                    T.C. Memo. 2001-37



                  UNITED STATES TAX COURT



           ESTATE OF JAMES R. TOBIAS, DECEASED,
    V. PAULINE TOBIAS, EXECUTRIX, AND VERNA P. TOBIAS,
             SURVIVING SPOUSE, Petitioners v.
       COMMISSIONER OF INTERNAL REVENUE, Respondent

 DARWIN R. TOBIAS, SR., AND SHIRLEY I. TOBIAS, Petitioners
      v. COMMISSIONER OF INTERNAL REVENUE, Respondent



Docket Nos. 19756-97, 19757-97.    Filed February 14, 2001.



     John B. Consevage, for petitioners in docket No.

19756-97.

     John S. Kundrat, for petitioners in docket No.

19757-97.

     Joseph M. Abele and David A. Breen, for respondent.
                             - 2 -

                      MEMORANDUM OPINION

     WHALEN, Judge:    These consolidated cases are before

the Court to decide the motion for summary judgment filed

by the Estate of James R. Tobias and Ms. V. Pauline Tobias,

the cross-motion for summary judgment filed by Mr. Darwin

R. Tobias, Sr., and Ms. Shirley I. Tobias, and the cross-

motion for summary judgment filed by respondent.      The

principal issues for decision in these cases involve the

allocation of income pursuant to section 704 from an animal

farm business.   All section references in this opinion are

to the Internal Revenue Code as in effect during the years

in issue, unless specified otherwise.      Respondent's

determinations have the effect of allocating all of the

income from the business for the years 1991 and 1993 to

Mr. James R. Tobias and allocating 50 percent of the income

from the same business for the years 1990, 1991, and 1993

to Mr. Darwin R. Tobias.


Background

     The two cases consolidated herein involve petitions

filed by or on behalf of two brothers and their wives.      The

first brother, Mr. James R. Tobias, died on September 8,

1996.   In this opinion, he is sometimes referred to as the

decedent or James.    His wife, Ms. V. Pauline Tobias, was

appointed executrix of his estate.    She resided in Halifax,
                              - 3 -

Pennsylvania, at the time the instant petition was filed on

her behalf.   The decedent and his wife filed joint Federal

income tax returns for each of the years in issue in their

case, 1991 and 1993.    In the notice of deficiency issued

to them, respondent determined income tax deficiencies of

$10,587 and $5,674, respectively.

     The second brother, Mr. Darwin R. Tobias, Sr., and his

wife, Ms. Shirley I. Tobias, filed joint Federal income tax

returns for each of the years in issue in their case, 1990,

1991, and 1993.   In the notice of deficiency issued to

them, respondent determined income tax deficiencies of

$12,371, $9,841, and $6,055, respectively.    Darwin and his

wife resided in Halifax, Pennsylvania, when the instant

petition was filed on their behalf.

     Circa 1960, James and Darwin orally agreed to operate

an animal farm business as partners, but they never reduced

their agreement to writing.    Their agreement was general

and did not include specific terms regarding how they would

operate the business.    For example, they never agreed to a

specific division of labor.    Over the years James spent

a disproportionately greater amount of time and effort

developing and expanding the business than his brother,

Darwin.   Each of the brothers had independent means of

earning a living, and neither received a salary for his
                            - 4 -

services to the business.   It is not clear from the record

whether they opened a bank account specifically for the

business or whether they used an existing account, but it

is clear that both of their signatures were required on

checks drawn on the account.

     The operation of the animal farm business took place

primarily on land owned by James and his wife.    Darwin also

owned land that was farmed for the benefit of the animal

farm business.   In 1972, the brothers agreed that the

business should pay rent for the use of each brother's

personal land by the business.   While Darwin often received

his land rents, James frequently deferred his land rents

until the business had the funds available to pay him.

     In addition to using their land for business purposes,

each brother occasionally made expenditures for the

business with his own funds.   Except for the reimbursement

of some business expenses and the payment of land rents,

neither brother received a distribution from the animal

farm business.   All profits were reinvested in the

business.

     In 1986, the brothers' relationship became

acrimonious.   James evicted Darwin from the business and

prohibited him from coming onto the business premises.

After his eviction, Darwin did not participate in the
                             - 5 -

business or receive a distribution of any kind from the

business.   James continued to operate the animal farm

business at least through December 31, 1993.

