                          T.C. Memo. 1996-288



                      UNITED STATES TAX COURT



          JOSEPH NACHMAN, Petitioner v. COMMISSIONER OF
                   INTERNAL REVENUE, Respondent



     Docket No. 623-94.                         Filed June 20, 1996.



     Joseph Nachman, pro se.

     Brian Condon, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION

     COLVIN, Judge:   Respondent determined that, for 1988,

petitioner is liable for a deficiency in Federal income tax of

$63,600 and additions to tax of $10,779 for failure to timely

file under section 6651(a) and $3,281 for negligence under

section 6653(a)(1).
                                 - 2 -

     After concessions,1 the issues for decision are:

     1.   Whether petitioner's transfer of $350,000 to Swirl, Inc.

(Swirl), in October 1986 was a loan or a contribution to capital.

We hold that it was a loan.

     2.   Whether, based on our holding that petitioner lent

$350,000 to Swirl, petitioner may deduct as a bad debt $290,325,

as respondent contends; $308,000, as petitioner contends; or some

other amount.     We hold that petitioner may deduct the amount that

Swirl owed petitioner less the amount that petitioner owed Swirl

on December 31, 1988.

     3.   Whether petitioner is liable for the addition to tax for

failure to file under section 6651(a).    We hold that he is.

     Section references are to the Internal Revenue Code in

effect for the year in issue.    Rule references are to the Tax

Court Rules of Practice and Procedure.

                           FINDINGS OF FACT

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

A.   Petitioner

     Petitioner lived in New York City when he filed the

petition.   Petitioner received a bachelor of science degree in

economics from the Wharton School at the University of

Pennsylvania in 1968.    Larry Nachman is petitioner's brother.



     1
       Respondent concedes that petitioner is not liable for the
addition to tax for negligence for 1988.
                                 - 3 -

B.   Swirl, Inc.

     Swirl was incorporated in South Carolina on March 4, 1954.

Swirl's sales and executive offices were in New York City.     Swirl

owned 100 percent of the voting stock of Swirl Sales, Inc.

(Swirl Sales), and Easley Realty Co. (Easley).     Swirl Sales was

incorporated in New York.   Easley was incorporated in South

Carolina.   Swirl and Swirl Sales designed, manufactured, and

distributed women's robes, loungewear, and intimate apparel which

were sold to specialty stores in the United States, Canada,

Japan, Great Britain, Germany, France, and the Middle East.

C.   Petitioner's Employment By and 50 Percent Ownership
     Of Swirl

     Petitioner began to work in the sales and executive offices

of Swirl in 1970.   Petitioner became assistant to the president

in 1972, vice president in 1975, and executive vice president and

co-chief executive officer in 1979.      Petitioner and his brother

began to manage Swirl in 1975.

     Petitioner and his brother each acquired 50 percent of

Swirl's stock in 1979.   Petitioner became Swirl's president and

co-chief executive officer in 1983.      Almost all of petitioner's

income from 1970 to 1988 was from Swirl.

     Petitioner and his brother obtained a 50-percent-undivided

interest in the Easley Plant and a 40-percent-undivided interest

in Ware Place at a date not specified in the record.     The Easley
                                 - 4 -

Plant and Ware Place are parcels of land and facilities in South

Carolina.

     In 1982, petitioner and his brother bought Swirl's main

manufacturing and distribution facility for $625,000 (facility

purchase).     Petitioner and his brother each executed a purchase

money mortgage for $312,500.     The purchase money mortgages

required petitioner and his brother to pay interest for the first

5 years and to repay the principal over 10 years.     Petitioner and

his brother rented the facility to Swirl.     Petitioner's share of

Swirl's rental payments was about $140,000 per year starting in

1985.

     Swirl's net sales and net profits (losses) were as follows:

     Fiscal Year             Net Sales          Net Profits (Loss)

        1983                $19,450,740             ($23,342)

        1984                 21,692,838             (260,531)

        1985                 21,453,412              101,728

        1986                 18,108,296             (658,144)

        1987                 16,127,276             (272,197)

                             96,832,562           (1,112,486)

     In May 1985, petitioner lent $270,000 to Swirl.      The May

1985 loan was subordinated to the claims of all Swirl creditors.

