                  T.C. Summary Opinion 2010-83



                     UNITED STATES TAX COURT



                 BRETT M. ELLMAN, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 5341-09S.              Filed June 23, 2010.



     Brett M. Ellman, pro se.

     Jeffrey A. Schlei, for respondent.



     ARMEN, Special Trial Judge:   This case was heard pursuant to

the provisions of section 7463 of the Internal Revenue Code in

effect when the petition was filed.1   Pursuant to section

7463(b), the decision to be entered is not reviewable by any



     1
        Unless otherwise indicated, all subsequent section
references are to the Internal Revenue Code in effect for the
year in issue, and all Rule references are to the Tax Court Rules
of Practice and Procedure.
                               - 2 -

other court, and this opinion shall not be treated as precedent

for any other case.

     Respondent determined a deficiency in petitioner’s 2005

Federal income tax of $24,984 and an accuracy-related penalty of

$4,996.80 under section 6662(a).

     After concessions,2 the issues for decision are:   (1)

Whether petitioner may claim a loss of $65,000 in 2005 arising

from his purported investment in Fuschia Ltd. Partnership, and

(2) whether petitioner is entitled to Schedule C, Profit or Loss

From Business, deductions for various expenses related to other

claimed business activities.

                            Background

     Some of the facts have been stipulated, and they are so

found.   We incorporate by reference the parties’ stipulation of

facts and accompanying exhibits.   Petitioner resided in

California when the petition was filed.

     During 2004 and for part of 2005 petitioner worked as a

mechanical engineer in the field of pharmaceutical discovery for

Illumina, Inc.   Petitioner left his position as an engineer in

2005 to pursue a career as a full-time property developer.




     2
        Petitioner concedes that he received a taxable State tax
refund in 2005 as determined in the notice of deficiency.
Respondent concedes the accuracy-related penalty under sec.
6662(a).
                               - 3 -

     In 2004 petitioner entered into a partnership agreement

(agreement) with Fuschia Limited Partnership (Fuschia).3   The

agreement, in its entirety, reads as follows:

     July 14, 2004

     This is an agreement between Brett M. Ellman * * * and
     Fuschia Limited Partnership -- Dennis Calkins, General
     Partner.

     Fuschia Limited Partnership agrees to give Brett M.
     Ellman 20% partnership in numerous projects listed in
     the attached Addendums. Each Addendum must be signed
     and dated by both partners.

     Partnerships are not transferable without the written
     consent of the other partner.

     If for any reason either partner wishes to sell his
     percentage of ownership on a project the other partner
     has first option to purchase.

     Brett M. Ellman will pay a total investment in the
     amount of ($550,000.00) Five-hundred and fifty thousand
     and 00/100 dollars, ($50,000.00) Fifty thousand and
     00/100 dollars will be paid at the signing of this
     agreement and the balance to be paid within 60 days of
     the above date.

     Any dispute or claim arising between either partner out
     of this contract or any resulting transaction, which is
     not settled by mediation, shall be decided by neutral,
     binding arbitration. By agreeing to arbitration, the
     parties to this contract expressly give up the right to
     litigate any dispute in a court or jury trial.

The agreement was signed and dated by petitioner and Dennis

Calkins (Mr. Calkins).   Petitioner provided a copy of an addendum



     3
        Use of the terms “partnership” and “agreement” (and their
derivatives) are intended for narrative convenience only. Thus,
no inference should be drawn from our use of such terms regarding
any legal status or relationship.
                                - 4 -

which is a handwritten document on blank paper that reads as

follows:

     Addendum #1          August 10th 2004

     Agreed this date per our Partnership Agreement dated
     July 14th 2004 the following properties are agreed as
     being added to the Partnership at 20% to Brett M.
     Ellman

     #1)   Phase #4             Lot 36    Plan 2
           Desert Willows       Desert Hot Springs CA
           Single Family Home   per attached paperwork

     #2)   Unit #1101           La Jolla De Rosarito condo
                                     Mexico
           2 Bed 2 Bath         per attached paperwork

     #3)   Unit #201            La Jolla De Rosarito condo
                                     Mexico
           2 Bed 2 Bath         per attached paperwork

The addendum was signed and dated by petitioner and Mr. Calkins,

but no additional paperwork was attached to the addendum.    The

two properties listed on the addendum located in La Jolla de

Rosarito, Mexico, were not owned by Fuschia, but were owned by

another limited partnership called Ramsgate.    The other property

listed on the addendum located in Desert Hot Springs, California,

was purchased in August 2004 by Panelog Building Systems, Inc.,

and Kristina Kukuli, the wife of Mr. Calkins.

     A nonnegotiable purchaser copy of a cashier’s check dated

July 16, 2004, made out to Fuschia Limited Partnership for

$58,000 was admitted into evidence at trial.    Petitioner also

wrote a personal check to Dennis Calkins on December 13, 2004,
                                 - 5 -

for $20,000, which check was negotiated on December 16, 2004.

