in

Wedgewood.7    Petitioner insists that the Wedgewood payments


     7
          Although respondent denies that the Wedgewood payments
represent petitioner’s cost in obtaining his Wedgewood
investment, respondent agrees with our finding that, for 1987
through 1990, petitioner’s percentage ownership in Wedgewood
increased from 39.48 to 73 percent. Petitioner testified
                                                   (continued...)
                                - 11 -


represent petitioner’s cost in obtaining his Wedgewood

investment.

     C.   Petitioner’s Burden

     To prevail, petitioner must prove that he, not Culnen

& Hamilton, invested in Wedgewood.       See, e.g., Prashker v.

Commissioner, 59 T.C. 172, 176 (1972) (estate, of which taxpayer

was executrix and sole beneficiary, advanced funds to

S corporation of which she was 50 percent shareholder:      “[T]he

key question is whether or not the debt of the corporation runs

‘directly to the shareholder.’”).    To prove that petitioner

invested in Wedgewood, he must prove that the Wedgewood payments

created indebtedness on the part of Wedgewood to him.      See

Bolding v. Commissioner, 117 F.3d 270 (5th Cir. 1997) (true

obligor on bank line of credit extended to S corporation was

shareholder in his individual capacity and not on behalf of

corporation), revg. on another issue T.C. Memo. 1995-326;

Prashker v. Commissioner, supra at 176 (“a shareholder could

borrow the money personally and then loan the money to the

corporation.   In that event, the corporation’s debt would run

directly to the shareholder.”).


     7
      (...continued)
credibly that all of his investment in Wedgewood was reflected in
the Wedgewood payments. We cannot reconcile respondent’s
agreement that petitioner owned a substantial portion of
Wedgewood’s shares with his argument that the Wedgewood payments
constitute an investment by Culnen & Hamilton.
                              - 12 -


     In his brief, respondent heads one of his arguments that

petitioner did not have sufficient basis in his Wedgewood

investment as follows:

     The fact that all payments to Wedgewood Associates,
     Inc. came directly from Culnen and Hamilton, precludes
     petitioner from claiming those amounts as his basis in
     Wedgewood and thus, the Schedule E losses. [Emphasis
     added.]

If respondent is suggesting that the question of whether Culnen &

Hamilton lent those amounts to petitioner is irrelevant since, as

a matter of law, direct payments by Culnen & Hamilton to

Wedgewood establish Culnen & Hamilton’s status as the investor in

Wedgewood, he is wrong.   In Hitchins v. Commissioner, 103 T.C.

711 (1994), in explaining the statutory requirement that the

indebtedness of the S corporation must run directly to the

shareholder, we made it clear that an indebtedness to an entity

with passthrough characteristics that has advanced the funds to

the S corporation and is closely related to the taxpayer does not

satisfy the statutory requirement.     See id. at 715.   We did not

say, however, that the fact that the borrowed funds originate

with the closely related entity precludes the indebtedness of the

S corporation from running directly to the shareholder.

Certainly, where there is a close relationship among the

S corporation, the taxpayer, and the related entity, we will

scrutinize the relationships established with respect to the

transfer of funds to ensure that those relationships comport with
                                  - 13 -


the statutory requirement.       Respondent proposes Underwood v.

Commissioner, 63 T.C. 468 (1975), affd. 535 F.2d 309 (5th Cir.

1976), as a model for us to follow in this case.       In Underwood,

the taxpayer’s S corporation was indebted to a second corporation

owned by him.       The taxpayer interposed himself between the two

corporations by causing the corporations to substitute for the

one-legged indebtedness running between the S corporation and the

second corporation a two-legged indebtedness, running, first,

from the S corporation to him and, second, from him to the second

corporation.       We concluded that the taxpayer had paid out no

funds and would not until his note to the second corporation came

due.       On that basis, we were unable to distinguish his liability

from that of a guarantor, who makes no investment until he pays

his obligation.       See id. at 475-476.   We relied on a long list of

cases for the proposition (which we applied to the taxpayer)

“that basis-giving indebtedness for the purposes of section

1374(c)(2)(B) does not arise where a shareholder merely

guarantees a subchapter S corporation’s debt”.8       Id. at 475.

That is true, but that is not the case here.




