Davison v. Commissioner

107 T.C. 35 (1996)

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Nature of the Case

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Facts

P is a certified public accountant. During 1979, he was head partner of the accounting firm Peat, Marwick & Mitchell, where he was associated with Samuel J. Esposito and John L. Vitale, who were also partners. P, Esposito, and Vitale formed White Tail, a general partnership. Each of the partners had a one-third interest in the profits, losses, and distributions of White Tail. White Tail reported its income on a calendar year basis using the cash method of accounting. In 1979, White Tail realized $248,198 in gross revenues from farming operations and incurred $868,684 in operating expenses, exclusive of interest expense. In 1980, White Tail realized $2,098,717 in gross revenues from farming operations and incurred $2,784,169 in operating expenses, exclusive of interest expense. John Hancock Mutual Life Insurance Co. (John Hancock) issued a commitment to make a first mortgage loan on the White Tail property in an amount up to $9 million. Subsequently, John Hancock issued to White Tail a First Mortgage Loan Commitment pursuant to which John Hancock agreed to advance White Tail a maximum amount of $29 million. The First Mortgage Loan Commitment required that White Tail use a portion of the funds borrowed to retire existing indebtedness to John Hancock, and envisioned that additional amounts would be advanced to White Tail up to the aggregate principal amount of $29 million. Pursuant to the terms of the 1980 credit arrangement, one-half of the interest could be borrowed from John Hancock. The 1980 credit arrangement also called for a principal payment of $7,707.50 on the same date. White Tail's business was unprofitable, and Mr. Esposito requested that John Hancock modify the terms of the 1980 credit arrangement in order to prevent a default. John Hancock agreed to loan the monies needed for the January 1, 1981 payment. John Hancock made a wire transfer of $ 1,587,310.46 to White Tail's account. This transfer increased the amount White Tail owed to John Hancock by $1,587,310.46. White Tail made a wire transfer of $1,595,017.96 to John Hancock, representing $7,707.50 of principal and $ 1,587,310.46 in interest due under the 1980 credit arrangement. White Tail then claimed an interest deduction for the amount paid to John Hancock. D disallowed the deduction. P petitioned.