110 T.C. No. 31
UNITED STATES TAX COURT
FREDRICK J. AND RUTH WUEBKER, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 11472-96. Filed June 23, 1998.
P executed a contract enrolling his farmland for
10 years in the Conservation Reserve Program. Food
Security Act of 1985, Pub. L. 99-198, 99 Stat. 1509-
1514, current version at 16 U.S.C. secs. 3831-3836
(1994). P agreed to remove the farmland from
production and was required to establish vegetative
cover on such land during the first year of the
contract. P was required to maintain established
conservation practices throughout the term of the
contract, and, in return, P received annual rental
payments.
Held: Annual payments received by P under the
contract were rentals from real estate and therefore
not subject to self-employment tax under secs. 1401 and
1402, I.R.C.
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Paul L. Wright, for petitioners.
Stephen J. Neubeck, for respondent.
GERBER, Judge: This case was heard by Special Trial Judge
Stanley J. Goldberg, pursuant to the provisions of section
7443A(b)(3) and Rules 180, 181, and 182.1 The Court agrees with
and adopts the opinion of the Special Trial Judge, which is set
forth below.
OPINION OF THE SPECIAL TRIAL JUDGE
GOLDBERG, Special Trial Judge: Respondent determined
deficiencies in petitioners’ Federal income taxes for 1992 and
1993 in the respective amounts of $1,685 and $1,640. The issue
for decision is whether petitioners are liable for self-
employment taxes on payments received under the U.S. Department
of Agriculture (USDA) Conservation Reserve Program (CRP).
FINDINGS OF FACT
Some of the facts have been stipulated and are so found.
The stipulation of facts and the attached exhibits are
incorporated herein by this reference. Petitioners resided in
Fort Recovery, Ohio, at the time that they filed their petition.
1
Unless otherwise indicated, 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.
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Prior to the years in issue, Fredrick J. Wuebker
(petitioner) had been farming for approximately 20 years.
Petitioners were joint owners of 258.67 acres of land, including
approximately 214 acres of tillable land. The remaining acreage
was made up of woods, waterways, and land containing
improvements. Petitioners' property contained hilly land, prone
to erosion, on which petitioner had grown various crops including
corn, soybeans, and wheat prior to the years in issue. In
addition, petitioner raised laying hens on petitioners' land as
part of his farming operations.
In 1991, petitioners offered their tillable land for
enrollment in the CRP. Petitioners believed that participation
in the CRP program would be beneficial for their land and that it
would increase the productivity of petitioner's poultry operation
by allowing him to devote more time and efforts thereto.
A CRP contract was executed on behalf of the Commodity
Credit Corporation (CCC) in November 1991. The CRP contract is a
form contract. The CRP contract covered approximately 214 acres
of petitioners' farm (the CRP land). Under the CRP contract, in
order to qualify for the program, the land must "Have been
annually planted or considered planted to an agricultural
commodity in 2 of the 5 crop years, from 1986 to 1990", and it
must be able to be planted to an agricultural commodity and be
predominantly highly erodible.
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Only an owner or operator or tenant of eligible cropland may
enter into a CRP contract. The CRP contract provides that to
qualify for the program, an operator must provide evidence that
he will remain in control of such cropland for the duration of
the CRP contract. The CRP contract listed the operator of the
land as Fred Wuebker, and provided that he was to receive 100
percent of the payments thereunder. The CRP contract listed the
owner of the land as Ruth Wuebker (Mrs. Wuebker).
Petitioner agreed to place the CRP land into the program for
10 crop years; to implement the conservation plan which is part
of the contract; to establish and maintain vegetative cover; not
to engage in or allow grazing, harvesting, or other commercial
use of the crop from the CRP land; and to control weeds, insects,
and pests on the CRP land. The conservation plan, which was
incorporated into the CRP contract, included seeding
recommendations for the CRP land and provided an estimated cost-
share for the plan. The plan provided that once the conservation
practices described in the conservation plan had been
established, petitioner was required to maintain such practices
at no cost to the Government.
Under the CRP contract, the CCC agreed to make "annual
rental payments" to petitioner. The rental rate was set at $85
per acre enrolled in the program. The CCC further agreed to
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share the cost with petitioner of establishing the conservation
plan.
According to the terms of the CRP contract, the
representatives of the CCC had the right of access to the CRP
land and the right to examine petitioner's records or other lands
for the purpose of determining whether petitioner was complying
with the terms and conditions of the CRP contract. Finally, the
CRP contract incorporated the regulations in 7 C.F.R. sec. 1410
(1997) for the CRP and stated that in the event of conflict, the
regulations would prevail.
