T.C. Memo. 2000-335
UNITED STATES TAX COURT
ALRON ENGINEERING & TESTING CORP., Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 8272-99. Filed November 1, 2000.
Mark M. Camp, for petitioner.
Mark J. Miller and Christa A. Gruber, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
GOLDBERG, Special Trial Judge: Respondent determined
deficiencies in petitioner’s Federal income tax of $3,618 and
$3,976 for the taxable years ended June 30, 1995, and June 30,
1996, respectively. Unless otherwise indicated, section
references are to the Internal Revenue Code in effect for the
years in issue.
The sole issue in this case is whether petitioner is a
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qualified personal service corporation under section 448(d)(2),
and therefore subject to the flat 35-percent tax rate pursuant to
section 11(b)(2).
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. At the time the petition
was filed, petitioner’s principal place of business was Menomonee
Falls, Wisconsin.
Petitioner is a Wisconsin corporation licensed by the State
and engaged in the business of providing geotechnical testing and
engineering services. Petitioner is described as a geotechnical
testing and engineering firm on the corporate annual reports
filed with the State of Wisconsin. Petitioner also files, at
least biannually, a report with the Architects and Engineers
Registration. During the taxable years in issue, petitioner
employed two engineers, Allan F. Huseth (Mr. Huseth) and Jeffrey
Smith (Mr. Smith), and approximately ten non-engineering
personnel, including technicians and clerical staff. Mr. Huseth,
the president of petitioner and 100-percent owner of petitioner’s
stock during the years in issue, is a registered professional
engineer in the State of Wisconsin since 1971, with a bachelor of
science degree in civil engineering and a master of science
degree with a specialty in soil mechanics and highway
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engineering. Mr. Smith holds a 4-year degree in civil
engineering and a master’s degree in soil mechanics.
Technicians on petitioner’s staff were given a variety of
duties, including operating equipment, e.g., drilling, creation
of cylinders and other test samples, laboratory testing, and
field testing. The educational background of petitioner’s non-
engineering staff ranged from employees with a 2-year degree1 in
civil engineering to a few with high school diplomas. One
employee did not receive a high school diploma. All of
petitioner’s employees worked full-time during the years in
issue.
Petitioner’s geotechnical testing services consisted
primarily of physical tests of concrete and soil samples
conducted in either the field or laboratory. Petitioner provided
necessary equipment (e.g., drill rigs), and laboratory
facilities, including a “moist curing room” where concrete
specimens were cured until the required “specification date”.
Operation of equipment out in the field or laboratory did not
require basic knowledge of mathematics or engineering principles
since it was not analytical in nature. Training of petitioner’s
technical employees, or technicians, occurred on the job.
1
A 2-year degree in civil engineering is not the equivalent
of an engineering degree required to perform professional
engineering services in Wisconsin. See Wis. Stat. sec. 443.04
(1999).
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Concrete testing consisted of primarily compressions tests
to check specifications and density of freshly poured concrete in
the field. Tests were conducted on concrete core samples or 6 x
12 cylinders created by petitioner’s technicians or brought in by
third party contractors.
Petitioner also tested soil samples for moisture contents,
density determinations, shear strengths, permeability tests,
proctor tests, and other tests. Soil borings, and sometimes rock
core borings, were obtained to classify the type of soil or rock
substance. To conduct a soil density test technicians in the
field used nuclear meters to determine the density of materials
for earthwork projects. Training to read the meter was done on
the job in approximately 30 minutes. Technicians handled all
aspects of obtaining samples, drilling, or laboratory testing.
In both concrete and soil testing, information collected
from a test was given to clerical staff. Upon request by a
client, an engineering analysis could be generated from the test
results. Otherwise, the data was given to the client in a report
written by the clerical staff without analysis. Only technical
personnel conducted and collected data from geotechnical tests.
It was not the function of the engineers to create or test the
cylinders or core samples.
Petitioner also provided engineering services. Engineering
services included offering recommendations on types of
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foundations or supporting structures, bridges, and buildings, or
pavement design from samples. In an engineering analysis, a
professional engineer reviews, studies, and analyzes information
from field logs and laboratory data to recommend the type of
foundations of the structure or the best options available.
Analyses are based upon data collected by petitioner’s
technicians or provided by third party soil testing companies.
In order for petitioner to provide engineering services, the
client must request it.
Engineering services were billed at a rate between $80 and
$110 per hour, depending on the precise service rendered.
Billing for geotechnical testing depended on the type of testing
requested, the parts required to create samples, and the hourly
rate for technicians, which was lower than the hourly rate for
engineers.
