                       T.C. Memo. 2000-206



                     UNITED STATES TAX COURT



        OTIS W. JORDAN AND ALMA F. JORDAN, Petitioners v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 16084-97.                  Filed July 5, 2000.



     Otis W. Jordan and Alma F. Jordan, pro sese.

     Dustin M. Starbuck, for respondent.



                       MEMORANDUM OPINION


     CARLUZZO, Special Trial Judge:   Respondent determined a

deficiency of $4,423 in petitioners' 1994 Federal income tax.

     The issue for decision is whether petitioners are entitled

to deductions claimed on a Schedule F, Profit or Loss From

Farming.
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Background

     Some of the facts have been stipulated and are so found.

Petitioners are husband and wife.   They filed a timely 1994 joint

Federal income tax return.   At the time the petition was filed,

petitioners resided in Amissville, Virginia.   References to

petitioner are to Alma F. Jordan.

     During all relevant times, petitioners lived on a

20-acre farm.   They constructed a new barn on their farm, or

substantially improved an existing one, during 1994.    Petitioners

own several thoroughbred race horses.   They acquired their first

race horse in 1986.   By 1994 they owned six broodmares that,

except when boarded at a race track during a racing season or

elsewhere for breeding purposes, were kept at their farm.   The

horses are not used for recreational riding purposes.    At least

two of the horses, Jordan’s Tan and Hilarious Astro, were entered

in various thoroughbred racing events prior to the year in issue.

During 1993 Jordan’s Tan earned purses totaling $6,208 from at

least 12 races at Charles Town Races, in Charles Town, West

Virginia.

     Petitioners intend to acquire a stable of race horses by

mating their broodmares with stallions owned by others.   Their

plan is to produce foals that, after appropriate training, will

develop into successful thoroughbred race horses.   Consequently

and typically, the primary source of income that petitioners
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earned, or expect to earn from their horse racing activity

resulted, or will result, from purses.

     As of the date of trial, for any given year since acquiring

their first race horse in 1986, the income earned from their race

horses has never exceeded the expenses that they incurred to

maintain, race, and breed their horses.

     During 1994 petitioners entered into two stallion service

contracts.    In one they agreed to mate Jordan’s Tan with Gilded

Age; the stud fee was $750.   In the other they agreed to mate

Hilarious Astro with Two Punch; the stud fee was $3,500.    Two

Punch is the grandson of a Kentucky Derby winner.    Over the

years, Two Punch’s offspring have earned over $1,000,000 in

purses.   In the latter stallion service contract, petitioners

were guaranteed “a live foal that can stand up and nurse without

assistance by midnight of the seventh day after the day of

birth”.   The entire contract with respect to the stallion service

contract involving Jordan’s Tan has not been made part of the

record, but it appears that it contained a similar guaranty.

     Hilarious Astro produced a foal in 1994 as a result of being

bred to Two Punch.   In 1996, the foal ran into a fence and

injured its leg.

     During 1994, Otis Jordan was employed by Superior Paving

Corp.   His wages from that employment for that year were

$42,128.20.   Other than the horse racing activity, his wages were

petitioners’ sole source of income.     He devoted some time to the
                                - 4 -

horse racing activity, but petitioner, who was not otherwise

employed during 1994, was involved in the activity on a daily

basis.   Petitioners hired a neighbor who assisted petitioner in

feeding and otherwise caring for petitioners’ horses.     They paid

the neighbor $2,250 during 1994.

     Petitioners did not maintain formal books of account for

their horse racing activity.    Many of the expenses of the

activity were paid from their personal joint checking account;

other expenses were paid in cash.    Cash expenditures were

sometimes noted on slips of paper.      They kept numerous receipts

evidencing the purchase of feed, hay, and various supplies from a

variety of vendors.   At least one of the race tracks provided

petitioners with a summary of the earnings generated and expenses

incurred on a horse-by-horse basis at the race track.     Veterinary

and boarding fees are reflected on various summaries provided by

the farms where petitioners’ horses were boarded.

     Petitioners’ 1994 Federal income tax return was prepared by

a professional return preparer.    Petitioners reported items

attributable to their horse racing activity on a Schedule F

included with that return.    On that schedule, petitioners

reported gross income of $300.26 from “cooperative distributions”

and a “Federal and state gasoline or fuel tax credit or refund”.