The memo line of the personal check reads “Down Payment”.

     At trial, petitioner explained that his understanding of the

agreement was that Fuschia was a joint venture with a purpose of

developing properties in Mexico and that the properties listed in

the addendum were already constructed and served as collateral

for future projects.   After some time, petitioner said he began

asking Mr. Calkins about the progress of the projects, but Mr.

Calkins’ responses were allegedly vague and “standoffish”.

Petitioner claimed that he also requested written confirmation of

the projects but never received any.     Petitioner said he finally

began making verbal requests for a return of his money, but Mr.

Calkins did not return petitioner’s calls.    Although petitioner

made verbal requests for the return of his money, petitioner

stated he never sought the services of a mediator or arbitrator

to resolve his dispute with Mr. Calkins.    Petitioner stated that

in 2005 he did not think that the $78,000 he paid to Fuschia and

Mr. Calkins would be returned.

     Petitioner further stated that Mr. Calkins still resides in

San Diego County, California, the same county in which petitioner

resides.   Petitioner continues to maintain social contacts with

Mr. Calkins and stated that he had, in fact, seen Mr. Calkins

within the last few weeks.   When asked about the nature of his
                                - 6 -

recent conversation with Mr. Calkins, petitioner stated it “does

not relate to this case.”

     Although he is not fluent in Spanish, petitioner allegedly

started his own independent business in 2004 developing

properties in Mexico.   As part of this business petitioner

purchased property for development in Puerto Nuevo, Mexico.      In

the fall of 2004 petitioner created a Mexican corporation, “MX

Vistas S. de R.L. de C.V.”.    In 2005 petitioner created a

U.S. S corporation, “MX Vista, Corp.”    The two corporations did

not have income in 2004 or 2005 but had some income in 2006 and

2007.

     In 2005 petitioner incurred various expenses related to the

non-Fuschia property development in Mexico for bank charges,

contractors, Internet, outside services, and telephone.    The

largest expenditure was for contractors and included costs for:

(1) Environmental impact reports to determine whether a plot of

land was buildable; (2) architectural plans including blueprints

and engineering calculations; and (3) excavation of land to make

it appealing to investors.    Petitioner did not provide an

explanation for the bank charges, or Internet, outside services,

and telephone expenses.

     Petitioner filed a 2005 Federal income tax return.    On a

Schedule C, petitioner claimed deductions for “Other Expenses” as

follows:
                                - 7 -

            Debts from Sales or Service            $65,000
            Bank Charges                               372
            Contractors                             18,094
            Internet                                   132
            Outside Services                           200
            Telephone                                1,790

The deduction for “Debts from Sales or Service” of $65,000

relates to petitioner’s payments to Fuschia and Mr. Calkins of

$78,000.4   The deductions for bank charges, contractors,

Internet, outside services, and telephone are expenses from

petitioner’s non-Fuschia property development activities in

Mexico.

     During the audit process of petitioner’s 2005 Federal income

tax return, petitioner submitted a written statement to the

examiner that reads:

     An agreement to conduct business as a joint venture
     with Fushia [sic] Limited Partnership was initiated on
     July 14, 2004. Business with Fushia [sic] did not go
     as planned and in 2005 it was realized that funds of
     $78,000 given to Fushia [sic] in 2004 should be
     considered a loss. Current legal actions may allow me
     to realize gains for my future tax returns. On my 2005
     tax return my accountant incorrectly listed these
     losses as “Bad Debts: $65,000” and “Contractors:
     $18,094.” This was listed incorrectly. They should
     have been listed as “Bad Debts: $78,000” and
     “Contractors: $5,094.” $5094 was paid in cash.
     [Emphasis added.]

The statement was signed by petitioner and dated August 15, 2007.

At trial, petitioner disavowed the statement, explaining that



     4
        Petitioner seeks to explain the discrepancy between
$78,000 and $65,000 in the written statement discussed in the
following paragraph of the text.
                                - 8 -

this was “not an accurate statement” and stated that “there were

no current legal actions”.   Petitioner further stated:

      I had thought * * * in 2007 * * * maybe I could go
      after this now, after speaking with [the examiner] and
      maybe I really should go after this. And so I had
      thought to myself I might seek * * * legal actions.
      But I never did.

      In a notice of deficiency, respondent determined, inter

alia, that petitioner was not entitled to the claimed Schedule C

deductions for “Other Expenses”, including the money paid to

Fuschia and Mr. Calkins, and the non-Fuschia business

expenditures.