Petitioner’s clientele may request geotechnical testing or
engineering analysis, or both. For instance, other structural or
geotechnical engineering firms have hired petitioner for the sole
task of providing them with test samples and results from the
field or laboratory. These clients conduct their own engineering
analysis of the data provided by petitioner’s test reports.
Petitioner maintained its books and records to reflect the
type of service, whether engineering or geotechnical testing, by
using account numbers. Every job billed to a client had an
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associated account number and short narrative to distinguish the
type of service rendered and billed. The accounts range from
5001 to 5010. Accounts 5001 through 5006 and 5008 through 5010
relate to geotechnical services, including field and laboratory
technician services and field soil boring services. Only
accounts 5006 and 5007 relate to engineering services, including
both office and field engineering services.
During the taxable years ended June 30, 1995, and June 30,
1996, petitioner used the graduated tax rates under section
11(b)(1) to determine its corporate tax liability. In a notice
of deficiency respondent determined that petitioner was a
qualified personal service corporation under section 448(d)(2),
thereby requiring a flat tax rate of 35 percent under section
11(b)(2).
OPINION
Respondent contends that engineering and geotechnical
testing are both services within the field of engineering, and
therefore petitioner is a qualified personal service corporation
as defined in section 448(d)(2).
Petitioner contends that it is not a qualified personal
service corporation because geotechnical testing is not in the
field of engineering. Furthermore, petitioner argues that it did
not perform “substantially all” of its services within the field
of engineering as defined under section 448(d)(2).
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Section 448(d)(2) defines a "qualified personal service
corporation" as any corporation:
(A) substantially all of the activities of which
involve the performance of services in the fields of health,
law, engineering, architecture, accounting, actuarial
science, performing arts, or consulting, and
(B) substantially all of the stock of which (by value)
is held directly (or indirectly through 1 or more
partnerships, S corporations, or qualified personal service
corporations not described in paragraph (2) or (3) of
subsection (a)) by--
(i) employees performing services for such
corporation in connection with the activities involving
a field referred to in subparagraph (A),
(ii) retired employees who had performed such
services for such corporation,
(iii) the estate of any individual described in
clause (i) or (ii), or
(iv) any other person who acquired such stock by
reason of the death of an individual described in
clause (i) or (ii)(but only for the 2-year period
beginning on the date of the death of such individual).
Under section 11(b)(2), the income of a personal service
corporation is taxed at a rate of 35 percent.
To qualify as a personal service corporation, a corporation
must satisfy the function and ownership tests under the
regulations. Sec. 1.448-1T(e)(3), (4) and (5), Temporary Income
Tax Regs., 52 Fed. Reg. 22768 (June 16, 1987), as amended by T.D.
8329, 56 Fed. Reg. 485 (Jan. 7, 1991), T.D. 8514, 58 Fed. Reg.
68299 (Dec. 27, 1993). Since petitioner concedes that all of its
stock is owned by its employee, Mr. Huseth, the ownership test is
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satisfied. To satisfy the function test, substantially all of
the corporation’s activities must involve the performance of
services in the field of engineering. See id.
As a threshold matter, petitioner must provide services in
the field of engineering. Although petitioner concedes that it
does provide engineering services which are clearly in the field
of engineering, petitioner contends that geotechnical testing is
not within the field of engineering. We agree with petitioner.
Geotechnical testing does not require the same education,
training, and mastery as engineering.
According to Wisconsin law, a professional engineer licensed
with the State must meet certain minimum education, experience,
and examining board requirements.2 This is not the case for
technicians who perform geotechnical testing services. There are
no standard minimum requirements to provide geotechnical testing
services under the laws of Wisconsin. According to Mr. Huseth’s
2
The basic minimum requirements are as follows: (1) A
diploma or certificate from an engineering school or college
approved by the examining board of not less than 4 years together
with an additional 4 years of experience in engineering work; or
(2) a specific record of 8 or more years of experience in
engineering work indicating that the applicant is competent to be
placed in responsible charge of such work; or (3) a specific
record of 12 years or more of experience in engineering work
indicating that the applicant is competent to practice
engineering, or (4) a diploma or certificate from an engineering
school or college approved by the examining board of not less
than 4 years, together with an additional 8 years of experience
in engineering work, all satisfactory to the examining board.
Wis. Stat. sec. 443.04 (1999).
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testimony, technicians are trained on the job and do not require
a minimum education standard to operate equipment or gather test
data. Equipment or laboratory training may be completed in as
long as a single day or in as little as a half hour. Moreover,
technicians are not bound by State or board licensing or review.
