                        T.C. Memo. 2011-196



                      UNITED STATES TAX COURT



    PETER J. VAN WICKLER AND LAURIE E. JANAK, Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent

              PETER J. VAN WICKLER, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket Nos. 24090-07, 24140-07.       Filed August 15, 2011.



     Peter J. Van Wickler and Laurie E. Janak, pro sese.

     Matthew A. Houtsma, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     FOLEY, Judge:   The issues for decision are whether

petitioners are entitled to deduct various expenses and liable

for section 6662(a) accuracy-related penalties.1

     1
      Unless otherwise indicated, all section references are to
                                                   (continued...)
                               - 2 -

                         FINDINGS OF FACT

     From 1997 to 2003, Peter J. Van Wickler managed construction

of cellular towers.   Mr. Van Wickler earned stock options, which

he exercised in 2000 and 2001, resulting in income of

approximately $2,700,000.   In 2000, after divorcing his first

wife and paying her a significant portion of his newly acquired

wealth, Mr. Van Wickler aggressively sought income-generating

opportunities.

     In October 2002, John Bristol, Mr. Van Wickler’s coworker,

introduced Mr. Van Wickler to ClassicStar, LLC (ClassicStar), a

company that marketed horse breeding activities to high-net-worth

individuals.   ClassicStar touted its history of producing

profitable horses as well as the tax benefits of its mare lease

program.   ClassicStar described its mare lease program as the

“ultimate tax solution” and asserted that the government

encouraged these types of investments because horse racing

generated Federal and State tax revenues.

     On October 30, 2002, Paul Bangerter, a ClassicStar

representative, sent Mr. Van Wickler the Due Diligence and Mare

Lease Information Booklet (ClassicStar materials), which

contained information about ClassicStar, the mare lease program,



     1
      (...continued)
the Internal Revenue Code in effect for the years in issue, and
all Rule references are to the Tax Court Rules of Practice and
Procedure.
                               - 3 -

and favorable tax opinions.   The ClassicStar materials described

the mare lease program as follows:

     Through ClassicStar’s Mare Lease Business you can lease the
     reproductive capacity of a Thoroughbred mare for a breeding
     season. The mare is bred to a quality stallion, and the
     resulting offspring, the foal, belongs to the lessee. Once
     the foal is born, the breeder has a number of options,
     including selling the foal as a weanling, a yearling, or a
     two-year-old; training and racing the foal; or even doing a
     like-kind, tax-free exchange.

The ClassicStar materials further provided that all of the

expenses would be paid up front with loan proceeds, the investor

would claim tax deductions, the resulting net operating losses

(NOLs) could be carried back to previous years, the investor

would collect refunds of previously paid Federal and State taxes,

and the refunds could be used to repay the loans.

     On October 30, 2002, ClassicStar sent Mr. Van Wickler tables

delineating profit projections of the mare lease program,

explaining the conversion of the investment to oil and gas

interests, and calculating the amount of NOLs needed for Mr. Van

Wickler to obtain a refund of Federal and State income taxes paid

over the previous 3 years (i.e., $2,689,943 of NOLs).

     Mr. Van Wickler believed that he could make a profit through

his investment in the mare lease program.   He researched

ClassicStar and engaged Doug Page, a certified public accountant

(CPA), to review the ClassicStar materials.   Mr. Page then

discussed with Mr. Van Wickler the need for further assurances

that the mare lease program could withstand Internal Revenue
                               - 4 -

Service (IRS) scrutiny, and, after speaking with Terry Green, Mr.

Page was convinced that it could.   At the time, Mr. Page believed

that Mr. Green, a CPA, was independent of ClassicStar.

     Mr. Van Wickler financed his entire investment in the mare

lease program with three loans.   On December 30, 2002, Mr. Van

Wickler executed, with National Equine Lending Co. (NELC), a 6-

month $1,124,188 promissory note (short-term loan) and a 41-month

$1,344,972 promissory note (long-term loan).   ClassicStar

representatives instructed Mr. Van Wickler to obtain the loans

from NELC.   Mr. Van Wickler did not submit an application for the

loans, which were unsecured and were not signed for by an NELC

representative.   To satisfy the cash contribution requirement of

the mare lease program (cash contribution loan), Mr. Van Wickler

obtained a third loan of $220,784 from Logan Richards, LLC.    Mr.