Swirl paid about $30,000 of interest each year to petitioner on

this loan.

     In 1986, Swirl ended its licensing agreement with Bill Tice,

one of its designers.    As a result, Swirl had losses.    Shortly
                               - 5 -

after Swirl ended the Bill Tice agreement, Swirl introduced the

Oscar de la Renta product line under a business plan it designed

to eliminate the losses.

D.   Swirl's Line of Credit With Chemical Bank

     In the mid-1980's, Swirl had a $3.8 million line of credit

with Chemical Bank which was secured by Swirl's trade accounts

receivable, machinery and equipment.   Swirl had borrowed $3.3

million against its line of credit by January 1986.

     In January 1986, Chemical Bank became unhappy with Swirl as

a customer.   Chemical Bank believed that Swirl was not meeting

the standards Chemical Bank set for its borrowers.    Chemical Bank

froze Swirl's line of credit in January 1986.    At that time,

Swirl had serious financial difficulties and needed the line of

credit for working capital.   Lack of working capital precluded

Swirl from buying enough raw materials and filling orders.

Swirl began to lose money.

     Chemical Bank told Swirl in March 1986 that it no longer

wanted to have Swirl as a customer and wanted another lender to

assume the $3.3 million line of credit.

     Chemical Bank had a workout division which handled loans it

made to companies that were financially troubled.    The workout

division tried to maximize Chemical Bank's recovery on loans by

liquidating the loans or by taking other steps.    The workout

division generally did not help borrowers find new financing; it

concentrated on trying to get borrowers to repay the loans.
                                   - 6 -

Chemical Bank transferred Swirl's account to its workout division

in March 1986.

     Swirl needed about $3.8 million to operate, but only had

enough collateral to secure a $3.3 million loan.         Swirl sought

debt financing from five lenders but was not successful.         No

lender would lend Swirl $3.8 million without additional

collateral from Swirl or a capital infusion from Chemical Bank.

In May 1986, Swirl hired Financo, Inc. (Financo), a subsidiary of

Shearson Lehman Brothers, Inc., to find a buyer or investor for

Swirl.    Financo found neither.

E.   Chemical Bank and Swirl's New Financing Arrangement

     1.     The New Agreement

     In September 1986, Chemical Bank told Swirl that it was

willing to continue to lend funds to Swirl if its financing

arrangement could be restructured.         Swirl and Chemical Bank

executed a new financing agreement (new agreement) on October 15,

1986, which gave Swirl a revolving line of credit secured by 80

percent of the net amount of its receivables.         About $1.5 million

of the old line of credit was replaced by two promissory notes

payable to Chemical Bank.    The promissory notes required Swirl to

pay eight quarterly installments of $187,500 starting on

January 15, 1987, and interest at a rate of 2 percent higher than

Chemical Bank's prime rate.     The promissory notes were secured by

Swirl's accounts receivables, machinery and equipment, and the

cash surrender value of its officers' life insurance.
                                 - 7 -

     As part of restructuring Swirl's debt, Chemical Bank

required petitioner to grant a $1 million lien on his personal

residence.    Chemical Bank reduced the amount of the lien to

$450,000 in April 1987.     Chemical Bank also required petitioner

and his brother to make $500,000 available to Swirl as working

capital.

     2.      Petitioner's Transfer of $350,000 to Swirl in
             October 1986

     Petitioner and his brother borrowed $500,000 from Nathan

Addelstone (Addelstone) (not identified in the record) in October

1986.     They executed a second mortgage on the Easley Plant and

Ware Place as collateral.     Petitioner borrowed $150,000 from Jack

Lehman (Lehman) in October 1986.

     On October 27, 1986, petitioner transferred2 $350,000 to

Swirl in exchange for two promissory notes.      This amount included

$250,000 from petitioner's one-half share of the Addelstone loan

and $100,000 from the Lehman loan.       Swirl agreed to pay interest

of prime plus 2 ½ percent monthly starting on November 1, 1986,

and to make a balloon payment of the principal on April 1, 1988.

The notes were subordinated to the claims of Swirl's other

creditors.     Also on October 27, 1986, petitioner's brother

transferred $250,000, the other half of the Addlestone loan, to

Swirl.

