                        T.C. Memo. 2008-140



                      UNITED STATES TAX COURT



         GRUTMAN-MAZLER ENGINEERING INC., Petitioner v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 14843-06.                 Filed May 21, 2008.


     Gregory Mazler (an officer), for petitioner.

     Jonathan Sloat, for respondent.


             MEMORANDUM FINDINGS OF FACT AND OPINION


     KROUPA, Judge:   Respondent determined a $1,529.45 deficiency

in petitioner’s Federal income tax for the taxable year ended

October 31, 2004 (the year at issue).1   The sole issue for



     1
      Respondent also determined that petitioner was liable for
additions to tax under sec. 6651(a)(1) and (2) of $891.49 and
$396.22, respectively. Respondent concedes these additions to
tax.
                               - 2 -

decision is whether petitioner is a qualified personal service

corporation subject to a special flat 35-percent income tax rate

under section 11(b)(2) rather than the graduated income tax rates

for corporations under section 11(b)(1).2   We hold that

petitioner is a qualified personal service corporation.

                         FINDINGS OF FACT

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

The stipulation of facts and the accompanying exhibits are

incorporated by this reference.   Petitioner’s principal place of

business was California at the time it filed the petition.

     Petitioner is an engineering company incorporated in

California in 1990.   Petitioner provides engineering services in

the Los Angeles area, including planning subdivisions.

Specifically, petitioner prepares grading plans, designs plans

for storm drains, sewers, streets, water lines and utilities, as

well as prepares tract maps for subdivisions.

     Petitioner had two owners during the year at issue.    Ruvin

Grutman (Mr. Grutman), a registered civil engineer and licensed

land surveyor, owned 60 percent of the value of petitioner’s

stock, while Gregory Mazler (Mr. Mazler) owned the remaining 40

percent.   Mr. Mazler is not a registered civil engineer although

he has a degree in engineering.   Mr. Grutman performed

engineering services for petitioner and also oversaw all of


     2
      All section references are to the Internal Revenue Code in
effect for the year at issue, unless otherwise indicated.
                                - 3 -

petitioner’s activities during the year at issue.    Petitioner had

28 employees in total, including Mr. Grutman and Mr. Mazler.

     Petitioner had a “Planning Department” that consisted of

three employees.3   The employees in the Planning Department were

Mr. Mazler, Veronica Granovsky (Ms. Granovsky) and Eugene

Steinberg (Mr. Steinberg).    Mr. Mazler’s duties included

submitting tentative tract maps and grading plans to local

governments for approval and also supervising the activities of

Ms. Granovsky and Mr. Steinberg.    Mr. Mazler performed some

engineering services.    These services included presenting maps to

planning departments in public hearings, but these services

constituted only a small portion of his workload.    Ms.

Granovsky’s and Mr. Steinberg’s duties included assisting

individuals performing petitioner’s engineering, land surveying,

and mapping activities.   Ms. Granovsky and Mr. Steinberg also

submitted designs, plans, specifications and engineering reports

to local governments.    Ms. Granovsky also coordinated the work of

professional, technical or special consultants.    Mr. Steinberg

was identified in petitioner’s organizational charts as Ms.

Granovsky’s assistant.    Both Ms. Granovsky and Mr. Steinberg also




     3
      The organizational chart submitted to the Court as an
exhibit refers to this department as the Planning Department.
Mr. Grutman referred to this department as the processing
department in his testimony. We shall refer to this department
as the Planning Department.
                               - 4 -

spent a small amount of time processing bonds for the engineering

projects.

     Petitioner’s financial accounts did not account separately

for the Planning Department or for income from processing plans

through local governments.   Petitioner’s ledgers differentiated

income from civil engineering, construction management, land

surveying, and rental income but did not account separately for

income of the Planning Department.

     Petitioner reported on its tax return for the year at issue

that it was engaged in engineering.     It reported that its taxable

income was subject to the graduated income tax rates for

corporations under section 11(b)(1).    Respondent issued

petitioner a deficiency notice in which he determined that

petitioner was a qualified personal service corporation subject

to the flat 35-percent tax rate under section 11(b)(2).4    The

deficiency represents the increase in petitioner’s Federal income

tax that results from applying the flat 35-percent tax rate to

the amounts of taxable income shown on the return for the year at

issue.   Petitioner timely filed a petition.

                              OPINION

     We are asked to decide whether petitioner is a qualified

personal service corporation taxed at a flat 35-percent rate



     4
      The flat 35-percent tax rate set forth in sec. 11(b)(2)
equals the highest marginal corporate tax rate set forth in sec.
11(b)(1) for the year at issue.
                                - 5 -

under section 11(b)(2) rather than the graduated rates for

corporations under section 11(b)(1).     A qualified personal

service corporation is any corporation that satisfies a function

test and an ownership test.    Sec. 448(d)(2)(A) and (B)(i); W.W.