     Following James' actions, on October 21, 1986, Darwin

sued James in the Court of Common Pleas for Dauphin County,

Pennsylvania (hereinafter State court), alleging that the

business was an equally owned partnership.    Darwin sought

dissolution of the partnership and an accounting.    See

Tobias v. Tobias, No. 4583 (Ct. C.P. Dauphin County, Pa.

July 7, 1992).    On July 7, 1992, the State court issued

its opinion holding that the animal farm business was a

partnership under Pennsylvania State law (hereinafter the

1992 State court opinion).    The State court found that

Darwin had been "wrongfully excluded from the business"

and was entitled to dissolution of the partnership and

an accounting.    In considering the question whether the

partnership was an equal partnership, the State court

found that James' contributions to the partnership far

exceeded Darwin's contributions and that an inequity would

be visited on James if the profits of the business were

shared equally.    The State court ordered that each partner

be repaid his capital contributions before the profits of

the partnership were divided equally between them.    The

order of the State court stated as follows:
                            - 6 -

          AND NOW, this 7 day of JULY, 1992, WE FIND
     that the business was operated on a partnership
     basis; the assets of the business are as set
     forth in this opinion. Plaintiff is entitled to
     dissolution of the partnership and an accounting.
     The profits will be shared equally after the
     partners are repaid their contribution as
     provided by the act.

          Unless an appeal is filed within thirty (30)
     days the court will appoint a Master to determine
     the asset valuation and disposition of assets.


     The State court entered a second opinion on January 6,

1997, after 16 days of hearings, resolving differences

between the brothers over an account of the business that

had been filed by James and excepted to by Darwin (herein-

after the 1997 State court opinion).    In the 1997 State

court opinion, the State court determined that James

had made capital contributions to the partnership of

$1,001,558.60, that Darwin had made capital contributions

to the partnership of $2,320, and that the partnership had

$23,311.87 in its bank accounts.    The court ordered payment

of the outstanding liabilities of the partnership totaling

$23,335.47.   The court also ordered the sale of partnership

equipment at a public auction, with all profits from the

sale to be deposited into the partnership bank account.

The partnership equipment included various pieces of

restaurant equipment, such as a popcorn machine and an ice

cream freezer, and various pieces of agricultural or
                             - 7 -

farming equipment, such as a hay rake and a baler.

Finally, the State court found that the partnership owned

no land but that the value of certain fixtures and

improvements to land occupied by the partnership was

$144,234.

     The State court ordered all partnership assets

remaining after payment of partnership liabilities,

including cash, to be distributed to James' estate "to

repay on a dollar-for-dollar basis to the extent of such

assets the contributions to capital made by James R.

Tobias."    The State court allocated none of the remaining

partnership assets to Darwin.    It is implicit in the order

of the State court that the proceeds from the sale of the

equipment would not equal James' disproportionately large

capital contributions.

     From 1965 until 1992, James treated the animal farm

business as a sole proprietorship and reported the entire

income from the business on his individual tax returns.

After the State court found that the business was a

partnership, James caused the partnership to file returns

for the years 1990 through 1993.     Darwin did not

participate in the preparation or filing of the partnership

returns.
                                        - 8 -

       The partnership returns filed by James report the

following:

                                 1990               1991             1992        1993

Ordinary income                  $75,321          $49,662.62         ($166)     $10,099
Interest income                    -0-                753.71           190        1,015
Long-term capital gain             -0-                 -0-            -0-        25,061

 Total income                     75,321        50,416.33             24         36,175
                                              1
 Total assets                    171,769       164,956.00        166,836        200,135
                                                  1
 Total liabilities                57,267            -0-            1,856             56

       1
        A balance sheet is not attached to the 1991 return submitted
as an exhibit to the response of the Estate of James R. Tobias to
respondent's and petitioner Darwin Tobias' cross-motions for summary
judgment. This amount is the beginning of the year amount reported
on the balance sheet attached to the 1992 return as Schedule L.



The partnership returns identify James and Darwin as 50-

percent partners and allocate 50 percent of each

distributive share item of the partnership to each of them.

The partnership returns for 1992 and 1993 include Schedules

K-1, Partner's Share of Income, Credits, Deductions, etc.,

which report identical capital accounts for each brother.

