                     132 T.C. No. 6



                UNITED STATES TAX COURT



         OCMULGEE FIELDS, INC., Petitioner v.
     COMMISSIONER OF INTERNAL REVENUE, Respondent



Docket No. 967-07.               Filed March 31, 2009.



     P transferred appreciated real property to a
qualified intermediary, which sold the property and
used the proceeds to purchase from a person related to
P like-kind property, which it transferred to P.

     Held: P has failed to prove the absence of a
principal purpose of Federal income tax avoidance; P’s
exchange with the qualified intermediary is part of a
transaction structured to avoid the purposes of sec.
1031(f), I.R.C., governing like-kind exchanges between
related persons, and, under sec. 1031(f)(4), I.R.C.,
the nonrecognition provisions of sec. 1031, I.R.C., do
not apply to the exchange.



David D. Aughtry and David W. Siegel, for petitioner.

Vicki J. Hyche and Clinton M. Fried, for respondent.
                               - 2 -

     HALPERN, Judge:   By notice of deficiency (the notice),

respondent determined a deficiency of $2,015,862 in petitioner’s

Federal income tax for its taxable year ended May 31, 2004

(taxable year 2004), and an accuracy-related penalty of $403,172.

     Unless otherwise indicated, all section references are to

the Internal Revenue Code of 1986, as amended and in effect for

taxable year 2004, and all Rule references are to the Tax Court

Rules of Practice and Procedure.

     The deficiency determination is the result of respondent’s

adjustment requiring that petitioner recognize the gain it

realized on the following transaction:   (1) Petitioner

transferred appreciated real property to a “qualified

intermediary” (qualified intermediary), (2) an unrelated third

party purchased the property from the qualified intermediary for

cash, (3) a person related to petitioner sold like-kind property

to the qualified intermediary for cash, (4) the qualified

intermediary transferred the like-kind property to petitioner,

and (5) petitioner realized a gain on the exchange.   Petitioner

claims that its exchange is a nontaxable exchange under the so-

called like-kind exchange rules found in section 1031.

Respondent claims that section 1031(f)(4) requires recognition

because petitioner “structured” the transaction “to avoid the

purposes” of the rules for exchanges between related persons.

Respondent concedes that, but for the application of section
                                - 3 -

1031(f)(4), petitioner’s exchange with the qualified intermediary

qualifies for nonrecognition treatment under section 1031.

Because we agree with respondent, we deny petitioner

nonrecognition under section 1031(a)(1).      We do not sustain

respondent’s determination of an accuracy-related penalty.

                           FINDINGS OF FACT

     Some facts have been stipulated and are so found.      The

stipulation of facts, with attached exhibits, is incorporated

herein by this reference.    Petitioner is a corporation organized

in the State of Georgia.    At the time it filed the petition, its

principal place of business was in Macon, Georgia (Macon).

Petitioner

     Petitioner was organized in 1973 by Charles H. Jones

(Charles Jones).   Petitioner develops, owns, and manages real

estate located primarily in middle Georgia, an area including

Macon.   During taxable year 2004, petitioner’s principal

shareholders were Charles Jones, his sons Dwight C. and C.

Jefferson (Dwight Jones and Jeff Jones, respectively), and Jones

Family Partnership, which was owned one-third each by Charles

Jones, Dwight Jones, and Jeff Jones.    During taxable year 2004,

Dwight Jones was president of petitioner.

     During taxable year 2004, Charles Jones, his sons, and their

related entities were among the largest owners of commercial

property, including shopping centers and office buildings, in
                                - 4 -

middle Georgia.   At the beginning of taxable year 2004,

petitioner’s real properties included the Wesleyan Station

Shopping Center (Wesleyan Station) and part of the Rivergate

Shopping Center (Rivergate), both in Macon.

     The term “Barnes & Noble Corner” is the term petitioner uses

(which we shall adopt) to describe three parcels of real property

in Rivergate.   Petitioner had owned the Barnes & Noble Corner

before selling it in 1996 to Treaty Fields, L.L.C. (Treaty

Fields).   At the time of that sale, the Barnes & Noble Corner was

undeveloped real property.   Petitioner sold it so that the

benefit of developing it would accrue to Treaty Fields.

Treaty Fields

     Treaty Fields is a Georgia limited liability company that

Dwight Jones organized in 1996.    At all times here pertinent, it

was owned by Dwight Jones and Charles Jones.

The McEachern Agreement

     During the spring of 2003, Dwight Jones met Scott Wilson

(Mr. Wilson), a licensed real estate broker.   Mr. Wilson told

Dwight Jones that he was looking for income-producing commercial

real estate.    He asked him whether petitioner had any for sale.

They discussed Wesleyan Station.   Although petitioner had not

listed Wesleyan Station for sale or otherwise marketed it,

petitioner agreed to sell it.   On July 17, 2003, petitioner

entered into an agreement (the McEachern agreement) for the sale
                               - 5 -

of Wesleyan Station to two testamentary trusts under the will of

John McEachern and to Mr. Wilson (the son-in-law of John

McEachern).   Among other things, the McEachern agreement

provides:   (1) The purchase price would be $7,250,000, (2) the

closing would take place on or before October 10, 2003, (3)

petitioner intended to conduct the transaction as part of an

exchange of property qualifying for nonrecognition to petitioner

under section 1031, and (4) in light of (3), petitioner could

assign its interest in the agreement to a qualified intermediary.