       8
          Sec. 1374(c)(2)(B), as in effect at the time,
determined basis in indebtedness as of the close of the
corporation’s year.
                                - 14 -


     D.   Discussion

            1.   Petitioner’s Case

      Petitioner called four witnesses, including himself, all of

whom testified consistently that, for many years (including the

years in question), petitioner had used Culnen & Hamilton as an

incorporated pocketbook, having the corporation make payments on

his behalf, which payments were posted to Culnen & Hamilton’s

books as loans to petitioner.    Robert Levin, one of those four

witnesses, had been petitioner’s accountant for more than

20 years.    He also did accounting work for Culnen & Hamilton.    He

testified that, from time to time, petitioner would reduce the

balance of his Culnen & Hamilton loan account by liquidating

investments he had made and paying the proceeds to Culnen &

Hamilton.    Mr. Levin explained the rationale for that procedure

as follows:

          Culnen & Hamilton was an "S" corporation. There
     was a lot of undistributed taxable income. He
     [petitioner] wouldn’t take all the–-he’d pay taxes on
     it, and, God knows, he paid a lot of taxes over the
     years, but he felt the money that was left in Culnen &
     Hamilton, because it was undistributed to him, that he
     could spend and do what he wanted with.

          So, rather than write a check to himself and write
     a check to a third party, he would just–-if he wanted
     to buy a company or whatever, he would just write it
     out–-have Beatrice, the bookkeeper, write it out of
     Culnen & Hamilton, charge it to his loan account, okay,
     and that’s the way he did business for the 20 years
     that I’ve been his accountant.
                              - 15 -




Although Culnen & Hamilton was an S corporation only until

May 31, 1987, Mr. Levin’s testimony presents a credible

explanation of petitioner’s relationship with Culnen & Hamilton.

     Janet Sacklow is a partner in the accounting firm of

Amsterdam, Sacklow & Acox.   That firm also did accounting work

for Culnen & Hamilton, including preparing various financial

records and its income tax returns for the years in question.

Ms. Sacklow testified that she treated the Wedgewood payments as

loans to petitioner for purposes of both Culnen & Hamilton’s

books and records and its income tax returns.   She testified that

the initial record of the Wedgewood payments was made by Culnen &

Hamilton’s bookkeeper, Beatrice, who would record the Wedgewood

payments on the corporation’s general ledger under the heading

“Wedgewood” (the Wedgewood entries).   Beatrice made the Wedgewood

entries monthly.   Ms. Sacklow testified that she was responsible

for classifying the Wedgewood entries as loans to petitioner.

She testified that she made that determination based on

conversations with petitioner and because she believed that

Culnen & Hamilton had no association with Wedgewood:   “It was

only because of Dan Culnen that the money was coming from that

location [i.e., from Culnen & Hamilton].”   The parties have

stipulated a letter dated February 11, 1993, from Ms. Sacklow
                              - 16 -


to Walter J. Pagano, c.P.A. (the Sacklow letter).9    The Sacklow

letter states:   “Enclosed are the schedules of amounts loaned to

Wedgewood Associates and Dan’s acquisition costs for stock and

partnership interests.”   Ms. Sacklow testified that she prepared

those schedules (the schedules) from the books and records of

Culnen & Hamilton.   The first of the schedules relates to the 46

checks and states that they were “deposited into Wedgewood

Associates accounts, on behalf of Daniel Culnen.”    The third of

the schedules relates to the six checks and states:    “Daniel

Culnen’s purchase of Dr. Nagle’s Interest”.   The final page of

the schedules states:

     Summary

     Net Checks Written to Wedgewood from
       Culnen and Hamilton                    $3,659,017.41
     Checks written from Culnen and
       Hamilton on behalf of Wedgewood           501,918.22
     Dan’s purchase of Dr. Nagle’s interest      568,152.17
     Other Items                                 737,733.27
     Interest Accrued                            616,070.49

         Total                                $6,082,891.56

     Of this total, $300,000 is classified as Capital Stock
     in Wedgewood Associates, and $300,000 is Dan’s cost of
     purchasing Manning’s partnership interest. $568,152.17
     is Dan’s cost for Nagle’s interest in stock and
     partnership. This leaves a balance of $4,914,739.39 as
     a loan to the corporation.



