Thomas F. and Therese Grojean - Page 15

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          substance of the transactions to be a shareholder’s guaranty of              
          the indebtedness of an S corporation.                                        
               Petitioner argues that there was bona fide indebtedness                 
          between himself and American, and that his relending of the funds            
          to Schanno by way of purchasing a participation interest entitles            
          him to adjusted basis.  Petitioner relies on Raynor v.                       
          Commissioner, 50 T.C. 762 (1968), for the proposition that when a            
          shareholder borrows funds from a third party and lends those                 
          funds to his or her S corporation, he is entitled to basis.                  
          Petitioner’s reliance is misplaced, and the fact that there was              
          bona fide indebtedness between American and petitioner is not                
          significant because petitioner did not relend the funds directly             
          to Schanno.  The statutory language makes clear the shareholder              
          will get basis only in “indebtedness of the S corporation to the             
          shareholder”.  Sec. 1366(d)(1)(B) (emphasis added).  This                    
          requires a direct obligation between the shareholder and the S               
          corporation.  See Hitchins v. Commissioner, supra.  Such is not              
          the case here.                                                               
               The participation agreement makes clear that petitioner did             
          not become a lender to or creditor of Schanno.  There was no note            
          or other contract between petitioner and Schanno, and petitioner             
          was not a party to the Schanno note or the credit note.  American            
          had sole discretion to enforce all rights under the notes,                   
          without the advice or consent of petitioner.  Petitioner’s                   

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