                        T.C. Memo. 1998-89



                      UNITED STATES TAX COURT



          JAMES C. AND VIVIAN C. DODGE, Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent


     Docket No. 18089-96.                 Filed March 2, 1998.


     Leonard W. Yelsky, for petitioners.

     Herbert W. Linder, for respondent.


             MEMORANDUM FINDINGS OF FACT AND OPINION

     GERBER, Judge:   Respondent, by means of a statutory notice

of deficiency, determined the following income tax deficiencies

and section 6662(a)1 penalties with respect to petitioners:

                                                Penalty


     1
      Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the years under
consideration, and all Rule references are to this Court's Rules
of Practice and Procedure.
                               - 2 -


     Year                Deficiency          Sec. 6662
     1991                 $11,543              $2,165
     1992                  12,634               2,311
     1993                  12,387               2,489
 After concessions,2 the following issues remain for our

consideration: (1) Whether petitioners' horse-breeding activity

during the taxable years 1991, 1992, and 1993 was engaged in for

profit; and (2) whether any underpayment of tax is due to either

negligence or intentional disregard of rules or regulations, or a

substantial understatement of income tax.

                         FINDINGS OF FACT3

     At all times relevant to this case petitioners were husband

and wife and resided in West Liberty, Ohio.   They filed joint

Federal income tax returns for all 3 years at issue.

     James Dodge (Mr. Dodge) was an attorney and president of

Brad Bern Corp. located in Cincinnati, Ohio, during the years at

issue.   From 1990 through 1993, Mr. Dodge was very active at Brad

Bern Corp., working on average 12 hours a day, 4 days a week for

the corporation.   He lived at petitioners' second home in



     2
      Respondent disallowed unsubstantiated interest deductions
of $5,099 and $7,713 in 1991 and 1992, respectively. In
addition, respondent determined that petitioners understated
interest income in the amount of $66 in 1991. Since petitioners
failed to address either of these issues in their brief, we treat
this as a concession by petitioners and find for respondent.
Theodore v. Commissioner, 38 T.C. 1011, 1041 (1962).
     3
      The stipulation of facts and the attached exhibits are
incorporated by this reference.
                                - 3 -


Cincinnati from Sunday night to Thursday night each week.   In

West Liberty, Mr. Dodge practiced law and operated a tax

preparation business at various times during 1991, 1992, and

1993.   During 1992 and 1993, Mr. Dodge worked between 12-20 hours

per week in his law practice.   Mr. Dodge has prepared income tax

returns for and assisted farmers with their accounting and tax

returns for more than 20 years.

     Vivian Dodge (Mrs. Dodge) operated an accounting office and

services business called "Dodge & Hostetler" in which she was a

50-percent general partner.   Mrs. Dodge was engaged full time at

Dodge & Hostetler during the years at issue.   Petitioners also

owned and managed three rental properties located in West Liberty

during the years at issue.    Petitioners' combined gross income,

without considering the losses claimed for the horse-breeding

activity, was $85,216, $88,391, and $103,659 for the taxable

years 1991, 1992, and 1993, respectively.

     In 1981 petitioners became interested in starting a horse

farm.   On August 17, 1981, Mr. Dodge met with James Tischer (Mr.

Tischer), a tax specialist, to discuss the deductibility of

expenses as losses for tax purposes of their planned horse farm.

Mr. Tischer suggested that petitioners maintain separate books

and records, and that petitioners prepare a long-term plan for

the horse farm.
                               - 4 -


     In 1982, petitioners purchased 14 acres of land

approximately 1 mile from their home for $13,000 with the

intention of building a horse farm.    Petitioners cleared the land

of trees and constructed a nine-horse barn, sheds, fences, a

driveway, and a well at a total cost of $59,500.   In 1992 the

farmland and improvements were appraised at $121,000.

     Petitioners began their horse activity during 1983 and

decided to specialize in the breeding and selling of Arabian

horses.   At that time, petitioners owned an Arabian horse,

Homestead Wiraza, which they had purchased in 1981 for $3,500.