     9
          By the stipulation, respondent reserved the right to
make a relevance objection to the Sacklow letter, but respondent
waived all other evidentiary objections, including an objection
based on hearsay. See Fed. R. Evid. 802.
                              - 17 -


Ms. Sacklow’s firm also did accounting work for Wedgewood.     She

would assist Wedgewood’s employees in keeping Wedgewood’s books

and would prepare Wedgewood’s end-of-the-year tax returns.     She

testified that the Wedgewood payments were shown as an

indebtedness from Wedgewood to petitioner on Wedgewood’s books

and records.   Mr. Levin, who prepared petitioner’s personal

financial statements, which showed Wedgewood as an investment of

petitioner’s, believed “absolutely” that petitioner owned the

shares of Wedgewood individually.

          2.   Respondent’s Case

     Respondent called no witnesses and introduced no exhibits

other than those attached to the stipulation.   Besides

respondent’s argument (which we have rejected) that, because of

the Wedgewood payments, petitioner is precluded from claiming

basis in his Wedgewood investment, respondent’s other argument

is, basically, that the testimony of petitioner and his witnesses

is unsupported and, thus, not to be believed.

     Petitioner, Mr. Levin, and Ms. Sacklow (the witnesses) all

testified that the Wedgewood payments were made by Culnen &

Hamilton to Wedgewood on petitioner’s behalf.   The fact that the

payments were made is beyond question.    Indeed, during the trial,

the Court asked counsel for respondent:   “Mr. Ianacone, is it a

fact for purposes of this case that those checks [the 46 checks]

* * * were written by Culnen & Hamilton and deposited for the
                                 - 18 -


benefit of Mr. Culnen into the accounts of Wedgewood?       Is that a

fact:     Yes or no?”   Mr. Ianacone responded:   “Yes, it is.”   Thus,

the only question subject to proof is whether the Wedgewood

payments were made by Culnen & Hamilton on behalf of petitioner.

While it is true that there are no original Culnen & Hamilton

accounting records in evidence (other than copies of its tax

returns), the Sacklow letter is in evidence, and it supports the

testimony of the witnesses.      Ms. Sacklow testified that she

prepared the Sacklow letter from the books and records of Culnen

& Hamilton, and she traced the treatment of the Wedgewood

payments from the bookkeeper’s scheduling of them through her

(Ms. Sacklow’s) classification of them as loans to petitioner, to

their entry onto the books and records of Culnen & Hamilton.10

While respondent may claim that the Sacklow letter is not a

substitute for the original books and records of Culnen &

Hamilton, respondent cannot claim that petitioner has presented

no evidence to support the witnesses’ testimony.       The Sacklow

letter is such evidence, and, moreover, the Sacklow letter is a

joint exhibit.    Respondent may also claim that he did not know

what Ms. Sacklow would say about the Sacklow letter, but he could

have discovered that before he agreed to make it a joint exhibit.

Since respondent stipulated the Sacklow letter (waiving any


     10
          Ms. Sacklow testified that consistent entries were made
on the books and records of Wedgewood.
                              - 19 -


hearsay objection), we believe that petitioner justifiably

concluded that the content of Culnen & Hamilton’s books was not

an issue in this case.   Respondent’s claim that, essentially, the

witnesses’ testimony should be disregarded because it is

unsupported is not persuasive.

     Beyond respondent’s claim that petitioner’s witnesses’

testimony is unsupported, respondent makes unsupported,

unpersuasive, and offensive attacks on the credibility of

petitioner and the ethics of his witnesses.   There are legitimate

issues in this case, but the ethics of petitioner’s witnesses are

not among them.   Respondent has, here, all too clearly relied on

the tactic of trial by cross-examination, and that tactic has

failed.   A resort to name-calling is not an acceptable fallback

position.   We disapprove of that tactic.

     E.   Conclusions

     We conclude, and find, that petitioner had adequate adjusted

basis in his Wedgewood investment to deduct his pro rata share of

Wedgewood’s losses for 1987, 1989, and 1990 and his share of the

Form 4797 loss (if any).11


     11
          Apparently, respondent’s position is that none of the
Wedgewood payments add to petitioner’s adjusted basis in his
Wedgewood investment (but see supra note 7). Petitioner’s
position is that all of the Wedgewood payments add to
petitioner’s adjusted basis in his Wedgewood investment. We have
not made specific findings as to the amount of petitioner’s
adjusted basis in his Wedgewood investment for each of the years
                                                   (continued...)
                                   - 20 -


III.    The Form 4797 Loss

       A.   Introduction

       Petitioner reported his share of the Form 4797 loss, in the

amount of $1,759,987.      Principally, the Form 4797 loss resulted

from Wedgewood’s disposition of furniture, fixtures, restaurant

equipment, a liquor license, and a liquor inventory (the assets).