Eure, M.D., Inc. v. Commissioner, T.C. Memo. 2007-124; sec.

1.448-1T(e)(3), (4), and (5), Temporary Income Tax Regs., 52 Fed.

Reg. 22768 (June 16, 1987), as amended by T.D. 8329, 56 Fed. Reg.

485 (Jan. 7, 1991), and T.D. 8514, 58 Fed. Reg. 68299 (Dec. 27,

1993).   Petitioner argues that it is not a qualified personal

service corporation because it does not meet either the function

test or the ownership test.    We disagree and find that petitioner

satisfies both tests and is therefore a qualified personal

service corporation.   We shall consider each test in turn.5

The Ownership Test

     The ownership test is met when 95 percent or more of the

corporation’s stock is held by employees performing services for

the corporation in connection with activities involving a

qualifying field.    Sec. 448(d)(2); sec. 1.448-1T(e)(5)(i),

Temporary Income Tax Regs., supra.      The qualifying field in this

case is engineering (including surveying and mapping).     See sec.

1.448-1T(e)(4)(i)(C), Temporary Income Tax Regs., supra.




     5
      The Court ruled at trial that petitioner had the burden of
proof. On brief, petitioner asks the Court to reconsider its
ruling. The Court declines to reconsider its ruling. The burden
of proof remains with petitioner.
                                  - 6 -

     Mr. Grutman owned 60 percent of petitioner’s stock and Mr.

Mazler owned 40 percent of petitioner’s stock during the year at

issue.   Mr. Grutman was a licensed engineer and land surveyor who

performed engineering services for petitioner.        Mr. Mazler had an

engineering degree and performed at least some engineering

services during the year at issue although it was just a small

portion of his workload.   Petitioner argues, however, that Mr.

Mazler’s ownership fails to meet the ownership test because his

activities fit solely in the Planning Department, not in the

general engineering field.   We disagree.

     First, section 448 requires only that the employees owning

the stock perform services in connection with the qualifying

field activities.   Sec. 448(d)(2).       There is no requirement in

the ownership test that the stockholder-employees perform a

certain percentage of their services, or substantially all of

their services, in the qualifying field or in connection with the

qualifying field.   Mr. Mazler’s performance of some engineering

services during the year at issue therefore means that 100

percent of the stock was held by employees who performed

engineering services.   See id.     Further, as we shall more fully

explain below, the activities of the Planning Department

constitute engineering activities or activities incident to

engineering activities.    Accordingly, Mr. Mazler’s activities in

the Planning Department are also in a qualifying field.        We
                                - 7 -

conclude that petitioner meets the ownership test because both

owners of petitioner’s stock performed services in the

engineering field.

The Function Test

     We shall now turn to the function test.     To meet the

function test, 95 percent or more of employees’ time must be

spent providing services in one of several enumerated fields,

including engineering.    Sec. 448(d)(2); sec. 1.448-1T(e)(4)(i),

Temporary Income Tax Regs., supra.      The performance of any

activity incident to the actual performance of services in a

qualifying field is considered the performance of services in

that field under the function test.     Sec. 1.448-1T(e)(4)(i),

Temporary Income Tax Regs., supra.      Activities incident to the

performance of services in a qualifying field include the

supervision of employees engaged in directly providing services

to clients and performing administrative and support services

incident to such activities.    Id.

     Petitioner argues that it does not meet the function test

because the activities of the Planning Department do not

constitute engineering.    Again, we disagree.

     Engineering is not defined in section 448 or the

corresponding regulations.    We may examine state law to determine

whether an activity is within a qualifying field.     See Rainbow

Tax Serv., Inc. v. Commissioner, 128 T.C. 42, 47 (2007).
                                - 8 -

California law defines civil engineering as the following studies

or activities in connection with fixed works:

          (a) The economics of, the use and design of,
     materials of construction and the determination of
     their physical qualities.

          (b) The supervision of the construction of engineering
     structures.

          (c) The investigation of the laws, phenomena and forces
     of nature.

          (d) Appraisals or valuations.

          (e) The preparation or submission of designs, plans and
     specifications and engineering reports.

          (f) Coordination of the work of professional,
     technical, or special consultants.

          (g) Creation, preparation, or modification of
     electronic or computerized data in the performance of the
     activities described in subdivisions (a) through (f).

Cal. Bus. & Prof. Code sec. 6731 (West 1995) (emphasis added).