                             Discussion

A.   Burden of Proof

      Generally, the Commissioner’s determinations are presumed

correct, and the taxpayer bears the burden of proving that those

determinations are erroneous.   Rule 142(a); Welch v. Helvering,

290 U.S. 111, 115 (1933).    Deductions are a matter of legislative

grace, and the taxpayer bears the burden of proof to establish

that he or she is entitled to any deduction or credit claimed.

Rule 142(a); Deputy v. du Pont, 308 U.S. 488, 493 (1940); New

Colonial Ice Co. v. Helvering, 292 U.S. 435, 440 (1934).

Taxpayers are required to maintain sufficient records to enable

the Commissioner to determine their correct tax liability.     Sec.

6001.
                                - 9 -

      Under section 7491(a)(1), the burden of proof may shift from

the taxpayer to the Commissioner if the taxpayer produces

credible evidence with respect to any factual issue relevant to

ascertaining the taxpayer’s liability.    Petitioner has not

alleged that section 7491 applies, nor did he introduce the

requisite evidence to invoke that section; therefore, the burden

of proof remains on him.

B.   Schedule C Fuschia Loss

      As a general rule, section 165(a) allows as a deduction any

loss sustained during the taxable year and not compensated for by

insurance or otherwise.    However, in the case of an individual,

section 165(c) limits the deduction to:    (1) Losses incurred in a

trade or business; (2) losses incurred in any transaction entered

into for profit; and (3) losses of property not connected with a

trade or business or with a transaction entered into for profit,

if such losses arise from fire, storm, shipwreck, or other

casualty, or from theft.

      A loss is treated as sustained during the taxable year in

which the loss occurs as evidenced by closed and completed

transactions and as fixed by identifiable events occurring in

such taxable year.   Sec. 1.165-1(d)(1), Income Tax Regs.; see

also sec. 1.165-1(b), Income Tax Regs.    However, if there exists

a claim for reimbursement with respect to which there is a

reasonable prospect of recovery, no portion of a loss with
                              - 10 -

respect to which reimbursement may be received is “sustained”

until it can be ascertained with reasonable certainty whether or

not such reimbursement will be received.   Sec 1.165-1(d)(2)(i),

Income Tax Regs.

     Under section 165(e), a loss arising from theft is sustained

during the taxable year in which the taxpayer discovers the loss.

See secs. 1.165-1(d)(3), 1.165-8(a)(2), Income Tax Regs.   The

term “theft” includes, but is not limited to, larceny,

embezzlement, and robbery.   See sec. 1.165-8(d), Income Tax Regs.

“Whether a theft loss has been sustained depends upon the law of

the jurisdiction wherein the particular loss occurred.”

Monteleone v. Commissioner, 34 T.C. 688, 692 (1960).

     Section 484 of the California Penal Code (West Supp. 2010)

states the general definition of “theft” as follows:

          (a) Every person who shall feloniously steal,
     take, carry, lead, or drive away the personal property
     of another, or who shall fraudulently appropriate
     property which has been entrusted to him or her, or who
     shall knowingly and designedly, by any false or
     fraudulent representation or pretense, defraud any
     other person of money, labor or real or personal
     property, or who causes or procures others to report
     falsely of his or her wealth or mercantile character
     and by thus imposing upon any person, obtains credit
     and thereby fraudulently gets or obtains possession of
     money, or property or obtains the labor or service of
     another, is guilty of theft. * * *

     Petitioner urges the Court to find that the money he paid to

Fuschia and Mr. Calkins was lost to theft in 2005.   However, the

record does not permit any such finding.   But even assuming that
                               - 11 -

the money was lost to theft, petitioner has not demonstrated that

such loss was actually “sustained” in 2005.   See sec. 1.165-

1(d)(2)(i), Income Tax Regs.   Petitioner admitted at trial that

in 2007 he considered whether he should pursue reimbursement of

the moneys paid to Fuschia and Mr. Calkins and included in his

letter to the IRS examiner that “Current legal actions may allow

me to realize gains for my future tax returns.”   In addition,

although petitioner maintains social contacts with Mr. Calkins

and Mr. Calkins resides in San Diego County, petitioner did not

call (or subpoena) Mr. Calkins to testify on his behalf.   In the

absence of such testimony, we infer that it would have been

unfavorable to petitioner.   See Wichita Terminal Elevator Co. v.

Commissioner, 6 T.C. 1158, 1165 (1946), affd. 162 F.2d 513 (10th

Cir. 1947).   Thus, we hold that in 2005 petitioner had not

ascertained with reasonable certainty whether or not

reimbursement would be received and, therefore, that he may not

claim as a deduction in that year amounts paid to Fuschia and Mr.