Petitioner’s Search for Replacement Property

     Raymond Pippin (Mr. Pippin) is a certified public accountant

(C.P.A.) and a member of the Macon accounting firm McNair,

McLemore, Middlebrooks & Co., L.L.P. (McNair).   McNair is the

largest accounting firm in the Macon area, and it has as clients

more real estate developers than any other accounting firm in

Macon.   Mr. Pippin services more of those clients (including

petitioner) than anyone else at McNair.   Even before petitioner

entered into the McEachern agreement, Dwight Jones had asked Mr.

Pippin whether he was aware of any income-producing commercial

real property in the Macon area that could be acquired to replace

Wesleyan Station.   Petitioner’s requirements for replacement

property were that it be income-producing commercial real

property in middle Georgia worth more than $7 million.   Mr.

Pippin indicated that he was not aware of any such property, and
                                 - 6 -

Dwight Jones asked him to keep his eyes open.      Dwight Jones also

asked petitioner’s real estate lawyer and two commercial real

estate brokers to help him find suitable replacement property.

In addition, Mr. Wilson (also a broker) offered to help

petitioner find replacement property.

     As stated, the deadline for closing the McEachern agreement

was October 10, 2003.   Before that date, petitioner had

considered and rejected for various reasons at least six possible

replacement properties presented by brokers.      As the date

approached, Dwight Jones considered the possibility of

petitioner’s reacquiring the Barnes & Noble Corner as replacement

property.

     On October 9, 2003, petitioner engaged Security Bank of Bibb

County, Macon, Georgia (Security Bank), as a qualified

intermediary.   On that date, it assigned its rights to sell

Wesleyan Station to Security Bank.       On October 10, 2003, Security

Bank, as a qualified intermediary for petitioner, sold Wesleyan

Station as called for in the McEachern agreement.

Petitioner’s Receipt of the Barnes & Noble Corner

     Petitioner settled on the Barnes & Noble Corner as

appropriate replacement property.    On October 15, 2003,

petitioner and Treaty Fields entered into a contract of purchase

with respect to that property.    Petitioner subsequently

transferred its rights under that contract to Security Bank, and
                                - 7 -

petitioner received the Barnes & Noble Corner on November 4,

2003.    Treaty Fields filed a Form 1065, U.S. Return of

Partnership Income, for 2003, reporting the disposition of the

Barnes & Noble Corner as a taxable sale.    It reported that the

amount realized on the sale was $6,740,900,1 its adjusted basis

in the property sold was $2,554,901, and it realized a gain of

$4,185,999.

Petitioner’s Taxable Year 2004 Federal Income Tax Return

     For taxable year 2004, petitioner filed Form 1120, U.S.

Corporation Income Tax Return (petitioner’s 2004 Form 1120).

Petitioner reported the disposition of Wesleyan Station as a

like-kind exchange on an attached Form 8824, Like-Kind Exchanges.

It reported that the amount realized on the exchange was

$6,838,900, its adjusted basis in the property exchanged and its

expenses related to the exchange were $716,164, and it realized a

gain of $6,122,736.    It reported that its basis in the property

received (the Barnes & Noble Corner) was $716,164, and, under the

heading of part II, “Related Party Exchange Information”, it

identified Treaty Fields as the related party.    It also reported

on another form installment sale income of $475,396, resulting

from the acceleration of payments due petitioner from Treaty


     1
       We recognize that $6,740,900 differs from both the
purchase price of $7,250,000 stated in the McEachern agreement
and the $6,838,900 reported as realized by petitioner on its 2004
Form 1120. See infra. Those discrepancies do not bother the
parties and, therefore, do not bother us.
                                   - 8 -

Fields on account of petitioner’s previous 1996 sale of the

Barnes & Noble Corner to Treaty Fields.

       Mr. Pippin prepared petitioner’s 2004 Form 1120, including

Form 8824.     Charles Jones and Dwight Jones had great confidence

in Mr. Pippin.       They had relied on him and his firm for tax

advice for many years.       They relied on him to prepare properly

petitioner’s 2004 Form 1120.

Respondent’s Determination

       Respondent’s determination of a deficiency is principally

based on his adjustment increasing petitioner’s gross income by

$6,122,736 on account of its exchange with Security Bank of

Wesleyan Station for the Barnes & Noble Corner.       Respondent

explained his adjustment in an attachment to the notice as

follows:     “[Y]ou have not established that you have met all of

the requirements of Section 1031(f) for nonrecognition of that

gain.”

                                  OPINION

I.    Introduction

       We shall first address the deficiency in tax and then

address the accuracy-related penalty.

II.    The Deficiency in Tax

       A.   Introduction

       Petitioner reported on its 2004 Form 1120 that it realized a

gain of $6,122,736 on its exchange of one parcel of real property
                               - 9 -

(Wesleyan Station) for three others (the Barnes & Noble Corner).

The only question we must answer is whether the exchange fails to

qualify for nonrecognition treatment under section 1031(a) on

account of the special rules applicable to exchanges between

related persons found in section 1031(f).   We shall describe the

relevant provisions of section 1031 and the accompanying

regulations, set forth the parties’ arguments, settle two

questions with respect to proof, and make our analysis.    As

stated, we conclude that petitioner does not qualify for

nonrecognition under section 1031(a).

     B.   Section 1031

     Section 1031(a)(1) provides that no gain or loss shall be

recognized on the exchange of property held for productive use in

a trade or business or for investment if the property is

exchanged solely for property of a like kind that is to be held

either for productive use in a trade or business or for

investment.   Under section 1031(d), the basis of property

acquired in a section 1031 exchange is the same as the basis of

the property exchanged, decreased by any money the taxpayer

receives and increased by any gain the taxpayer recognizes.

