of concern to all horsepeople
Case Emphasizes Importance of Professional Advice
By John Alan Cohan, Attorney at Law
A recent case that seemed to rule correctly against a taxpayer was
the Tax Court decision holding against Sandra J. Brannon of Southwest
Texas with regards to her quarter horse breeding activity. [Brannon
v. Commissioner IRS, TC Memo 2000-76.] The case also denied her
depreciation deductions with respect to 4 emus because she was unable
to prove she had purchased an interest in them, and so could not
show that she had a tax basis in the animals.
Her activity involved six quarter horses with modest Schedule C
losses ranging from about $l2,000 to $34,000 per year over an eight-year
period. Ms. Brannon claimed that she was engaged in the activity
for profit, but failed to keep accounting records to reflect expenses,
profits or losses, although she maintained a "file folder"
in which she "kept receipts." She calculated her expenses,
income and net losses for income tax purposes only and appeared
to engage in no strategic planning.
During the years in question she lived with her parents and engaged
in horse breeding as a full time activity, holding no other jobs.
She never paid rent or subsidized her parents for her living accommodations.
She received some financial assistance from her parents as well,
which was used to help defray the costs of her horse activity.
She and her father leased a farm located 25 miles from her parents'
residence, and she kept her horses there. The property consisted
of a pasture with some trees and a barn.
For the first few years Ms. Brannon focused on raising quarter horses
for western, pleasure and halter, and then she decided that her
chances for profit would be greater with cutting horses, so she
changed her operation to that speciality.
She regularly attended horse shows, was a member of various associations,
had business cards, and advertised in trade journals and newspapers.
Her sales of horses, however, were minimal.
Petitioner believed that she could market her horses in Mexico but
changed her mind when the Mexican peso declined in value. She attributed
her overall losses to the fact that she did not have a sufficient
number of broodmares, and that the bloodlines of her horses were
not of the quality that were in demand. She thought that her chances
of success could be better by switching to cutting horses, and said
that she had the goal of producing a $l00,000 horse. However, to
do that, she would have to pay breeding or stud fees of about $l0,000,
and her finances did not allow her to do that. During the years
at issue she paid only $750 for stud fees.
The court felt that Ms. Brannon's "sole motivation for engaging
in her activity was her love for horses, dating back to her childhood."
The court seemed influenced by the fact that she devoted full time
to caring for six horses, that she did not have enough money to
implement a plan to breed a potentially valuable cutting horse,
and she had no educational training or experience in the business
of breeding and training horses, nor did she consult any professionals.
"She made no studies or consultations with professionals with
respect to the business aspect of such an activity. She did not
maintain a separate bank account for her activity, and she did not
maintain formal books and records," nor did she make "any
effort to change the direction of her operation, although she recognized
her need to do so."
Section 183(a) of the Tax Code provides that if an activity is not
engaged in for profit, no deductions attributable to that activity
may be allowed. The court felt that Ms. Brannon did not engage in
the activity with an "actual and honest objective of making
The court noted that the nine factors listed in the IRS Regulations,
such as the manner in which the taxpayer carries on the activity,
and the expertise of the taxpayer or the taxpayer's advisers--"are
not merely a counting device, where the number of factors for or
against the taxpayer is determinative, but rather all the facts
and circumstances must be taken into account, and more weight may
be given to some factors than to others."
The court felt that her activity was simply not conducted in a businesslike
manner, although Ms. Brannon was "dedicated" to the activity.
She had no formal or informal business plan, and never sought the
advice of experts on how to conduct the activity on a profitable
The court also considered a separate emu breeding business that
Ms. Brannon engaged in with her father. She had claimed depreciation
deductions on four of the birds, but that was disallowed because
there was no evidence that she had purchaed any interest in the
animals. There was no bill of sale or other evidence to reflect
the purchase. Nor was she able to show that she had acquired the
emus by gift.
The court also allowed a negligence penalty of 20% based on the
finding that she "engaged in this activity with the knowledge
that it was unrealistic to expect that any profit could be realized
in the manner in which she conducted the activity." The court
pointed out that she never sought the advice of professionals who
could have advised her on what she should do to make the activity
Of course, with her limited budget, it is understandable that she
could not obtain substantive legal advice on how to operate in accordance
with IRS Regulations. My clients who engage me to prepare a tax
opinion letter realize that they are investing in legal services
that could help them withstand IRS scrutiny should they be audited.
