Brandon Brown & Christi Cloaninger Brown v. Commissioner

2018 T.C. Summary Opinion 6

• Court: United States Tax Court
• Decided: February 5, 2018
• Docket: 2809-16S
• Status: Unpublished

Opinion

T.C. Summary Opinion 2018-6

UNITED STATES TAX COURT

BRANDON BROWN AND CHRISTI CLOANINGER BROWN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 2809-16S. Filed February 5, 2018.

James G. McGee, Jr., and William H. Webb, for petitioners.

Jerrika C. Anderson and Horace Crump, for respondent.

SUMMARY OPINION

LARO, Judge: This case was heard pursuant to the provisions of section

7463 of the Internal Revenue Code in effect when the petition was filed.1

1 Unless otherwise indicated, all section references are to the Internal Revenue Code of 1986 (Code), as amended and in effect for the tax year at issue, and all Rule references are to the Tax Court Rules of Practice and Procedure. -2-

Pursuant to section 7463(b), the decision to be entered is not reviewable by any

other court, and this opinion shall not be treated as precedent for any other case.

Respondent determined a $6,514 deficiency in petitioners’ 2013 Federal

income tax, and a $1,302.80 section 6662(a) accuracy-related penalty which he

has conceded. The sole issue we decide is whether petitioners properly claimed

$27,646 as deductible repair expenses instead of depreciable capital expenditures.

We hold that petitioners did not properly so claim, and we sustain respondent’s

determination.

Background

The parties submitted this case fully stipulated under Rule 122. The

stipulation of facts is incorporated herein. Petitioners resided in Mississippi when

their petition was filed.

Petitioners listed four properties as commercial on their 2013 Schedule E,

Supplemental Income and Loss. For that year petitioners claimed a deduction of

$48,466 for rental repairs on two of the four properties: $45,361 on one property

and $3,105 on the other.

On November 30, 2015, respondent issued a notice of deficiency for the

year at issue, in which he allowed $20,820 as a deduction for rental repairs and

disallowed the remaining $27,646, determining that the latter amount was a capital -3-

expenditure that must be added to petitioners’ bases in the properties and

depreciated over the applicable recovery period. Accordingly, respondent

determined that petitioners’ depreciation deduction for 2013 should be increased

from $8,654 to $10,244. In view of these adjustments, respondent determined a

$6,514 deficiency and a $1,302.80 section 6662(a) accuracy-related penalty for

petitioners’ 2013 taxable year (which penalty he has conceded).

The parties have stipulated that the following represents the expenditures

for which petitioners were denied a current deduction:

Item Cost

Carpet--Suite B $2,085 Carpet and install vinyl composition tile--Suite A 3,788 Carpet--HOYA 4,498 Carpet--Suite E 5,435 Remodeled (stained ceiling tiles, removed walls, cut 2,700 out 3 openings, applied door sweeps)--Suite A Replaced condensing unit and install clean-kit 2,119 Remodeled (built walls and removed doorways)-- 4,000 Suite A Install new ceiling and tiles--Ridgeland 2,850 Wiring (wired circuitry to reconnect outlets, installed 1,604 emergency fixtures, two exit fixtures, and replaced ballast and lamps)

We note that the total of these stipulated expenses is $29,079, or $1,433 more than

the $27,646 for which respondent disallowed a deduction in the notice of -4-

deficiency. The parties have not explained this discrepancy, but it is not material

to our resolution of the case.

Petitioners timely filed with this Court a petition contesting respondent’s

determination. See sec. 6213(a).

Discussion

I. Overview

A. Burden of Proof

Generally, the Commissioner’s determination of a taxpayer’s liability for an

income tax deficiency is presumed to be correct, and the taxpayer bears the burden

of proving the determination improper by a preponderance of the evidence. See

Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). In certain instances,

where a taxpayer has introduced credible evidence with respect to any factual

issue relevant to ascertaining his tax liability, the burden of proof shifts to the

Commissioner, but only if the taxpayer has complied with substantiation

requirements, maintained all records required by the Code, and cooperated with

the Government’s reasonable requests for witnesses, information, documents,

meetings, and interviews. Sec. 7491(a).