The capital accounts reported on the Schedules K-1 for each

brother for 1992 and 1993 are as follows:


           Capital at                                    Withdrawals
           Beginning      Capital                            and              Capital at
Year        of Year     Contributed        Income       Distributions         End of Year

1992       $82,478         -0-                $12              -0-             $82,490
1993        82,490        $115             17,435              -0-             100,040


       James and his wife included 50 percent of the part-

nership's ordinary income and interest income for 1991 and

1993 in the gross income reported on their joint returns
                            - 9 -

for the years 1991 and 1993.   They did not include in their

gross income for 1993 any of the long-term capital gain

realized by the partnership during 1993.    The notice of

deficiency issued to them states as follows:


          As it cannot be determined what the
     allocable share of such partnership income is
     for any of the partners for any of the years,
     all of the income has been allocated to each
     partner, thus increasing your taxable income a
     net $25,208 and $18,089 [sic] for taxable years
     ending December 31, 1991 and 1993, respectively.


Thus, the notice of deficiency issued to James and his wife

has the effect of allocating to James 100 percent of the

partnership's ordinary income and interest income for 1991

and 1993 and 50 percent of the partnership's long-term

capital gain for 1993.   In respondent's answer to the

petition that was filed on behalf of James and his wife,

respondent asserts that there is an increased deficiency

due from James and his wife on the theory that 100 percent

of the long-term capital gain realized by the partnership

during 1993 should be allocated to James.

     Darwin and his wife did not include any partnership

income in the gross income reported on their joint returns

for the years 1990, 1991, and 1993.   The notice of

deficiency issued to them states as follows:
                           - 10 -

          As it cannot be determined what the
     allocable share of such partnership income is
     for any of the partners for any of the years,
     all of the income has been allocated to each
     partner, thus increasing your taxable income
     a net $37,661, $25,208 and $18,089 [sic] for
     taxable years ending December 31, 1990, 1991
     and 1993, respectively.


Thus, the notice of deficiency issued to Darwin and his

wife allocates to Darwin 50 percent of the ordinary income,

interest income, and long-term capital gain realized by the

partnership for the years 1990, 1991, and 1993.


Discussion

     In its motion for summary judgment, the estate takes

the position that respondent committed error by increasing

James' taxable income by 50 percent of the partnership's

income and, thus, by treating him as subject to tax on all

of the partnership's income.   According to the estate, the

State court determined, consistent with Darwin's

allegations, "that a 50-50 partnership did exist between

James and Darwin with respect to the Lake Tobias Animal

Farm."   The estate argues that, notwithstanding "Darwin's

eviction from active participation in the business", the

partnership continued to exist during the years in issue

for Federal tax purposes because there was no termination

pursuant to section 708.   Thus, according to the estate,

partnership income for the years in issue must be allocated
                            - 11 -

equally to the partners, "in accordance with their

respective partnership interests."

     Darwin and his wife oppose the estate's motion for

summary judgment.    They argue that the partnership

terminated in 1986 and that any income from the business

after 1986, including the subject income, must be allocated

entirely to James.    In their cross-motion for summary

judgment, they argue that "the facts and circumstances of

the case require allocation of all income and expenses to

James pursuant to the partners [sic] interest in the

partnership test.    (Regs. § 1.704-1(b)(1)(I) [sic])."   They

further argue that liquidation of the partnership, pursuant

to the order of the State court, is evidence that James

bore the economic benefit and burden of the partnership

income.   Accordingly, they argue that all of the income

from the business should be allocated to James, or in

the alternative, that the income should be allocated in

accordance with the partners' capital contributions;

i.e., 99.98 percent to James and .02 percent to Darwin.

     Respondent also opposes the estate's motion for

summary judgment and has filed a cross-motion for summary

judgment in which respondent, like the estate, takes the

position that the partnership income at issue in these

cases must be allocated in accordance with the "partner's
                            - 12 -

interest in the partnership", pursuant to section 1.704-

1(b)(3)(i), Income Tax Regs.   Respondent disagrees,

however, with the estate's assertion that the partners each

have a 50-percent interest in the partnership, and instead

argues that James has a 100-percent interest in the

partnership.   Thus, respondent contends that all of the

income reported by the animal farm business for the years

1990 through 1993 should be allocated to the estate.   In

support thereof, respondent notes that, "up to 1994, James

had contributed almost $1,000,000 more in capital to the

partnership than Darwin."   Respondent further notes that,

"under applicable state law, James is entitled to a

liquidation distribution of the amount by which his

contributions exceed Darwin's before Darwin is entitled to

any distributions."   Finally, respondent notes that "the

value of the partnership's assets in excess of its

liabilities amounted to less than $150,000".   Therefore,

according to respondent, James bore the entire economic

benefit and burden of the partnership income during the

years in question and should be allocated all of the

partnership income for the years in issue.