Mr. Dodge joined several horse associations and attended clinics

and seminars to learn how to show, train, breed, and sell horses.

He also paid several thousand dollars for professional horse

trainers.   Petitioners did not, however, consult with any horse

breeders about the best way to minimize expenses and/or run a

profitable horse farm, nor did they follow Mr. Tischer's advice

to prepare a long-term plan for the horse farm.

     In 1983, petitioners purchased Canadian Fury for $30,000.

Canadian Fury and Homestead Wiraza were the only broodmares used

in petitioners' horse-breeding activity.   Petitioners did not

maintain a stallion for breeding purposes; instead they paid stud

fees to outside breeders.   From 1983 through 1996, Canadian Fury

and Homestead Wiraza produced eight foals.   No foals were born
                                - 5 -


during the years in issue.    Only two of these foals were ever

sold.    One foal, Jims Joy, was sold for less than $400, and the

other foal, Ramses Lady, was sold for $2,500.    Petitioners also

bought horses, trained them, and hoped to resell them at a

profit.    From 1983 through 1996, petitioners sold eight such

horses.    Petitioners did not sell any horses during the years at

issue.

     In addition to training and breeding horses, petitioners

showed their horses at various horse shows in order to advertise

their farm and increase sale opportunities.    Petitioners did not,

however, advertise their horses in trade journals, magazines,

newspapers, or other publications during the years 1987 through

1995.    Mr. Dodge, his daughter Andrea, or a trainer would show

the horses.    Andrea Dodge would also show horses in the 4-H Club

(a youth organization).    Petitioners knew that if a horse was

successful in the show ring, the value of the horse and its foals

would increase.    Canadian Fury was very successful in the show

ring, becoming the reserve national champion in 1984.

     In 1985, petitioners began raising cattle in addition to

horses.    Petitioners generally purchased four steers each year.

Petitioners would buy the steers, feed them for 8 or 9 months,

and then sell them at a fair or over the market to a butcher.      In

addition, petitioners occasionally boarded horses on their farm.
                                - 6 -


Petitioners had income from the boarding or stabling of horses of

$150 and $250 for the taxable years 1991 and 1993, respectively.

No income from boarding or stabling was received for 1992.

     The Dodges performed most of the work on the farm.   A

typical day's work included feeding the horses, putting them out

to pasture, cleaning the stalls and the barn area, and returning

them to the barn in the evening for a final feeding.   Mr. Dodge

was in Cincinnati during the week; therefore, Mrs. Dodge and

Andrea often split the work between them.   In addition to the

everyday chores, petitioners would spend time grooming their

horses in preparation for shows.

     The records kept by petitioners with regard to their horse-

breeding activity consisted of canceled checks, invoices, and an

itemized list of income and expenses for tax purposes.

Petitioners had a single checking account for their horse-

breeding activity and personal expenses.    No balance sheets were

prepared for their horse-breeding activity, nor were financial or

break-even analyses prepared or maintained.   In addition,

petitioners did not maintain individual expenditures for each

horse.    Petitioners did not separate the expenses incurred from

their horse-breeding activity from those incurred for raising

steers.
                              - 7 -


     Petitioners did not earn a profit from their horse-breeding

activity from 1983 through 1995.   Petitioners reported income and

expenses with respect to the activity as follows:

Year       Farm Income   Farm Expenses         Profit or (Loss)
1983          $530       $58,033               ($57,503)
1984         1,775        75,792                (74,017)
1985         3,105        76,912                (73,807)
1986         4,280        75,187                (70,907)
1987        10,375        66,366                (55,991)
1988         9,850        52,879                (43,029)
1989        10,500        62,878                (52,378)
1990         2,350        53,460                (51,110)
1991         1,890        45,540                (43,650)
1992         1,000        47,132                (46,132)
1993         1,200        45,838                (44,638)
1994          ---         32,848                (32,848)
1995         1,200        17,491                (16,291)
Total       48,055       710,536               (662,301)

In the notice of deficiency, respondent disallowed the losses

claimed for the horse-breeding activity for 1991, 1992, and 1993

finding that it was not engaged in for profit.