Deductions are a matter of legislative grace, and the taxpayer must prove his

entitlement to any deductions claimed. INDOPCO, Inc. v. Commissioner, 503 -5-

U.S. 79, 84 (1992). Taxpayers are obligated to maintain sufficient records to

substantiate expenses underlying their claimed deductions. Sec. 6001; see also

Hradesky v. Commissioner, 65 T.C. 87, 89-90 (1975), aff’d, 540 F.2d 821 (5th

Cir. 1976). Self-serving declarations generally are not a sufficient substitute for

records. Weiss v. Commissioner, T.C. Memo. 1999-17, 1999 WL 34813, at *9.

B. Deductibility of Business Expenses

Taxpayers may deduct “all the ordinary and necessary expenses paid or

incurred during the taxable year in carrying on any trade or business”. Sec.

162(a). However, no deduction is allowed for amounts “paid out for new

buildings or for permanent improvements or betterments made to increase the

value of any property or estate.” Sec. 263(a)(1). Such amounts instead must be

capitalized. See sec. 1.263(a)-3, Income Tax Regs. It is a factual determination

whether an expense is a deductible repair or an expenditure that must be

capitalized. Gibson & Assocs., Inc. v. Commissioner, 136 T.C. 195, 233 (2011).

Only those expenditures may be deducted that are made to restore property

to a sound state or to mend it, with the purpose of keeping the property in an

ordinarily efficient operating condition. Ill. Merchs. Tr. Co. v. Commissioner,

4 B.T.A. 103, 106 (1926). Such expenditures do not add to the property’s value,

nor do they appreciably prolong its life; instead they merely keep the property in -6-

an operating condition over its probable useful life for the uses for which it was

acquired. Id.; see also Gibson & Assocs., Inc. v. Commissioner, 136 T.C. at 233.

On the other hand, expenditures for replacements, alterations,

improvements, or additions which prolong a property’s life, increase its value, or

make it adaptable to a different use are treated as additions to capital. Ill. Merchs.

Tr. Co. v. Commissioner, 4 B.T.A. at 106; see also Gibson & Assocs., Inc. v.

Commissioner, 136 T.C. at 233. An expenditure made for an item as part of a

general plan of rehabilitation, modernization, and improvement of the property

must be capitalized, even if, standing alone, the item appropriately may be

classified as a deductible repair. Niv v. Commissioner, T.C. Memo. 2013-82, at

*19-*20. Furthermore, an expenditure to acquire an asset with a useful business

life exceeding one year generally is treated as a capital investment and is not

deductible currently as an ordinary and necessary business expense. Webb v.

Commissioner, 55 T.C. 743, 744-745 (1971). Useful life is “the period over which

the asset may reasonably be expected to be useful to the taxpayer in his trade or

business or in the production of his income”, sec. 1.167(a)-1(b), Income Tax

Regs., and the burden of proving it falls upon the taxpayer, see Barr v.

Commissioner, T.C. Memo. 1989-69, 56 T.C.M. (CCH) 1255, 1261 (1989). -7-

II. The Parties’ Arguments

Petitioners contend that the disputed expenditures should be classified as

deductible ordinary and necessary rental property repair expenses and thus should

not be reclassified as capital expenditures. More than half of the disputed

expenditures were to repair or replace carpeting that had been damaged or worn

during the ordinary course of tenancy, they argue, in order to lease the properties

to new tenants. Petitioners point out that the work did not involve a wholesale

replacement of each property’s flooring but was limited to carpeting that needed to

be removed or repaired. Similarly, petitioners maintain that the remodeling

expenses were to paint damaged walls and replace stained or worn ceiling tiles,

remedial repairs made only to the extent necessary to comply with the terms of

various lease agreements. The remaining expenditures too, they claim, were

remedial and did not extend the property’s useful life by more than one year, being

intended to restore the leased property to a suitable condition. In all, petitioners

argue, the disputed expenditures were made to keep the properties in operating

condition over their useful life and neither prolonged either property’s life nor

increased its value. These expenses are properly deductible, they contend, because

they were not incurred as part of a grand scheme to rehabilitate or modernize the

premises but were incurred through routine maintenance. -8-

Respondent asserts that the burden of proof respecting the disputed

expenses falls upon petitioners because they have not satisfied the requirements in

section 7491(a) to shift the burden to him; according to respondent, petitioners

have not carried this burden. Respondent maintains that the disputed repairs

constitute capital expenditures because they are replacements or improvements.