     In effect, respondent acknowledges that the protective

notice of deficiency issued to Darwin and his wife in which

respondent adjusts their income for 1990, 1991, and 1993
                           - 13 -

to include 50 percent of the income of the partnership

is inconsistent with respondent's position that all

partnership income should be allocated to James.

The memorandum in support of respondent's cross-motion

for summary judgment states:   "If and to the extent the

respondent's motion is granted, the respondent will

stipulate to a decision reducing Darwin's income

accordingly."

     The estate makes three arguments in opposition to the

cross-motions for summary judgment filed by Darwin and

respondent and in support of its position that respondent

erred by allocating to James all of the partnership income

for the years in issue.   First, the estate reiterates its

position that the income of the partnership for the years

in question must be allocated in accordance with the

"partner's interest in the partnership."   According to the

estate:   "The state court expressly found in considering

all relevant facts and circumstances that both James and

Darwin owned a 50 percent partnership interest in the

business."   On that basis, the estate contends that the

income of the partnership should be allocated to the

partners equally.

     Second, the estate argues, in the alternative, that

such a 50-50 income allocation has substantial economic
                           - 14 -

effect.   The estate recognizes that, if a partnership

agreement is silent as to how partnership income should be

allocated, as is the case here, then income is allocated

according to the partners' interests in the partnership

and, in that event, the substantial economic effect test

of section 704(b)(2) has no application.   Nevertheless,

the estate is concerned by the statement in Darwin's cross-

motion for summary judgment that "no provision exists in

the partnership agreement for the restoration of a deficit

in a partners [sic] capital account."   Because, in the

estate's view, the Court could find that a 50-50 allocation

does not have substantial economic effect, the estate

includes a discussion of the substantial economic effect

of such an allocation.

     Third, contrary to respondent's position, the estate

argues that a "50-50 income allocation is consistent with

the requirements of the Internal Revenue Code under all of

the undisputed facts and circumstances of this case."     In

support of this argument, the estate notes that no

distributions of income were made by the partnership during

any of the years in issue and asserts that the income

reported by the partnership during those years did not

inure to James' benefit.   In this connection, the estate

argues that the income reported by the partnership did not
                           - 15 -

increase the asset value of the partnership and any

"distribution to James upon liquidation will be minimal."

Furthermore, the estate argues that it is improper to use

the 1997 State court opinion "with respect to an accounting

of ownership of partnership assets under Pennsylvania state

law to retrospectively reallocate income for federal income

tax purposes for the calendar years 1990 through 1993."

     A decision on a motion for summary judgment shall be

"rendered if the pleadings, answers to interrogatories,

depositions, admissions and any other acceptable materials,

together with the affidavits, if any, show that there is no

genuine issue as to any material fact and that a decision

may be rendered as a matter of law."   Rule 121(b).   All

Rule references are to the Tax Court Rules of Practice and

Procedure.   The moving party bears the burden of proving

that there is   no genuine issue as to any material fact.

See Jacklin v. Commissioner, 79 T.C. 340, 344 (1982).

All reasonable inferences must be drawn in favor of the

nonmoving party.   See Anderson v. Liberty Lobby, Inc., 477

U.S. 242, 249-250 (1986); Naftel v. Commissioner, 85 T.C.

527, 529 (1985).   In these cases, each of the parties has

filed a motion for summary judgment or a cross-motion for

summary judgment, and we agree that there are no genuine
                           - 16 -

issues of material fact and that the cases are ripe for

disposition on these motions.

     Before addressing the substantive issues in these

cases, we must address two preliminary matters.    They are:

(1) Whether respondent bears the burden of proof with

respect to determining the partners' interests in the

partnership, as claimed by the estate; and (2) whether the

partnership was terminated for Federal income tax purposes

before the years in issue, as claimed by Darwin.

     The estate argues that respondent bears the burden of

proving the partners' interests in the partnership on the

ground that both Darwin and respondent rely on an affirma-

tive defense.   According to the estate, both Darwin and

respondent take the position that the State court's

findings with respect to a 50-50 partnership interest

should not be used for Federal tax purposes for the

years at issue "because such allocation would not have

'substantial economic effect' as contemplated by the [sic]

I.R.C. §704(b)(2)."