                             OPINION

Issue 1.   Section 183

     Initially we must decide whether petitioners' horse farm was

an activity engaged in for profit.    Section 183(a) provides that

individual taxpayers will not be allowed deductions that are

attributable to an "activity * * * not engaged in for profit".

This terminology is defined in section 183(c) as "any activity

other than one with respect to which deductions are allowable for

the taxable year under section 162 [trade or business] or under
                               - 8 -


paragraph (1) or (2) of section 212 [expenses incurred for the

production of income]."   Section 183(b) permits deductions that

would be allowable only if the activity were engaged in for

profit, but such deductions may be taken only to the extent that

any gross income generated from the activity exceeds deductions

which are not dependent upon a profit objective (e.g., State and

local taxes under section 164).

     Although a reasonable expectation of profit is not required,

the facts and circumstances must indicate that the taxpayer

entered into the activity, or continued the activity, with the

actual and honest objective of making a profit.     Keanini v.

Commissioner, 94 T.C. 41, 46 (1990); Dreicer v. Commissioner, 78

T.C. 642, 645 (1982), affd. without published opinion 702 F.2d

1205 (D.C. Cir. 1983); sec. 1.183-2(a), Income Tax Regs.    In

making this determination, more weight is accorded to objective

facts than to the taxpayer's statement of intent.     Engdahl v.

Commissioner, 72 T.C. 659, 666 (1979); sec. 1.183-2(a), Income

Tax Regs.   Petitioners bear the burden of proving that they

possessed the required profit objective.   Rule 142(a); Dreicer v.

Commissioner, supra; Golanty v. Commissioner, 72 T.C. 411, 426

(1979), affd. without published opinion 647 F.2d 170 (9th Cir.

1981).
                               - 9 -


     In determining whether an activity is engaged in for profit,

reference is made to objective standards, taking into account all

of the facts and circumstances of each case.    Sec. 1.183-2(a),

Income Tax Regs.   The regulations set forth nine criteria

normally considered for this purpose.   The factors are:   (1) The

manner in which the taxpayer carries on the activity; (2) the

expertise of the taxpayer or his advisers; (3) the time and

effort expended by the taxpayer in carrying on the activity;

(4) the expectation that assets used in the activity may

appreciate in value; (5) the success of the taxpayer in carrying

on other similar or dissimilar activities; (6) the taxpayer's

history of income or losses with respect to the activity; (7) the

amount of occasional profits, if any, that are earned; (8) the

financial status of the taxpayer; and (9) the presence of

elements of personal pleasure or recreation.    Sec. 1.183-2(b),

Income Tax Regs.   None of these factors is determinative, nor is

the decision to be made by comparing the number of factors that

weigh in the taxpayer's favor with the number that support the

Commissioner.    Id.

     Petitioners argue that they had the requisite profit

objective with respect to their horse-breeding activity.

Conversely, respondent asserts that the activity was not engaged

in for profit.   We agree with respondent.   Because the parties
                              - 10 -


argued their respective cases by addressing each of the nine

criteria enumerated in the regulations, we follow the same

approach in our discussion.

     1.   Manner in Which the Activity Is Conducted

     We begin by examining the manner in which petitioners

carried on their horse-breeding activity.    The fact that a

taxpayer carries on the activity in a businesslike manner and

maintains complete and accurate books and records may indicate a

profit objective.   Sec. 1.183-2(b)(1) Income Tax Regs.    In

deciding whether the taxpayer has conducted the activity in a

businesslike manner, this Court has considered "whether accurate

books are kept, whether the activity is conducted in a manner

similar to other comparable businesses and whether changes have

been attempted in order to make a profit."    Ballich v.

