                        T.C. Memo. 1998-421



                     UNITED STATES TAX COURT



        CHAD A. AND KATHERINE J. LINCOLN, Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 10861-97.                Filed November 24, 1998.



     Chad A. and Katherine J. Lincoln, pro sese.

     Ronald G. Dong, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     THORNTON, Judge:   Respondent determined a deficiency of

$55,814 in petitioners' 1993 Federal income tax and a $11,163

accuracy-related penalty under section 6662(a).    Unless otherwise

indicated, all section references are to the Internal Revenue
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Code in effect for the year at issue, and all Rule references are

to the Tax Court Rules of Practice and Procedure.

     The issues for decision are:    (1) Whether petitioners are

required to include in income capital gain from the sale of

investment property; (2) whether certain interest payments and

taxes that petitioners reported as Schedule E deductions from

rental real estate income should be redesignated as Schedule A

itemized deductions; and (3) whether petitioners are liable for

an accuracy-related penalty pursuant to section 6662(a).


                          FINDINGS OF FACT

     The parties have stipulated some of the facts, which are so

found.   The stipulation of facts is incorporated herein by this

reference.    At the time the petition was filed, petitioners were

husband and wife whose primary residence was in Carmel,

California.

      On July 12, 1976, petitioners purchased a house in Pacific

Grove, California, for $48,351.    They resided in this house for

approximately 4 years before converting it into rental property.

     On April 7, 1992, petitioners purchased a 5-acre lot in Big

Sur, California, for $160,316.    Their purchase offer contained no

contingencies.   Borrowing against a personal line of credit,

petitioners paid the seller of the property, Marcia D’Esopo,

$35,316 as a cash downpayment and assumed a note for the balance

of the purchase price.   In July 1992, petitioners began work to
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construct a house on the Big Sur property.    The house was

completed in August 1994, and petitioners commenced using it as a

rental property.

     In the meantime, on March 16, 1993, petitioners sold the

Pacific Grove property to Allen and Marla Elvin (the Elvins) for

$228,668.    The Elvins entered into an agreement with petitioners

whereby, upon the closing of a Chicago Title Company escrow

account, the money consideration for the Pacific Grove property

would be deposited into an account that petitioners opened at

Provident Central Credit Union for this purpose.    After the sales

proceeds were deposited, petitioners directed Provident Central

Credit Union to make payments by cashier’s check to contractors

hired to make improvements on the Big Sur property.    In addition,

petitioners directed Provident Central Credit Union to reimburse

petitioner husband for the downpayment on the Big Sur property

and for expenses incurred to improve it.     Statements from the

Provident Central Credit Union account were sent directly to

petitioners’ home address.   Petitioners had sole authority to

withdraw funds and make payments from the account.

     Petitioners did not report any gain on the sale of the

Pacific Grove property on their joint 1993 Federal income tax

return, nor did their return include a Form 8824, Like-Kind

Exchanges.
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     In the notice of deficiency, respondent determined that

petitioners failed to meet the requirements for a section 1031

exchange and included in petitioners’ income capital gain from

the sale of the Pacific Grove property.    Respondent also

reallocated certain interest and tax expenses attributable to the

Big Sur property from Schedule E (expenses of rental real estate)

to Schedule A (itemized deductions).


                             OPINION

Section 1031 Exchange

     Generally, a taxpayer must recognize the entire amount of

gain or loss on the sale or exchange of property.    Sec. 1001(c).

Section 1031(a)(1) contains an exception to this general rule:


          (1) In general.--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 such property is exchanged
     solely for property of like kind which is to be held either
     for productive use in a trade or business or for investment.


     The purpose of section 1031 is to defer recognition of gain

or loss when an exchange of like-kind property takes place

between a taxpayer and another party.     Coastal Terminals, Inc. v.

United States, 320 F.2d 333, 337 (4th Cir. 1963).    The basic

reason for this tax treatment is that the exchange does not

materially alter the taxpayer’s economic situation, the property

received in the exchange being viewed as a continuation of the

old investment still unliquidated.     Koch v. Commissioner, 71 T.C.
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54, 63 (1978).   Eligibility for this treatment is circumscribed

by a number of specific statutory requirements.    For purposes of

this case, we need be concerned only with the threshold

requirement that there be an “exchange” of property.    We hold

that petitioners’ transactions did not constitute an exchange.

