                        T.C. Memo. 2007-75



                      UNITED STATES TAX COURT



      GILBERT HAHN, JR. AND MARGOT H. HAHN, Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 23756-04.              Filed April 2, 2007.



     George B. Delta and Stuart H. Gary, for petitioner Gilbert

Hahn, Jr.

     Mary M. Baker, Matthew S. Campbell, James R. Hagerty, and

Haig V. Kalbian, for petitioner Margot H. Hahn.

     Cleve Lisecki, Veena Luthra, and Lindsey D. Stellwagen, for

respondent.

                        MEMORANDUM OPINION


     WELLS, Judge:   The instant matter is before the Court on

petitioner Gilbert Hahn, Jr.’s Motion for Partial Summary
                                - 2 -

Judgment.1   The issue for decision concerns discharge of

indebtedness income pursuant to section 61(a)(12).      For the

reasons stated below, we shall deny petitioner’s motion.      Unless

otherwise indicated, all Rule references are to the Tax Court

Rules of Practice and Procedure, and all section references are

to the Internal Revenue Code, as amended.

                             Background

     Petitioners resided in Washington, D.C., when the petition

was filed.    References to petitioner in the singular are to

Gilbert Hahn, Jr.

     During 1986, petitioner obtained a $1 million line of credit

from the National Bank of Washington (the bank), which was later

increased to $2 million.    During June 1988, petitioner borrowed

against the line of credit and gave the bank a promissory note in

the amount of $2 million (the note).      The note provides, inter

alia:    (1) The outstanding principal and interest shall be

payable on demand; (2) until demand is made, petitioner shall pay

interest quarterly on the unpaid principal balance at the bank’s

floating prime rate plus ½ percent; (3) in the event of a late

payment, petitioner shall pay a late charge of 2 percent per



     1
       Petitioner and his wife, Margot Hahn, filed a joint 1995
Federal income tax return and a joint petition with the Court.
Petitioner Margot Hahn now seeks relief from joint and several
liability pursuant to sec. 6015, and each petitioner has retained
separate counsel. Petitioner Margot Hahn did not join petitioner
Gilbert Hahn, Jr. in making the instant motion.
                                - 3 -

annum in excess of the aforementioned interest rate; and (4) in

the event petitioner defaults and the bank institutes a suit to

collect on the note, the bank shall be entitled to recover as

attorney’s fees 15 percent of the unpaid principal and interest,

and costs of suit.

     During August 1990, the Office of the Comptroller of the

Currency declared the bank insolvent and appointed the Federal

Deposit Insurance Corporation (FDIC) as its receiver.     The FDIC

later claimed that petitioner had defaulted under the terms and

conditions of the note by failing to repay principal and

interest.

     During January 1994, the FDIC filed suit against petitioner

in U.S. District Court.    The FDIC complaint alleged that

petitioner owed the following amounts with respect to the note:

(1) $1,752,384 in principal; (2) $381,934 in prejudgment interest

accrued as of February 15, 1993, with interest continuing to

accrue at a daily rate of $312 until paid; (3) a late charge of 2

percent per annum on the unpaid principal; and (4) attorney’s

fees in the amount of 15 percent of the unpaid balance of the

loan.2    The complaint alleged that, except for a $25,000 payment

by petitioner in November 1993, none of the above-described

amounts had been paid.    The complaint also sought costs of suit.




     2
         All amounts are rounded to the nearest dollar.
                                - 4 -

     Petitioner disputed the FDIC’s claim, and, during October

1995, petitioner and the FDIC entered into a settlement agreement

in which petitioner agreed to pay an additional $975,000 in

exchange for a release of the FDIC’s claims against him.     The

settlement agreement states in part that petitioner “denies the

entire claim” and that petitioner and the FDIC were settling the

dispute to “avoid the time and cost of litigation”.

     During November 1995, petitioner paid the FDIC the $975,000

specified in the settlement agreement.   The FDIC then issued

petitioner a Form 1099-C, Cancellation of Debt, indicating that

petitioner had received $1,512,193 of income from discharge of

indebtedness.   Petitioner contacted the FDIC to dispute the

issuance of the Form 1099-C, but the FDIC refused to rescind or

amend the information return.

     On their joint 1995 Federal income tax return, petitioners

did not report the $1,512,193 as income.   Additionally,

petitioners claimed a $999,090 deduction on Schedule C, Profit or

Loss From Business, for horse breeding and training activity.