     2
      By using the terms "transfer" or “advance”, we do not
intend to characterize the transaction as debt or equity.
                                - 8 -

     Swirl used the $600,000 for working capital.   Swirl reported

the transaction as a loan from stockholders in its financial

statements dated December 31, 1986, June 30, 1987, and

December 31, 1987.

     Swirl paid interest to petitioner quarterly.   Swirl paid

about $56,841 in interest on the notes, from November 1, 1986, to

July 2, 1988.   In April 1987, petitioner and Swirl changed the

maturity date on the notes from April 1 to September 15, 1988.

Later, they changed the maturity date from September 15 to

October 15, 1988.

F.   Petitioner and His Brother's Resignation From and Sale of
     Swirl

     1.   Sale of Swirl

     On May 13, 1988, Swirl, Swirl Sales, Easley, Chemical Bank,

petitioner, and petitioner's brother agreed to restructure some

of Swirl's debt to Chemical Bank.   Shortly thereafter, Chemical

Bank told petitioner that it wanted to end its lending

relationship with Swirl.

     Swirl hired Anthony Gasson (Gasson) in July 1988, to arrange

new debt financing for Swirl.   Gasson specialized in finding

buyers and lenders for troubled companies.   Swirl hired Joseph

Santalarsci (Santalarsci), an investment banker, in September

1988 to find a buyer for Swirl.
                                  - 9 -

     Petitioner and his brother resigned from Swirl in October

1988.     In October 1988, Santalarsci and Gasson sought offers to

buy Swirl.     In January 1989, four parties offered to buy Swirl.

     2.      The Three Rejected Offers

     I. Appel Corp. offered to buy some of Swirl's assets.       L.G.

Strelecki, on behalf of a company to be incorporated as L.G.

Strelecki & Associates, offered to assume some of Swirl's

liabilities in exchange for specific assets.     The Shearson Group

offered to assume some of Swirl's liabilities in exchange for

specific Swirl assets.     Swirl rejected these offers.

     3.      The Accepted Offer

     On January 24, 1989, the Sandhurst Co. (Sandhurst) offered

to acquire substantially all of Swirl's assets and liabilities.

Swirl accepted Sandhurst's offer.

     New Swirl, Inc. (New Swirl), was incorporated and bought

Swirl's assets in November 1989.     New Swirl's shareholders were

Sandhurst Venture Fund-I, L.P., Whitby Santalarsci & Company,

and T.G. Capital, Inc.     New Swirl did not buy any Swirl stock

or assume Swirl's liabilities to petitioner or his brother.

Petitioner did not sue to recover any unpaid interest or

principal on the notes from Swirl.

G.   Petitioner's 1988 Tax Return

     Jeffrey Elias (Elias), a certified public accountant at

Weinick Sanders & Company, was petitioner's accountant.     He

prepared petitioner's 1988 tax return.     Elias discussed the 1988
                               - 10 -

return with petitioner before completing it.    Elias estimated

petitioner's losses from Swirl.   Elias filed a request to extend

the time to file petitioner's 1988 tax return to August 15, 1989

(Form 4868).   Petitioner estimated on the Form 4868 that he had

no additional tax liability for 1988.   On August 19, 1989,

petitioner requested an extension of time to file his 1988 return

to October 15, 1989, which respondent granted.

     Elias expected petitioner to receive a refund for 1988.      In

calculating petitioner's potential tax liability, Elias concluded

that petitioner owed Swirl $42,500 ($312,500 that petitioner owed

to Swirl from the facility purchase minus $270,000 that Swirl

owed to petitioner from the May 1985 loan).    He also concluded

that petitioner was entitled to deduct a bad debt loss of

$307,500 ($350,000 transferred to Swirl minus $42,500).

H.   Petitioner's Financial Records

     Petitioner was involved in a divorce proceeding from July

1988 to May 1989.   He gave his financial records to the law firm

which represented him.   After the divorce proceeding ended,

petitioner stored his financial records and other personal

belongings.    Petitioner found the financial records in July 1990.

