No. 10346-10, 28718-10, 5991-I1
MEMORANDUM OPINION AND FINDINGS OF FACT
HOLMES, Judge: For over two decades, Henry and Christie Metz have
owned an Arabian horse farm known as Silver Maple Farm (SMF). Between 2004
and 2009–the years at issue–their farm lost millions of dollars. The
Commissioner determined that any business that lost this much money couldn’t
possibly be motivated by a desire to turn a profit and disallowed the losses.
The Metzes disagree.
The question is: Whom do we believe?
There are three issues in these cases:
• whether the Metzes operated SMF intending to make a profit;
• whether interest the Metzes paid to their brokerage firm qualifies as
investment interest; and
• whether the Metzes’ failure to report income from the sale of farm
property in 2004 should be subject to an accuracy-related penalty.
While the parties dispute the facts underlying these issues, they don’t
dispute the governing law. So we begin with a brief review of that law.
I. Requisite Profit Motive
Taxpayers can deduct all ordinary and necessary expenses paid or incurred
in carrying on a trade or business, sec. 162, for the production or collection of
income, sec. 212(1), or for the management, conservation, or maintenance of
property held for the production of income, sec. 212(2). But before engaging in
the “ordinary and necessary” inquiry, taxpayers must pass the section 183 test.
Section 183(a) generally disallows any deduction attributable to an activity
“not engaged in for profit,” and is aimed at disallowing the deduction of the
expenses of a hobby that a taxpayer might try to use to offset taxable income from
other sources. Section 183(c) defines an “activity not engaged in for profit” as
“any activity other than one with respect to which deductions are allowable for the
taxable year under section 162 or under paragraph (1) or (2) of section 212.” An
activity doesn’t need to show a profit, but taxpayers must have an actual and
honest objective of making one. Dreicer v. Commissioner, 78 T.C. 642, 645
(1982), aff’d without published opinion, 702 F.2d 1205 (D.C. Cir. 1983). And this
expectation need not even be reasonable. See sec. 1.183-2(a), Income Tax Regs.
How do we determine this? We look at all the facts and circumstances with
respect to the activity. Id. para. (b). We focus on the taxpayer’s subjective intent,
but we don’t simply take the taxpayer at his word. We look instead to the
objective factors that are listed in the regulations. Wolf v. Commissioner, 4 F.3d