The assets were disposed of pursuant to the deed.      At least some

of the assets were subject to liens of secured creditors totaling

$1,865,000 (the liens).      Wedgewood’s adjusted basis in the assets

at the time of disposition was $2,506,244.      Pursuant to the deed,

Wedgewood received nominal consideration of $1, and the

disposition was part of a bankruptcylike proceeding carried out

under the laws of New Jersey.       See N.J. Stat. Ann. secs. 2A:19–1

to 2A:19-50 (West 1987).     The disposition was to an assignee for

the benefit of Wedgewood’s creditors (the assignee), whose duty

it was to liquidate the assets and apply the proceeds to reduce

Wedgewood’s indebtedness.     See In re:    Gen. Assignment for

Benefit of Creditors, 169 A.2d 236 (N.J. Super. Ct. 1961).

       B.   Code and Regulations

       In pertinent part, section 1001(a) provides that the loss

from the disposition of property shall be the excess of the


       11
      (...continued)
here in question because we believe that the parties are in
agreement that we should make an across-the-board decision with
respect to the Wedgewood payments.
                                - 21 -


adjusted basis in the property over the amount realized.     As used

in section 1001(a), the term “amount realized” is defined in

section 1001(b).    In pertinent part, that definition is:   “The

amount realized from the sale or other disposition of property

shall be the sum of any money received plus the fair market value

of the property (other than money) received.”    Section 1.1001-2,

Income Tax Regs., addresses the discharge of liabilities in

connection with the disposition of property.    Paragraph (a)(1) of

section 1.1001-2, Income Tax Regs., provides the general rule

that the amount realized from the sale or other disposition of

property includes the amount of liabilities from which the

transferor is discharged as a result of the disposition.

Paragraph (a)(4) of section 1.1001-2, Income Tax Regs., provides

that, for purposes of that section, the sale or other disposition

of property that secures a nonrecourse liability discharges that

liability.    Paragraph (b) of section 1.1001-2, Income Tax Regs.,

provides that, generally, the fair market value of the security

at the time of sale is not relevant for determining the amount of

liabilities from which the taxpayer is discharged, or treated as

discharged.

     C.    Discussion

     Respondent’s position is that Wedgewood did not realize any

loss.     Petitioner’s position is that, since Wedgewood’s adjusted

basis in the assets exceeded the $1 received pursuant to the
                               - 22 -


deed, of course it suffered a loss.     Petitioner has failed to

prove that $1 was the full amount realized on the disposition of

the assets.    On brief, petitioner states:   “Wedgewood’s

liabilities greatly exceeded the fair market value of its

assets.”   That may be so.   Nevertheless, petitioner has failed to

show that the indebtedness secured by the liens was other than

nonrecourse.    If it was nonrecourse, then, notwithstanding the

fair market value of the assets subject to those liens, the

amount realized on the disposition of those assets included the

amount of the liens, $1,865,000.    We assume that the liquor

license and liquor inventory were sold for $126,000.12

Petitioner has failed to argue that the amount realized by

Wedgewood does not include any actual cash proceeds from the sale

of assets not subject to liens.    Thus, the amount realized on the

disposition of the assets was $1,991,001, which is the sum of the

indebtedness discharged, the cash proceeds of $126,000, and the

nominal cash of $1.   Since Wedgewood’s adjusted basis in the

assets was $2,506,244, Wedgewood’s loss was $515,243 ($515,243 =

$2,506,244 - 1,991,001).




     12
          According to Wedgewood’s Form 4797 for taxable year
1990, the liquor license sold for $125,000. We add to that
amount the $1,000 listed value of the liquor inventory from the
deed for $126,000.
                              - 23 -


     D.   Conclusion

     We find that Wedgewood realized a loss of $515,243 on the

disposition of the assets.   Petitioner’s pro rata share of that

loss was $376,127 (i.e., 73 percent of $515,243).     We have

already found in section II.E., supra, that petitioner had

sufficient basis to deduct his pro rata share of the Form 4797

loss, $376,172.


                                         Decisions will be entered

                                    under Rule 155.