     In general, a determination made by the Commissioner

in a notice of deficiency is presumed correct, and the

burden of proof is on the taxpayer to show that the

determination is wrong.   See Rule 142(a).   There are

exceptions to this Rule under which the burden of proof
                            - 17 -

shifts to the Commissioner.    See id.   Under the Rules of

this Court, an affirmative defense pleaded in the answer

is one of the exceptions.     See Rules 142(a), 39.

     An affirmative defense is described as follows:


     An affirmative defense is a legal defense to a
     claim, as opposed to a factual dispute as to an
     essential element of the claim. It is a defense
     that does not controvert the establishment of a
     prima facie case, but that otherwise denies
     relief to the plaintiff. It is a defense of
     avoidance, rather than a defense in denial.
     Thus an affirmative defense is one which seeks
     to defeat or avoid the plaintiff's cause of
     action, and avers that even if the petition is
     true, the plaintiff cannot prevail because there
     are additional facts that permit the defendant to
     avoid legal responsibility. [61A Am. Jur. 2d,
     Pleadings, sec. 288 (1999); fn. ref. omitted.]


     One difficulty we have with the estate's argument is

that the estate does not explain what difference shifting

the burden of proof to respondent would make in these

cases.   We are not aware of any facts in dispute, and the

parties ask us to decide these cases on the basis of a

motion and cross-motions for summary judgment.

     We have a number of other difficulties with the

estate's position.   Suffice it to say that, even if the

estate were correct that a defense based upon the lack of

substantial economic effect is an affirmative defense,

respondent does not rely on that defense in these cases.

Respondent's position is that the allocation must be
                            - 18 -

determined in accordance with the partners' interests in

the partnership pursuant to section 704(b)(1), on the

ground that the partnership agreement does not provide an

allocation of income.    See sec. 704(b)(1).   Respondent does

not argue that the allocation of income must be based upon

the partners' interests in the partnership pursuant to

section 704(b)(2), on the ground that the allocation

specified by the partnership agreement lacks substantial

economic effect.    See sec. 704(b)(2).

     Furthermore, respondent's position, which is based

upon all of the facts and circumstances of these cases, is

that James' interest in the partnership was 100 percent

during the years in issue, rather than 50 percent as

claimed by the estate.    In our view, respondent's position

is not an affirmative defense, and we reject the estate's

position that the burden of proof in these cases is shifted

to respondent.

     The second preliminary matter is whether the

partnership terminated in 1986, as suggested by Darwin and

his wife in their opposition to the estate's motion for

summary judgment.    The estate contends that the partnership

did not terminate for Federal income tax purposes before

the years in issue.
                              - 19 -

     Section 708 governs termination of a partnership for

Federal income tax purposes.     Section 708 provides that a

partnership shall be considered terminated only if:     (1) No

part of any business, financial operation, or venture of

the partnership continues to be carried on by any of its

partners in a partnership; or (2) within a 12-month period

there is a sale or exchange of 50 percent or more of the

total interest in partnership capital and profits.     See

sec. 708(b)(1).   Section 708 provides that a partnership

"shall be considered as continuing if it is not

terminated."   Sec. 708(a).

     It is undisputed that after James excluded Darwin from

the partnership in 1986, James continued to carry on the

animal farm business until some time after December 31,

1993.   It is also undisputed that neither James nor Darwin

sold or exchanged his interest in the partnership.

Therefore, we have no basis to find that either of the

events specified by section 708 took place before 1994,

such that the partnership terminated for Federal tax

purposes before or during the tax years in issue.

     Having disposed of the above preliminary matters, we

turn to the principal issue for decision in these cases:

the manner of allocating the partnership's income for the

years in issue.   In order to put this issue in context, we
                          - 20 -

recall the following statement from our opinion in Vecchio

v. Commissioner, 103 T.C. 170, 185-186 (1994):


          In determining his income tax, a partner
     must take into account his "distributive share"
     of each item of partnership income, gain, loss,
     deduction, and credit. Sec. 702(a). Each
     partner is taxed on his distributive share of the
     partnership income without regard to whether the
     amount is actually distributed to him. Sec.
     1.702-1(a), Income Tax Regs.; see also United
     States v. Basye, 410 U.S. 441, 453 (1973). A
     partner's distributive share of partnership
     income or loss is to be determined by the
     partnership agreement, provided the allocation
     has substantial economic effect. Sec. 704(a).
     If the partnership agreement does not provide as
     to the partner's distributive share, or if the
     partnership agreement provides for an allocation
     that does not have substantial economic effect,
     then a partner's distributive share is determined
     by the partner's "interest in the partnership".
     Sec. 704(b). A partner's interest in the
     partnership is determined by taking into account
     all facts and circumstances. Id.