     Petitioner filed his 1988 return on October 17, 1990.     He

deducted $308,000 for his bad debt to Swirl.    Petitioner claimed

a $20,486 refund.   Respondent refunded that amount to petitioner

on November 19, 1990.
                                   - 11 -

                                   OPINION

A.   Whether the $350,000 Petitioner Transferred to Swirl
     Was Debt or Equity

     1.      Background and Contentions of the Parties

     Petitioner transferred $350,000 to Swirl on October 27,

1986.     He deducted $308,000 of that amount as a bad debt on his

1988 return.     Sec. 166(a)(1).    Respondent determined and contends

that the $350,000 payment was a capital contribution.3

        Whether a payment to a corporation is a contribution to

capital or a loan is a question of fact.       Gilbert v.

Commissioner, 262 F.2d 512, 513 (2d Cir. 1959), affg. T.C. Memo.

1958-8.     The substance and not the form of the transaction

controls.     Gregory v. Helvering, 293 U.S. 465 (1935); 1432

Broadway Corp. v. Commissioner, 160 F.2d 885 (2d Cir. 1945),

affg. 4 T.C. 1158 (1945).     We apply special scrutiny because

petitioner transferred the funds in issue to his closely held

corporation.     Fin Hay Realty Co. v. United States, 398 F.2d 694,

697 (3d Cir. 1968).

     The factors we consider in deciding whether payments to a

corporation are debt or equity include:      (a) The name given to

the certificate evidencing the indebtedness; (b) whether there is

a fixed maturity date; (c) whether the party providing the funds


     3
       Respondent concedes that, if the $350,000 is debt,
petitioner may claim a business bad debt deduction under sec.
166(a).
                              - 12 -

can enforce payment; (d) the source of the payments; (e) whether

the party providing the funds is given an increased participation

in management; (f) the intent of the parties; (g) whether the

corporation is adequately capitalized; (h) whether interest is

paid; (i) whether the corporation can obtain loans from outside

lenders; (j) the extent to which the corporation uses the advance

to acquire capital assets; (k) whether shareholders provide funds

in proportion to their stock interests; (l) whether the business

repaid the amount advanced when due; and (m) whether

the business’ obligation to repay the advance is subordinated to

other creditors.   Selfe v. United States, 778 F.2d 769, 773-774

n.9 (11th Cir. 1985); American Offshore, Inc. v. Commissioner, 97

T.C. 579, 602-606 (1991); Dixie Dairies Corp. v. Commissioner, 74

T.C. 476, 493 (1980); Georgia-Pacific Corp. v. Commissioner, 63

T.C. 790, 796-800 (1975).   No single factor controls.    John

Kelley Co. v. Commissioner, 326 U.S. 521, 530 (1946); Plantation

Patterns, Inc. v. Commissioner, 462 F.2d 712, 719 (5th Cir.

1972), affg. T.C. Memo. 1970-182; Georgia-Pacific Corp. v.

Commissioner, supra; Blum v. Commissioner, 59 T.C. 436, 440

(1972); see also American-LaFrance-Foamite Corp. v. Commissioner,

T.C. Memo. 1959-101, affd. 284 F.2d 723 (2d Cir. 1960).

     2.   Factors Favoring Petitioner

          a.   Name Given to the Certificate Evidencing the
               Indebtedness
                                  - 13 -

       Respondent concedes that petitioner's transfer of $350,000

to Swirl has all the formal indicia of a loan; e.g., Swirl gave

two promissory notes that provided for the payment of interest in

exchange for the transfer; Swirl treated the transfer as a loan

on its financial statements and tax return; and petitioner

reported Swirl's payments as interest income on his tax returns.

This factor suggests that the transfer was a loan.

            b.     Whether the Party Providing the Funds Can
                   Enforce Payment

       A definite obligation to repay an advance suggests that it

is a loan.       American Offshore, Inc. v. Commissioner, supra at

603.    Petitioner had the right to enforce payments on the notes.

If any payment was past due, petitioner could accelerate the

payments due on the notes and collect those amounts and any

remaining principal.      This factor suggests that the transfer was

a loan.

            c.     Whether There Is a Fixed Maturity Date

       The absence of a fixed maturity date suggests that a

transfer is equity.       American Offshore, Inc. v. Commissioner,

supra at 602.      Swirl’s promissory notes included a fixed maturity

date.    However, respondent points out petitioner agreed to delay

the maturity date of the notes from April 1 to September 15,

1988, and then to October 15, 1988.        Respondent cites Ambassador

Apartments, Inc. v. Commissioner, 50 T.C. 236 (1968), affd. 406

F.2d 288 (2d Cir. 1969) for the proposition that the delay in the
                                  - 14 -

maturity date shows petitioner had no desire to protect his

interest as a creditor, suggesting that the transfer was equity.