     An exchange ordinarily requires a “reciprocal transfer of

property, as distinguished from a transfer of property for a

money consideration only”.   Sec. 1.1002-1(d), Income Tax Regs.    A

sale for cash does not constitute an exchange even though the

cash is immediately reinvested in like property.    Coastal

Terminals, Inc. v. United States, supra at 337; see also Bell

Lines, Inc. v. United States, 480 F.2d 710, 714 (4th Cir. 1973);

Carlton v. United States, 385 F.2d 238, 242 (5th Cir. 1967);

Rogers v. Commissioner, 44 T.C. 126, 136 (1965), affd. per curiam

377 F.2d 534 (9th Cir. 1967).

     Petitioners purchased the Big Sur property from Marcia

D’Esopo with a cash downpayment and assumed a note for the

balance of the purchase price.    Almost a year later, they sold

the Pacific Grove property to the Elvins and received cash.

Although petitioners may have intended to effect a section 1031

exchange, there is no evidence that either Marcia D’Esopo or the

Elvins agreed to participate in an exchange of property.      Indeed,

petitioner husband testified at trial that it was only after

receiving an offer on the Pacific Grove property -- almost a year
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after buying the Big Sur property -- that he began investigating

the possibility of effecting a section 1031 exchange.   In these

circumstances, we believe it is abundantly clear that

petitioners’ purchase of the Big Sur property and their

subsequent sale of the Pacific Grove property constituted two

separate transfers of property for money consideration, rather

than an exchange.

     In a case with facts that are not favorably distinguishable

for petitioners, the court to which an appeal of this case would

lie reached a similar conclusion.   In Bezdjian v. Commissioner,

845 F.2d 217 (9th Cir. 1988), affg. T.C. Memo. 1987-140, the

taxpayers wished to exchange a rental property they owned for a

gas station.   The gas station owner, however, declined to

participate in an exchange.   The taxpayers purchased the gas

station using proceeds of a loan secured in part by a deed of

trust on their rental property.   About 3 weeks later, the

taxpayers sold the rental property to a third party.    The court

held that there was no exchange within the meaning of section

1031, because the taxpayers simply acquired one parcel of real

property from one party and sold another parcel to a different

party; although the taxpayers may have intended to make an

exchange, there was no evidence that either of the other parties

agreed to participate in an exchange.   See also Dibsy v.

Commissioner, T.C. Memo. 1995-477 (holding that the taxpayers’
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purchase of one liquor store and their subsequent sale of another

constituted two independent events, rather than a section 1031

exchange).

     Petitioners contend that they never would have sold the

Pacific Grove property except for their need to generate funds to

improve the Big Sur property, and that hence the two transactions

were interdependent.    We question the premises and disagree with

the conclusion.    While petitioners may have viewed the sale of

the Pacific Grove property as a source of revenue to finance

construction on the Big Sur property, a year prior to the sale of

the Pacific Grove property they were able to borrow against their

personal line of credit to make a cash downpayment on the Big Sur

property.    Moreover, they began construction on the Big Sur

property 9 months prior to the Pacific Grove sale.    In any event,

neither the petitioners’ financial motivation for selling the

Pacific Grove property nor their application of the sales

proceeds operates to transform the independent purchase and sale

transactions into an exchange.    See Anderson v. Commissioner,

T.C. Memo. 1985-205.

     Likewise, it is of no material significance that the Elvins

agreed that the money consideration for their purchase of the

Pacific Grove property should be deposited into petitioners’

Provident Central Credit Union account.    Indeed, it is difficult

to imagine what difference it could have made to the Elvins.
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Petitioners had unfettered and unrestrained control over the

money in the Provident Central Credit Union account, which was in

their names.   Although the funds were used to finance

improvements at the Big Sur property and to reimburse petitioner

husband for the cash downpayment on the Big Sur property,

petitioner husband conceded at trial that payment could have been

made out of the account for any purpose.   These circumstances

strongly support the conclusion that the Pacific Grove sale was

an independent transfer of property for money consideration

rather than part of an exchange.   See Carlton v. United States,

385 F.2d 238, 243 (5th Cir. 1967); Hillyer v. Commissioner, T.C.

Memo. 1996-214; Nixon v. Commissioner, T.C. Memo. 1987-318.

     At most, the circumstances relating to petitioners’

establishment and use of the Provident Central Credit Union

account evidence their belated intent to avail themselves of

section 1031 treatment and the Elvins’ awareness of their intent.

The circumstances do not, however, suggest any mutuality of

intent between petitioners and the Elvins, much less between

petitioners and Marcia D’Esopo, to effect an exchange.     It is

well settled that a taxpayer’s unilateral intent to undertake an

exchange does not govern the tax consequences where no reciprocal

transfer of property actually occurs.   See Bezdjian v.