Petitioner’s geotechnical testing services are separate and
distinct from petitioner’s engineering services. The essence of
engineering services is in the application of mathematical,
physical, and engineering sciences to services or projects, such
as consultation, investigation, evaluation, planning, design, and
review of structures and buildings. Although geotechnical
testing data may be used in petitioner’s engineering analysis,
the data may be used for other purposes and by other parties as
well. When petitioner provides an engineering analysis, the data
may be supplied by the client or petitioner. In the alternative,
petitioner may supply data from geotechnical testing services
without rendering any professional engineering services.
Although we agree with respondent that engineering services could
not be completed without the data provided from geotechnical
testing, whether that information was furnished by petitioner or
another geotechnical testing firm, we are not persuaded to find
that sufficient reason to deem the means of providing data under
the umbrella of “engineering”. In practice and principle the two
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lines of services may function mutually exclusively.3
Section 448(d)(2)(A) requires that “substantially all” of
petitioner’s activities must be devoted to the field of
engineering. Under section 1.448-1T(e)(4)(i), “substantially
all” is defined as 95 percent or more of the employees’ time
devoted to the performance of services within the field of
engineering. The temporary regulation further provides that for
purposes of determining whether the 95-percent rule is satisfied,
the performance of any activity incident to the actual
performance of engineering services is considered the performance
of services in that field.
Respondent contends that geotechnical testing is “incident
to” the qualifying field of engineering. The temporary
regulation states that activities incident to the performance of
services in a qualifying field include the supervision of
employees engaged in directly providing services to clients, and
the performance of administrative and support services incident
to such activities. Sec. 1.448-1T(e)(4)(i), Temporary Income Tax
Regs., 52 Fed. Reg. 22768 (June 16, 1987), as amended by T.D.
8329, 56 Fed. Reg. 485 (Jan. 7, 1991), T.D. 8514, 58 Fed. Reg.
68299 (Dec. 27, 1993). In this case, geotechnical testing of
soils and concrete is not within the field of engineering, nor is
3
During his testimony, Mr. Huseth referred to three other
geotechnical testing companies in the area that did not employ
any engineers on their staffs.
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it “incident to” engineering. Petitioner’s geotechnical testing
services are not dependent upon petitioner’s ability to provide
engineering services. It was not unusual for clients to request
petitioner’s geotechnical testing services exclusive of a
subsequent engineering analysis. In the alternative, an
engineering analysis may be completed by data furnished by a
third party, not necessarily petitioner’s own geotechnical
testing department. Specific services provided by petitioner
varied depending upon the unique request of the client.
Moreover, administrative and support services provided for
engineering analyses may be separated from the administrative and
support services provided for geotechnical testing services.
Since we have decided that geotechnical testing is not in
the field of engineering, a qualifying service, then we must next
decide how much of petitioner’s time was spent in petitioner’s
engineering services. According to the temporary regulation,
substantially all or 95 percent of petitioner’s employees’ time
must be devoted to rendering a qualifying service under section
448(d)(2).
Petitioner proffered evidence demonstrating the overall
breakdown of testing and engineering services rendered during the
years in issue by dollar amounts reflected in invoices. From the
invoices in the record, we find that petitioner’s engineering
services were billed between $80 and $110 per hour, depending on
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the type of engineering service rendered. Although the invoices
reflect a mix of work, both geotechnical and engineering
services, we can reasonably distinguish, by use of the account
numbers, the proportionate time spent in engineering and
geotechnical testing. We find petitioner spent more than 5
percent of its time on geotechnical services. Since geotechnical
testing is separate and distinct from the field of engineering,
petitioner does not meet the function test as required under
section 448(d)(2). In our review and analysis of Exhibits 7
through 11,4 it is reasonable to conclude that 95 percent of
petitioner’s time was not devoted in the field of engineering or
incident to the field of engineering.
We find petitioner is not a qualified personal service
corporation under section 448(d)(2), and therefore not subject to
the 35-percent flat tax rate.
4
Exhibit 7 is a Record of Invoices Billed from June 30, 1994,
through Dec. 31, 1994.
Exhibit 8 is a Record of Invoice Billed from Jan. 4, 1995,
through Dec. 31, 1995.
Exhibit 9 is a Record of Invoice Billed from Jan. 4, 1996,
through July 17, 1996.
Exhibit 10 is a sample of petitioner’s invoices dated
throughout the years in issue, showing the account numbers for
services rendered.
Exhibit 11 is a breakdown of sales totals from July 1994
through June 1995, and also from July 1995 through June 1996.
This summary is based upon the account numbers petitioner
followed in bookkeeping. This exhibit also includes the job
descriptions associated with account numbers.
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To reflect the foregoing,
Decision will be entered
for petitioner.