The CRP program was administered by the CCC and the
Agricultural Stabilization Conservation Service during the years
in issue.
In 1992, the first year of the CRP contract term, petitioner
disked the CRP land and planted seed to establish ground cover.
In doing so, petitioner used the same equipment he had used
previously in farming the CRP land. In subsequent years,
petitioner performed minimal, if any, upkeep on the CRP land.
During the years in issue, petitioner worked a farm, under a
sharecrop arrangement, on a separate piece of land north of
petitioners' farm, and he continued to raise laying hens on their
farmland contiguous with the CRP land. Petitioner did not grow
any crops on petitioners’ farmland during the years in issue. In
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1991 petitioners owned approximately 40,000 laying hens. By 1997
this number had increased to approximately 57,000.
Petitioner received CRP payments in the amount of $18,190 in
1992. In the same year petitioner received cost-share payments
for establishing ground cover on the CRP land.2 In 1993, he
received CRP payments totaling $18,267.
In 1992, Mrs. Wuebker began attending college, and, in 1993,
she was employed part-time.
On Schedule E of the returns for 1992 and 1993, petitioners
reported rents received on the CRP land, less mortgage interest
and taxes,3 as farm rental income not subject to self-employment
taxes. For 1992, petitioners included the cost-share payments
received with respect to the CRP land on Schedule F, Profit or
Loss From Farming.4 Petitioners paid self-employment taxes with
respect to petitioner’s reported net profit from farming.
In the notice of deficiency, respondent determined that the
amounts received by petitioner under the CRP contract, less the
2
On the record, the amount of such payments is not clear.
3
In 1992, petitioners did not claim a deduction for taxes on
Schedule E.
4
The parties stipulated that petitioners reported the CRP
contract payments and related expenses on Schedule E for the
taxable years 1992 and 1993. To the extent that this stipulation
is contrary to the facts revealed on the record, we are not bound
by it. Cal-Maine Foods, Inc. v. Commissioner, 93 T.C. 181, 195
(1989).
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deductions attributable thereto,5 constituted income from self-
employment. Respondent accordingly determined deficiencies in
petitioners' self-employment tax for the years in issue.
Respondent allowed petitioners additional deductions with respect
to the self-employment tax liability. In addition, as a
computational result of the adjustments, respondent decreased the
amount of the general business credits and earned income credits
allowed to petitioners for the years in issue.
OPINION
Section 1401 imposes a tax on the self-employment income of
every individual. Self-employment income is defined as "net
earnings from self-employment". Sec. 1402(b). The term "net
earnings from self-employment" is defined as gross income derived
by an individual from a trade or business carried on by such
individual less the deductions attributable thereto. Sec.
1402(a).
In order to be subject to the self-employment tax, income
must be derived from a trade or business carried on by an
individual. Jackson v. Commissioner, 108 T.C. 130, 134 (1997);
Newberry v. Commissioner, 76 T.C. 441, 444 (1981). There must be
a nexus between the income received and a trade or business that
5
Respondent disallowed $102 of the mortgage interest
deduction claimed by petitioners in 1992. Petitioners did not
contest this adjustment at trial or on brief. Petitioners are
deemed to have conceded this issue.
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is, or was, actually carried on by the individual. Newberry v.
Commissioner, supra. Under this Court's interpretation of the
"nexus" standard, income must arise from some income-producing
activity of the taxpayer before such income is subject to self-
employment tax. Jackson v. Commissioner, supra.
Generally, net earnings from self-employment do not include
rentals from real estate and the deductions attributable thereto.
Sec. 1402(a)(1); sec. 1.1402(a)-4(d), Income Tax Regs. An
exception to the exclusion exists under sec. 1402(a)(1)(A) and
(B) for certain arrangements with respect to the production of
agricultural or horticultural commodities.6 Respondent does not
contend that the exception to the exclusion applies in these
circumstances, nor do we think that it applies. Simply put,
6
Sec. 1402(a)(1) provides that the exclusion shall not apply:
to any income derived by the owner or tenant of land if (A)
such income is derived under an arrangement, between the
owner or tenant and another individual, which provides that
such other individual shall produce agricultural or
horticultural commodities (including livestock, bees,
poultry, and fur-bearing animals and wildlife) on such land,
and that there shall be material participation by the owner
or tenant * * * in the production or the management of the
production of such agricultural or horticultural
commodities, and (B) there is material participation by the
owner or tenant * * * with respect to such agricultural or
horticultural commodity;
The arrangement must impose an obligation to produce one or more
agricultural or horticultural commodities. Sec. 1.1402(a)-
4(b)(3), Income Tax Regs.