As suggested above, section 704 provides the framework for

determining a partner's distributive share of partnership

income, gain, loss, deductions, or credits and governs the

allocation of such partnership items.   It provides as

follows:

          SEC. 704(a). Effect of Partnership
     Agreement.--A partner's distributive share of
     income, gain, loss, deduction, or credit shall,
     except as otherwise provided in this chapter,
     be determined by the partnership agreement.

          (b) Determination of Distributive Share.--
     A partner's distributive share of income, gain,
     loss, deduction or credit (or item thereof) shall
                          - 21 -

     be determined in accordance with the partner's
     interest in the partnership (determined by taking
     into account all facts and circumstances), if-–

               (1) the partnership agreement does not
          provide as to the partner's distributive
          share of income, gain, loss, deduction, or
          credit (or item thereof), or

               (2) the allocation to a partner under
          the agreement of income, gain, loss,
          deduction or credit (or item thereof), does
          not have substantial economic effect.


     None of the parties to the instant cases claims that

there is a partnership agreement under which either part-

ner's distributive share of income, gain, loss, deduction,

or credit can be determined, as provided by section 704(a).

This is consistent with the fact that James and Darwin did

not enter into a written partnership agreement and the fact

that their oral agreement was merely an informal, general

agreement to operate an animal farm and did not contain any

specific terms.

     Because there is no partnership agreement in these

cases, there is no need to address the estate's "alterna-

tive" argument that a 50-50 allocation of partnership

income has substantial economic effect.   See Brooks v.

Commissioner, T.C. Memo. 1995-400; Mammoth Lakes Project

v. Commissioner, T.C. Memo. 1991-4.

     All of the parties to the instant cases take the

position that the subject income must be allocated in
                           - 22 -

accordance with each partner's interest in the partnership,

as provided by section 704(b)(1).   Accordingly, we must

determine the interests of James and Darwin in the subject

animal farm partnership.

     The regulations promulgated under section 704 define

the phrase "partner's interest in the partnership" as the

"manner in which the partners have agreed to share the

economic benefit or burden (if any) corresponding to the

income, gain, loss, deduction, or credit (or item thereof)

that is allocated."   Sec. 1.704-1(b)(3)(i), Income Tax

Regs.   The regulations also provide that the determination

of a partner's interest shall be made by taking into

account all facts and circumstances relating to the

economic arrangement of the partners.   See sec. 1.704-

1(b)(3)(i), Income Tax Regs.   Specifically, section 1.704-

1(b)(3)(ii), Income Tax Regs., provides that the following

four factors shall be considered in determining a partner's

interest in the partnership:   (1) The partners' relative

contributions to capital; (2) the partners' interests in

economic profits and losses; (3) the partners' interests

in cash-flow and other nonliquidating distributions; and

(4) the rights of the partners to distributions of capital

upon liquidation of the partnership.    See Vecchio v.
                            - 23 -

Commissioner, supra at 193; PNRC Ltd. Partnership v.

Commissioner, T.C. Memo. 1993-335.

     The first factor, the partners' relative capital

contributions, was discussed in the 1997 State court

opinion.    The State court found that James' capital

contributions totaled $1,001,568.60 and Darwin's

contributions totaled $2,320.    The parties to the instant

cases do not challenge the findings of the State court

regarding the capital contributions of each partner.

     The 1997 State court opinion does not set forth the

dates on which James made his contributions, but from our

review of the 1992 and 1997 State court opinions, we

conclude that a substantial percentage of James'

contributions, at least $700,000, was made before the years

in issue.   According to the 1997 State court opinion, all

of Darwin's contributions, in the aggregate amount of

$2,320, were made before the years in issue.

