- 36 -
neither petitioner nor G�nther intended, or reasonably could have
intended, the advances22 to be bona fide debt. Petitioner made
the advances to keep G�nther from defaulting on its bank loans
and other obligations. During FYE May 31, 1991 and 1992,
petitioner knew the advances were risky but made them anyway.
During FYE May 31, 1993 and 1994, petitioner realized that it
would not recover any of the amounts it had advanced to G�nther
or for G�nther’s benefit, and it continued to inject funds into
G�nther for the sole purpose of minimizing the losses it would
incur before G�nther’s disposal. We conclude, therefore, that
neither petitioner nor G�nther genuinely intended the advances to
be bona fide debt or reasonably expected the advances to be
repaid. See Sigmon v. Commissioner, T.C. Memo. 1988-377.
This factor favors respondent’s position.
h. Thin or Adequate Capitalization
Inadequate or “thin” capitalization is strong evidence of a
capital contribution where: (1) The debt-to-equity ratio was
initially high; (2) the parties realized that it would likely go
higher; and (3) substantial portions of these funds were used for
the purchase of capital assets and for meeting expenses needed to
commence operations. Am. Offshore, Inc. v. Commissioner, supra
22Even the advances charged to the intercompany account
during FYE May 31, 1991, were made to prevent a default on
G�nther’s bank loans and to provide working capital.
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