T.C. Memo. 1996-95
UNITED STATES TAX COURT
ON SHORE QUALITY CONTROL SPECIALIST, INC., Petitioner
v. COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 7496-94. Filed March 4, 1996.
Harry E. Caylor III (an officer), for petitioner.
Joni D. Larson, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
POWELL, Special Trial Judge: This case was assigned
pursuant to the provisions of section 7443A(b)(4) and Rules 180,
181, and 183.1
Respondent determined deficiencies in petitioner's Federal
income taxes for the fiscal years ending August 31, 1991 and
1
All section references are to the Internal Revenue Code
in effect for the years in issue, and all Rule references are to
the Tax Court Rules of Practice and Procedure, unless otherwise
indicated.
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August 31, 1992, in the amounts of $2,717 and $3,120,
respectively.
The sole issue is whether section 274(a)(1)(B) disallows
deductions for payments incurred in leasing property used for
hunting game.
FINDINGS OF FACT
On Shore Quality Control Specialist, Inc. (petitioner or On
Shore) is an oil and gas pipeline inspection company. Eddie H.
Hooks, Jr. (Mr. Hooks) was the president of On Shore during the
years at issue. At the time of filing the petition, petitioner's
principal place of business was Austin, Texas.
Robert C. Carr (Mr. Carr) leased a 1,700-acre ranch (the
ranch) from Texas A&M University located west of Austin, Texas,
in the so-called Hill Country. Mr. Carr raised cattle on the
ranch. The lease entitled Mr. Carr to sublet the ranch for
cattle grazing or hunting. In 1979, petitioner, through its
agent, entered into an oral agreement (the hunting lease) with
Mr. Carr under which petitioner received the right to hunt on the
ranch. The lease has been renewed yearly, or more precisely,
from hunting season to hunting season. The property includes a
cabin that petitioner used. Petitioner invited business
customers to go hunting on the property.
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Mr. Carr did not lease the ranch to anyone other than
petitioner.2 However, under the understanding with petitioner,
while the record is somewhat unclear, some friends and business
acquaintances of Mr. Carr could also hunt on the ranch.3 Because
the hunting was on a working cattle ranch, Mr. Hooks notified Mr.
Carr prior to each hunt. In addition, when friends of Mr. Carr
were hunting on the ranch, they were required to notify Mr.
Hooks, typically by stopping by the cabin prior to hunting.
Generally Mr. Hooks included them in his hunting plans.
Petitioner was responsible for the cleaning and maintenance
of the property and the cabin. The cabin was somewhat Spartan,
but petitioner installed a wood heating stove, refrigerator, and
microwave. Frequently hunters spent the night in the cabin.
Petitioner also built and maintained hunting blinds or stands.
Generally, petitioner used the ranch on weekends during the
hunting season. Mr. Hooks would go to the ranch on Wednesday,
clean the cabin and stands, and purchase the necessary food and
beverages. The hunters would generally arrive on Friday and
leave on Sunday.
2
In the past, the ranch had been subject to poaching. Mr.
Carr felt, and history proved, that petitioner's presence on the
ranch deterred poachers.
3
While Mr. Hooks testified that people other than
petitioner's guests would "come in and hunt on occasion", he also
testified that he allowed them to hunt with petitioner's guests.
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During the 1991 and 1992 taxable years petitioner paid
$10,000 for the lease of the ranch. Petitioner deducted, as
entertainment expenses, the $10,000 lease payment for each year
at issue. In the notice of deficiency, respondent determined
that the lease payments were not deductible, pursuant to section
274(a)(1)(B), because they were made with respect to a facility.
OPINION
Section 162(a) allows a deduction for all ordinary and
necessary expense incurred in carrying on a trade or business.
There is no dispute that petitioner's expenditure for the hunting
lease satisfies the requirements of section 162(a). That,
however, does not end the matter. Section 274(a)(1)(A) provides
that no deduction is allowable with respect to an activity of a
type generally considered to constitute entertainment "unless the
taxpayer establishes that the item was directly related to, or,
in the case of an item directly preceding or following a
substantial and bona fide business discussion * * *, that such
item was associated with, the active conduct of the taxpayer's
trade or business". Section 274(a)(1)(B) is more draconian and
prohibits any deduction for any item "With respect to a facility
used in connection with an activity" which is of a type generally
considered to constitute entertainment, amusement, or recreation.
Thus, where (1) there is a facility, (2) the facility is used in
connection with an activity that constitutes entertainment, and
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(3) there is an item (including an expenditure) with respect to
the facility, section 274(a)(1)(B) bars a deduction for that item
irrespective whether the requirements of section 274(a)(1)(A) are
satisfied. Petitioner contends that the expenses for the hunting
lease constitutes an activity under section 274(a)(1)(A) and that
it satisfied the provisions of that subsection. Respondent, on
the other hand, contends that the lease constitutes a facility
and the heavier gun of section 274(a)(1)(B) applies.