The $999,090 represents the $975,000 payment to the FDIC and

$24,090 of legal fees reportedly paid in connection with the

settlement.   Taking into account the deduction claimed on

Schedule C, petitioners reported adjusted gross income of

$460,898.
                                - 5 -

     Respondent issued petitioners a notice of deficiency for

1995 determining, inter alia, that the $1,512,193 was forgiveness

of indebtedness income and therefore taxable.   Respondent also

disallowed the claimed Schedule C deduction for $999,090 and

determined an accuracy-related penalty pursuant to section

6662(a).   Petitioners filed a timely petition for review with the

Court, and respondent filed an answer.

     During October 2005, respondent contacted the FDIC.   In

response to respondent’s inquiry, the FDIC indicated that the

$1,512,193 reported on the Form 1099-C reflected only the amount

of loan principal that was forgiven;3 as part of the settlement

agreement, the FDIC also had forgiven amounts owed for interest,

late charges, attorney’s fees, and other costs that were not

reflected in the Form 1099-C.   (For convenience, we refer to the

interest, late charges, attorney’s fees, and other costs as the

related items.)   Respondent filed an amendment to answer seeking

to increase the deficiency to include forgiveness of indebtedness

income attributable to the related items.



     3
       Respondent contends that the $1,512,193 figure was
calculated as follows: The FDIC first applied the $975,000
payment toward accrued interest of $734,809. The balance of
$240,191 was then applied to reduce the outstanding principal
from $1,752,384 to $1,512,193. This latter figure, according to
respondent, represents the amount shown on the Form 1099-C,
Cancellation of Debt. The settlement agreement does not specify
how the $975,000 was allocated, however, and for purposes of the
instant motion we do not decide if respondent’s calculation is
correct.
                               - 6 -

     During November 2006, petitioner filed a Motion for Partial

Summary Judgment.   The motion states that petitioner’s gross

income does not include any amounts attributable to the related

items.4   Respondent opposes the motion.

                            Discussion

     Summary judgment is appropriate with respect to all or any

part of the legal issues in controversy “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); Sundstrand Corp. v. Commissioner, 98 T.C. 518, 520

(1992), affd. 17 F.3d 965 (7th Cir. 1994).   The moving party

bears the burden of proving that there is no genuine issue of

material fact, and factual inferences will be read in a manner

most favorable to the party opposing summary judgment.   Dahlstrom

v. Commissioner, 85 T.C. 812, 821 (1985).

     Petitioner advances two arguments in support of his motion.

Petitioner’s first contention is that because he did not receive

cash or other property when he allegedly became obligated for the

related items, he was not enriched by the forgiveness of the



     4
       Petitioner also contends that he did not realize discharge
of indebtedness income with respect to the principal amount of
the loan; however, petitioner does not seek summary judgment with
respect to that amount.
                               - 7 -

obligation.   Secondly, petitioner argues in the alternative that

payment of the related items would have given rise to a deduction

as ordinary and necessary business expenses of his horse breeding

and training activity.

I.   Whether forgiveness of the related items could give rise to
     discharge of indebtedness income

     Section 61(a)(12) provides that gross income includes income

from the discharge of indebtedness.    The amount of income

includable generally is the difference between the face value of

the debt and the amount paid in satisfaction of the debt.     Babin

v. Commissioner, 23 F.3d 1032, 1034 (6th Cir. 1994), affg. T.C.

Memo. 1992-673.   The underlying rationale for such inclusion is

that, to the extent a taxpayer is released from indebtedness, the

taxpayer realizes an accession to income due to the freeing of

assets previously offset by the liability.    See United States v.

Kirby Lumber Co., 284 U.S. 1, 3 (1931); Jelle v. Commissioner,

116 T.C. 63, 67 (2001).

     Petitioner contends that the Kirby Lumber Co. rationale does

not apply to the related items because he did not receive cash or

other property when he incurred a liability for such items.

Petitioner argues that the forgiveness of the obligation

therefore did not result in a freeing of assets.    We disagree.

     A taxpayer may realize income upon the discharge of an

obligation even though the taxpayer has not directly received

cash or other property.   In Old Colony Trust Co. v. Commissioner,
                                  - 8 -

279 U.S. 716 (1929), for example, an employer paid an employee’s

State and Federal income tax liabilities.     The payment

constituted income because “The discharge by a third person of an

obligation to * * * [a taxpayer] is equivalent to receipt by the

person taxed.”     Id. at 729.   In Harris v. Commissioner, T.C.

