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reported as income by the Pelhams on Schedule C of their jointly
filed 1997 Form 1040 and were claimed as an expense on the
trust’s Schedule C of its 1997 Form 1041. No lease agreement was
executed. No payments were made by the trust to Richard Pelham
for use of the equipment, but the trust did make the payments on
the truck owned by Richard Pelham. The handling of the equipment
lease transaction and of reporting for tax purposes was done by
the Pelhams’ tax preparer.
OPINION
Respondent’s position is that the trust lacks economic
substance and should be disregarded for Federal income tax
purposes. Respondent maintains that Richard Pelham created a
mere paper entity, the trust, and transferred the business
operations of his sole proprietorship, Lake Lock & Key, to the
trust for the purpose of avoiding self-employment tax under
section 1402.
Petitioners argue that the trust should be treated as a
separate entity because: (1) The trust is a valid trust under
State law; (2) a business may lawfully change from one form of
entity to another, provided that the legal requirements are met;
and (3) the trustee of the trust may operate a sole
proprietorship business within the trust entity. Petitioners
claim that the income and expenses of Lake Lock & Key were
properly reported for Federal income tax purposes, because the
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Last modified: May 25, 2011