Bangerter and Larry McNeill operated Logan Richards, LLC, and, in

lieu of loan interest, took a 15-percent interest in Mr. Van

Wickler’s profits in the mare lease program.   Mr. Van Wickler,

Mr. Bangerter, and Mr. McNeill orally agreed that if Mr. Van

Wickler or Mr. Page did not believe, after a scheduled January

2003 meeting, that the mare lease program was legitimate, Mr. Van

Wickler’s money would be refunded and he could cancel the deal.

In addition, if ClassicStar were to go out of business, Mr. Van

Wickler would not be liable for the outstanding balance on the

short-term and long-term loans.   Mr. Van Wickler, Mr. Green, and
                               - 5 -

Mr. Bangerter orally agreed that no interest would be due on the

long-term loan until the horses and oil and gas interests were

sold.

     Also on December 30, 2002, Mr. Van Wickler, “as managing

member of Bent Rock Farms, LLC,” executed with ClassicStar a Mare

Lease and Breeding Agreement, a Boarding Agreement, a Foal

Agreement, and a Nominee Agreement.    In the Mare Lease and

Breeding Agreement, Mr. Van Wickler agreed to lease mares for 8

months for a $1,488,500 fee, to pay a $715,500 stallion service

fee, and to pay a $350,944 prospective foal insurance (PFI)2 fee.

The schedule setting forth the mares and stallions to be leased

was blank.   In the Boarding Agreement, Mr. Van Wickler agreed to

pay a fee of $135,000 for board and care services of Mr. Van

Wickler’s leased mares for 1 year beginning on November 1, 2002.

The Boarding Agreement was silent as to the identity or number of

leased mares subject to the agreement.

     On January 14, 2003, Mr. Van Wickler and Mr. Page met with

several ClassicStar representatives and ClassicStar’s president.

Following the meeting, Mr. Page told Mr. Van Wickler that he

believed the mare lease program was a high-risk, high-reward

investment and reiterated his belief that it could withstand IRS




     2
      Prospective foal insurance covers the risk that an unborn
foal will not survive.
                                - 6 -

scrutiny if Mr. Van Wickler materially participated in the

program.

     On January 23, 2003, Mr. Van Wickler created Bent Rock

Farms, LLC, to invest in ClassicStar.    Also on that date,

ClassicStar sent Mr. Van Wickler a letter stating that the

proceeds from the short-term loan, the long-term loan, and the

cash contribution loan paid for $135,000 of board and mare care

expenses, $350,944 of PFI, $715,500 of breeding fees, and

$1,488,500 of mare lease expenses.

     On February 5, 2003, Mr. Van Wickler paid the balance of the

cash contribution loan.    From April to August 2003, Mr. Van

Wickler made payments of $1,124,188 to NELC relating to the

short-term loan.

     ClassicStar informed Mr. Van Wickler that he had been

assigned breeding pairs.    Throughout the lease term, ClassicStar

substituted horses in and out of Mr. Van Wickler’s breeding

pairs.   At the time he committed to invest in ClassicStar, Mr.

Van Wickler, who was unaware of which horses he had leased,

believed that all the ClassicStar horses were thoroughbreds.    The

only thoroughbreds named on the lists of Mr. Van Wickler’s

breeding pairs, however, were the mare Avenue of Gold and the

stallion Fusaichi Pegasus.    Mr. Van Wickler’s pairings resulted

in only one foal.   Virtually all of the remaining horses listed
                               - 7 -

were quarter horses, which were considerably less valuable than

thoroughbreds.