     Section 1031 and the regulations thereunder allow for

deferred exchanges of property.   Under section 1031(a)(3) and

section 1.1031(k)-1(b), Income Tax Regs., however, the property a

taxpayer receives in the exchange (replacement property) must be
                               - 10 -

(1) identified within 45 days of the transfer of the property

relinquished in the exchange (relinquished property) and (2)

received by the earlier of 180 days after the transfer of the

relinquished property or the due date (including extensions) of

the transferor’s tax return for the taxable year in which the

relinquished property is transferred.

     Section 1.1031(k)-1(g)(4), Income Tax Regs., allows a

taxpayer to use a qualified intermediary to facilitate a

like-kind exchange.    The qualified intermediary is not considered

the agent of the taxpayer for purposes of section 1031(a).      Sec.

1.1031(k)-1(g)(4)(i), Income Tax Regs.      In the case of a transfer

of relinquished property involving a qualified intermediary, the

taxpayer’s transfer of relinquished property to a qualified

intermediary and subsequent receipt of like-kind replacement

property from the qualified intermediary is treated as an

exchange with the qualified intermediary.      Id.

     Section 1031(f) provides special rules for property

exchanged between related persons.      In pertinent part, it

provides as follows:

          SEC. 1031(f).    Special Rules for Exchanges Between
     Related Persons.--

               (1) In general.--If–

                    (A) a taxpayer exchanges property
               with a related person,

                    (B) there is nonrecognition of gain
               or loss to the taxpayer under this
                   - 11 -

     section with respect to the exchange of
     such property (determined without regard
     to this subsection), and

          (C) before the date 2 years after
     the date of the last transfer which was
     part of such exchange--

               (i) the related person
          disposes of such property, or

               (ii) the taxpayer disposes of
          the property received in the
          exchange from the related person
          which was of like kind to the
          property transferred by the
          taxpayer,

there shall be no nonrecognition of gain or
loss under this section to the taxpayer with
respect to such exchange * * *.

     (2) Certain dispositions not taken into
account.-- For purposes of paragraph (1)(C),
there shall not be taken into account any
disposition–-

     *    *    *    *    *    *    *

          (C) with respect to which it is
     established to the satisfaction of the
     Secretary that neither the exchange nor
     such disposition had as one of its
     principal purposes the avoidance of
     Federal income tax.

     *    *    *    *    *    *    *

     (4) Treatment of certain transactions.--
This section shall not apply to any exchange
which is part of a transaction (or series of
transactions) structured to avoid the
purposes of this subsection.
                               - 12 -

     C.   Arguments of the Parties

           1.   Petitioner’s Arguments

     Petitioner’s argument with respect to section 1031(f) is

straightforward.   On or before the date it entered into the

McEachern agreement, petitioner formed a plan to replace Wesleyan

Station with property from an unrelated person.     Only when its

search for appropriate property owned by an unrelated person

proved unfruitful and the deadline to close under the McEachern

agreement approached did petitioner consider replacing Wesleyan

Station with the Barnes & Noble Corner.     It chose to do so for

business reasons (to reunite its ownership of the Barnes & Noble

Corner with its ownership of the rest of Rivergate) and in the

face of advice from its accountant and tax adviser (Mr. Pippin)

that the decision would result in higher taxes.     Therefore,

concludes petitioner, it lacked intent to avoid the provisions of

section 1031(f).   Petitioner also argues that respondent bears

the burden of proof.

           2.   Respondent’s Arguments

     Respondent’s argument with respect to section 1031(f) is

equally straightforward.   The facts in this case are similar to

those in Teruya Bros., Ltd. & Subs. v. Commissioner, 124 T.C. 45

(2005), a case involving the section 1031 rules applicable to

exchanges between related persons.      In that case, we found that a

qualified intermediary was interposed in an attempt to circumvent
                                   - 13 -

the limitation in section 1031(f)(1) that would have applied to

an exchange directly between related persons, and the taxpayer

failed to show that tax avoidance was not one of the principal

purposes of the transactions.       We concluded that the transactions

were structured to avoid the purposes of section 1031(f) and,

consequently, pursuant to section 1031(f)(4), the taxpayer was

not entitled to nonrecognition under section 1031(a)(1).

Respondent argues for the same result here.

     Respondent denies that he bears the burden of proof.

     D.    Questions Relating to Proof

            1.   Burden of Proof

     The parties argue over who bears the burden of proof,

particularly with respect to petitioner’s eligibility for the

non-tax-avoidance exception found in section 1031(f)(2)(C).

Petitioner argues that respondent bears the burden for three

reasons.