In Ambassador Apartments. Inc., the taxpayers transferred assets

to a corporation in exchange for stock and a promissory note.

Id. at 239.      The note required monthly payments of principal and

interest for 10 years and payment of the balance due after 10

years.    Id.    The taxpayer and corporation later agreed to relieve

the corporation of its obligation to pay principal and interest

for 5 years.      Id.   We held that this modification showed that the

transfer was equity.       Id. at 246.

       The facts here are different from those in Ambassador

Apartments.      Petitioner and Swirl changed the maturity date:

There was no obligation to amortize principal.      We believe that

petitioner was interested in protecting his rights as a creditor.

This factor suggests that the transfer was a loan.

            d.    Source of the Payments

       If repayment of principal or interest is required only if

the corporation has earnings, the advance is more likely to be

equity.    Estate of Mixon v. United States, 464 F.2d 394, 405 (5th

Cir. 1972); American Offshore, Inc. v. Commissioner, supra at

602.

       The notes required Swirl to pay petitioner interest each

month and to pay the principal on April 1, 1988.      The note did

not make repayment of principal or interest dependent upon Swirl
                                      - 15 -

having earnings.          This factor suggests that the transfer was a

loan.

             e.      Whether the Party Providing the Funds is Given
                     an Increased Participation in Management

        A taxpayer's payment is more like equity if, in exchange for

it, the taxpayer is given an increased right to participate in

management.        American Offshore, Inc. v. Commissioner, supra at

603.     Petitioner's transfer of $350,000 did not increase his

right to participate in Swirl's management.          This factor suggests

that the transfer was a loan.

             f.         Intent of the Parties

        The intent of the parties may show whether a transfer of

funds was debt or equity.           Ambassador Apartments, Inc. v.

Commissioner, supra at 246.           If a corporation does not make

required payments or a shareholder does not enforce his or her

right to receive payments, an advance appears more like equity

than debt.        Id.

        Petitioner testified that he and Swirl intended the transfer

to be a loan.       Swirl treated the notes as debt on its financial

statements and Federal income tax returns.          Petitioner reported

Swirl's payments as interest income on his tax returns.

        Respondent points out that petitioner did not sue Swirl or

New Swirl to recover amounts due under the notes.          Respondent

contends that this fact and the fact that Swirl did not repay the
                               - 16 -

principal amount of the note show that petitioner's transfer was

equity.   We disagree.

     Petitioner testified that he did not want to spend money and

effort in a futile attempt to collect.    Another reason for not

suing was to avoid problems with Chemical Bank.    Chemical Bank

set the terms by which Sandhurst acquired Swirl.    Gasson

testified that, if petitioner had insisted that Swirl or New

Swirl repay amounts due on the notes, Chemical Bank would have

not agreed to the sale to Sandhurst.    After examining all the

facts, i.e., how petitioner and Swirl treated the advance on

financial statements and tax returns and that petitioner did not

sue on the notes, we conclude that Swirl and petitioner intended

the advance to be loan.    This factor suggests that the transfer

was a loan.

           g.   Whether the Borrower Is Adequately Capitalized

     An advance to a corporation is more likely to be equity if

the corporation is thinly capitalized.    Gilbert v. Commissioner,

248 F.2d 399, 407 (2d Cir. 1957), remanding T.C. Memo. 1956-137;

American Offshore, Inc. v. Commissioner, 97 T.C. at 604.      To

calculate a debt to equity ratio, we compare a corporation’s

total liabilities to its stockholders' equity.     Bauer v.

Commissioner, 748 F.2d 1365, 1369 (9th Cir. 1984), revg. T.C.

Memo. 1983-120.   The difference between assets and liabilities

is stockholders' equity.    Bauer v. Commissioner, supra at 1369.
                               - 17 -

       No specific ratio of debt to equity determines whether a

corporation is adequately capitalized.      2554-58 Creston Corp. v.