Commissioner, supra at 218; Garcia v. Commissioner, 80 T.C. 491,

498 (1983); Rogers v. Commissioner, supra at 136.
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     At trial and on brief, petitioners cite Starker v. United

States, 602 F.2d 1341 (9th Cir. 1979), as their underlying

authority for section 1031 exchange treatment.    Their reliance is

misplaced.   In Starker, the taxpayer transferred timberland to a

corporation which, within a previously agreed period, transferred

to the taxpayer various parcels of land and certain contract

rights.   In Starker, unlike the instant case, no cash was ever

transferred.     Starker held, in relevant part, that the

nonsimultaneous transfers of property did not preclude section

1031 treatment.1    Starker does not, however, dispense with the

requirement that there in fact be an exchange of property.    As

previously discussed, petitioners have failed to cross that

initial threshold.

     Accordingly, we sustain respondent’s determination that

petitioners have failed to meet the requirements for a section

1031 exchange.


Interest Expenses and Taxes

     On Schedule E of their 1993 joint Federal income tax return,

in computing a claimed loss from rental real estate, petitioners

     1
        Subsequent to the decision in Starker v. United States,
602 F.2d 1341 (9th Cir. 1979), Congress amended sec. 1031(a) to
impose certain time limitations on the completion of a
nonsimultaneous exchange. See sec. 1031(a)(3), as enacted by the
Deficit Reduction Act of 1984, Pub. L. 98-369, sec. 77(a), 98
Stat. 596. Respondent has not raised, and we do not reach, the
issue of whether petitioners have satisfied those statutory
requirements.
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claimed expenses and taxes relating to several rental properties,

including the Big Sur property.    Respondent determined that since

construction of the Big Sur rental property was not completed and

rental did not commence until 1994, petitioners had no ongoing

business in 1993 with regard to this property.    Accordingly,

respondent reallocated from Schedule E to Schedule A, as itemized

deductions, the interest and taxes attributable to the Big Sur

property.

     Petitioners bear the burden of proving that respondent’s

determinations are erroneous.    Rule 142(a); Welch v. Helvering,

290 U.S. 111, 115 (1933).   At trial, petitioner husband indicated

that in the event section 1031 treatment were disallowed, he

“understood” respondent’s determination as to reallocation of

these expenses.   On brief, petitioners did not address the issue.

Accordingly, we sustain respondent’s determination in this

regard.


Accuracy-Related Penalty

     Section 6662(a) imposes a 20-percent penalty on the portion

of an underpayment of tax attributable to, among other things, a

substantial understatement of income tax, which is defined as an

understatement that exceeds the greater of 10 percent of the tax

required to be shown or $5,000.    Sec. 6662(d)(1)(A).

Petitioners’ failure to report the gain from the sale of the

Pacific Grove property and their disallowed claim to Schedule E
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expenses resulted in a $55,814 understatement of income tax.

This amount is in excess of $5,000 and exceeds 10 percent of the

amount of tax required to be shown on the return.

      Any understatement is reduced to the extent that it is

attributable to an item that was adequately disclosed and has a

reasonable basis, or for which there was substantial authority

for its tax treatment.    Sec. 6662(d)(2)(B).   Petitioners did not

make adequate disclosure, since they did not disclose on their

return or on a statement attached to the return the relevant

facts affecting the tax treatment of the sale of the Pacific

Grove property or of the reallocated items claimed on Schedule E.

See sec. 6662(d)(2)(B)(ii)(I).

     The remaining question is whether there was substantial

authority for the tax treatment petitioners claimed.     Substantial

authority exists when the weight of authority supporting the

treatment of an item is substantial as compared to the weight of

authority for the contrary treatment.     Sec. 1.6662-4(d)(3)(i),

Income Tax Regs.   In determining whether there is substantial

authority, all authorities relevant to the tax treatment of an

item, including those authorities pointing to a contrary result,

are taken into account.    Id.   For this purpose, authorities

include statutory and regulatory provisions, legislative history,

administrative interpretations of the Commissioner, and court

decisions, but not conclusions reached in treatises or legal
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periodicals.   Booth v. Commissioner, 108 T.C. 524, 578 (1997);

sec. 1.6662-4(d)(3)(iii), Income Tax Regs.

     Petitioners’ position is not supported by any well-reasoned

construction of the relevant statutory provisions.      There is no

substantial authority for their position that the purchase of the

Big Sur property and the subsequent sale of their Pacific Grove

property constituted an exchange.    The cases petitioners have

cited on brief are readily distinguishable and to the extent they

are pertinent, undermine their position.       Similarly, there is no

substantial authority for petitioners’ treatment of the

reallocated items.

     Accordingly, we sustain respondent’s imposition of the

accuracy-related penalty.

     To reflect the foregoing,

                                      Decision will be entered for

                                 respondent.