     First, petitioner argues that respondent bears the burden of

proof because his explanation of his adjustment increasing

petitioner’s gross income (viz, “you have not established that

you have met all of the requirements of Section 1031(f) for

nonrecognition”) is inadequate because it “contains no

affirmative factual determination that could be presumptively

correct.”    Petitioner’s argument is misguided.    There is no

requirement that a notice of deficiency that adequately informs
                               - 14 -

the taxpayer of the basis for the deficiency contain a factual

determination.    Often, particularly with respect to deductions,

we have said:    “[A] taxpayer bears the burden of proof, and

respondent’s determinations are entitled to a presumption of

correctness.”    E.g., Shafrir v. Commissioner, T.C. Memo. 2008-280

(emphasis added).    That does not require that the Commissioner

lay out the factual predicate for his determination.    The

determination referred to is the Commissioner’s deficiency

determination, not any underlying factual determination.      See

sec. 6212(a) (“If the Secretary determines that there is a

deficiency”.).    Section 7522(a) requires that the notice

“describe the basis for, and identify the amounts (if any) of,

the tax due, interest, additional amounts, additions to the tax,

and assessable penalties included in such notice.”    The final

sentence of section 7522(a) provides:    “An inadequate description

under the preceding [quoted] sentence shall not invalidate such

notice.”   Respondent’s explanation of his deficiency

determination informed petitioner that it was required to

recognize gain because it had not established that it had

satisfied the section 1031(f) special rules applicable to like-

kind exchanges between related parties.    In that respect, Shea v.

Commissioner, 112 T.C. 183, 192 (1999), is distinguishable.         The

notice was adequate in all respects, and there is nothing about
                               - 15 -

respondent’s explanation of his adjustment that bears on who

bears the burden of proof.

     Second, petitioner argues that respondent bears the burden

of proof because “the ‘failure-to-establish’ non-assertion is

arbitrary and capricious”, purportedly because respondent failed

to consider intent.    We believe that petitioner’s second argument

is directed to the section 1031(f)(2)(C) requirement that the

taxpayer establish the absence of a principal purpose of tax

avoidance.   We do so because, in its reply brief, under the

heading “Burden of Proof”, petitioner incorporates a portion of

its pretrial memorandum in which it states:   “In particular,

nowhere does the Notice contain the Section 1031(f)(2)(C)

statutorily-mandated determination as to the presence or absence

of a principal purpose of tax avoidance.”   As established in the

immediately preceding paragraph, the notice is sufficient.

Moreover, as discussed infra in section II.E.2.b. of this report,

the evidence establishes that, because of a deemed exchange,

basis shift, and sale of Wesleyan Station by Treaty Fields,

petitioner and Treaty Fields avoided approximately $1.8 million

of gain recognition.    Respondent makes clear in his pretrial

memorandum his assumption that the deemed exchange and sale had

as a principal purpose Federal income tax avoidance.    We find

that assumption neither arbitrary nor capricious.    Petitioner has

failed to convince us with its second argument that respondent
                              - 16 -

bears the burden of proving that petitioner had a principal

purpose of tax avoidance.

     Finally, petitioner argues that respondent bears the burden

of proof under section 7491(a)(1).     In pertinent part, Rule

142(a)(1) provides, as a general rule:     “The burden of proof

shall be upon the petitioner”.   In certain circumstances,

however, if the taxpayer introduces credible evidence with

respect to any factual issue relevant to ascertaining the proper

tax liability, section 7491 places the burden of proof on the

Commissioner.   See sec. 7491(a)(1); Rule 142(a)(2).    Credible

evidence is evidence that, after critical analysis, a court would

find constituted a sufficient basis for a decision on the issue

in favor of the taxpayer if no contrary evidence were submitted.

Baker v. Commissioner, 122 T.C. 143, 168 (2004); Bernardo v.

Commissioner, T.C. Memo. 2004-199 n.6.     Petitioner’s argument

fails because, for the reasons discussed infra in section

II.E.2.b. of this report, petitioner has not introduced credible

evidence of the absence of a principal purpose of tax avoidance.2

It follows that petitioner retains the burden of proving the

absence of that prohibited purpose, a burden that, because of the

absence of credible evidence on that issue, petitioner cannot

sustain.   See Bernardo v. Commissioner, supra n.7; see also



     2
       See the discussion infra in sec. II.D.2. of this report as
to what would constitute credible evidence in this case.
                               - 17 -

Rendall v. Commissioner, 535 F.3d 1221, 1225 (10th Cir. 2008)

(citing Bernardo), affg. T.C. Memo. 2006-174.      Therefore, our

discussion of that issue may be viewed as setting forth the basis

for our determination that petitioner has failed to (1) introduce

credible evidence and (2) carry its burden of proof.      See

Bernardo v. Commissioner, supra; see also Rendall v.

Commissioner, supra at 1225.

          2.    Measure of Persuasion

     To satisfy the non-tax-avoidance exception found in section

1031(f)(2)(C), the Secretary must be satisfied as to the absence

of a principal purpose of Federal income tax avoidance.

Respondent “acknowledges that the Secretary’s discretion is not

limitless.”    He argues that, nevertheless, the measure of

persuasion that petitioner must satisfy to show that the

Secretary abused his discretion is great, and to satisfy that

measure petitioner must show by “substantial evidence” the

absence of the prohibited purpose.      Petitioner argues for a

“strong proof” measure.    In Teruya Bros., Ltd. & Subs. v.

Commissioner, 124 T.C. at 54 n.12, we stated that, although we

have applied a “strong proof” measure in other contexts involving

language similar to the “satisfaction of the Secretary” language

in section 1031(f)(2)(C), because the measure made no difference

to the outcome of the case, we would not apply a more than usual

measure of persuasion.    Here, the measure of persuasion also
                                - 18 -

makes no difference.    Petitioner cannot satisfy the usual measure

of persuasion required to prove a fact in this court; viz, a

preponderance of the evidence.     See Merkel v. Commissioner, 109

T.C. 463, 476 (1997), affd. 192 F.3d 844 (9th Cir. 1999).

