Farmers Dispute Disallowance of Deduction for Prepaid Feed Costs

REGULAR CASE PETITION

This is a PETITION for a redetermination of each below-described income tax deficiency and overpayment.

IN SUPPORT of this petition, it is alleged that:

1. TAXPAYER INFORMATION

The petitioners are husband and wife. The following identifies their names, present legal residence, present mailing address, social security number, the type of each tax return in dispute, and place each return filed:

                         first petitioner         second petitioner

This petition responds to the attached NOTICE OF DEFICIENCY (EXHIBIT 2), sent by the I.R.S. from the St. Paul District Director on March 13, 2000.

3. DISPUTED LIABILITIES

The DISPUTED TAX LIABILITIES are as follows:

TAX YEAR                 DISPUTED INCOME TAX LIABILITIES

Although the notice of deficiency refers to "PENALTY," the Commissioner has not proposed any deficiencies in penalties and thus no penalties are in dispute.

4. COMMISSIONER'S ERRORS

The Commissioner's determination of tax set forth in the notice of deficiency is based upon the following errors:

4.1. The Commissioner erred as follows:

STATUS  ADJ  description  1993  1994     1995       1996        1997

This case is based on the following FACTS:

PREPAID FEED ISSUE [feed purchase Sch F-IRC464 & ordinary income -- partnership]

5.1. The following adjustments involve the respondent's disallowance of petitioners' partnership pass-through deductions primarily related to disallowed prepaid feed costs.

STATUS ADJ  description   1993   1994      1995        1996       1997

                                 WBP

TERM DEFINITION

5.5. During the years in issue, the following persons were WBP's partners.

PARTNER'S NAME PARTNER'S RESIDENCE

5.7. WBP was formed as a partnership in 1975, and included all of the above-named partners, except Charles and Leland.

5.8. Charles Weinreis became an equal partner of WBP in 1976 and Leland Weinreis became the seventh and last partner in the early 1980s.

5.9. Originally, WBP was initially involved in farming and ranching, actively engaged raising grain, livestock feed, and livestock (principally cattle).

5.10. In the late 1970's, WBP became involved in feeding cattle in feedlots and soon thereafter acquired an interest in MFL.

5.11. From its inception, WBP has been actively engaged in the business of owning farmland and for raising grain for resale and for raising feed for livestock and for raising livestock.

5.12. During the years in issues, WBP was not engaged in any other activities than the trade or business of farming and ranching.

5.13. At no time has any interest in WBP been offered for sale in any offering required to be registered with any Federal or State agency having authority to regulate the offering of securities for sale.

5.14. At no time have any interests in the WBP been held or owned by limited partners.

5.15. Since its inception, for the purposes of I.R.C. section 464, WBP was not and has never been a "farming syndicate," as defined by I.R.C. section 464.

5.16. Respondent does not take the position that WBP has ever been a "farming syndicate," as defined by I.R.C. section 464.

5.17. Respondent does not dispute that WBP has ever been a "farming syndicate," as defined by I.R.C. section 464.

5.18. During the years in issue, WBP owned a majority of the stock in MFL.

5.19. The remainder of the stock of MFL was owned individually and equally by each of the WEINREIS BROTHERS.

5.20. During the years in issue, the majority of WBP's gross income derives from the purchase and sale of weaned calves (yearlings).

5.21. During the years in issue, WBP typically purchased about 75% of its yearlings (feeders) at an average of 700-800 pounds for immediate transport to the MFL feedlot for finishing.

5.22. During the years in issue, WBP also raised approximately 4-5% of its yearlings, from its own cow herd, pastured them after weaning (referred to as grass cattle), and then moved them to the MFL, when reaching about 750-800 pounds.

5.23. During the years in issue, WBP typically purchased about 20% of its yearlings at lighter weights, pastured them on WBP owned or leased land (referred to as grass cattle) (located in Wyoming, Nebraska, North Dakota and South Dakota) and then moved them to the MFL feedlot, when reaching about 750-800 pounds.

