                         T.C. Memo. 2007-51



                       UNITED STATES TAX COURT



                    LOAD, Inc., Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent

                    COAD, Inc., Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket Nos. 7287-02, 7294-02.     Filed March 6, 2007.



     John F. Daniels III, Julio M. Zapata, and Eric J. Boyd, for

petitioners.

     Charles B. Burnett, for respondent.



               MEMORANDUM FINDINGS OF FACT AND OPINION

     SWIFT, Judge:    Respondent determined deficiencies in

petitioners’ Federal income taxes for their separate taxable

years ending September 30, 2000, as follows:
                              - 2 -
               Petitioner             Deficiency

               LOAD, Inc.              $16,589

               COAD, Inc.              $23,954


     Unless otherwise indicated, all section references are to

the Internal Revenue Code in effect for the year in issue.

     The issue for decision is whether certain costs relating to

manufactured homes that petitioners owned and placed on retail

sales lots in order to assist local independent salespersons in

the sale of manufactured homes may be currently deducted under

section 162 as ordinary and necessary business expenses or

whether they should be included under section 263A in

petitioners’ inventory costs relating to the manufactured homes.

     Petitioners and 18 other related corporations are either

subsidiaries of, or sister corporations to, Associated Dealers,

Inc. (ADI), a Nevada corporation.

     ADI and 12 of ADI’s related corporations also have filed

petitions with the Court relating to the same expense versus

inventory issue that is involved herein,1 and respondent, ADI,

and the other related petitioners have agreed to be bound by the

final outcome of this issue in these two consolidated cases.




     1
        The related docket numbers are: 7283-02, 7284-02, 7285-
02, 7286-02, 7288-02, 7289-02, 7290-02, 7291-02, 7292-02,
7293-02, 7295-02, 7296-02, and 7297-02.
                              - 3 -
     Hereinafter, we generally use the acronym ADI

indiscriminately to refer to petitioners, to ADI, and to the ADI-

related corporations.


                        FINDINGS OF FACT

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

     At the time the petitions were filed, both petitioners’

principal places of business were located in Reno, Nevada.

     ADI and its related corporations buy and sell manufactured

homes in the same manner.

     Manufactured homes are constructed at a factory location and

are then transported directly to homesites of retail purchasers.

     ADI has been selling manufactured homes for more than 30

years, and ADI has become the largest seller of manufactured

homes in Arizona and one of the largest sellers of manufactured

homes in the Southwestern United States.   In recent years, ADI

has expanded its sales of manufactured homes to 192 locations in

22 states.

     From the 1970s through the late 1990s, ADI purchased

completed manufactured homes from unrelated manufacturers and

sold the manufactured homes directly to retail customers using

individual salespersons who worked for ADI as employees.

     In the late 1990s, however, as a result of a significant

decline in business and excessive costs such as employee wages

and commissions, a number of manufacturers of manufactured homes
                                 - 4 -
closed factories, and many sellers of manufactured homes went out

of business.

        To adjust to the changing market conditions and to reduce

costs, in approximately 1999 ADI adopted a revised business plan

and restructured its sales operation.     Under ADI’s revised

business plan, ADI’s salespersons are given a more active role in

the sales activities and act as independent contractors vis-a-vis

ADI.2

        Under the agreements ADI enters into with the independent

salespersons, ADI purchases from manufacturers a number of model

manufactured homes and places the model manufactured homes on

retail sales lots that ADI leases for the purpose of displaying

the manufactured homes to the public and to potential retail

customers.

        The retail sales lots that ADI leases generally are located

in prominent, high traffic areas -- either the same sales lots

ADI had leased and used in prior years or new sales lots.       These

lots are not leased by ADI as storage lots, but rather the lots

are leased by ADI as sales lots for the sale of manufactured

homes.




        2
       The independent salespersons who contract with ADI
generally incorporate their individual sales activities. For
purposes of our opinion, however, we refer only to the
independent salespersons, not to their corporations.
                               - 5 -
     ADI places the model manufactured homes on the sales lots to

attract public attention, to provide an opportunity for

interested retail customers to inspect the types of manufactured

homes that are available for purchase, and in order that the

independent salespersons have manufactured homes on the sales

lots to show to customers.

     On any one sales lot, ADI generally places on display six to

seven model manufactured homes that ADI has purchased from

manufacturers, each with different features and floor plan.

     During their inspection of ADI model manufactured homes,

retail customers generally are accompanied by one of the

independent salespersons who has contracted with ADI.   The

independent salespersons discuss with customers the advantages of

manufactured homes, the various features of the model homes that

are on display and that can be custom ordered, and they seek to

convince the customers to purchase a manufactured home.

     Once a retail customer decides to purchase a manufactured

home, the customer and the independent salesperson fill out a

written purchase agreement and bill of sale on which they

indicate which floor plan, appliances, and other features and

colors are to be included in the particular manufactured home

that is being purchased.   On the purchase agreement and bill of

sale, the customer is shown as purchasing the manufactured home

from the independent salesperson.   The independent salesperson
                               - 6 -
then submits to ADI the customer’s purchase agreement and bill of

sale.