Commissioner, 40 T.C. 932, 937 n.3 (1963).     We have held that

debt to equity ratios of 800 to 1, American Offshore, Inc. v.

Commissioner, supra at 604; 205 to 1, 2554-58 Creston Corp. v.

Commissioner, supra at 937; and 123 to 1, Ambassador Apartments

v. Commissioner, supra at 245, showed that an advance was equity.

In Bauer v. Commissioner, supra at 1370, the U.S. Court of

Appeals for the Ninth Circuit held that debt to equity ratios

ranging from 2 to 1 to almost 8 to 1 did not show that advances

were equity.    In Kraft Foods Co. v. Commissioner, 232 F.2d 118,

127 (2d Cir. 1956), the U.S. Court of Appeals for the Second

Circuit held that a debt to equity ratio of .77 to 1 did not show

that advances were equity.

       Swirl's debt to equity ratios were as follows:

Year      Liabilities            Equity             Debt-Equity Ratio
1983       $5,171,502          $2,234,108                2.31 to 1
1984        6,382,277           1,973,577                3.23 to 1
1985        5,876,278           2,075,305                2.83 to 1
1986        6,807,846           1,417,161                4.89 to 1
1987        6,667,408           1,144,964                5.82 to 1

       This chart is based on audited fiscal yearend Swirl

financial statistics.    Based on an unaudited mid-fiscal-year

Swirl balance sheet, respondent contends that Swirl’s debt to

equity ratio was 6.4 to 1 on December 31, 1987.     Even if

respondent's computation is proper, these ratios do not establish
                                - 18 -

that petitioner’s transfer to Swirl was equity.      This ratio is

consistent with holdings that the transfer was a loan.

          h.      Whether Interest is Paid

     A shareholder's failure to insist on receiving interest may

show that his or her relationship to the corporation is more like

that of a shareholder than a creditor.       American Offshore, Inc.

v. Commissioner, supra at 605.     See also Stinnett's Pontiac Serv.

v. Commissioner, 730 F.2d 634, 640 (11th Cir. 1984), affg. T.C.

Memo. 1982-314.

     The promissory notes Swirl exchanged for petitioner's

$350,000 advance required Swirl to make monthly interest payments

based on an interest rate of prime plus 2 ½ percent starting on

November 1, 1986.    Swirl paid interest to petitioner quarterly.

Swirl paid a substantial amount of interest on the notes.

     Respondent contends that the advance was equity because,

from November 1, 1986, to July 2, 1988, Swirl paid interest to

petitioner quarterly instead of monthly, and because Swirl paid

petitioner less than the full amount of the interest it owed on

the notes.     Respondent concedes that Swirl paid petitioner about

two-thirds or three-fourths of the interest it owed petitioner.

Even though Swirl paid only quarterly and did not pay all

required interest, we believe that petitioner was concerned about

and did receive a substantial amount of interest.      This factor

suggests that the transfer was a loan.
                                - 19 -

            i.    The Extent to Which the Advance Is Used To
                  Acquire Capital Assets

       An advance is more like equity if it is used to acquire

capital assets.     Estate of Mixon v. United States, 464 F.2d at

410.    Swirl used the $600,000 transferred by petitioner and his

brother as working capital.    This factor suggests that the

transfer was a loan.

       3.   Factors Which Are Neutral

            a.    Whether an Outside Lender Would Have Lent Funds
                  to the Corporation When The Advance Was Made

       If an outside source would not lend funds to a corporation

when funds are advanced by a shareholder, the advance is more

likely to be equity.     Estate of Mixon v. United States, 464 F.2d

at 410; American Offshore, Inc. v. Commissioner, supra at 605.

If the shareholder's advance was made under terms that are far

more speculative than an outside lender would accept, the advance

is likely to be a loan in name only.     Fin Hay Realty Co. v.

United States, 398 F.2d at 697; Segel v. Commissioner, 89 T.C.

816, 828 (1987).