     The second factor to consider in determining a

partner's interest in the partnership is the partner's

interest in economic profits and losses.    The 1992 State

court opinion states that the partners would share the

profits of the business after they were repaid their

capital contributions.
                            - 24 -

     The third factor to consider in determining a

partner's interest in the partnership is the partner's

interest in cash-flow and other nonliquidating

distributions.    Although all of the profits of the

business were reinvested in the business, James and Darwin

were reimbursed for various business expenses that they

personally incurred.    However, after his eviction in 1986,

Darwin did not personally incur any business expenses

because he did not participate in the business.    Thus, for

the years in issue, Darwin did not have any interest in the

cash-flow or other nonliquidating distributions of the

business.

     The fourth factor to consider in determining a

partner's interest in the partnership is the partner's

right to distributions of capital upon liquidation of the

partnership.   This factor requires that we determine how

the partnership would have been liquidated in each of the

years in issue.    This factor is directly related to the

capital contributions of each partner.    As discussed

earlier, the State court determined that James'

contributions, $1,001,568.60, substantially exceeded

Darwin's contributions, $2,320, and our review of the

State court opinions suggests that James had contributed
                             - 25 -

a substantial amount of the total, at least $700,000,

before the years in issue.

     Furthermore, the partnership returns filed by James

report total assets for 1990 through 1993 of $171,769,

$164,956, $166,836, and $200,135, respectively.   This is

corroborated by the 1997 State court opinion, which found

that the value of the assets of the partnership was in

approximately the same order of magnitude.   Thus, the value

of partnership assets did not approach the total of James'

disproportionately large capital contributions for any of

the years in issue.   Accordingly, if the partnership had

been liquidated at any time during the years in issue, all

of the partnership assets would have been distributed to

James.   It is evident, therefore, that during each of

the years in issue James bore the economic benefit of 100

percent of the income realized by the partnership.   See

sec. 1.704-1(b)(3), Income Tax Regs.

     The estate argues that "the state court's determina-

tion that James and Darwin each own a 50 percent interest

in the partnership is applicable for allocation of income

for Federal income tax purposes pursuant to I.R.C.

§ 704(b)(1)."   In our view, the estate disregards the fact

that under the State court determination profits would be

shared equally only "after the partners are repaid their
                             - 26 -

contribution as provided by the act."     In discussing the

partners' rights in the partnership, the 1992 State court

opinion focuses on the fact that James had made

disproportionately greater capital contributions and on

the inequity of dividing partnership profits equally before

he was repaid.   The 1992 State court opinion states the

following:


          Under the partnership act above [referring
     to 15 Pa. Cons. Stat. § 8331] each partner is
     repaid his contribution whether by way of capital
     or advances to the partnership property. The
     court found that James' contribution [sic] far
     exceeded contributions made by Darwin. Hence it
     appears that an inequity would be visited on
     James if the partners share equally in profit,
     however the provision allowing repayment of
     advances to the partnership will level the
     playing field.

                 *   *   *   *   *    *   *

          After each partner is compensated for his
     contribution, ie, capital advancement or property
     to the partnership distribution of profits on an
     equal basis would seem equitable. [Tobias v.
     Tobias, No. 4583 (Ct. C.P. Dauphin County, Pa.
     July 7, 1992).]


     The 1997 State court opinion summarizes Pennsylvania

law as "holding that the repayment of capital investments

before distribution of any profits is an essential element

of every partnerships agreement implied as a term of law."

The 1997 State court opinion effects the 1992 State court

opinion by determining the partnership's assets and
                          - 27 -

liabilities, and the capital contributions of each partner,

and by directing that after payment of the partnership's

liabilities, "all other assets of the partnership shall be

delivered to the Estate of James R. Tobias to repay on a

dollar-for-dollar basis to the extent of such assets the

contributions to capital made by James R. Tobias."

     We do not interpret the State court opinions as

determining that "James and Darwin each own a 50-percent

interest in the partnership" during the years in issue.

Rather, the State court opinions determined the appropriate

distributions to the partners upon the dissolution and

liquidation of the partnership, on the basis of State law,

the relative capital contributions of the partners, and

principles of equity.

     It appears that the estate seizes on the statements in

the State court opinions that "the profits will be shared

equally" and asks this Court to find that each of the

partners held a 50-percent interest in the partnership for

purposes of section 704(b)(1).   In effect, the estate asks

us to make that finding without considering the relative

capital contributions of the partners or the other factors

listed in section 1.704-1(b)(3)(ii), Income Tax Regs.

