Not a Pigg or a Turkey of a Decision

Clarence Leland is an attorney in Mississippi. However, he bought a farm in Turkey, Texas. He entered into a crop share agreement with a Mr. Pigg. The farm didn’t make money, and Mr. Leland claimed the losses on his 2009 and 2010 tax returns stating he materially participated in the activity. The IRS didn’t allow the loss, claiming the passive activity rules prevented Mr. Leland from claiming the loss. They also added an accuracy-related penalties. The dispute made its way to Tax Court.

The passive activity rules prevent taxpayers from taking losses if they’re not materially participating in an activity. Mr. Leland didn’t maintain contemporaneous logs, but he was able to reconstruct logs that showed he worked 359.9 hours in 2009 and 209.5 hours in 2010. There was plenty of activity to be done on the farm:

Maintaining the 1,276-acre farm requires petitioner to perform a lot of long, hard work. Petitioner performs most of these tasks himself, but he sometimes has assistance from his son or a friend, Steve Coke. Aside from petitioner, Mr. Pigg, Mr. Coke, and petitioners’ son, no individuals perform any tasks on the farm. Petitioner visits the farm several times each year in order to perform necessary tasks, commuting approximately 13-16 hours each way, including the time it takes to load equipment onto his trailer. The farm has approximately 6-8 miles of perimeter roads and 18-20 miles of interior roads that must be bush hogged and disced regularly in order to remain passable. A Bush Hog is a device that is pulled behind a tractor to cut vegetation and clear land. Discing involves churning and plowing soil to uproot any existing vegetation. Trees and brush that grow near the roads must be controlled through spraying and chopping down limbs that protrude onto the roadways. Because high winds can erode soil on the roads, wheat must be planted each fall to prevent erosion on the roads and on acreage that is not part of the 130 acres planted and harvested by Mr. Pigg. Almost all of the roads have fences running parallel that must be maintained…In a year before the tax years 2009 and 2010, wild hogs ate 250,000 pounds of peanuts that petitioner and Mr. Pigg had grown on the farm. As a result, petitioner has to spend significant time controlling the wild hog population, which he accomplishes through hunting and trapping.

There are seven tests that allow one to qualify as materially participating in an activity, including “the individual participates in the activity for more than 100 hours during the taxable year, and such individual’s participation in the activity for the taxable year is not less than the participation in the activity of any other individual (including individuals who are not owners of interests in the activity) for such year.” Mr. Pigg spent about 30 hours on the farm in 2009 and a lesser amount in 2010.

Petitioner’s reconstructed logs, his receipts and invoices related to farm expenses, and his credible testimony are all reasonable means of calculating time spent on the farming activity during tax years 2009 and 2010…We are satisfied that petitioner’s participation was not less than the participation of any other individual, including Mr. Pigg, Mr. Coke, and petitioners’ son, during tax years 2009 and 2010…Accordingly, petitioner materially participated in the farming activity during tax years 2009 and 2010, and the deductions attributable to that activity are not limited by section 469.

From a footnote, we discover that the IRS objected to the logs was that they were not contemporaneous. But that’s not required:

Respondent’s main objection to petitioner’s reconstructed logs was that they were not prepared contemporaneously with the activity. Sec. 1.469-5T(f)(4), Temporary Income Tax Regs., 53 Fed. Reg. 5727 (Feb. 25, 1988), does not require contemporaneous records, and we are satisfied that petitioner has established material participation through other reasonable means. Respondent did not dispute petitioner’s inclusion of travel time in his reconstructed logs. The facts of this case establish that petitioner’s travel time was integral to the operation of the farming activity rather than incidental.

So the decision is anything but a turkey for Mr. Leland, and the farming isn’t a passive activity. Mr. Leland also wins on the accuracy-related penalties, as the returns were accurate. It’s nice to see a plaintiff win at Tax Court on passive activities; I expect we’ll be seeing a lot more cases in this area in the future (because of the new net investment tax).

Case: Leland v. Commissioner, T.C. Memo 2015-240

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