The main lesson from the Brannon case is that if you have ongoing
losses and are unable to pay for professional advice, you are likely
to have your deductions denied if you are audited, plus be assessed
a 20% negligence penalty, and that seems to be a fair outcome when
compared to many other horse owners who conduct their activity in
a more businesslike manner.
[John Alan Cohan is a lawyer who has served the horse, livestock
and farming industries since l98l. He serves clients in all 50 states,
and can be reached by telephone at (3l0) 278-0203 or via e-mail
at firstname.lastname@example.org, or visit his web site at www.JohnAlanCohan.com.]
WASHINGTON UPDATE: Two Tax Benefits Revert to Prior Levels
acrimony and brinksmanship, Congress eventually passed an extension
of the payroll tax reductions in late December maintaining the 2%
reduction in payroll taxes for workers and the self-employed. The
relief is good for two months through February, 2012. Negotiations
are already underway between the House and Senate to find a way
to extend payroll tax relief through 2012.
But the bill
ultimately passed by Congress did not extend the Section 179 expense
deduction or 100% bonus depreciation at 2011 levels. Both provisions
have returned to prior levels.
deduction has returned to $125,000 for 2012 and phases out dollar-for-dollar
once purchases of depreciable property reach $500,000. The 179 expense
deduction applies to horses, farm equipment and other depreciable
property used in a business and permits a horse owner or breeder
to write-off up to $125,000 in assets purchased and placed in service
in one's horse business in 2012.
allowance for 2010-2011 was $500,000 and phased out after purchases
exceeded $2 million.
bonus depreciation has returned to 50% for 2012. Bonus depreciation
allows horse owners and other horse businesses to write off 50%
of the cost of "new" capital assets, including horses,
when purchased and placed in service in 2012. To be eligible for
bonus depreciation the original use of the property must commence
with the taxpayer. Any prior use makes the property ineligible.
was 100% for eligible assets purchased and placed in service from
September 8, 2010 through 2011.
can be used together.
Change is Possible
possible that the higher levels could be reinstated retroactively
to January 1, 2012. In fact, the House-passed payroll-tax bill extended
100% bonus depreciation through 2012, but the Senate bill did not.
The ongoing January-February negotiations on the one-year extension
of the payroll tax reduction could include other changes to the
tax code, such as the expense deduction or bonus depreciation. But
this is speculation at this point.
Horse Council keeps its members up to date with electronic AHC Washington
Updates that report on Congressional actions and other important
federal issues affecting the horse industry. Permission to pass
this Washington Update on to your members is granted on the condition
that it is forwarded in its original form. Anyone interested in
more information on federal legislation and regulatory issues affecting
equine health, taxes, animal welfare, racing, recreation, and showing
can visit the AHC website at www.horsecouncil.org
Horse Keeping Businesses and New Jersey Sales Tax
Since this topic was mentioned at eth August EAB meeting, Lynn verified
with Taxation about the 'Informational Guide Horse Keeping Businesses
and New Jersey Sales Tax' publication.
Mr. Bob Bruch, before he retired, came to an EAB meeting to discuss
this topic with everyone and the publication was handed out. Lynn
asked that I once again send the guide to the EAB Delegates &
Alternates. Please share this with your organization members. I
am attaching a pdf version as well as the link to the NJDA website
(which has many other useful agricultural publications.) http://www.nj.gov/agriculture/pub/farmer.html
As always, if you have any questions, please do not hesitate to
Debra L. Moscatiello
Technical Assistant, Agriculture
(609) 984-4389 Fax (609) 984-8265
2011 Horse Owners and Breeders Tax Handbook is loaded with
answers to some of the most commonly asked questions by equine business
owners. Find Answers to your Tax Questions in the Handbook including:
" What do I need to do to make sure my horse activity qualifies as
a business, not a hobby?
" What are the depreciation rules that apply to horses? When does
depreciation of a horse start? What is depreciation recapture?
" When does the sale of a horse qualify for the capital gains rate?
" When are losses from a horse business not deductible because they
" And hundreds of other answers to tax questions that come when operating
a horse business.
" Over 1100 pages in two volumes indexed by subject so answers are
easy to find.
Learn More about the Horse Owners and Breeders Tax Handbook on the AHC
website and purchase this for yourself or as a gift today. Use code 'Holiday10'
for 10% off now through Christmas day.
If you have any questions please call the American Horse Council at 202-296-4031
or email email@example.com.