     E.    Analysis

            1.   Avoiding the Purposes of the Rules Governing
                 Exchanges Between Related Parties

     Petitioner is denied nonrecognition treatment on its

exchange of Wesleyan Station with Security Bank for the Barnes &

Noble Corner if the exchange was part of a transaction or series

of transactions structured to avoid the purposes of the rules

found in section 1031(f) governing exchanges between related

persons.    See sec. 1031(f)(4).   We begin by considering the

history of those rules and our interpretation of them in Teruya

Bros.

     Replacement property acquired in a like-kind exchange

generally takes the basis of the property relinquished.      See sec.

1031(d).    In effect, the basis of the relinquished property

shifts to the replacement property.      In the absence of the

general rule of section 1031(f)(1), a taxpayer anticipating the

sale of low basis property might be tempted to exchange the low

basis property for high basis property owned by a related person,

with the related person then selling the property received in the

exchange at a reduced gain (or possibly a loss) because of the

shift to that property of his high basis in the property he
                               - 19 -

relinquished.3    See Teruya Bros., Ltd. & Subs. v. Commissioner,

supra at 51-53.    In Teruya Bros., we said this about the history

of section 1031(f):    “Congress concluded that if a related party

exchange is followed shortly thereafter by a disposition of the

property, the related parties have, in effect, ‘cashed out’ of

the investment, and the original exchange should not be accorded

nonrecognition treatment.”    Id. at 52 (certain quotation marks

and citation omitted).    We explained section 1031(f)(4) as

reflecting Congress’s concern that related persons not be able to

circumvent the purposes of section 1031(f)(1) by interposing an

exchange with an unrelated third party.    Id.

     The essential facts of Teruya Bros. are as follows.       The

taxpayer negotiated the sale of relatively low basis real

property to an unrelated person.    In anticipation of the sale,

the taxpayer arranged to purchase relatively high basis

replacement property from a related person.      To carry out the

transaction, the taxpayer arranged for a qualified intermediary

to acquire the property the taxpayer had agreed to sell and to

sell it to the unrelated person, to use the proceeds to purchase

the replacement property from the related person, and then to

transfer that replacement property to the taxpayer.



     3
       Or if the property he receives is received in an exchange
not qualifying for nonrecognition treatment, at his tax cost for
that property. See sec. 1012; Phila. Park Amusement Co. v.
United States, 130 Ct. Cl. 166, 126 F. Supp. 184, 189 (1954).
                               - 20 -

     In Teruya Bros., Ltd. & Subs. v. Commissioner, supra at 53,

we concluded that the described transaction was economically

equivalent to a direct exchange of properties between the

taxpayer and the related person, followed by the related person’s

sale of the property it received to an unrelated third party.       We

stated that the interposition of a qualified intermediary in the

transactions could not obscure the end result.    Id.   Because the

deemed exchange and sale was described in section 1031(f)(1), we

then looked to see whether avoidance of Federal income tax was

one of the principal purposes of the deemed exchange.     Id. at 54.

We did so because we had concluded that the non-tax-avoidance

exception of section 1031(f)(2)(C) “is subsumed within the

purposes of section 1031(f), [and] any inquiry into whether a

transaction is structured to avoid the purposes of section

1031(f) should * * * take this exception into consideration.”

Id. at 53.   We rejected the taxpayer’s argument that it met the

requirements of the exception.   We restated our observation:

“The economic substance of the transactions remains that the

investments in * * * [the relinquished properties] were cashed

out immediately and * * * [the related person] ended up with the

cash proceeds.”   Id. at 55.   We detailed the tax savings to the

taxpayer and the related person resulting from the redirection of

the proceeds from the sale of the relinquished property to the

related person.   Id.   We concluded that (1) the taxpayer had
                                 - 21 -

failed to prove that tax avoidance was not one of the principal

purposes of the two transactions and (2) the taxpayer had

interposed the qualified intermediary to avoid the tax

consequences of an economically equivalent direct exchange with

the related person.     Id. at 54-55.

          2.     Non-Tax-Avoidance Exception

                  a.   Introduction

     The transaction at bar is similar to the transaction in

Teruya Bros.     Petitioner exchanged Wesleyan Station with a third

party, Security Bank, a qualified intermediary, for replacement

property, the Barnes & Noble Corner, formerly owned by a related

person, Treaty Fields.     Between the two legs of that exchange,

Security Bank sold Wesleyan Station to an unrelated third party

and used the proceeds to acquire the replacement property from

Treaty Fields.    Petitioner does not dispute that, within the

meaning of section 1031(f)(3), Treaty Fields is a related person.

     To determine whether petitioner’s exchange with Security

Bank was part of a transaction or series of transactions

structured to avoid the purposes of section 1031(f), we must

disregard that exchange and consider how petitioner would have

fared had it instead exchanged Wesleyan Station with Treaty

Fields for the Barnes & Noble Corner and had Treaty Fields then

sold Wesleyan Station.     We must determine whether, assuming those
                               - 22 -

hypothetical facts, petitioner has shown the absence of a

principal purpose of Federal income tax avoidance.

               b.   Application of Section 1031(f)(2)(C) to the
                    Deemed Exchange

     Petitioner must establish that neither its deemed exchange

of Wesleyan Station with Treaty Fields nor Treaty Fields’s deemed

sale of that property had avoidance of Federal income tax as one

of its principal purposes.    See sec. 1031(f)(2)(C).

     H. Conf. Rept. 101-386 (1989) is the report of the committee

of conference (the conference report) that accompanied H.R. 3299,

101st Cong., 1st Sess. (1989), which, as enacted, became the

Omnibus Budget Reconciliation Act of 1989 (OBRA), Pub. L.