The following deductions (amounts are rounded) are claimed:

                Description                 Amount

                Advertising                 $   59
                                - 5 -

                 Custom hire               1,600
                 Horse feed                  539
                 Hay                       2,215
                 Insurance                   818
                 Mortgage interest         1,666
                 Other interest            1,495
                 Labor hired               2,250
                 Boarding                  4,435
                 Miscellaneous             1,800
                 Repairs/maintenance       2,275
                 Supplies                  5,307
                 Taxes                     1,892
                 Veterinarian              1,070
                 Jockey fees                  66
                 Legal fees                  250
                 License                      25
                 Breeding fees             4,250
                 Horse showing               100
                 License                      25

The deduction for supplies appears to represent amounts spent to

build or substantially improve a barn.    The above deductions

total $32,137.   For reasons unexplained, on the line designated

“Total expenses” on the Schedule F, petitioners entered

$29,495.94.   This amount was apparently used in calculating the

reported net farm loss of $29,195.68.

     In the notice of deficiency, respondent disallowed all of

the expenses claimed on the Schedule F.

Discussion

     Consistent with the manner in which petitioners filed their

1994 return, they contend that the deductions claimed on the

Schedule F are allowable as trade or business expenses.
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In general, section 162(a)1 allows a deduction for all ordinary

and necessary expenses paid or incurred during the taxable year

in carrying on a trade or business.    In order for an activity to

be considered a taxpayer's trade or business for purposes of

section 162, the activity must be conducted “with continuity and

regularity” and “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).

     Respondent argues that the deductions here in dispute are

not allowable under section 162(a).    According to respondent,

petitioners’ horse racing activity did not constitute a trade or

business during the year in issue because petitioners did not

engage in that activity for profit.

     The test of whether a taxpayer conducted an activity for

profit is whether he or she entered into, or continued, the

activity with the actual or honest objective of making a profit.

See Keanini v. Commissioner, 94 T.C. 41, 46 (1990); Dreicer v.

Commissioner, 78 T.C. 642, 644-645 (1982), affd. without

published opinion 702 F.2d 1205 (D.C. Cir. 1983); sec. 1.183-

2(a), Income Tax Regs.   The taxpayer's profit objective

must be bona fide, taking into account all of the facts and

circumstances.   See Keanini v. Commissioner, supra at 46; Dreicer


     1
      Unless otherwise indicated, section references are to the
Internal Revenue Code in effect for 1994. Rule references are to
the Tax Court Rules of Practice and Procedure.
                               - 7 -

v. Commissioner, supra at 645; Golanty v. Commissioner, 72 T.C.

411, 426 (1979), affd. without published opinion 647 F.2d 170

(9th Cir. 1981); Bessenyey v. Commissioner, 45 T.C. 261, 274

(1965), affd. 379 F.2d 252 (2d Cir. 1967).   Whether a taxpayer

engaged in an activity with an actual and honest objective of

realizing a profit must be determined year to year.   See Golanty

v. Commissioner, supra at 426; sec. 1.183-2(a) and (b), Income

Tax Regs.   More weight is given to objective facts than to the

taxpayer’s statement of intent.   See Engdahl v. Commissioner, 72

T.C. 659, 666 (1979); sec. 1.183-2(a), Income Tax Regs.

     The following factors, which are nonexclusive, are taken

into account in deciding whether an activity is engaged in for

profit:   (1) The manner in which the taxpayer carried on the

activity; (2) the expertise of the taxpayer or his or her

advisers; (3) the time and effort expended by the taxpayer in

carrying on the activity; (4) the expectation that assets used in

the activity may appreciate in value; (5) the success of the

taxpayer in carrying on other similar or dissimilar activities;

(6) the taxpayer's history of income or losses with respect to

the activity; (7) the amount of occasional profits, if any, which

are earned; (8) the financial status of the taxpayer; and (9)

elements of personal pleasure or recreation.   See sec. 1.183-

2(b), Income Tax Regs.

     We have considered similar issues in numerous other cases

and, from time to time, include in our discussion a factor-by-
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factor analysis in those situations where it is helpful to do so.

See, e.g., Phillips v. Commissioner, T.C. Memo. 1997-128.      In

this case, we consider the burden of discussing each of the above

factors to outweigh the benefits of doing so.   No one factor is

determinative, see sec. 1.183-2(b), Income Tax Regs., some

factors are not applicable, and those that are provide little

guidance when considered separately.   For example, respondent’s

position is strongly supported by the history of annual losses

suffered by petitioners since they began their horse racing

activity.   A consistent pattern of losses suggests the lack of a

profit motive.   See Golanty v. Commissioner, supra; sec. 1.183-

2(b)(6), Income Tax Regs.   On the other hand, given the nature of

the activity involved, it is not improbable that petitioners’

cumulative loss could be recouped on the back of a single

successful foal.   Many of the foals sired by Two Punch (the

stallion to which one of petitioners’ broodmares was mated)

successfully competed as thoroughbreds.   As noted in the

applicable regulation, “an opportunity to earn a substantial

ultimate profit in a highly speculative venture is ordinarily

sufficient to indicate that the activity is engaged in for profit

even though losses or only occasional small profits are actually

generated.”   Sec. 1.183-2(b)(7), Income Tax Regs.   We consider

petitioners’ horse racing activity to be a highly speculative

venture.
                               - 9 -

     Guidance gleaned from separate discussions of other factors

is no less ambivalent, and comparisons to previously decided

cases add little towards the resolution of the controversy here.