Commissioner, T.C. Memo. 1978-497.

     Petitioners assert that the fact that they kept invoices and

receipts for the horse-breeding activity is evidence that they

conducted it in a businesslike manner.   Although petitioners did

keep an itemized list of expenses, petitioners did not prepare

any business or profit plans, profit or loss statements, balance

sheets, or financial break-even analyses for their horse-breeding

activity.   While a taxpayer need not maintain a sophisticated

cost accounting system, the taxpayer should keep records that
                              - 11 -


enable the taxpayer to make informed business decisions.     Burger

v. Commissioner, 809 F.2d 355, 359 (7th Cir. 1987), affg. T.C.

Memo. 1985-523; Ballich v. Commissioner, supra.

     At trial, Mr. Dodge admitted that there were no records kept

that would show the expenditures made with respect to each

individual horse.   Without such knowledge, petitioners would have

no way of knowing which of their broodmares was producing more

profitable foals or which training regimen was successful at

increasing the value of the horses.    In addition, petitioners did

not even separate the expenses incurred from the horse-breeding

activity from the expenses incurred from raising steers.    The

lack of any detailed records as to which activity on the horse

farm was profitable is an indication that the horse-breeding

activity was not carried on for profit.     Ballich v. Commissioner,

supra.   Apparently, petitioners retained what they thought were

the minimum records necessary to prepare their tax returns.

     Petitioners did not advertise their operation or the

availability of their horses in trade magazines, journals, or

other publications.   Petitioners argue that they advertised their

horses by exhibiting them in horse shows.    While we recognize

that horse shows may be one method for advertising horses for

sale, petitioners' failure to attempt to reach a larger customer
                                - 12 -


base is not consistent with the behavior of profit-minded

individuals.

     Perhaps the most important indication of whether or not an

activity is being performed in a businesslike manner is whether

or not the taxpayer implements some method for controlling

losses.    Petitioners assert that they did nearly all of their own

farm work, prepared and groomed their own horses, and hauled

their own horses to shows, all in an effort to minimize expenses.

However, petitioners' failure to      produce any significant income

was a key factor in their failure to earn a profit.     Despite the

fact that mares are able to produce one foal a year, petitioners

failed to breed their mares with any regularity.     Petitioners

argue that they raised steers in order to alleviate losses.

However, petitioners only purchased and sold four steers a year.

Petitioners' typical annual gross receipts from cattle sales was

about $2,000.    The revenue from the sale of cattle is

insignificant when compared to the horse related expenses and was

not a significant attempt at reducing losses.

     2.    Expertise of Petitioners

     We next consider the expertise of petitioners with respect

to their horse-breeding activity.     Sec. 1.183-2(b)(2), Income Tax

Regs.     A taxpayer's expertise, research, and study of an
                               - 13 -


activity, as well as his or her consultation with experts, may be

indicative of a profit intent.    Id.

     Mr. Dodge joined several horse associations, and he attended

clinics and seminars to learn how to show, train, breed, and sell

horses.   Mr. Dodge also spent thousands of dollars having his

horses trained by professional trainers.    Mr. Dodge did become

expert and knowledgeable about horses.   His expertise, however,

focused on horse breeding and training and not the economics of

the activity.    See Burger v. Commissioner, supra.   The fact that

Mr. Dodge was skilled in the art of horse breeding is a factor to

be considered and does not alone show the horse activity was for

profit.   Glenn v. Commissioner, T.C. Memo. 1995-399, affd.

without published opinion 103 F.3d 129 (6th Cir. 1996).

Significantly, petitioners did not seek professional or economic

advice on the economic aspects of horse breeding.     The only

advice that Mr. Dodge sought prior to beginning the horse farm

was information on the deductibility of losses for tax purposes.

Mr. Dodge did not analyze or consult with others about the amount

of expenses that they were likely to incur.    The failure to seek

professional advice is another factor that indicates a lack of

profit motive.    Burger v. Commissioner, supra; Ballich v.