     In 2004, ClassicStar provided Mr. Van Wickler with several

charts which delineated Mr. Van Wickler’s breeding pairs, mare

lease fees, stallion breeding fees, mare boarding expenses, PFI

costs, total costs to produce a foal, and future expenses.    The

number of horses, breeding pairs, mare lease fees, stallion

breeding fees, and PFI costs for particular horses varied among

the charts.   For example, in 2003, Lita May, who was sold for

$350, had a lease fee of $260,723 on one chart and a lease fee of

$185,000 on another chart.   Two of the charts reflected that the

total cost to produce nine foals was $2,689,944, but totals of

mare lease fees, stallion breeding fees, and PFI costs differed

from list to list (e.g., the total mare lease fee ranged from

$1,352,500 to $2,052,104 and the total stallion breeding fee

ranged from $99,350 to $853,600).   The mare lease fees for each

mare ranged from $95,000 to $377,863 and the stallion breeding

fees for each stallion ranged from $5,650 to $250,000.   Mare

boarding expenses were listed at $15,000 per horse on each chart.

     In 2003, Mr. Van Wickler timely filed his 2002 Federal

income tax return on which he claimed $2,691,4053 in expenses and


     3
      Mr. Van Wickler itemized the horse-related expenses on his
Schedule F, Profit or Loss From Farming, of the 2002 return as
follows: $454 in car and truck expenses, $350,944 in insurance
expenses, $1,488,500 in other expenses, $135,000 in board and
                                                   (continued...)
                                - 8 -

reported NOLs and zero horse breeding activity income (2002

return).   In 2003, Mr. Van Wickler filed amended 2001 and 2002

Federal income tax returns on which he carried back NOLs relating

to 2002.   In 2004, Mr. Van Wickler and Laurie E. Janak4 timely

filed a 2003 joint Federal income tax return on which they

reported zero income and $46,032 of miscellaneous expenses

relating to the horse breeding activity (2003 return).

     On July 17, 2007, respondent issued Mr. Van Wickler a notice

of deficiency relating to 2000, 2001, and 2002.   On the same day,

respondent issued Mr. Van Wickler and Ms. Janak a notice of

deficiency relating to 2003.   The notices of deficiency

disallowed all horse breeding activity expense deductions and

resulting NOLs and imposed section 6662(a) accuracy-related

penalties.   On October 19, 2007, petitioners, while residing in

Colorado, filed their petitions with the Court.

                               OPINION

     Respondent contends that Mr. Van Wickler is not entitled to

deduct horse breeding expenses because Mr. Van Wickler was not in

the trade or business of horse breeding and, alternatively, that




     3
      (...continued)
mare care expenses, $715,500 in breeding fees, and $1,007 in
travel expenses.
     4
      Laurie E. Janak signed the 2003 joint Federal income tax
return but had no involvement with the matters at issue.
                                 - 9 -

the expenses relating to the horse breeding activity are

unreasonable and therefore not deductible.5

     Mr. Van Wickler was not involved in the horse breeding

activity with continuity or regularity.     See Commissioner v.

Groetzinger, 480 U.S. 23, 35 (1987).     He did not manage or

control the day-to-day operations of the activity, did not know

which horses he leased, and did not negotiate contract terms or

fees relating to the activity.    Thus, he was not, pursuant to

section 162, carrying on a trade or business.     While Mr. Van

Wickler does not meet the requirements of section 162, we must

determine whether his investment meets the requirements of

section 212.   Section 212 does not have a trade or business

requirement and allows an individual to deduct ordinary and

necessary expenses incurred in activities entered into for the

production of income.   See sec. 212; Snyder v. United States, 674

F.2d 1359, 1364 (10th Cir. 1982).    To be “ordinary and

necessary”, expenses must be “reasonable in amount and must bear

a reasonable and proximate relation to the production or

collection of taxable income”.    Sec. 212; sec. 1.212-1(d), Income

Tax Regs.