Memo. 1975-125, affd. without published opinion 554 F.2d 1068

(9th Cir. 1977), discharge of indebtedness income included loan

principal as well as interest, taxes, penalties, and trustee and

attorney’s fees.    In Jelle v. Commissioner, supra, discharge of

indebtedness income included interest on a mortgage that was

partially forgiven.    See also Earnshaw v. Commissioner, T.C.

Memo. 2002-191 (discharge of indebtedness income included a cash

advance fee posted to the taxpayer’s account), affd. 150 Fed.

Appx. 745 (10th Cir. 2005); Seay v. Commissioner, T.C. Memo.

1974-305 (taxpayer realized discharge of indebtedness income

although he never received cash).

     We also disagree with petitioner’s contention that he

“received no payment of cash, property, or anything else of value

when he allegedly became liable for the [related items].”     The

right to use money represents a valuable property interest.        Fed.

Home Loan Mortgage Corp. v. Commissioner, 121 T.C. 254, 259

(2003).   When viewed most favorably to respondent, the facts

indicate that petitioner had use of the borrowed funds beyond the
                                - 9 -

time specified in the note.   Consequently, petitioner incurred a

liability for the related items.   When petitioner was released

from the liability, he realized an accession to income due to the

freeing of assets previously offset by the liability.    See Jelle

v. Commissioner, supra at 67.

     Petitioner nevertheless urges a contrary result, relying

primarily on Commissioner v. Rail Joint Co., 61 F.2d 751 (2d Cir.

1932), affg. 22 B.T.A. 1277 (1931); Fashion Park, Inc. v.

Commissioner, 21 T.C. 600 (1954); and Bradford v. Commissioner,

233 F.2d 935 (6th Cir. 1956), revg. 22 T.C. 1057 (1954).    Those

cases are distinguishable.

     Rail Joint Co. and Fashion Park, Inc. each involved a

corporate taxpayer that had issued bonds and later repurchased

them for less than par (i.e., face) value.   The Commissioner

determined that each taxpayer had realized discharge of

indebtedness income equal to the difference between the

repurchase price of the bonds and their par value.   Commissioner

v. Rail Joint Co., supra at 751; Fashion Park, Inc. v.

Commissioner, supra at 600.

     The court in each case held that the taxpayer had not

realized income.   In Commissioner v. Rail Joint Co., supra at

752, the Court of Appeals for the Second Circuit reasoned that

the taxpayer “never received any increment to its assets * * * at

the time * * * [the bonds] were retired.”    In Fashion Park, Inc.
                              - 10 -

v. Commissioner, supra at 606 (citation omitted), this Court held

that “if * * * [a taxpayer] has received upon issuance of its

bonds an amount less than it paid for their retirement it has no

accession in assets but is in fact poorer by the transaction”.

     Petitioner contends that he did not realize discharge of

indebtedness because, like the taxpayers in Rail Joint Co. and

Fashion Park, Inc., he “did not wind up with anything more than

what [he] had prior to the [transaction].”   Petitioner fails to

appreciate the holdings of those cases.

     Rail Joint Co. and Fashion Park, Inc. were decided after the

Supreme Court’s decision in United States v. Kirby Lumber Co.,

supra.   In Kirby Lumber Co., a taxpayer issued bonds in the

amount of $12,126,800 for which it received par value; i.e., the

issue price and par value were the same.   The taxpayer later

repurchased the bonds for less than par value.   The Supreme Court

held that the difference between the repurchase price and the par

value was income.   Id. at 2-3.

     The taxpayers in Rail Joint Co. and Fashion Park, Inc., in

contrast, did not receive par value for the bonds they issued.

The face value of the bonds exceeded the amount the taxpayers

received when the bonds were issued.5   Because each taxpayer


     5
       In Commissioner v. Rail Joint Co., 61 F.2d 751 (2d Cir.
1932), affg. 22 B.T.A. 1277 (1931), the taxpayer distributed the
bonds to its shareholders as a dividend and, therefore, received
no proceeds in return. In Fashion Park, Inc. v. Commissioner, 21
                                                   (continued...)
                                - 11 -

later repurchased its bonds for an amount greater than the issue

price, the taxpayers did not realize income and were, in fact,

poorer by the transaction.    In Fashion Park, Inc., this Court

rejected the Commissioner’s argument that the holdings of Rail

Joint Co. and Fashion Park, Inc. conflicted with Kirby Lumber

Co., noting that “‘We have consistently * * * emphasized the

issue price rather than par value in computing gain from the

discharge of obligations.’”     Fashion Park, Inc. v. Commissioner,

supra at 606 (quoting Kramon Dev. Co. v. Commissioner, 3 T.C.