     Although the estate does not discuss the four factors

listed in section 1.704-1(b)(3)(ii), Income Tax Regs., the
                           - 28 -

estate argues that a "50-50 income allocation is consistent

with the requirements of the Internal Revenue Code under

all of the undisputed facts and circumstances of this

case."   We consider the facts and circumstances the estate

relies on.

     First, the estate argues that the partnership income

for the years in issue did not inure to the benefit of

James.   According to the estate, this is shown by the fact

that the asset value of the partnership was not increased

by the amount of income reported by the partnership, and by

the fact that any distribution to James upon liquidation of

the partnership would be minimal.   Second, the estate

argues that respondent "is improperly attempting to use a

state court decision rendered in 1997 with respect to an

accounting * * * to retrospectively reallocate income for

federal income tax purposes for the calendar years 1990

through 1993."

     Contrary to the estate's argument, the net asset value

of the partnership increased each year by the amount of

partnership income.   In the following schedule, we have

computed the net asset value of the partnership using the

balance sheets filed with the partnership returns as

Schedule L, and we have compared the annual increases in

net asset value to the income reported:
                                  - 29 -
                           1990            1991      1992       1993
                                      1
 Total assets           $171,769       $164,956     $166,836   $200,135
                                         1
 Total liabilities        57,267          -0-          1,856         56

Net asset value (NAV)    114,502          164,956    164,980   200,079

Increase in NAV from
  previous year            n/a             50,454        24     35,099

Total partnership
  income2                  75,321          50,416        24     36,175

      1
        A balance sheet is not attached to the 1991 return submitted
as an exhibit to the response of the Estate of James R. Tobias to
respondent's and petitioner Darwin Tobias' cross-motions for summary
judgment. This amount is the beginning of the year amount reported
on the balance sheet attached to the 1992 return as Schedule L.
     2
        Total partnership income is the sum of ordinary income,
interest income, and capital gain reported on the partnership returns.


The above schedule shows a direct correlation between the

increase in the net asset value of the partnership for each

year and the amount of income reported.             Because the State

court ordered that all remaining assets of the partnership

be distributed to James, we agree with respondent that the

income of the partnership for the years in issue inured to

James' benefit.

     Furthermore, it is not evident that any distribution

to James or to his estate upon liquidation of the partner-

ship would be minimal.      Under the 1997 State court opinion,

after the partnership's liabilities are paid, the estate is

to receive various real estate improvements and fixtures

valued by the State court at $144,234 and other assets.

Moreover, even if the amount of the distribution were
                           - 30 -

"minimal", a partner is subject to tax on his share of

partnership income whether or not such income is actually

distributed to him.   See United States v. Basye, 410 U.S.

441, 453-454 (1973); sec. 1.702-1(a), Income Tax Regs.

     We also reject the estate's argument that respondent

erred by allocating partnership income for 1990 through

1993 on the basis of the 1997 State court opinion.   In

these cases, it is necessary to determine the interest of

each brother in the partnership for purposes of section

704(b)(1), and the determination must be made by taking

into account all of the facts and circumstances relating to

the economic arrangement of the partners.   See sec. 1.704-

1(b)(3)(i), Income Tax Regs.   We believe that respondent

has correctly reviewed the effect of the 1997 State court

opinion and the other facts and circumstances relating to

the financial arrangements of the brothers in determining

their interests in the partnership.

     On the basis of the four factors listed in section

1.704-1(b)(3)(ii), Income Tax Regs., and all the facts and

circumstances of these cases, we find that during each of

the years in issue James had a 100-percent interest in the

partnership income and Darwin had a zero interest in the

partnership income.   Accordingly, we agree with respondent

and Darwin that 100 percent of the income of the
                          - 31 -

partnership during the years in issue should be allocated

to James.

     On the basis of the foregoing,


                                Orders will be entered

                           denying petitioners' motion for

                           summary judgment filed in the

                           case at docket No. 19756-97,

                           granting petitioners' cross-

                           motion for summary judgment

                           filed in the case at docket No.

                           19757-97, and granting

                           respondent's cross-motion for

                           summary judgment filed in the

                           case at docket No. 19756-97, and

                           decisions will be entered for

                           respondent in the case at docket

                           No. 19756-97, and for

                           petitioners in the case at

                           docket No. 19757-97.