       Respondent contends that no reasonable lender would lend

money to Swirl when petitioner made the $350,000 advance because

Swirl had losses in 3 of the 4 fiscal years before petitioner

made the advance in 1986, Chemical Bank wanted to end its

lending relationship with Swirl, and Swirl had a working capital

shortfall which created losses of about $1 million from

September 30, 1985, to September 30, 1986.    Respondent also
                               - 20 -

points out that five potential lenders refused to replace

Chemical Bank as Swirl's creditor.      Respondent contends that this

shows that Swirl could not borrow funds from an outside source

when petitioner transferred the $350,000 in October 1986.       We

disagree.    First, Swirl had a profit in 1985, the year preceding

the year petitioner made the advance at issue.     Second, in

September 1986, Chemical Bank told Swirl that it would not

require Swirl to find new financing.     In October 1986, Chemical

Bank executed the new agreement with Swirl.     The execution of the

new agreement shows that Swirl could continue to borrow funds

from an outside lender.

     However, the new agreement with Chemical Bank required

petitioner and his brother to provide $500,000 of working capital

to Swirl.    Petitioner has not shown that an outside lender would

have provided funds to Swirl under the same terms as were

accepted by Petitioner and his brother.     Because Swirl could

borrow funds when petitioner made the advance, but not under the

same terms, we conclude that this factor is neutral.

            b.   Whether Shareholders Provide Funds In Proportion
                 to Their Stock Interest

     An advance is more likely to be equity if it is

proportionate to the shareholder's stock ownership.      Segel v.

Commissioner, supra at 830.    A sharply disproportionate ratio

between a stockholder's percentage stock holdings and debt,

however, may indicate that the advance is debt.      American
                                - 21 -

Offshore, Inc. v. Commissioner, 97 T.C. at 604-605; Leach Corp.

v. Commissioner, 30 T.C. 563, 579 (1958).

     Petitioner and his brother each held 50 percent of Swirl's

stock.    Petitioner advanced $350,000, and his brother advanced

$250,000.    The $350,000 is about 58 percent of $600,000 ($350,000

plus $250,000).    Petitioner's advance was neither proportionate

nor sharply disproportionate to his share of Swirl stock.       This

factor is neutral.

     4.     Factors Which Favor Respondent

            a.    Whether The Loan is Subordinated to Other
                  Obligations

     If repayment of an advance is subordinated to claims of

other creditors, it is more likely to be equity.     American

Offshore, Inc. v. Commissioner, supra at 603; Ambassador

Apartments, Inc. v. Commissioner, 50 T.C. at 246; 2554-58 Creston

Corp. v. Commissioner, 40 T.C. at 937 n.3.     The notes petitioner

received from Swirl were subordinated to the interests of

Chemical Bank.    This factor suggests that the transfer was

equity.

            b.    Whether Swirl Repaid the Amount Advanced When Due

     Subsequent payment history may show whether the recipient

of an advance intended to repay it when it was made.     American

Offshore, Inc. v. Commissioner, supra at 606; see Diamond Bros.

Co. v. Commissioner, 322 F.2d 725, 732 (3d Cir. 1963), affg. T.C.

Memo. 1962-132; Wilbur Sec. Co. v. Commissioner, 279 F.2d 657,
                               - 22 -

662 (9th Cir. 1960), affg. 31 T.C. 938 (1959).   This could be the

case if it appears that the recipient of the transfer treats an

obligation to repay the transfer as less bona fide than its other

obligations, such as, for example, if the recipient of the funds

paid other expenses or made other payments to the person

providing the funds while not repaying the advance at issue.

Swirl did not pay petitioner the principal on the notes, and New

Swirl did not assume petitioner's $350,000 advance as a

liability, even though it bought Swirl’s assets and assumed most

of its liabilities.    This factor suggests that the transfer was

equity.

     5.   Conclusion

     While no single factor controls, according to the

preponderance of the evidence, we hold that petitioner's $350,000

advance was debt.

B.   The Amount of Petitioner’s Bad Debt Deduction for 19884

     1.   Petitioner's Calculation

     Elias calculated petitioner's 1988 bad debt deduction by

netting the face amounts of the facility purchase mortgage, the

May 1985 loan, and the $350,000 October 1986 loan.   Elias first

subtracted $270,000, the amount of the May 1985 loan which Swirl

was required to pay petitioner, from $312,500, the face amount of

the facility purchase mortgage which petitioner owed to Swirl,

     4
      The parties agree that if the advance is debt it became
worthless in 1988.
                               - 23 -

yielding $42,500 that petitioner owed to Swirl.    He then

subtracted the remaining $42,500 from the $350,000 yielding

$307,500.    Petitioner deducted $308,0005 for his bad debt from

Swirl.