     Accordingly, under California law, preparing and submitting

designs, plans and specifications, and engineering reports and

coordinating the work of consultants are civil engineering

activities.   Id.   Activities incident to civil engineering

activities are also qualifying activities.   Sec. 1.448-

1T(e)(4)(i), Temporary Income Tax Regs., supra.    Accordingly,

activities that are incident to preparing and submitting designs,

plans and specifications and engineering reports also constitute

qualifying activities.    Id.
                                 - 9 -

     Petitioner’s Planning Department undertook activities such

as submitting designs, plans, tentative tract maps, grading

plans, and engineering reports to local governments and

coordinating other professionals.     Each of these activities

constitutes civil engineering under California law and is

therefore a qualifying activity.     Petitioner’s Planning

Department also assisted and supported engineers in other

departments.     This activity is incident to civil engineering

activities and is also therefore a qualifying activity.

     Petitioner argues that civil engineering may only be

performed by individuals with a civil engineering license and

none of the Planning Department’s employees had a license.

Petitioner’s argument is misplaced.      Mr. Grutman, a registered

civil engineer, oversaw all of petitioner’s operations.      A

subordinate to a civil engineer is exempt from licensure if he or

she performs only in that capacity.      Cal. Bus & Prof. Code Sec.

6740 (West Supp. 2008).     The Planning Department employees’ lack

of engineering licenses thus does not preclude them from

performing qualifying activities.     See also Rainbow Tax Serv.,

Inc. v. Commissioner, supra at 46-47 (rejecting argument that

accountants cannot perform accounting services where they lack

CPA licenses).

     Moreover, even if we accepted petitioner’s argument that all

the activities performed by the Planning Department were not
                                - 10 -

qualifying activities, petitioner has failed to prove that such

activities exceeded 5 percent of all employees’ time.    Petitioner

introduced incomplete time records for its employees.    Petitioner

produced timesheets for Ms. Granovsky that covered the entire

taxable year but produced timesheets for Mr. Steinberg only for

July 15, 2004, through the end of the taxable year, less than 4

months.   Petitioner produced no timesheets for Mr. Mazler and no

timesheets for the 25 other employees who were not in the

Planning Department.   The lack of evidence makes it impossible to

determine that the activities of the Planning Department

constituted more than 5 percent of all the activities of

petitioner.   Petitioner’s failure to produce the time records of

the other employees leads us to infer that if such evidence were

introduced, it would be unfavorable to petitioner.    See Wichita

Terminal Elevator Co. v. Commissioner, 6 T.C. 1158 (1946), affd.

162 F.2d 513 (10th Cir. 1947).

     Petitioner urges us to find that the Planning Department

constituted more than 5 percent of the employees by pointing out

that dividing three employees by the 28 total employees yields a

number larger than 5 percent.    We can do the math, but we are

unconvinced of the meaning of the result.    Petitioner’s argument

assumes that the employees in the Planning Department performed

no services in qualifying fields, which, as discussed above, is

incorrect.    Petitioner’s argument also assumes that each employee
                                  - 11 -

performed exactly the same amount of services for petitioner.

There is no evidence in the record to support this assumption.

     Petitioner relies on Alron Engg. & Testing Corp. v.

Commissioner, T.C. Memo. 2000-335, to support its argument that

it is not a qualified personal service corporation.        Alron Engg.

is distinguishable on many grounds.        The company in Alron Engg.

performed both engineering services and geotechnical testing

services.   Id.     We found in Alron Engg., after examining

Wisconsin law, that geotechnical testing did not constitute

engineering.      Id.   Here, on the other hand, the activities

performed by the Planning Department constitute civil engineering

under California law and are therefore qualifying activities.

     Further relying on Alron Engg., petitioner argues that

petitioner could have separately negotiated to provide only the

services of the Planning Department to customers without any

corresponding engineering services.        This argument is of no

moment.   The activities performed by the Planning Department

constitute civil engineering under State law, regardless of

whether they were provided in separate contracts.        Also, unlike

the taxpayer in Alron Engg., petitioner did not separately

account for the activities of the Planning Department in its

books and records.

     We conclude that petitioner satisfies the function test by

having 95 percent or more of its employees’ time spent providing
                              - 12 -

engineering services or services incidental to engineering

services.   We also conclude that petitioner satisfies the

ownership test because all of its stock was held by employees

performing services in connection with a qualifying field.

Accordingly, petitioner is a qualified personal service

corporation subject to the flat tax rate under section 11(b)(2)

for the year at issue.

     To reflect the foregoing,


                                         Decision will be entered

                                    for respondent.