He argues that, aside from their self-serving declarations, petitioners have failed to

provide any information about the expenditures other than that they were incurred.

To the extent that the expenditures were related to new items replacing old ones,

respondent contends that petitioners have offered no evidence showing when the

originals were placed in use or their condition upon replacement. Petitioners have

not demonstrated that the expenditures did not add value to the properties,

respondent asserts, such as by providing information about the values of the

properties before and after renovation. Respondent also contends that petitioners

have failed to show that the useful life of any of the disputed repairs is less than

one year or that the expenditures should not be deemed a general plan of

improvement. Finally, he asserts that, notwithstanding petitioners’ assertion that

the expenses were incurred through routine maintenance and to comply with the

terms of various lease agreements, they have provided no evidence of such

agreements or that the work performed was done on a recurring basis. Ultimately, -9-

respondent argues, petitioners cannot rely on mere allegations unsupported by the

record, see Wages v. Commissioner, T.C. Memo. 2017-103, and their failure to

introduce favorable evidence within their control supports an inference that such

testimony or documentation would not support their position, see Wichita

Terminal Elevator Co. v. Commissioner, 6 T.C. 1158, 1165 (1946), aff’d, 162 F.2d

513 (10th Cir. 1947).

III. Petitioners’ Burden of Proof

We agree with respondent that petitioners have failed to satisfy their burden

of proof. As we observed above, the burden is on the taxpayer to prove by a

preponderance of the evidence that the notice of deficiency is incorrect. See Rule

142(a); Welch v. Helvering, 290 U.S. at 115. As the short background section of

this opinion attests, the record in this case is sparse. All that is before the Court is

a three-page stipulation of facts (without any corresponding exhibits) establishing

that petitioners, in the course of their commercial rental business, incurred certain

expenses for which respondent denied a deduction. While we have before us an

itemized list of the work performed and the costs therefor, we have no evidence

about the context in which that work was performed, nor its effect on the value or

the useful life of either property. Petitioners on brief have provided certain

explanations that purport to establish such a context. However, because - 10 -

petitioners’ statements are not supported by any evidence--that is, by any

stipulation or exhibit thereto, or any other source--those statements cannot be

treated as anything more than unsworn allegations. See Rule 143(c).

As respondent points out, petitioners’ case suffers from the same defect as

that of the taxpayers in Wages: assertions made on brief that are not supported by

the record. Had petitioners timely offered further stipulations of fact, witness

testimony, lease contracts, valuation or inspection reports, or any other evidence,

we would have been able to consider the ways in which such evidence supported

petitioners’ contentions. In the absence of this, we can look no further than the

facts stipulated by the parties and summarized in this opinion’s background

section. Those facts do not controvert respondent’s determination in the notice of

deficiency of petitioners’ tax liability.

Because petitioners have not adduced any evidence tending to show

respondent’s determination of their tax liability to be improper, the burden of

proof remains with them. Cf. sec. 7491(a). And because of their failure to present

contradictory evidence, petitioners by necessity cannot prove that determination

improper by a preponderance of the evidence. Accordingly, the presumption of

correctness attached to respondent’s determination as set forth in the notice of

deficiency holds, and we must sustain it. - 11 -

IV. Conclusion

Petitioners have failed to present evidence corroborating their position that

respondent improperly reclassified $27,646 of their business expenses as

depreciable capital expenditures instead of deductible repair costs. Thus we find

that petitioners have failed to satisfy their burden of proving by a preponderance

of the evidence that the notice of deficiency is incorrect.

We have considered all of the parties’ arguments, and to the extent not

discussed above, conclude that those arguments are irrelevant, moot, or without

merit.

To reflect the foregoing,

Decision will be entered for

respondent as to the deficiency and

for petitioners as to the accuracy-

related penalty under section 6662(a).