101-239, 103 Stat. 2106.    OBRA section 7601(a), 103 Stat. 2370,

added section 1031(f).    With respect to that addition, the

conference report states:

          The Senate amendment is the same as the House
     bill, except that the * * * [Committee on Finance]
     report provides that the non-tax avoidance exception
     generally will apply to (1) transactions involving
     certain exchanges of undivided interests, (2)
     dispositions in nonrecognition transactions, and (3)
     transactions that do not involved [sic] the shifting of
     basis between properties. [H. Conf. Rept. 101-386,
     supra at 614].

The conference report further states that (with respect to the

addition of section 1031(f)) the conference agreement follows the

Senate amendment.   Id.

     If Treaty Fields had received Wesleyan Station from

petitioner in exchange for the Barnes & Noble Corner, Treaty
                              - 23 -

Fields’s adjusted basis of $2,554,901 in the Barnes & Noble

Corner would have shifted to Wesleyan Station (which, in

petitioner’s hands, had a basis of only around $716,164).

Because of that step-up in basis, Treaty Fields would have

realized a gain on the sale of Wesleyan Station approximately

$1.8 million less than petitioner would have realized had it

forgone an exchange with Treaty Fields and sold Wesleyan Station

itself.   While the conference report identifies transactions not

involving basis shifting as transactions generally lacking

Federal income tax avoidance as a principal purpose, a fair

inference to be drawn from the report is that Federal income tax

avoidance generally is a principal purpose of transactions

involving basis shifting.   Indeed, petitioner appears to concede

the point:   “[I]f all other factors were equal * * *, a basis

differential may supply the principal purpose of tax avoidance.”

Petitioner adds:   “It is equally true, however, that the tax

impact of a basis differential may be overridden and reversed by

more important tax considerations such as rate differentials,

lost elections, and the like–-not to mention non-tax

considerations.”    Petitioner lists five “monumental” tax factors

that, it argues, override the basis differential that it concedes

existed here:

     (i) the immediate tax on Treaty Fields’ sale of the
     Barnes & Noble Corner, (ii) the immediate tax to * * *
     [petitioner] on the outstanding installment note from
     Treaty Fields from the earlier sale of the Barnes &
                             - 24 -

     Noble Corner to Treaty Fields, (iii) the decrease in
     depreciation on the Barnes & Noble Corner, (iv) the 34%
     tax on * * * [petitioner] rather than the 15% tax rate
     Treaty Fields’ partners would have had on the future
     sale of the Barnes & Noble Corner, and (v) the
     sacrifice of the Section 754 election for Charles Jones
     [upon his death] which would entirely eliminate 70
     percent of the gain from the future sale of the Barnes
     & Noble Corner to a third party if Treaty Fields had
     retained ownership.

     Although there may be situations in which a taxpayer can

overcome the negative inference to be drawn from basis shifting

and a “cash out”, this is not one of them.   Our reaction to

petitioner’s five “monumental” tax factors is as follows.   First,

indeed there was an immediate tax on Treaty Fields’s sale of the

Barnes & Noble Corner, but that tax was approximately equal to

the tax it would have paid had it first exchanged the Barnes &

Noble Corner for Wesleyan Station and then sold Wesleyan Station.

Second, while Treaty Fields’s sale of the Barnes & Noble Corner

resulted in the acceleration of $475,396 in installment income to

petitioner, the result was not the addition of some new tax

burden but merely the acceleration of a deferred tax burden,

equivalent in consequence to the early call of a loan.

Petitioner has failed to quantify the associated cost, which

surely was much less than $475,396.   Third, petitioner’s adjusted

basis in Wesleyan Station shifted to the Barnes & Noble Corner

and, therefore, it gave up no depreciable basis.   Treaty Fields’s

adjusted basis in the Barnes & Noble Corner offset the amount it

realized on the sale of that property to Security Bank.   The
                               - 25 -

proceeds of the sale, perhaps reduced by a distribution to Treaty

Fields’s members to pay tax, were available for reinvestment in

new depreciable property.   Fourth, petitioner focuses on the tax

rate differential between gain taxable to petitioner (34 percent)

and gain taxable to Treaty Fields’s members (15 percent, Treaty

Fields being a pass-through entity whose members (individuals)

are taxed on capital gains at rates not available to corporate

taxpayers, like petitioner).   Petitioner ignores that, if its

exchange with Security Bank is recast as an exchange with Treaty

Fields followed by Treaty Fields’s sale of Wesleyan Station, the

deemed exchange not only shifted Treaty Fields’s basis in the

Barnes & Noble Corner to Wesleyan Station, reducing the amount of

gain deemed recognized by Treaty Fields, but also subjected that

gain to the 15-percent tax rate on gain taxable to Treaty

Fields’s members rather than the 34-percent tax rate that

petitioner would have incurred had it sold the property itself.

Moreover, petitioner’s supposition as to what tax petitioner

might pay in the future on a supposed taxable sale of the Barnes

& Noble Corner is too speculative for us to take into account, as

is petitioner’s fifth argument concerning a section 754 election

made following Charles Jones’s death.

     We are not prepared to say that, as a matter of law, a

finding of basis shifting precludes the absence of a principal

purpose of tax avoidance, but, in this case, the immediate tax
                              - 26 -

consequences resulting from petitioner’s deemed exchange with

Treaty Fields included an approximately $1.8 million reduction in

taxable gain and the substitution of a 15-percent tax rate for a

34-percent tax rate.   The tax savings are plain, and petitioner’s

counterfactors are unconvincing or speculative.     Petitioner has

failed to convince us that tax avoidance was not a principal

purpose of the deemed exchange.