5.24. During the years in issue, typically WBP held its yearlings in the MFL feedlot for a period of 3 to 5 months for finishing.

5.25. During the years in issue, typically WBP fed its cattle corn, molasses, hay, corn silage, other forages and supplements for fattening.

5.26. During the years in issue, WBP fed its feeders until they become approximately 1200 pounds, the optimum weight for resale and slaughter.

5.27. During the years in issue, WBP typically held its purchased yearlings for a period of substantially less than one year.

5.28. WBP purchased feed from MFL for use in the MFL feedlot for finishing WBP's feeder cattle before being sold at market.

5.29. During the years in issue, the petitioners also purchased and sold their feeder cattle and used the MFL to finish their livestock for resale.

5.30. WBP is and always has been a "farm-related taxpayer" within the meaning of I.R.C. section 464.

5.31. Respondent does not take the position that WBP is a "farm- related taxpayer" within the meaning of I.R.C. section 464.

5.32. Respondent does not dispute that WBP is and always has been a "farm-related taxpayer" within the meaning of I.R.C. section 464.

5.33. Because WBP is a "farm related taxpayer" (as defined by I.R.C. section 464), and not a "farming syndicate" (as defined by I.R.C. section 464), the limitations on deductions for prepaid expenses under I.R.C. section 464 do not apply, if WBP is also a "QUALIFIED farm-related taxpayer," as defined under I.R.C. section 464(f).

5.34. I.R.C. section 464 (f). provides:

(f) SUBSECTIONS (a) AND (b) TO APPLY TO CERTAIN PERSONS PREPAYING 50 PERCENT OR MORE OF CERTAIN FARMING EXPENSES.

(1) IN GENERAL.

In the case of a taxpayer to whom this subsection applies, subsections (a) and (b) shall apply to the excess prepaid farm supplies of such taxpayer in the same manner as if such taxpayer were a farming syndicate.

(2) TAXPAYER TO WHOM SUBSECTION APPLIES.

This subsection applies to any taxpayer for any taxable year if such taxpayer --

(A) does not use an accrual method of accounting,

(B) has excess prepaid farm supplies for the taxable year, and

(C) IS NOT A QUALIFIED FARM-RELATED TAXPAYER.

(3) QUALIFIED FARM-RELATED TAXPAYER.

(A) IN GENERAL.

For purposes of this subsection, the term "qualified farm- related taxpayer" means any FARM-RELATED TAXPAYER IF --

(i)

(I) the aggregate prepaid farm supplies for the 3 taxable years preceding the taxable year are less than 50 percent of,

(II) the aggregate DEDUCTIBLE FARMING EXPENSES (other than prepaid farm supplies) for such 3 taxable years, or

(ii) the taxpayer has excess prepaid farm supplies for the taxable year by reason of any change in business operation directly attributable to extraordinary circumstances.

(B) FARM-RELATED TAXPAYER.

For purposes of this paragraph, the term "farm-related taxpayer" means any taxpayer --

(i) WHOSE PRINCIPAL RESIDENCE (within the meaning of section 121) is on a FARM,

(ii) who has A PRINCIPAL OCCUPATION OF FARMING, OR

(iii) who is a member of the family (within the meaning of subsection (c)(2)(E)) of a taxpayer described in clause (i) or (ii).

(4) DEFINITIONS.

For purposes of this subsection --

(A) EXCESS PREPAID FARM SUPPLIES.

THE TERM "EXCESS PREPAID FARM SUPPLIES" MEANS THE PREPAID FARM SUPPLIES FOR THE TAXABLE YEAR TO THE EXTENT THE AMOUNT OF SUCH SUPPLIES EXCEEDS 50 PERCENT OF THE DEDUCTIBLE FARMING EXPENSES for the taxable year (OTHER THAN PREPAID FARM SUPPLIES).

(B) PREPAID FARM SUPPLIES.

The term "prepaid farm supplies" means any amounts which are described in subsection (a) or (b) and would be allowable for a subsequent taxable year under the rules of subsections (a) and (b).