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there was no agreement to produce or actual production of
agricultural or horticultural commodities on the CRP land.
In determining whether compensation is includable in self-
employment income, sections 1401 and 1402 are to be construed
broadly so as to favor coverage for Social Security purposes.
Braddock v. Commissioner, 95 T.C. 639, 644 (1990). In order to
achieve this end, the rental exclusion is narrowly construed.
Johnson v. Commissioner, 60 T.C. 829, 833 (1973). In Delno v.
Celebrezze, 347 F.2d 159, 163 (9th Cir. 1965), the court
considered the parallel provision of the Social Security Act, ch.
531, tit. II, sec. 211 (1935), 42 U.S.C. sec. 411(a)(1994), as
added by Social Security Act Amendments of 1950, ch. 809, tit. I,
sec. 104(a), 64 Stat. 502, and stated:
The apparent intent of Congress was that section
211(a)(1)[42 U.S.C. sec. 411(a)] should be applied to
exclude only payments for use of space, and, by implication,
such services as are required to maintain the space in
condition for occupancy. If the owner performs additional
services of such substantial nature that compensation for
them can be said to constitute a material part of the
payment made by the tenant, the "rent" received then
consists in part of income attributable to the performance
of labor which is not incidental to the realization of
return from passive investment. In such circumstances, the
entire payment is to be included in computing the
recipient's "net earnings from self-employment."
Rent is ordinarily defined as compensation for the occupancy or
use of property. See Black's Law Dictionary 1297 (6th ed. 1990);
see also sec. 1.61-8(a), Income Tax Regs.
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Under the CRP, the Secretary of Agriculture is authorized to
enter into long-term contracts with owners or operators of
farmlands to convert highly erodible croplands to soil-conserving
uses. See 16 U.S.C. sec. 3831 (1994), added by the Food Security
Act of 1985, Pub. L. 99-198, sec. 1231, 99 Stat. 1509, amended by
the Food, Agriculture, Conservation, and Trade Act of 1990, Pub.
L. 101-624, sec. 1932(2), 104 Stat. 3577. Title 16 U.S.C.
section 3833 provides that in return for the contract entered
into by an owner or operator of land, the Secretary of
Agriculture will make "annual rental payments" in the amount
necessary to compensate for "the conversion of highly erodible
cropland normally devoted to the production of an agricultural
commodity on a farm or ranch to a less intensive use". 16 U.S.C.
sec. 3833(2)(A).
Petitioners argue that the CRP payments they received were
rent as the term is ordinarily defined. Petitioners point out
the CRP authorizing statute and the CRP contract use of the word
"rental". Petitioners contend that Congress intended for the
payments to be excluded from self-employment income because
Congress is presumed to have known that rental income is excluded
from self-employment income.
Respondent counters that the payments received were not
rentals from real estate. We agree with petitioners.
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The statute, the regulations, and the CRP contract identify
the payments as rental payments or rent. The CRP statute and
regulations repeatedly and consistently refer to the annual
payments as rent or rentals. See 16 U.S.C. secs. 3833(2),
3834(a), (c); 7 C.F.R. secs. 1401.3, 1410.101 (1998). Generally
in construing the meaning of a statute, we give the language its
plain meaning, assuming that Congress uses common words in their
popular meaning and relying on the words as generally understood.
Norfolk S. Corp v. Commissioner, 104 T.C. 13, 36-37, modified 104
T.C. 417 (1995), affd. 104 F.3d 240 (4th Cir. 1998).
The primary purpose of the CRP is to achieve specified
environmental benefits, in particular, reducing soil erosion by
removing land from production. See S. Rept. 101-357, at 199-200
(1990); H. Rept. 99-271(I) at 81 (1985). In determining the
acceptability of bids, the Secretary of Agriculture may consider
the extent to which the enrollment of land would improve the soil
resources, water quality, or wildlife habitat or provide other
environmental benefits. 16 U.S.C. sec. 3834(c)(3). Consistent
with these goals, under the CRP contract petitioner was
prohibited from harvesting the CRP land and was required to
implement a conservation plan. Beyond establishing vegetative
ground cover in the first year of the contract, for which
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petitioner received a cost-share payment,7 petitioner was
obligated to perform minimal services in connection with the CRP
land.