342, 349 (1944)); see also Rail Joint Co. v. Commissioner, supra

at 752.   The holdings in Rail Joint Co. and Fashion Park, Inc.

are consistent with section 1.61-12(c)(3), Income Tax Regs.,

which provides:   “If bonds are issued by a corporation and are

subsequently repurchased by the corporation at a price which is

exceeded by the issue price * * *, the amount of such excess is

income for the taxable year.”

     In the instant case, petitioner did not issue bonds or other

debt instruments at a discount.    Accordingly, cases such as Rail

Joint Co. and Fashion Park, Inc. are inapposite.

     The third case on which petitioner relies, Bradford v.

Commissioner, supra, is also distinguishable.    In Bradford, the


     5
      (...continued)
T.C. 600 (1954), the taxpayer originally issued $50 par preferred
stock for $5 a share. In a tax-free reorganization, the company
later issued $50 par value bonds in an exchange for the preferred
stock. Id. at 601-603.
                                 - 12 -

taxpayer’s husband had executed a note in favor of a bank.         At

the husband’s request in 1938, the taxpayer substituted her own

$100,000 note for a portion of the indebtedness without receiving

any compensation in return.      Id. at 936.   In 1943, the bank wrote

off $50,000 of the note.    In 1946, a relative purchased the note

for $50,000 with funds provided by the taxpayer and her husband,

and the note was retired.      Id.   The Commissioner determined that

the wife had realized $50,000 of discharge of indebtedness income

in 1946.   Id.

     The Court of Appeals for the Sixth Circuit held that the

taxpayer had not realized income.      The court stated that while a

“mechanical application” of tax law would support the

Commissioner’s determination, the court “need not * * * be

oblivious to the net effect of the entire transaction”.        Id. at

938-939.   The court concluded that “by any realistic standard the

* * * [taxpayer] never realized any income at all from the

transaction”.    Id. at 938.   The court also concluded that

“Stripped of superficial distinctions, the Rail Joint Co. case is

identical in principle with the present case.”       Id. at 939.

     We note that Bradford did not involve a debt instrument

issued for less than par value.      Additionally, Bradford involved

unusual facts, suggesting that it is of limited application.         For

example, the court did not address whether the taxpayer’s husband

had realized discharge of indebtedness income because his tax
                               - 13 -

liability was not at issue.6   Bradford v. Commissioner, 233 F.2d

at 939.   Furthermore, in a later case, the Court of Appeals for

the Sixth Circuit questioned whether discharge of indebtedness

income might have been realized in an earlier year.     Tenn. Sec.,

Inc. v. Commissioner, 674 F.2d 570, 574 (6th Cir. 1982) (“Viewing

the Bradfords as an economic unit might perhaps raise questions

of income to them collectively upon the bank’s discounting the

note.”), affg. T.C. Memo. 1978-434.     We also note that

petitioner, unlike the taxpayer in Bradford, applied the loan

proceeds to obligations of his own.     Accordingly, we believe that

Bradford is inapposite.

      For the foregoing reasons, we conclude that petitioner may

have realized discharge of indebtedness income from the

forgiveness of the related items.   Accordingly, petitioner’s

first argument fails.

II.   Whether payment of the related items would be deductible as
      ordinary and necessary business expenses

      Petitioner’s second argument is that the payment of the

related items would have given rise to a deduction as ordinary


      6
       After the Court of Appeals for the Sixth Circuit issued
its opinion, the Commissioner determined a deficiency against the
taxpayer’s husband arising from the same transaction. See
Bradford v. Commissioner, 34 T.C. 1051 (1960). The notice of
deficiency was untimely due to the expiration of the applicable
limitations period for assessment, however, and we entered a
decision for the taxpayer’s husband on that ground. Id. at 1059.
Thus, neither the Court of Appeals nor this Court addressed
whether the taxpayer’s husband had realized discharge of
indebtedness income.
                              - 14 -

and necessary business expenses of his horse breeding and

training activity.   Accordingly, he argues, any amounts

attributable to the related items do not constitute income.