     Petitioner offers as a business reason for exchanging

Wesleyan Station for the Barnes & Noble Corner that the exchange

allowed petitioner to reunite ownership of the Barnes & Noble

Corner with the rest of Rivergate and yielded operating

efficiencies and increased the overall value of the reunited

property.   Yet, beyond self-serving testimony, petitioner offers

no evidence to support that claim.     We need not, and do not,

accept that testimony.   See Mendes v. Commissioner, 121 T.C. 308,

320 (2003) (“This Court is not bound to accept a taxpayer's

self-serving, unverified, and undocumented testimony.”).

Moreover, even had petitioner shown a legitimate business purpose

for the acquisition of the Barnes & Noble Corner, that would not

necessarily preclude a finding that either the deemed exchange of

Wesleyan Station for the Barnes & Noble Corner or Treaty Fields’s

deemed sale of Wesleyan Station had as a principal purpose the

avoidance of Federal income tax.   See sec. 1031(f)(2)(C).
                                - 27 -

                 c.   Teruya Bros. Distinguished

     Petitioner argues that there is a critical difference

between the transaction at bar and the transaction in Teruya

Bros., Ltd. & Subs. v. Commissioner, 124 T.C. 45 (2005):

“[Petitioner] did NOT structure the Wesleyan Station exchange

with the intention of avoiding the purposes of subsection

1031(f)”.   Petitioner argues that there was no “prearranged plan”

for Security Bank to acquire the Barnes & Noble Corner and to

exchange it with petitioner:    “[Petitioner] affirmatively planned

all along to swap Wesleyan Station through a Qualified

Intermediary for new replacement property owned by a completely

unrelated third party.”

     Apparently, petitioner seeks to rely on a negative inference

to be drawn from an example in the legislative history of section

1031(f).    H. Rept. 101-247 (1989) is the report of the Committee

on the Budget4 that accompanied H.R. 3299, 101st Cong., 1st Sess.

(1989), which, as enacted, became OBRA.    As stated, OBRA section

7601(a) added section 1031(f).    With respect to that addition,

the report provides the following example of a transaction that

would violate section 1031(f)(4):

     [I]f a taxpayer, pursuant to a prearranged plan, transfers
     property to an unrelated party who then exchanges the
     property with a party related to the taxpayer within 2 years


     4
       Including as tit. XI of the report, from the Committee on
Ways and Means, an explanation of the revenue provisions of the
accompanying bill, which, among other things, added sec. 1031(f).
                               - 28 -

     of the previous transfer in a transaction otherwise
     qualifying under section 1031, the related party will not be
     entitled to nonrecognition treatment under section 1031.
     [H. Rept. 101-247, supra at 1341.]

Petitioner seems to believe that the presence or absence of a

“prearranged plan” is dispositive of a violation of section

1031(f)(4).   Petitioner insists that it, unlike the taxpayer in

Teruya Bros., had no prearranged plan to use property from a

related person to complete a like-kind exchange.   Although we set

forth the above example in Teruya Bros., and although the

taxpayer in that case did have a prearranged plan, we did not

make much of that fact.    Indeed, outside of the example, we did

not even use the phrase.   See Teruya Bros., Ltd. & Subs. v.

Commissioner, supra.   The example, therefore, is just that: one

of many transactions that will fall afoul of section 1031(f)(4).5

     As stated supra in section II.E.2.b. of this report, in

considering whether petitioner’s actual exchange with Security

Bank was part of a transaction or series of transactions

structured to avoid the purposes of section 1031(f), we must

determine whether, with respect to a hypothetical direct exchange

of properties between petitioner and Treaty Fields followed by a

hypothetical sale by Treaty Fields of the property received,


     5
       In Teruya Bros., Ltd. & Subs. v. Commissioner, 124 T.C.
45, 53 (2005), we described the example as “highly elliptical”.
A commentator has said of it: “Because of the way this example
is drafted, it appears not to make the point for which it is
offered.” Mandarino, “Reconciling Rulings on Related Party Like-
Kind Exchanges”, 30 Real Estate Taxn. 174, 175 (2003).
                                   - 29 -

petitioner has shown the absence of a principal purpose of

Federal income tax avoidance.       Even if petitioner convinced us

that the actual exchange was not prearranged (which it has not6),

we would still need to determine the application to the

hypothetical facts of the non-tax-avoidance exception of section

1031(f)(2)(C).

                 d.   Conclusion

     Petitioner has failed to prove that neither its deemed

exchange of Wesleyan Station with Treaty Fields for the Barnes &

Noble Corner nor Treaty Fields’s deemed sale of Wesleyan Station

thereafter had as one of its principal purposes the avoidance of

Federal income tax.