In imposing the above-described restrictions on the use of
the land, the primary purpose of the CRP contract was to
effectuate the statutory intention of converting highly erodible
croplands to soil conserving uses. The services that petitioner
was required to perform over the contract term included
maintaining the vegetative cover, controlling weeds, insects, and
pests on the land, and fulfilling certain reporting requirements.
These service obligations were not substantial and were
incidental to the primary purpose of the contract. Thus, the CRP
payments represented compensation for the use restrictions on the
land, rather than remuneration for petitioner's labor. Our
conclusion is consistent with and supported by the language used
by Congress in the CRP statute, which describes the payments as
rentals. Therefore, the payments are excluded from petitioner's
earnings from self-employment as rentals from real estate within
the meaning of section 1402(a)(1).8
7
The cost-share rate was 50 percent. Food Security Act of
1985, Pub. L. 99-198, sec. 1234, 99 Stat. 1511, 16 U.S.C. sec.
3834(b)(1)(1994).
8
Respondent points out that the legislative history of the
Food Security Act of 1985 indicates that in addition to the
environmental benefits, a successful conservation reserve would
"curb production of surplus commodities" and "provide some needed
(continued...)
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Respondent argues that petitioner was actively engaged in
farming and that the CRP payments had a direct nexus with that
operation. Respondent contends that the CRP program was
inextricably intertwined with petitioner's trade or business of
farming.
Section 1.1402(a)-4(d), Income Tax Regs., provides:
Except in the case of a real-estate dealer, where an
individual or a partnership is engaged in a trade or
business the income of which is classifiable in part as
rentals from real estate, only that portion of such income
which is not classifiable as rentals from real estate, and
the expenses attributable to such portion, are included in
determining net earnings from self-employment.
Thus, because we have determined that the payments qualify as
rentals from real estate under section 1402(a)(1), even if such
payments were derived from petitioner's farming operations, the
payments would not be includable in petitioner's earnings from
self-employment.
Respondent argues that this case is indistinguishable from
Ray v. Commissioner, T.C. Memo. 1996-436. In Ray, the taxpayer,
who owned land he used for farming and/or cattle grazing,
purchased an additional tract of land which had been enrolled in
the CRP program by the prior owner. The taxpayer executed an
agreement to continue the CRP contract. The taxpayer did not
8
(...continued)
income support for farmers". H. Rept. 99-271(I) at 81 (1985),
1985 U.S.C.C.A.N. 1185. We do not think that these concurrent
goals change the primary character of the payments received.
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farm the property, but he applied herbicide and shredded natural
grasses to the property. After considering the provisions of
Rev. Rul. 60-32, 1960-1 C.B. 23, the Court found that the
taxpayer was an "active farmer/rancher" with respect to other
acreage. The Court regarded the payments as having a direct
nexus to his trade or business of farming, and, on this basis,
the Court held that the payments were subject to self-employment
taxes. In Ray v. Commissioner, supra, the Court did not address
whether the payments qualified under the rental exclusion
provisions of section 1402(a)(1). In contrast, because we have
found that the CRP payments herein are rentals, such payments are
not subject to self-employment taxes even if a nexus exists
between the CRP payments and petitioner's farming trade or
business.
In Rev. Rul. 60-32, supra, the Internal Revenue Service
(IRS) ruled that certain payments received under the Soil Bank
Act, title I of the Agricultural Act of 1956, ch. 327, 70 Stat.
188 (formerly 7 U.S.C. 1801), were includable in gross income and
concluded that such payments were "in the nature of receipts from
farm operations in that they replace income which producers could
have expected to realize from the normal use of the land devoted
to the program." Rev. Rul. 60-32, 1960-1 C.B. at 25. Without
any further analysis, the IRS ruled that the payments and
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benefits are includable in determining the recipient's net
earnings from self-employment.
In our view, Rev. Rul. 60-32, supra, is not persuasive in
these circumstances. The IRS did not address whether the
payments constituted rentals.
The CRP payments received by petitioner during the years in
issue were rentals from real estate and not self-employment
earnings.
We have considered all of the arguments presented by the
parties, and, to the extent not discussed above, they are without
merit or not relevant.
To reflect the foregoing,
Decision will be entered
under Rule 155.