     The retail selling prices of the manufactured homes appear

to range from approximately $30,000 to more than $115,000.

     Upon receipt by ADI of a customer’s purchase agreement and

upon approval of the customer’s financing, if any, ADI forwards

its own written purchase order to the specified manufacturer for

construction of the manufactured home that has been ordered.

     Upon completion of the manufactured home -- generally within

2 to 3 weeks -- the manufactured home is shipped directly by the

manufacturer to the retail customer’s homesite for installation

and occupancy.

     If a customer’s homesite is not ready for delivery (e.g., if

the occupancy permit has not been issued or if the utility

hookups for the home have not been completed), the completed

manufactured home may be delivered to one of ADI’s nearby sales

lots until the customer’s homesite is ready for installation of

the manufactured home.   In this latter situation, the length of

time the completed and sold manufactured home remains on ADI’s

sales lots varies from a few days to several months depending on

how long it takes for the customer’s homesite to be completed.

     Under the written contracts that are entered into (between

ADI and the manufacturers, between the independent salespersons

and ADI, and between retail customers and the independent
                               - 7 -
salespersons), upon completion the manufactured homes are sold by

the manufacturers to ADI, by ADI to the independent salespersons,

and by the independent salespersons to the retail customers.

     Of manufactured homes sold by ADI, approximately 90 percent

are custom ordered by retail customers based on the decisions and

selections customers make in their discussions and negotiations

with the independent salespersons and while inspecting ADI’s

model manufactured homes on the sales lots.

     Approximately 10 percent of the manufactured homes sold by

ADI consist of the model manufactured homes that are purchased by

retail customers right off of the sales lots, after negotiating

with the independent salespersons.

     ADI sells the manufactured homes to the independent

salespersons for the same wholesale price which ADI pays the

manufacturers for the manufactured homes.   The independent

salespersons set the price markup at which the manufactured homes

are sold to retail customers, subject of course to negotiations

with the customers.

     Generally, title to manufactured homes that are custom

ordered by retail customers and that are shipped directly to the

customers’ homesites is held by ADI and by the independent

salespersons only briefly.   The record is not clear as to exactly

when title passes and as to who has title to the manufactured

homes during the delivery process.
                               - 8 -
     During the time they are located on the sales lots that ADI

leases, model manufactured homes are owned by and titled to ADI.

     The independent salespersons, not ADI, are responsible for

local media advertising costs, wages, if any, paid to sales

assistants, sales commissions, sales taxes, and utility fees and

insurance premiums on the sales lot.

     As indicated, ADI enters into the sales lot lease agreements

with owners of the real property, and ADI, not the independent

salespersons, makes the lease payments due on these leases.

     Also, ADI pays some miscellaneous costs relating to the

model manufactured homes that are placed on the sales lots.

     For the majority of its income relating to the purchase and

sale of manufactured homes, ADI receives various incentive

payments from the manufacturers and from lenders (e.g., on each

manufactured home sold ADI might receive a cash incentive payment

from the manufacturer of 10 percent of the total purchase price

paid to the manufacturer).   Incentive payments that ADI receives

are referred to in the record as “retail” incentives, and it

appears that these payments represent incentives typically given

by manufacturers and lenders to retail sellers of manufactured

homes.

     ADI also receives from the independent salespersons a $300

processing fee for each manufactured home sold.
                               - 9 -
     The independent salespersons do not receive wages, salary,

sales commissions, or other fees or incentives from ADI or from

the manufacturers or lenders relating to manufactured homes that

are sold.   Rather, for their income the independent salespersons

retain 100 percent of the retail price markup from the

manufacturer’s wholesale price.

     In the written agreements ADI enters into with the

independent salespersons, the independent salespersons expressly

give up their right to receive any of the manufacturers’ retail

incentive payments and acknowledge that ADI is to receive all

incentive payments.

     On petitioners’ timely filed corporate Federal income tax

returns for their tax year ending September 30, 2000, petitioners

deducted, among other things, as section 162 ordinary and

necessary business expenses $243,350 in sales lot lease payments

and $22,387 in miscellaneous expenses incurred during the year.

The $22,387 miscellaneous expenses consist of $16,184 ADI paid to

ship model manufactured homes from closed sales lots to other

sales lots, $3,423 ADI paid to avoid a sheriff’s seizure relating

to delinquent State taxes a former independent salesperson had

not paid, $2,500 ADI paid for repairs on a model manufactured

home, and $280 ADI paid for cleaning a water-damaged carpet in a

model manufactured home.
                             - 10 -
     On audit, respondent determined that the above costs were

not currently deductible by petitioners under section 162 as

ordinary and necessary business expenses but instead should be

included under section 263A in petitioners’ inventory costs of

the manufactured homes.


