Charles E. and Jacquelyn Yates - Page 5

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          from Adena to Fox Trot as accounts payable to (i.e., loans from)            
               On December 31, 1994, Mr. Yates executed a note (1994 note),           
          promising to pay Adena $1,241,409, plus 5 percent interest, due             
          December 31, 1995.  The 1994 note evidenced the amount Mr. Yates            
          owed Adena relating to the 1994 transfers to Fox Trot.  On                  
          October 15, 1995, Mrs. Yates repaid $855,000 to Adena, and on               
          December 31, 1995, Mr. Yates executed a new note to Adena for               
          $435,214.28 (i.e., the balance owing on the 1994 note).                     
               Petitioners filed joint income tax returns for 1994, 1995,             
          and 1996.  On their 1994, 1995, and 1996 income tax returns                 
          petitioners claimed losses passed through from Fox Trot.   In the           
          notices of deficiency, respondent determined that petitioners               
          lacked sufficient basis in Fox Trot to pass through its losses              
          during the years in issue, disallowing losses of $837,556,                  
          $854,372, and $728,243 in 1994, 1995, and 1996, respectively, and           
          a net operating loss deduction of $522,439 in 1995.                         
               Respondent contends that the transfers from Adena to Fox               
          Trot were intercompany loans that did not affect petitioners’               
          basis in Fox Trot.  Petitioners contend:  (1) The transfers from            
          Adena to Fox Trot before September 1, 1994, were, in substance,             
          transfers from Mr. Yates to Fox Trot that increased Mr. Yates’              
          stock basis in Fox Trot; and (2) the transfers after September 1,           

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