*223 Decision will be entered for the respondent.
Petitioner and her sister conveyed an apartment building to an Illinois land trust, for the benefit of themselves, two other sisters, and a brother. Petitioner lived in one apartment, paying rent. The building was sold, the trust terminated, and petitioner bought a house with her share of the proceeds. Held, petitioner is not entitled to nonrecognition of any part of her gain under sec. 1034, I.R.C. 1954. Held, further, uncollected loans made by petitioner to the land trust were not bad debts.
*171 Respondent determined a deficiency of $ 761.98 in petitioner's Federal income*225 tax for the year 1965. In her petition the petitioner not only contests the deficiency, but also alleges that she is entitled to a bad debt deduction of $ 1,500 which she neglected to claim on her income tax return.
The issues presented for decision are (1) what part, if any, of the capital gain realized upon the sale of an apartment house in which petitioner resided qualifies for nonrecognition under the provisions of section 1034, 1 where prior to the sale the property was held by an Illinois land trust in which petitioner was a grantor-beneficiary; and (2) whether petitioner is entitled to a bad debt deduction under either section 166(a)(1) or section 166(d).
FINDINGS OF FACT
Some of the facts have been stipulated by the parties and are hereby found accordingly.
Blanche F. Davies (herein called petitioner) resided in Evanston, Ill., at the time she filed her petition in this proceeding. She filed her individual*226 income tax return for the calendar year 1965 on the cash receipts and disbursements method with the district director of internal revenue, Chicago, Ill.
On May 1, 1942, land and an apartment building containing three apartment units located at 7017 Jeffrey Avenue, Chicago, Ill. (hereinafter referred to as the Jeffrey Avenue Property), was purchased by petitioner's mother, Sophie Feldt, and petitioner's sister, Ann F. Parent (formerly Ann H. Feldt), as joint tenants. The purchase price was paid in its entirety by Sophie Feldt.
Petitioner occupied and used one of the three apartments in the Jeffrey Avenue property as her principal residence from the date such property was purchased in 1942 until the date it was sold on September 9, 1965. The two remaining apartments in the Jeffrey Avenue property were leased to unrelated tenants throughout this period. In 1965 the rent for each of the leased apartments was $ 175 per month.
Ann F. Parent died in 1948 leaving Sophie Feldt as sole owner of the Jeffery Avenue property. Thereafter, Sophie Feldt conveyed the Jeffery Avenue property to herself and to petitioner's sister, Alice F. *172 Schaefer (formerly Alice B. Feldt), and the petitioner, *227 as joint tenants.
Sophie Feldt died in 1951, leaving Alice F. Schaefer and petitioner as the owners of the Jeffery Avenue property as joint tenants.
On June 30, 1957, Alice F. Schaefer and petitioner conveyed the Jeffrey Avenue property to the Exchange National Bank of Chicago, Chicago, Ill. (hereinafter referred to as Exchange Bank), as trustee under a land trust agreement for the use and benefit of themselves, two other sisters, Ethel F. Anderson and Florence F. Sostheim, and a brother, Nate T. Feldt, each beneficial owner to share and share alike. A supplemental agreement among the beneficiaries shows that petitioner and Alice F. Schaefer had held the property "for the use and benefit of the five (5) heirs-at-law and next-of-kin of the said Sophie Feldt, share-and-share alike."
The trust agreement provided that the trustee should receive $ 50 for taking title to the property and $ 15 per year for holding title to it. The trustee "will deal with the real estate only when authorized to do so in writing" by any three of the original beneficiaries. The beneficiaries "shall have the management of said property and control of the selling, renting and handling thereof." Bills and inquiries*228 were to be mailed to petitioner.
The trust agreement further provided that the rights of the beneficiaries "shall be deemed to be personal property." Their interests were assignable upon notice to the trustee. No power of revocation was reserved to the grantors. After 20 years any property remaining was to be divided among the beneficiaries or their heirs, and the trust terminated.
At the time of the creation of the land trust, Ethel F. Anderson was living with petitioner in one apartment in the Jeffrey Avenue property. On June 30, 1957, simultaneously with the execution of the land trust, all of the beneficiaries entered into a written agreement whereby petitioner and Ethel F. Anderson were permitted to continue to occupy the one apartment in the Jeffery Avenue property that they had occupied prior to that date. Under the terms of such agreement, petitioner agreed to pay $ 85 per month rent to the Exchange Bank as trustee and to act as manager of the apartment building. The agreement also provided that petitioner should share the powers and responsibilities of management with one of the other beneficiaries (to be selected by the group), but the petitioner actually managed the*229 property without day-to-day assistance or supervision.