Commissioner, supra.

     3.   Time and Effort Spent in Conducting the Activity

     We next consider the time and effort spent by petitioners in

conducting their horse-breeding activity.    Sec. 1.183-2(b)(3),
                              - 14 -


Income Tax Regs.   The fact that the taxpayer devotes much of his

personal time and effort to carrying on an activity, particularly

if the activity does not have substantial personal or

recreational aspects, may indicate an intention to derive a

profit.   Id.

     Mrs. Dodge testified regarding the typical amount of work

performed by petitioners and their daughter in caring for the

horses.   The record indicates that Mr. Dodge spent approximately

15 hours per week, and Mrs. Dodge spent approximately 20 hours

per week working on the horse farm.    Accordingly, petitioners

spent significant amounts of time and effort carrying on the

horse-breeding activity.   However, Mr. Dodge and Andrea Dodge,

who are skilled riders, also derived substantial recreational

benefit from the time they spent with their horses; therefore,

this factor is generally neutralized.

     4.   Expectation That the Assets Will Appreciate in Value

     Another factor is the taxpayers' expectation that the assets

used in their breeding activity would increase in value.    Sec.

1.183-2(b)(4), Income Tax Regs.   Canadian Fury was the reserve

national champion in 1984.   The value of Canadian Fury and the

value of the three foals that she subsequently produced increased

as a result of this.   In addition, the value of the farm and land

increased from $72,500 in 1983 to $121,000 in 1992.    Petitioners

maintained the belief that the farm would eventually become

profitable due to appreciation in the value of the land and
                               - 15 -


horses.   It is necessary, however, that the objective be to

realize a profit on the entire operation.      Bessenyey v.

Commissioner, 45 T.C. 261, 274 (1965), affd. 379 F.2d 252 (2d

Cir. 1967).    This would require future net earnings and

appreciation sufficient to recoup the $622,301 of losses reported

for 1983 through 1995.    Petitioners failed to produce any

evidence to show that their activity had a reasonable chance of

recovering losses reported.

     5.    Taxpayer's Success in Similar or Dissimilar Activities

     We next consider petitioners' prior experience in similar or

dissimilar activities.    Sec. 1.183-2(b)(5), Income Tax Regs.

Although an activity is unprofitable, the fact that a taxpayer

has previously converted similar activities from unprofitable to

profitable enterprises may be an indication of a profit motive

with respect to the current activity.    Id.

     Mrs. Dodge started an accounting and service business in

1991 that generated a profit during the years at issue.       Mr.

Dodge operated a successful law practice during the years in

issue.    Petitioners had successful business-type experience.

Petitioners did not show that their acquired business expertise

was used in the horse activity.

     6.    The Activity's History of Income and/or Losses

     An important consideration is petitioners' history of income

and/or losses with respect to their horse-breeding activity.

Sec. 1.183-2(b)(6), Income Tax Regs.    Losses continuing beyond
                               - 16 -


the period customarily required to make an activity profitable,

if not explainable, may indicate that the activity is not engaged

in for profit.     Id.

     Petitioners began their horse farm in 1983.      From 1983 to

1995, petitioners reported total losses of $622,301.      During that

same period, petitioners reported gross receipts of $48,055.      The

magnitude of the activity's losses in comparison with its

revenues is an indication that petitioners did not have a profit

motive with respect to the horse farm.      Burger v. Commissioner,

supra at 360; Ballich v. Commissioner, supra.

     Petitioners assert that the reported losses were typical for

the startup stage of a horse farm.      The years at issue were

petitioners' 9th, 10th, and 11th years in the horse activity.