     2.     Respondent's Calculation

     Respondent and petitioner used the same three transactions

to calculate petitioner’s 1988 bad debt deduction.    However,

respondent used loan balances from a March 31, 1989, balance

sheet.    Respondent used the $154,175 balance on the facilities

mortgage that petitioner owed to Swirl.    Respondent subtracted

the $94,500 balance on the May 1985 loan that Swirl owed to

petitioner, yielding $59,675 that petitioner owed to Swirl.

Respondent subtracted $59,675 from petitioner’s October 1986

$350,000 loan to Swirl, yielding $290,325.    Thus, respondent

contends that if petitioner had a bad debt, then petitioner may

deduct only $290,325.

     3.     Analysis

     The following compares petitioner’s and respondent’s

computations:




     5
       Petitioner apparently made a $500 error, which he has not
explained.
                                - 24 -

                            Petitioner’s          Respondent’s
     Transaction            Calculation           Calculation

Facilities mortgage          ($312,500)            ($154,175)
May 1985 loan                  270,000                94,500
October 1986 loan              350,000               350,000

Net amount owed to
  petitioner                   307,500               290,325

      We disagree with both parties’ calculations in part because

they used improper amounts for the facilities mortgage and the

May 1985 loan.     We disagree with petitioner’s calculation because

petitioner used the original face amounts of the loans.         We

disagree with respondent’s calculation because respondent used

balances on March 31, 1989.    The parties should have used the

balances on December 31, 1988.

      We would conclude that petitioner might deduct as a bad debt

for 1988, the net amount of the balances on December 31, 1988, of

the facilities mortgage, May 1985 loan, and October 1986 loan if

the record included those amounts.       However, it does not.

Petitioner has the burden of proof on this issue.       Rule 142(a);

Welch v. Helvering, 290 U.S. 111, 115 (1933).       Thus, we limit

petitioner's deduction to $290,325.

C.    Whether Petitioner Is Liable for the Addition to Tax
      for Failure To File

      Respondent determined that petitioner is liable for the

addition to tax under section 6651(a)(1) for not timely filing

his tax return.    A taxpayer is not liable for this addition to

tax if he or she shows that the failure to file was due to
                               - 25 -

reasonable cause and not willful neglect.   Sec. 6651(a)(1).

Reasonable cause means that the taxpayer exercised ordinary

business care and prudence, but could not timely file the return.

Sec. 301.6651-1(c)(1), Proced. & Admin. Regs.

     Petitioner contends that he had reasonable cause for not

filing by October 15, 1989, because he did not have his financial

records until July 1990.   We have held that an illness which kept

taxpayers from their records was reasonable cause for late

filing.   Hayes v. Commissioner, T.C. Memo. 1967-80.   However,

here, petitioner did not claim illness or similar reason for not

having his records.   Rather, he testified that his records were

in storage in a room about 6 feet high, 7 feet wide and 9 feet

long, packed with furniture and boxes.   He looked for the box,

but did not find it until he moved everything out of the storage

area in July 1990.    He had his records in storage since May 1989.

Petitioner did not explain why there was a 3-month delay between

when he found his records (July 1990) and when he filed his

return (October 1990).

     Petitioner contends that he had reasonable cause for not

filing earlier because he believed that he would get a refund.

We have held that a taxpayer's failure to timely file a return

because he or she believed no taxes were due is not reasonable

cause under section 6651(a)(1).    Colbert v. Commissioner, T.C.

Memo. 1992-30; Worm v. Commissioner, T.C. Memo. 1980-481;

Armaganian v. Commissioner, T.C. Memo. 1978-305; Fox v.
                             - 26 -

Commissioner, T.C. Memo. 1975-64; Lowe v. Commissioner, T.C.

Memo. 1955-150.

     We hold that petitioner is liable for the addition to tax

for failure to timely file his 1988 tax return.

     To reflect the foregoing and concessions,


                                           Decision will be entered

                                      under Rule 155.