     6
       While the uncontradicted testimony of petitioner’s
witnesses is that, at least initially, petitioner planned to swap
Wesleyan Station for property from an unrelated person,
petitioner had turned its attention exclusively to the Barnes &
Noble Corner by Oct. 9, 2003, the day it engaged Security Bank as
qualified intermediary and 1 day before Security Bank sold
Wesleyan Station on petitioner’s behalf. Indeed, petitioner’s
president, Dwight Jones, testified that the sec. 1031(a)(3)(A)
deadline of 45 days after the transfer of relinquished property
to identify replacement property is so short a period to
negotiate price and to do due diligence that to identify and
designate replacement property within that period is “just about
impossible”. Moreover, on Oct. 15, 2003, 6 days after petitioner
relinquished Wesleyan Station, it agreed to purchase the Barnes &
Noble Corner from Treaty Fields. Taking into account Dwight
Jones’s testimony about the time constraints imposed by sec.
1031(a)(3)(A), that indicates to us that petitioner had sometime
before that date identified the Barnes & Noble Corner as the
replacement property for Wesleyan Station. We believe that, on
Oct. 10, 2003, the day Security Bank sold Wesleyan Station for
petitioner, petitioner had a “prearranged plan” for the Barnes &
Noble Corner to be received in exchange, and we so find.
                                 - 30 -

       3.   Conclusion

       The end result of petitioner’s exchange of Wesleyan Station

with Security Bank for the Barnes & Noble Corner is the same as

if petitioner had made an exchange of Wesleyan Station with

Treaty Fields followed by Treaty Fields’s sale of Wesleyan

Station.     Petitioner has failed to show that the deemed

transaction lacked as a principal purpose the avoidance of

Federal income tax.      Therefore, the actual exchange is part of a

transaction structured to avoid the purposes of section 1031(f)

and, under section 1031(f)(4), the nonrecognition provisions of

section 1031 do not apply to that exchange.

       F.   Conclusion

       We sustain the deficiency in tax respondent determined.

III.    Section 6662 Accuracy-Related Penalty

       A.   Applicable Law

       Section 6662(a) provides for an accuracy-related penalty

equal to 20 percent of the portion of any underpayment of tax

attributable to, among other things, negligence or intentional

disregard of rules or regulations (without distinction,

negligence), any substantial understatement of income tax, or any

substantial valuation misstatement.       See sec. 6662(b)(1)-(3).

Although the notice states that respondent bases his imposition

of a penalty of $403,172 on “one or more” of those three grounds,
                                - 31 -

on brief he relies on only the first two of those grounds:

negligence and substantial understatement of income tax.

     Negligence has been defined as lack of due care or failure

to do what a reasonably prudent person would do under like

circumstances.   See, e.g., Hofstetter v. Commissioner, 98 T.C.

695, 704 (1992).    It also “includes any failure to make a

reasonable attempt to comply with the provisions of the internal

revenue laws or to exercise ordinary and reasonable care in the

preparation of a tax return.”    Sec. 1.6662-3(b)(1), Income Tax

Regs.

     For corporations such as petitioner, a substantial

understatement of income tax exists if the amount of the

understatement for the taxable year exceeds the greater of (1) 10

percent of the tax required to be shown on the return for the

taxable year, or (2) $10,000.    Sec. 6662(d)(1)(B).

     Section 6664(c)(1) provides that the accuracy-related

penalty shall not be imposed with respect to any portion of an

underpayment if it is shown that there was reasonable cause for

that portion and the taxpayer acted in good faith with respect to

that portion.    Further:

     The determination of whether a taxpayer acted with
     reasonable cause and in good faith is made on a
     case-by-case basis, taking into account all pertinent
     facts and circumstances. * * * Reliance on * * *
     professional advice * * * constitutes reasonable cause
     and good faith if, under all the circumstances, such
     reliance was reasonable and the taxpayer acted in good
     faith. * * *
                              - 32 -

Sec. 1.6664-4(b)(1), Income Tax Regs.; see also sec. 1.6664-4(c),

Income Tax Regs. (“Reliance on opinion or advice”).

     B.   Analysis

     There was a substantial understatement of petitioner’s

taxable year 2004 income tax within the meaning of section

6662(d)(1).

     Mr. Pippin prepared petitioner’s 2004 Form 1120, including

the attached Form 8824, which reported the exchange of Wesleyan

Station for the Barnes & Noble Corner as a like-kind exchange.

Mr. Pippin is a C.P.A. and a member of the largest accounting

firm in the Macon area, and he and his firm have more experience

representing real estate developers than anyone else in Macon.

Dwight Jones (petitioner’s president) had relied on Mr. Pippin

and his firm for tax advice for many years.    Dwight Jones had

great confidence in him and relied on him to prepare properly

petitioner’s tax returns.   Mr. Pippin was aware of all facts

relevant to the exchange of Wesleyan Station for the Barnes &

Noble Corner.   He was required to interpret section 1031(f)(4) in

preparing petitioner’s 2004 return.    As our exposition of that

section in Teruya Bros., Ltd. & Subs. v. Commissioner, 124 T.C.

45 (2005), and this report show, that provision is not without

its interpretative difficulties.   When petitioner filed its 2004

Form 1120, we had not yet decided Teruya Bros.    Granted,

respondent had issued a revenue ruling, Rev. Rul. 2002-83, 2002-2
                              - 33 -

C.B. 927, presaging the result in that case, but we do not think

that the ruling left the result free from doubt or that, given

the facts before him, Mr. Pippin made unreasonable legal

assumptions.   We conclude that, with respect to petitioner’s

underpayment in tax attributable to its failure to report the

gain it recognized on the exchange of Wesleyan Station for the

Barnes & Noble Corner, petitioner, in relying on Mr. Pippin to

prepare properly its return, had reasonable cause for the

underpayment and acted in good faith, and we so find.

     C.   Conclusion

     Petitioner is not liable for the section 6662(a) penalty

respondent determined.


                                    An appropriate decision will

                               be entered for respondent.