                             OPINION

     Generally, under section 263A(a) and (b), indirect costs

allocable to inventory acquired for resale are not currently

deductible and are to be included in inventory.3

     Regulations promulgated under section 263A expressly include

transportation, rent, taxes, and repair and maintenance costs

relating to property held for resale as examples of indirect

costs to be included in inventory.    Sec. 1.263A-1(e)(3)(ii)(G),

(K), (L), (O), Income Tax Regs.

     Also, costs associated with storing property held for resale

generally are to be included in inventory.   Sec. 1.263A-

1(e)(3)(ii)(H), Income Tax Regs.

     However, under section 1.263A-1(e)(3)(iii)(I), Income Tax

Regs., storage costs relating to inventory which are incurred by




     3
       Although residential homes constructed on-site for resale
generally are not treated as inventory and costs associated
therewith are to be capitalized under sec. 263A(a)(1)(B),
manufactured homes, as long as they have not become fixtures to
real property, are treated as personal property, and costs
associated therewith are subject to inventory treatment under
sec. 263A(a)(1)(A). See, e.g., Murray v. Zerbel, 764 P.2d 1158,
1161 (Ariz. Ct. App. 1988)
                              - 11 -
a taxpayer at an “on-site storage facility” are excepted from

inclusion in inventory.

     An on-site storage facility is defined in the regulations as

a storage facility that is physically attached to and that is an

integral part of a “retail sales facility”.   Sec. 1.263A-

3(c)(5)(ii)(A), Income Tax Regs.

     A “retail sales facility” is further defined as the location

at which merchandise is sold “exclusively to retail customers in

on-site sales”.   Sec. 1.263A-3(c)(5)(ii)(B)(1), Income Tax Regs.

     With an exception not here relevant, a retail customer is

defined as the final purchaser of merchandise and does not

include a person who resells the merchandise to others.   Sec.

1.263A-3(c)(5)(ii)(E)(1), Income Tax Regs.

     If a storage facility does not meet the above definition of

an on-site storage facility, it is considered an “off-site

storage facility,” and storage costs relating to property held

for resale are to be included in the taxpayer’s inventory.     Sec.

1.263A-3(c)(5)(ii)(F), Income Tax Regs.

     Under section 1.263A-1(e)(3)(iii)(A), Income Tax Regs.,

another exception is provided to the inventory requirement of

section 263A for “marketing, selling, advertising, and

distribution costs” relating to property held for resale.

     ADI argues that the costs in question qualify as marketing,

selling, or distribution costs of property held for resale that
                             - 12 -
are excepted from inventory and, alternatively, that by virtue of

its ownership and placement of model manufactured homes on the

retail sales lots ADI participates directly in the sales of the

manufactured homes to retail customers, and therefore that ADI’s

leased sales lots should be treated as “on-site” storage

facilities and the various costs in dispute should be treated as

on-site storage costs that are excepted from inventory.

     Respondent argues that for ADI the costs in question do not

constitute deductible marketing, selling, or distribution costs,

and that (assuming the lot lease payments may be treated as

storage costs) the lot lease payments do not constitute “on-site”

storage costs because the manufactured homes are sold by ADI to

the independent salespersons and not “exclusively” to retail

customers.

     We first address ADI’s alternative argument.   As noted, the

applicable regulations relating to on-site storage costs

expressly state that to be excepted from inventory treatment on-

site storage costs must relate to property sold by a taxpayer

“exclusively” to retail customers.    Sec. 1.263A-3(c)(5)(ii)(B),

Income Tax Regs.

     On the record before us and although ownership of the

manufactured homes by the independent salespersons appears to be

brief and rather transitory, we are not prepared to overlook the

role of the independent salespersons who clearly have a
                              - 13 -
significant role in the sales of the manufactured homes to retail

customers and who, at some point and for a period of time not

established in the record, actually take title to the

manufactured homes.

     We conclude that although ADI participates in the sale of

the manufactured homes to the retail customers, ADI does not sell

the manufactured homes exclusively to the retail customers (i.e.,

ADI’s sale and title transfer occurs from ADI to the independent

salespersons).   Accordingly, the costs in question do not qualify

for the section 1.263A-1(e)(3)(iii)(I), Income Tax Regs.

exception from inventory for on-site storage costs.

     Further, we reject ADI’s attempt to recharacterize the costs

in question as deductible marketing, selling, or distribution

costs that would be excepted from inventory under section 1.263A-

1(e)(3)(iii)(A), Income Tax Regs.

     The evidence establishes that the $243,350 in question

constitutes lot lease payments, the $16,684 in question

constitutes transportation costs, the $3,423 in question

constitutes State taxes, the $2,500 in question constitutes

repair expenses, and the $280 in question constitutes maintenance

costs, all specifically required to be included in inventory

under section 1.263A-1(e)(3)(ii)(G), (K), (L) and (O), Income Tax

Regs.   None of the expenses in question constitutes a marketing
                             - 14 -
or distribution expense, and none is currently deductible as an

ordinary and necessary business expense under section 162.

     To reflect the foregoing,


                                        Decisions will be entered

                                   for respondent.