(C) DEDUCTIBLE FARMING EXPENSES.

The term "deductible farming expenses" MEANS ANY AMOUNT ALLOWABLE AS A DEDUCTION UNDER THIS CHAPTER (INCLUDING ANY AMOUNT ALLOWABLE AS A DEDUCTION FOR DEPRECIATION OR AMORTIZATION) WHICH IS PROPERLY ALLOCABLE TO THE TRADE OR BUSINESS OF FARMING.

5.35. In making the required of I.R.C. section 464(f)(4)(A) computational analysis, WBP is entitled to include the cost of its feeder cattle in its deductible farming expenses.

5.36. In making the required of I.R.C. section 464(f)(4)(A) computational analysis, WBP is entitled to include the prepaid expenses from each prior year in its deductible farming expenses.

5.37. In making the required I.R.C. section 464(f)(4)(A) computational analysis, WBP is entitled to aggregate its actual feed expense for all feed consumed for each three year period.

5.38. In making the required I.R.C. section 464(f)(4)(A) computational analysis, WBP is entitled to include guaranteed payments (salaries to partners), donations, pension costs.

5.39. In making the required I.R.C. section 464(f)(4)(A) computational analysis, WBP is entitled to include guaranteed payments (salaries to partners), donations, pension costs.

5.40. During the years in issue, the aggregate of WBP's prepaid farm supplies for the 3 taxable years preceding each relevant taxable year were less than 50 percent of the aggregate WBP's DEDUCTIBLE FARMING EXPENSES (other than prepaid farm supplies) for such 3 taxable years.

5.41. During each of the years in issue, THE RATIO OF WBP'S ELIGIBLE FARM EXPENSES TO PREPAID EXPENSES WAS MORE THAN 2/1, I.E. OVER 2/3 OF ALL COSTS

5.42. Because of the above, during the years in issue, WBP is and always has been a qualified farm related taxpayer because it has always been able to satisfy the computational requirements of I.R.C. section 464(f)(4)(A).

5.43. For each of the years in issue and for the same reasons applicable to WBP, the individual petitioners were not affected by the limitations under I.R.C. section 464.

INC REAL ESTATE -- PARTNERSHIP

5.44. These adjustments result in the allocating [of] certain rental expenses (taxes and interest) from Schedule F to Schedule E. WBP adjustments B and C (set forth above) interrelate and offset these adjustments (small math discrepancies notwithstanding).

5.45. Petitioners' concede WBP adjustments B and C and thus these favorable adjustments are correspondingly correct.

AUTOMATIC ADJUSTMENTS

5.46. All other adjustments are interrelated to the disputed adjustments (see adjustments with the Status Code "A"). The outcome of these adjustments is interdependent with the outcome of the disputed adjustments.

6. BURDEN OF PROOF

Under the provisions of I.R.C. section 7491, the respondent should be required to bear the burden of proof in that, the petitioner:

6.1. has complied with all substantiation requirements required by the Internal Revenue Code.

6.2. has maintained all records required by the Internal Revenue Code and has fully cooperated with the I.R.S. in the manner required by I.R.C. section 7491 (i.e. responded to all reasonable requests for witnesses, information, documents, meetings, and interviews).

6.3. has met all other requirements required by I.R.C. section 7491.

This is not a case where a specific burden of proof is otherwise imposed by statute or rule upon a particular party.

7. ATTORNEY'S FEES

As permitted by this Court's rules, the petitioners reserve the right to claim attorney's fees as a prevailing party, which right will be duly asserted at the appropriate stage of these proceedings.

WHEREFORE, it is prayed that for each of the years in issue, this Court:

1. determine the petitioners correctly reported their tax liabilities, subject to the adjustments not disputed in this petition.

2. determine the respondent's proposed deficiency to be incorrect.

3. provide such other relief for the petitioners that may be appropriate.

Date June 9, 2000

[Editor's Note: The attachment has been omitted. However, this document in its entirety can be obtained through our Tax Analysts' Access Service as Doc 2000-18579 (31 pages).]