Calkins.   See sec. 1.165-1(d)(2)(i), Income Tax Regs.5




     5
        Petitioner has at times intimated that the amount
deducted is allowable as a bad debt. See generally sec. 166.
However, even if petitioner’s investment in Fuschia represented a
bona fide loan, petitioner failed to prove (inter alia) that the
“debt” became worthless in 2005. See secs. 1.166-2 and 1.166-3,
Income Tax Regs.
                                - 12 -

C.   Non-Fuschia Schedule C Business Expenditures

      Section 162 generally allows a deduction for all ordinary

and necessary expenses paid or incurred during the taxable year

in carrying on any trade or business.    Such expenses must be

directly connected with or pertain to the taxpayer’s trade or

business.    Sec. 1.162-1(a), Income Tax Regs.   Whether an

expenditure satisfies the requirements of section 162 is a

question of fact.     Commissioner v. Heininger, 320 U.S. 467, 475

(1943).

      However, under section 263(a), no deduction is allowable for

any amount paid out for new buildings or for permanent

improvements or betterments made to increase the value of any

property or estate.    Such capital expenditures include:     (1) The

cost of acquisition, construction, or erection of buildings,

machinery and equipment, furniture and fixtures, and similar

property having a useful life substantially beyond the tax year,

and (2) any amount expended for architect’s services.     Sec.

1.263(a)-2(a), (d), Income Tax Regs.

      In addition, section 195(a) provides:   “Except as otherwise

provided in this section, no deduction shall be allowed for

start-up expenditures.”    Section 195(c)(1) defines “start-up

expenditure” as:

      (1) * * * any amount--

            (A) paid or incurred in connection with--
                              - 13 -

               (i) investigating the creation or acquisition
          of an active trade or business, or

                (ii) creating an active trade or business, or

               (iii) any activity engaged in for profit and
          for the production of income before the day on
          which the active trade or business begins, in
          anticipation of such activity becoming an active
          trade or business, and

          (B) which, if paid or incurred in connection with
     the operation of an existing active trade or business
     (in the same field as the trade or business referred to
     in subparagraph (A)), would be allowable as a deduction
     for the taxable year in which paid or incurred.

     The disallowance of deductions under sections 263(a) and

195(a) does not apply to research and experimental expenditures

deductible under section 174(a).   Secs. 195(c), 263(a)(1)(B).

However, section 174(c) provides that no deduction is allowable

under section 174(a) for any expenditure for the acquisition or

improvement of land.   See TSR, Inc. & Sub. v. Commissioner, 96

T.C. 903 (1991) (explaining that the phrase “research and

experimental” for purposes of section 174 refers to scientific or

technological research); see also sec. 1.174-2(a), Income Tax

Regs.   Because petitioner’s non-Fuschia Schedule C expenditures

were for the “acquisition or improvement of land”, those

expenditures are not deductible under section 174(a).   See sec.

174(c).

     Although a taxpayer may not deduct the full amount of

capital expenditures or startup expenses in the year in which the

expense is incurred, a taxpayer may be able to amortize or
                                - 14 -

depreciate these expenditures if the taxpayer is engaged in an

active trade or business for profit.     Secs. 162(a), 167(a), 183,

195(b)(1).   Carrying on a trade or business requires a showing of

more than an initial investigation of business potential.     Dean

v. Commissioner, 56 T.C. 895, 902 (1971); Glotov v. Commissioner,

T.C. Memo. 2007-147.   Rather, the taxpayer’s business operations

must actually have commenced.    A taxpayer has not “‘engaged in

carrying on any trade or business’ within the intendment of

section 162(a) until such time as the business has begun to

function as a going concern and performed those activities for

which it was organized.”   Richmond Television Corp. v. United

States, 345 F.2d 901, 907 (4th Cir. 1965), vacated and remanded

on other grounds 382 U.S. 68 (1965); see also Kinney v.

Commissioner, T.C. Memo. 2008-287 (taxpayer constructed building

and located key client but expenditures not deductible because

welding business had not started operating).

     Petitioner contends that he incurred costs for contractors,

bank charges, Internet, outside services, and telephone as a

result of his non-Fuschia property development activities.

Petitioner testified that the contractor fees included

environmental impact reports, architectural plans, and excavation

of land to attract investors.    Petitioner did not provide any

explanation or other evidence regarding the bank charges, or

Internet, outside services, and telephone expenses.
                              - 15 -

     During 2005 petitioner had not started developing any

property; therefore, on the record before us we are unable to

find that petitioner’s non-Fuschia property development

activities were more than mere preparations for entering into

business.   Accordingly, we hold that in 2005 petitioner’s non-

Fuschia property development expenditures were not incurred by an

active trade or business and therefore are nondeductible.

                            Conclusion

     We have considered all of the arguments made by petitioner,

and, to the extent that we have not specifically addressed them,

we conclude that they are irrelevant, moot, or without merit.

     To reflect the foregoing,


                                         Decision will be entered

                                    for respondent as to the

                                    deficiency and for petitioner

                                    as to the penalty.
