Court determines taxpayer lacked profit motive

The Tax Court held that a couple’s ranching activity was not engaged in for profit within the meaning of Sec. 183. Therefore, it sustained the IRS’s disallowance of their claimed loss deductions attributable to that activity for the years at issue.

Facts: Wesley E. Young and Janet S. Young contested the IRS’s determination of deficiencies for the 2013 and 2014 tax years. The dispute centered on whether the Youngs were entitled to take loss deductions related to their operation of Pecandarosa Ranch in Oklahoma.

Pecandarosa Ranch was originally purchased in 2008 for $2 million by Janet Young and her then-husband Dale Todd. At that time, the ranch occupied 82.7 acres in Rogers County, Okla., and included the couple’s personal residence, a guest house, and a native pecan grove with roughly 490 trees. After Todd’s death in 2011, Janet Young became the sole shareholder and manager of ETI Inc., an S corporation that had been formed by Todd’s father that manufactured and refurbished airplane parts. ETI generated substantial taxable income throughout the relevant periods of 2013 and 2014. 

After the Youngs married in 2012, the couple began expanding the ranch’s operations, relying on Wesley Young’s experience as a ranch manager specializing in cattle, hay baling, and horse management. They constructed a 22,590-square-foot arena on the property meant to host roping events, horse training, and rental activities. Wesley Young left his prior employment with a cattle company and began working full time at the ranch. 

Throughout 2013 and 2014, the Youngs generated income through pecan harvesting, hay production, horse boarding, team roping, and arena and event rentals. The Youngs’ records showed limited evidence of profitable operations. In 2013, for example, the ranch generated only $3,036 from its pecan operations and $300 from roping events, while reporting $344,545 in expenses. In 2014, revenues again were substantially lower than expenses, with revenue of $18,890 and expenses of $270,407 for the year. These figures were consistent with a broader pattern of significant losses, with the ranch reporting losses every year since its purchase in 2008. 

Throughout this time, the Youngs lived on the ranch full time and used the property as both their personal residence and business headquarters. Additionally, the Youngs managed the ranch informally, with no general ledger or formal bookkeeping. Any finances that were tracked were noted in rudimentary spreadsheets, whose main purpose was to prepare the couple’s tax returns, not to evaluate profitability. From 2008 to 2022, the Youngs’ income tax returns reported more than $2.9 million in losses from the ranch, while reporting passthrough income from ETI totaling nearly $16 million. In 2015, the IRS opened an audit of the Youngs’ tax returns for 2013 and 2014.

During the audit, Janet Young provided the IRS with a business plan that projected the ranch would break even within seven years and achieve profitability by 2020. Moreover, the plan projected a 90% drop in annual costs after 2015. The plan detailed sources of revenue, including pecan sales, horse boarding, hay, and arena rentals to increase income. However, no evidence was established to prove that such a plan existed during 2013 and 2014. The IRS therefore concluded that the plan had been created after the audit had begun and decided that the forecasts were inconsistent with the ranch’s actual financial results. 

For the years at issue, the IRS issued a notice of deficiency disallowing the deductions the Youngs claimed for the Pecandarosa ranch activity on Schedule F, Profit or Loss From Farming, based on its determination that the activity was not engaged in for profit under Sec. 183. The Youngs timely petitioned the Tax Court for review of the IRS’s determinations.

Issues: The Youngs argued they operated Pecandarosa Ranch with the intent to earn a profit, while the IRS argued they did not. In the case of an activity not engaged in for profit, Sec. 183(b) allows deductions that would be allowable without regard to whether the activity was engaged in for profit and a deduction equal to the amount of deductions that would be allowable only if the activity were engaged in for profit, but only to the extent that the gross income from such activity exceeds the deductions allowable without regard to profit motive.

Whether the requisite profit objective exists for an activity is determined by looking at all the surrounding facts and circumstances (Keanini, 94 T.C. 41, 46 (1990)). The courts have previously established that a taxpayer must show an “actual and honest” objective of making a profit (Dreicer, 78 T.C. 642, 644—45 (1982), aff’d, 702 F.2d 1205 (D.C. Cir. 1983)). In the Tenth Circuit (the circuit to which the case is appealable), a taxpayer’s profit motive must be the dominant or primary objective of the activity (Allen, 72 T.C. 28, 33 (1979); Hildebrand, 28 F.3d 1024 (10th Cir. 1994), aff’g Krause, 99 T.C. 132 (1992)). Greater weight is placed on objective facts rather than the taxpayers’ statements of intent (Thomas, 84 T.C. 1244, 1269 (1985), aff’d, 792 F.2d 1256 (4th Cir. 1986); Keanini at 46 (1990)).

The court therefore was required to analyze whether the Youngs’ conduct with respect to their ranching activity demonstrated that the activity was carried on with an actual and honest objective of making a profit. In assessing the Youngs’ profit motive, the court applied the nine factors in Regs. Sec. 1.183-2(b):

1. The manner in which the taxpayer carries on the activity;
2. The expertise of the taxpayer or the taxpayer’s advisers;
3. The time and effort expended by the taxpayer in carrying on the activity;
4. An expectation that assets used in the activity may appreciate in value;
5. The success of the taxpayer in carrying on similar or dissimilar activities;
6. The taxpayer’s history of income or losses with respect to the activity;
7. The amount of occasional profits, if any;
8. The taxpayer’s financial status; and
9. Elements of personal pleasure or recreation.

Out of the nine factors, the court found that six favored the IRS (factors 1, 4, 6, 7, 8, and 9); one favored the Youngs (factor 3); and two were neutral (factors 2 and 5).

Holding: The Tax Court held that, although the record was in many ways faulty, after it weighed the nine factors as well as the facts and circumstances of this case, the Youngs did not operate the Pecandarosa Ranch with an actual and honest objective to make a profit for the years at issue. Therefore, the court sustained the IRS’s disallowance of the Youngs’ loss deductions attributable to the ranch for those years because they did not engage in the ranching activity for profit within the meaning of Sec. 183.

• Young, T.C. Memo. 2025-95

— Matthew Tardif is a student in the Charles H. Dyson School of Applied Economics and Management at Cornell University. Thomas Godwin, CPA, CGMA, Ph.D., and John McKinley, CPA, CGMA, J.D., LL.M., are both professors of the practice in accounting and taxation in the SC Johnson College of Business at Cornell University. To comment on this column, contact Paul Bonner, the JofA‘s tax editor.