Ethel F. Anderson died in 1960, leaving petitioner and her daughter, Phyllis Davies Goetsch, and grandson as the sole occupants of one apartment in the building. Pursuant to the provisions of Ethel F. Anderson's will, her one-fifth beneficial interest in the land trust passed *173 to her two nieces, Dorothy Fagan and Phyllis Davies Goetsch, and to Alice F. Schaefer and petitioner, in equal shares. The resulting ownership of the beneficial interests in the land trust was then as follows:
| Percentage | |
| ownership | |
| Petitioner | 25 |
| Alice F. Schaefer | 25 |
| Nate T. Feldt | 20 |
| Florence F. Sostheim | 20 |
| Dorothy Fagan | 5 |
| Phyllis Davies Goetsch | 5 |
On September 9, 1965, the Jeffery Avenue property was sold for a purchase price of $ 35,000. The adjusted basis of the property at the time of sale was $ 8,084.88.
In each of the years 1961 through 1965 partnership returns (Form 1065) were filed on behalf of the land trust. These returns claimed the following losses on the rental of the Jeffery Avenue property:
| Year | Rental loss |
| 1961 | $ 489.13 |
| 1962 | 544.60 |
| 1963 | 671.85 |
| 1964 | 1,883.54 |
| 1965 | 631.39 |
Petitioner claimed her share*230 of the above losses on her Federal income tax returns for the years 1961 through 1965. Depreciation deductions on the Jeffery Avenue building were claimed for each year on the partnership returns. The partnership return for 1965 was marked "Final Return," and the land trust reported on that return a gain on the sale of the Jeffery Avenue property in the amount of $ 23,375.27.
Petitioner purchased a residence located at 1819 Oakton Street, Evanston, Ill. (hereinafter referred to as the Oakton Street property), on August 26, 1965. The purchase price of the Oakton Street property was $ 32,500. Petitioner moved into and used the Oakton Street property as her principal residence on September 10, 1965, and such occupancy and use has continued to the present time.
As soon as the proceeds of sale of the Jeffery Avenue property were received by the land trust, the funds were distributed to the beneficiaries in proportion to their beneficial ownership and the trust was terminated.
Realized gain on the sale of the Jeffery Avenue property in the amount of $ 5,843.82 was reported by petitioner in her 1965 individual Federal income tax return. The purchase price of the Oakton Street property*231 ($ 32,500) exceeded the realized gain reported by petitioner on the sale of the Jeffery Avenue property. Petitioner filed a Statement Concerning Sale or Exchange of Personal Residence (Form 2119) *174 with her 1965 Federal income tax return claiming the benefit of the nonrecognition provisions of section 1034 with regard to said gain.
During 1963 and 1964 the petitioner transferred sums of money totaling $ 1,800 from her personal checking account to a separate account maintained at another bank for the land trust. The transfers were made by checks which carried notations indicating that the amounts were loans from petitioner. No evidence of indebtedness was ever executed between petitioner and the land trust and no interest was ever paid. Petitioner had sole control of the land trust account. On September 14, 1963, the amount of $ 300 was transferred back to petitioner.
Petitioner expected to be repaid by the land trust. She did not believe it was proper as manager of the land trust to sign a note to herself. Because her family was involved she did not expect to collect interest.
Petitioner never collected the remaining $ 1,500 which she had advanced to the land trust. *232 She could not collect it when the property was sold because she needed her share of the proceeds immediately to pay for her new home and any attempt to collect it at that time would have delayed the sale or distribution. Petitioner was unwilling to press her claim after the distribution was made because it might have dragged the whole family into court.
OPINION
1. Section 1034 Issue. -- Respondent's position is that the apartment building was in reality held by a partnership, not a trust, and that the partnership entity sold the property. Since section 1034(a)2 requires that petitioner's old residence be "sold by [her]," respondent contends that when a partner's residence is owned and sold by the partnership and replaced by the partner, section 1034 does not apply. In the alternative, respondent argues that only 25 percent (petitioner's beneficial share of the property) of 33 1/3 percent (she resided in one of three apartments) of the gain is subject to nonrecognition.
*233 Petitioner contends that the building was held by a trust, that the trust may be disregarded for purposes of section 1034, and that so long as her residential share of the property (1/3) exceeds her beneficial share (1/4), her gain (1/4 share of total gain) should go unrecognized. *175 She relies on Rev. Rul. 66-159, 1 C.B. 162">1966-1 C.B. 162, which allowed nonrecognition under section 1034 to the grantor-owner of a trust. Under section 671, the income, deductions, and credits are attributed to the owner, rather than the trust. The trust is virtually ignored. See sec. 1.671-3, Income Tax Regs.; and compare Rev. Rul. 54-583, 2 C.B. 158">1954-2 C.B. 158, where nonrecognition was denied to a taxpaying trust. Petitioner's alternative argument is that if the trust is determined to be a partnership for Federal tax purposes, it should be treated as an aggregate of individuals, not an entity, for section 1034 purposes.