     Section 108(e)(2) provides:   “No income shall be realized

from the discharge of indebtedness to the extent that payment of

the liability would have given rise to a deduction.”    In general,

a taxpayer may deduct ordinary and necessary expenses paid or

incurred in carrying on any trade or business.   Sec. 162(a); see

also Commissioner v. Lincoln Sav. & Loan Association, 403 U.S.

345, 352 (1971); FMR Corp. & Subs. v. Commissioner, 110 T.C. 402,

414 (1998).

     Petitioner asserts that he was in the trade or business of

breeding and training horses from 1983 until sometime in 1995.

Petitioner contends that he used most of the funds he borrowed

from the bank to finance the horse breeding activity.

Petitioner provided his own affidavit and the affidavit of his

accountant, Elliot Blum, to support his contention.    Accordingly,

petitioner argues that the payment of the related items would

have given rise to a deduction under section 162(a) as ordinary

and necessary business expenses.

     Respondent contends that petitioner has not established that

he used the borrowed funds for the horse breeding activity.

Respondent provided letters that petitioner wrote to the bank in

1988 and 1989 indicating that petitioner borrowed against his
                               - 15 -

line of credit to finance real estate purchases and to pay income

taxes, insurance premiums, and other bills.    In a letter dated

May 25, 1989, for example, petitioner requested that the bank

place $770,000 into his checking account, stating that “The

purpose of this loan is the payment of income taxes.”

     Respondent further contends that, even if the borrowed funds

were used in the horse breeding activity, petitioner has not

established that the activity was a trade or business.

Respondent served petitioner with a request for production of

documents pursuant to Rule 72(a)(1) asking petitioner to “provide

all documents establishing that the training/breeding of horses

was an activity undertaken for profit.”    Respondent asserts that

petitioner has not provided the requested information.

     Petitioner counters that he conducted the horse breeding

activity in a businesslike manner, including keeping accurate

books and records and using professional advisers to assist him.

Although petitioner acknowledges that the activity generated

“considerable” losses in prior years, he contends that respondent

never disallowed the losses.

     Viewing the facts most favorably to respondent, we conclude

there remains a genuine issue as to whether petitioner used the

borrowed funds in a trade or business.    The affidavits of

petitioner and his accountant each assert that “most” of the

borrowed funds were used in the horse breeding activity.
                              - 16 -

Petitioner’s letters to the bank, however, leave some unanswered

questions regarding those assertions.

     We also are unable to conclude, for the purpose of the

instant motion, that the horse breeding activity was a trade or

business.   To be engaged in a trade or business within the

meaning of section 162, “the taxpayer’s primary purpose for

engaging in the activity must be for income or profit.”

Commissioner v. Groetzinger, 480 U.S. 23, 35 (1987).      We

generally consider nine nonexclusive factors in deciding whether

a taxpayer has maintained the requisite profit motive.         Dreicer

v. Commissioner, 78 T.C. 642, 644 (1982), affd. without opinion

702 F.2d 1205 (D.C. Cir. 1983); sec. 1.183-2(b), Income Tax Regs.

     If petitioner is correct that he conducted the activity in a

businesslike manner and used expert advisers, such factors would

tend to indicate a profit motive.   Sec. 1.183-2(b)(1) and (2),

Income Tax Regs.   However, the activity’s history of losses and

petitioner’s financial status are factors that weigh against

petitioner.   Sec. 1.183-2(b)(6), (8), Income Tax Regs.

Additionally, there are several remaining factors that are not

addressed in the pleadings and other materials submitted by the

parties.

     We also note that respondent’s failure to disallow losses

from the activity in prior years does not establish that it was a

trade or business in 1995.   Each taxable year stands on its own,
                                - 17 -

and the Commissioner may challenge in a succeeding year what was

overlooked in previous years.    See, e.g., Rose v. Commissioner,

55 T.C. 28, 31-32 (1970); Blodgett v. Commissioner, T.C. Memo.

2003-212, affd. 394 F.3d 1030 (8th Cir. 2005).    Because material

facts remain in dispute, we conclude that the issue of whether

petitioner was engaged in a trade or business is inappropriate

for summary judgment.   See Dahlstrom v. Commissioner, 85 T.C.

at 821.

     To reflect the foregoing,


                                          An appropriate order will

                                     be issued.