The term "facility" is not defined in the statute; however,
the regulations provide that:
Any item of personal or real property owned, rented, or
used by a taxpayer shall * * * be considered to
constitute a facility * * *. Examples of facilities
which might be used for, or in connection with,
entertainment include yachts, hunting lodges, fishing
camps, swimming pools, tennis courts, bowling alleys,
automobiles, airplanes, apartments, hotel suites, and
homes in vacation resorts. [Sec. 1.274-2(e)(2)(i),
Income Tax Regs.; emphasis added.]
An objective test is used to determine whether an activity
constitutes entertainment,4 and if an activity is generally
considered to be entertainment, it will constitute entertainment
within the meaning of the statute, regardless of whether the
expenditure could be described otherwise. Sec. 1.274-
2(b)(1)(ii), Income Tax Regs. Operating costs, such as rent,
4
Under the regulations the term "entertainment" means
"any activity which is of a type generally considered to
constitute entertainment, amusement, or recreation, such as
entertaining * * * [inter alia] on hunting * * * trips". Sec.
1.274-2(b)(1)(i), Income Tax Regs.
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constitute expenditures with respect to a facility. Sec. 1.274-
2(e)(3), Income Tax Regs.
Applying these principles to the facts here, the ranch for
which the expenditures were made clearly appears to be a
"facility". It is an item of real property rented (or used) by
petitioner. Sec. 1.274-2(e)(2), Income Tax Regs. It was used by
petitioner for hunting. Hunting generally constitutes
recreation. See id. The expenditure (rent) made by petitioner
each year to obtain the use of the ranch is an operating expense
and, therefore, constitutes an item with respect to the facility.
Sec. 1.274-2(e)(3), Income Tax Regs. Accordingly, section
274(a)(1)(B) disallows the deduction taken each year for the rent
paid with respect to the hunting lease.
Petitioner, however, argues that the ranch does not
constitute a "facility" because the hunting lease did not grant
petitioner the "exclusive use" of the ranch, citing our opinion
in Harrigan Lumber Co. v. Commissioner, 88 T.C. 1562 (1987),
affd. without published opinion 851 F.2d 362 (11th Cir. 1988).
In Harrigan the taxpayer leased property for hunting. The lease
provided that the taxpayer's "officers, employees, and guests
* * * shall enjoy exclusive hunting rights," except that certain
members of the lessor's family were also entitled to hunt on the
ranch. Id. at 1563. The taxpayer argued that "hunting rights
* * * are intangible property rights and * * * do not constitute
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a 'facility' within the meaning of section 274(a)(1)(B)", but
rather should be considered to be an activity under section
274(a)(1)(A). Id. at 1564. We recognized that to a certain
degree the distinctions between a facility and an activity were
sometimes difficult to draw. Nonetheless we reasoned that
petitioner has exclusive right to use the hunting area
for hunting, fishing, and other recreation.
Petitioner's exclusive lease of the hunting rights
grants to petitioner, on prior notice, unfettered
access to the hunting area * * *. The hunting area is
where the recreation takes place. During petitioner's
recreation in the hunting area, petitioner has
exclusive occupancy of the hunting area. Therefore,
the hunting area is a facility used in connection with
entertainment * * * [Id. at 1566; fn. ref. omitted.]
Petitioner misconceives the parameters of the exclusive use
discussion in Harrigan. The exclusivity language refers to the
right of the lessee to bar the general public, and not a limited
number of persons covered by a lease, from participating in the
recreation. Indeed, in Harrigan the lease provided that members
of the lessor's family could hunt the property. This is also
apparent from the example in the legislative history, referred to
in Harrigan, in which a deduction is allowed for an expenditure
for 1 day at a commercial shooting preserve that is opened to the
public. See H. Conf. Rept. 95-1800 (1978), 1978-3 C.B. (Vol. 1)
585.5 In that example the taxpayer had no control over the use
5
H. Conf. Rept. 95-1800, at 251 (1978), 1978-3 C.B. (Vol.
1) 521, 585, states:
(continued...)
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of the property. "Where the taxpayer is, however, granted
exclusive use of and unfettered access to the property the
character of the expenditure changes." Harrigan Lumber Co. v.
Commissioner, supra at 1567.
The precise line between exclusive and nonexclusive use may
be difficult to draw. However, where the taxpayer, as here and
in Harrigan, dominates the use of the hunting rights, we have no
difficulty in finding that in substance the taxpayer enjoys the
exclusive rights under the lease. Accordingly, the hunting lease
here in question falls within the definition of a "facility" in
the statute and regulations.
To reflect the foregoing,
Decision will be entered
for respondent.
5
(...continued)
For example, if a salesman took a customer hunting for
a day at a commercial shooting preserve, the expenses
of the hunt * * * would be deductible provided that the
current law requirements of substantiation * * * are
met. However, if the hunters stayed overnight at a
hunting lodge on the shooting preserve, the cost
attributable to the lodging would be nondeductible
* * *