We are not inclined to agree with the arguments of either party. Respondent urges us to determine that the Illinois land trust was a partnership for Federal tax purposes. However, he has not dealt with*234 the effect of section 704(c)(3), which may accomplish for a partner what section 671 accomplishes for a grantor-beneficiary. Section 704(c) (3) is a pass-through provision requiring that in certain respects undivided property be treated "as though such undivided interests had not been contributed to the partnership." On the other hand, we think the petitioner's reliance on Rev. Rul. 66-159, supra, is misplaced. In that ruling the grantor requested the trustee to purchase residential property for the grantor and his family to occupy. The residence was later sold and replaced by the trust without recognition of gain by the grantor-owner. Contrary to the instant case, the property involved in the ruling had "never been rented and the grantor [had] never paid rent to the trustee."
Section 1034 was intended to apply to transactions "of the nature of an involuntary conversion." S. Rept. No. 781, 82d Cong., 1st Sess. (1951), 2 C.B. 482">1951-2 C.B. 482. In many instances a taxpayer changes his residence either because of a change in employment or an increase in family size. Very often the "gain" upon sale is an inflationary*235 one, and mere replacement of the residence will require using all of the proceeds from the old house. Thus, in such circumstances, taxing the gain would create a hardship thwarting the maintenance or the attainment of adequate living conditions.
In providing relief, Congress carefully drew a distinction between depreciable business property and nondepreciable residential property. "The term 'residence' is used in contradistinction to property used in trade or business and property held for the production of income." S. Rept. No. 781, Supp. Rept., supra at 566. See sec. 1.1034-1(c)(3), Income Tax Regs. The distinction is necessary because the "special treatment is not limited to the 'involuntary conversion' type of case" due to the administrative burden. S. Rept. No. 781, supra at 483. Nonrecognition of gain upon the disposition and replacement of business property is available where there is an involuntary conversion (sec. 1033) or exchange in kind (sec. 1031).
*176 In our opinion the petitioner is not entitled to avail herself of the provisions of section 1034 because the apartment she "used" was business property. It was not a "residence" within the meaning of*236 section 1034. A homeowner to whom section 1034 applies pays no rent and does not depreciate his home. By contrast, petitioner's payment of $ 85 per month to the trustee of the land trust, coupled with her management services, was no different from the $ 175 rent paid each month by the unrelated tenants. In addition, her share of the apartment building was being depreciated through the Illinois land trust. At all times the petitioner and the land trust dealt at arm's length, treating her apartment as business property.
The Illinois land trust was an entity that enabled petitioner to treat her apartment as business property from which she derived substantial tax benefits not available to taxpayers who are the owners of their personal residences. Under the circumstances we find it unnecessary to determine for Federal tax purposes whether the entity was a trust or a partnership. What matters is that property which was a residence in petitioner's hands was business property when held by the land trust. That entity came between petitioner and her property, changing her tax treatment of the property. It cannot be ignored now. This view is consistent with the distinction made in Rev. Rul. 66-159,*237 supra, and Rev. Rul. 54-583, supra, between trust entities which affect income tax liability and those which do not. In the present case we think it is of no consequence whether the entity itself is a taxpayer.
Accordingly, we hold that the petitioner is not entitled under section 1034 to nonrecognition of any portion of the gain she realized from the sale of the Jeffery Avenue property.
2. Bad Debt Issue. -- We reject respondent's contention that there was no bona fide debt. Petitioner clearly expected repayment, and no doubt could have insisted upon it. However, she chose not to press for payment because to do so would have delayed the distribution of money needed for her new house and because she did not care to sue her brother and sisters. Petitioner has offered no proof that her claim ever became worthless; and in view of the sizable distributions to the beneficiaries, such proof is probably unavailable. Petitioner was not unable to collect her debt. She simply chose not to do so. Whether this be viewed as a sale of the claim for satisfactory consideration or as a gift, it is not a bad debt. See Civilla J. Brubaker, 28 T.C. 1281">28 T.C. 1281 (1957);*238 George F. Thompson, 6 T.C. 285 (1946), affirmed per curiam 161 F. 2d 185 (C.A. 2, 1947); American Felt Co., 18 B.T.A. 504">18 B.T.A. 504 (1929), affd. 58 F. 2d 530 (C.A.D.C. 1932).
Decision will be entered for the respondent.
Footnotes
1. All section references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated.↩
2. SEC. 1034. SALE OR EXCHANGE OF RESIDENCE.
(a) Nonrecognition of Gain. -- If property (in this section called "old residence") used by the taxpayer as his principal residence is sold by him after December 31, 1953, and, within a period beginning 1 year before the date of such sale and ending 1 year after such date, property (in this section called "new residence") is purchased and used by the taxpayer as his principal residence, gain (if any) from such sale shall be recognized only to the extent that the taxpayer's adjusted sales price (as defined in subsection (b)) of the old residence exceeds the taxpayer's cost of purchasing the new residence.↩