     5
      Pursuant to sec. 7491(a), Mr. Van Wickler has the burden of
proof unless he introduces credible evidence relating to the
issue that would shift the burden to respondent. See Rule
142(a). Our conclusions, however, are based on a preponderance
of the evidence, and thus the allocation of the burden of proof
is immaterial. See Martin Ice Cream Co. v. Commissioner, 110
T.C. 189, 210 n.16 (1998).
                                - 10 -

     To determine whether an expense is reasonable in amount, we

must first determine the amount of the expense.    Neither Mr. Van

Wickler, nor we, could ascertain which horses Mr. Van Wickler

leased.   On January 23, 2003, ClassicStar provided Mr. Van

Wickler with a summary of expenses which he reported on his 2002

return.   In 2004, ClassicStar provided Mr. Van Wickler with more

detailed expense reports which were vastly different from the

previous year’s summary.   The expense reports set forth a myriad

of expenses but were inconsistent and contradictory and did more

to obfuscate than to clarify.    We cannot conclude that the

amounts paid for various services were reasonable if neither we,

nor Mr. Van Wickler, know the amounts of those expenses.    A

deduction cannot stand on so flimsy a foundation.    Luman v.

Commissioner, 79 T.C. 846, 859 (1982).    Even if we concluded that

a portion of Mr. Van Wickler’s payments was made, pursuant to

section 212, for allowable ordinary and necessary expenses, the

record fails to provide a rational basis by which we could

allocate deductible and nondeductible expenses.    See Epp v.

Commissioner, 78 T.C. 801, 806 (1982).    An allocation of a

portion of the payment would be “speculative, amounting to

‘unguided largesse.’”   Luman v. Commissioner, supra at 859

(quoting Williams v. United States, 245 F.2d 559, 560 (5th Cir.

1957)).   Accordingly, Mr. Van Wickler is not entitled to deduct

expenses relating to the horse breeding activity.
                                - 11 -

     Respondent determined that Mr. Van Wickler is liable for

section 6662(a) accuracy-related penalties.       Section 6662(a)

imposes a penalty equal to 20 percent of the amount of any

underpayment attributable to various factors including negligence

or a substantial understatement of income tax.       See sec.

6662(b)(1) and (2).    Negligence includes any failure to make a

reasonable attempt to comply with the law or maintain adequate

books and records.     Sec. 6662(c); sec. 1.6662-3(b)(1), Income Tax

Regs.   An understatement is substantial if it exceeds the greater

of $5,000 or 10 percent of the tax required to be shown on the

return.   Sec. 6662(d)(1)(A).   Although Mr. Van Wickler

substantially understated his income tax, section 6664(c)(1)

provides that no penalty shall be imposed if there was reasonable

cause for the underpayment and the taxpayer acted in good faith.

     The determination of whether a taxpayer acted with

reasonable cause and in good faith depends upon the facts and

circumstances.   See sec. 1.6664-4(b)(1), Income Tax Regs.

Reliance on professional advice qualifies as reasonable cause and

good faith if the reliance was reasonable and the taxpayer acted

in good faith.   Id.    Mr. Van Wickler recognized his unfamiliarity

with tax law and approached Mr. Page, a CPA, to analyze the tax

aspects of the mare lease program.       Mr. Page reviewed the

ClassicStar materials including the tax opinions, attended a

presentation with ClassicStar executives, spoke with another tax
                               - 12 -

professional about the ClassicStar program, and prepared the tax

returns at issue.    Mr. Van Wickler lacked experience and

knowledge of tax law, and sought advice from Mr. Page, who was

duped by ClassicStar’s materials and representatives.    We

conclude that Mr. Van Wickler in good faith took reasonable

efforts to assess his proper tax liability and reasonably relied

on Mr. Page’s expertise.    See Freytag v. Commissioner, 89 T.C.

849, 888 (1987), affd. 904 F.2d 1011 (5th Cir. 1990), affd. 501

U.S. 868 (1991); sec. 1.6664-4(b)(1), Income Tax Regs.

Accordingly, he is not liable for the section 6662(a) accuracy-

related penalties.

     Contentions we have not addressed are irrelevant, moot, or

meritless.

     To reflect the foregoing,


                                          Decisions will be entered

                                     under Rule 155.