Although this Court has recognized that the startup phase of a

horse-breeding activity is 5 to 10 years, Engdahl v. Commissioner

72 T.C. at 669, the record reveals that the massive losses were

not the result of startup expenses of a horse-breeding

enterprise.   Rather, the losses, in large part, were the result

of petitioners' selling only two foals during a period of 12

years.   Additionally, we note that petitioners' subsequent years'

losses (1994 and 1995, the 12th and 13th years) confirm the

earlier pattern.    We therefore find petitioners' argument that

the losses were the result of startup expenses to be without

merit.
                                - 17 -


     7.   Amount of Occasional Profits

     The amount and frequency of occasional profits earned from

the activity may also be indicative of a profit objective.    Sec.

1.183-2(b)(7), Income Tax Regs.    Petitioners did not report a

profit from their horse-breeding activity.    See Glenn v.

Commissioner, T.C. Memo. 1995-399.

     8.   Financial Status of the Taxpayer

     We next consider petitioners' financial status.    Sec. 1.183-

2(b)(8), Income Tax Regs.   Substantial income from sources other

than the activity, particularly if the activity's losses

generated substantial tax benefits, may indicate that the

activity is not engaged in for profit.    This is especially true

where there are personal or recreational elements involved.       Id.

     Petitioners had combined gross income, excluding the losses

from their horse farm, of $85,216, $88,391, and $103,659 in 1991,

1992, and 1993, respectively.    We note that petitioners' income

was sufficient to enable them to maintain a comfortable standard

of living notwithstanding the losses from the horse farm.

     9.   Elements of Personal Pleasure

     The final factor is the personal pleasure derived by

petitioners in conducting their activity.    Sec. 1.183-2(b)(9),

Income Tax Regs.    The mere fact that a taxpayer derives personal

pleasure from a particular activity does not, per se, show a lack

of profit motive.   The presence of personal motives may, however,
                               - 18 -


indicate that the activity is not engaged in for profit.      This is

especially true when there are recreational elements involved.

Id.

      Mr. Dodge and his daughter were avid riders, and they

competed in horse shows.    Andrea would also show horses in the

4-H Club.    Petitioners derived personal pleasure from their horse

activity.    As has been stated with respect to this factor:

      Unquestionably, an enterprise is no less a "business"
      because the entrepreneur gets satisfaction from his
      work; however, where the possibility for profit is
      small (given all the other factors) and the possibility
      for gratification is substantial, it is clear that the
      latter possibility constitutes the primary motivation
      for the activity. * * * [Burger v. Commissioner, T.C.
      Memo. 1985-523; fn. ref. omitted.]

      Considering all of the facts and circumstances, we find that

petitioners have failed to prove that their horse-breeding

activity was engaged in for profit.

Issue 2.    Accuracy-Related Penalty Under Section 6662

      Respondent also determined that petitioners were negligent

and liable for penalties under section 6662(a) and (b)(1) for

each of the years because they claimed losses from the horse-

breeding activity.    Section 6662(a) and (b)(1) imposes an

accuracy-related penalty equal to 20 percent of the portion of an

underpayment that is attributable to negligence or disregard of

rules or regulations.    We find that petitioners were negligent in

claiming deductions for their horse-breeding activity.4


      4
      Respondent also determined that petitioners were liable for
a sec. 6662(b)(2) penalty because their underpayment was
                                                   (continued...)
                              - 19 -


     In determining whether petitioners were negligent in the

preparation of their returns, we take into account petitioner Mr.

Dodge's legal and tax experience.    Mr. Dodge prepared 75-100 farm

tax returns a year.   Attorneys who specialize in taxation are

held to a higher standard of care.     Tippin v. Commissioner, 104

T.C. 518, 534 (1995).   Additionally, the size of the tax losses

claimed by petitioners in relation to the revenue earned from the

horse-breeding activity, combined with the substantial enjoyment

that petitioners derived from the activity, created a situation

that was "too good to be true" within the meaning of section

1.6662-3(b)(1)(ii), Income Tax Regs.    Accordingly, petitioners

are liable for the section 6662(a) penalties.

     To reflect the foregoing,

                                           Decision will be entered

                                     under Rule 155.




     4
      (...continued)
substantial. As a result of our decision with respect to the
negligence penalty, we need not address this issue.