Other cases “turn upon their own facts and no useful purpose

would be served by reviewing the conclusions reached in other

cases based upon the records made therein.”   Bessenyey v.

Commissioner, supra at 274.

     Nothing in the record in this case suggests that petitioners

had any affectionate attachment to any of their race horses in

particular, or to horses in general.   They did not use their

horses or farm for recreational purposes.   Although mindful of

the suggestions to the contrary implicit in respondent’s

position, we simply can see no other reason why petitioners would

have engaged in the activity and incurred the resulting expenses

unless for profit.   Taking into account the applicable factors as

a whole and considering the totality of the circumstances in this

case, we conclude that petitioners operated their horse racing

activity for profit during 1994.   That being so, we find that

petitioners’ horse racing activity constituted a trade or

business during that year and they are entitled, under section

162(a) to some, but not all of the deductions here in dispute.

     Deductions are a matter of legislative grace.   A taxpayer

who claims a deduction must establish that all requirements of

the statute that allows the deduction have been satisfied.   See

New Colonial Ice Co. v. Helvering, 292 U.S. 435, 440 (1934).
                               - 10 -

To be deductible as a trade or business expenses under section

162(a), the expense must be ordinary and necessary.     See

Commissioner v. Tellier, 383 U.S. 687, 689 (1966); Deputy v. du

Pont, 308 U.S. 488, 495 (1940).     Both petitioners testified at

trial.   Petitioners’ return preparer was present at trial and was

allowed to sit at counsel table to assist petitioners in the

presentation of their case; she was not called as a witness.

Although questioned on the points, petitioners failed to

establish that the following deductions were ordinary and

necessary to the operation of their horse racing activity:

Custom hire--$1,600; insurance--$817.92; interest (other)--

$1,494.67; repairs--$2,274.82; and taxes--$1,892.     Consequently,

petitioners are not entitled to deductions for those items.

     Petitioners’ horse racing activity was conducted at their

farm, which was also their residence.     Deductions attributable to

the use of a taxpayer’s residence in the taxpayer’s trade or

business are limited by the amount of gross income derived from

such use.    See sec. 280A(c)(5).   As best as can be determined

from the record, the mortgage interest deduction of $1,665.96

claimed on the Schedule F relates to the mortgage on petitioners’

residence.    Some or all of the amount might be allowable as an

itemized deduction.    See section 163.   (Petitioners did not elect

to itemize deductions on their 1994 return.)     Nevertheless,

because of the amount of gross income earned by petitioners in
                              - 11 -

their horse racing activity, mortgage interest is not allowable

as a trade or business deduction on the Schedule F.

     In general no deduction is allowed for “any amount paid out

for new buildings or for permanent improvements or betterments

made to increase the value of any property.”     Sec. 263.   During

1994, petitioners constructed a new barn, or substantially

improved an existing one.   Amounts expended for the construction

or improvement of the barn were deducted as “supplies” on the

Schedule F.   Petitioners are not entitled to deduct the

construction costs.   Instead, the costs must be capitalized and

included in the basis of the barn.     See sec. 1012; sec. 1.162-

12(a), Income Tax Regs.

     Cost incurred to raise livestock may be deducted or

capitalized at the option of the taxpayer.     See sec. 1.162-12(a),

Income Tax Regs.   In contrast, under the applicable version of

the controlling regulation, the cost of acquiring, as opposed to

raising, a sporting animal, such as a race horse, is considered

an investment in capital.   A breeding fee, or stud fee, is

classified as either a cost of “raising” or a cost of “acquiring”

an animal depending upon which party bears the risk of loss that

the breeding process is unsuccessful.     Duggar v. Commissioner,

71 T.C. 147 (1978); Ellis v. Commissioner, T.C. Memo. 1984-50.

     In this case, petitioners were guaranteed a live foal in the

stallion service contract involving Hilarious Astro, and it

appears that a similar guaranty was in effect in the contract
                              - 12 -

involving Jordan’s Tan.   That being so, the breeding fees

deducted on the Schedule F must, instead, be capitalized.       See

Duggar v. Commissioner, supra.

     Petitioners are entitled to the deductions claimed on the

Schedule F that have not been specifically addressed in the

discussion portion of this opinion.

     To reflect the foregoing,

                                           Decision will be

                                      entered under Rule 155.
